e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended June 30, 2007
OR
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission file number 001-11655
HearUSA, Inc.
(Exact Name of Registrant as Specified in Its Charter)
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Delaware
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22-2748248 |
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(State of Other Jurisdiction of
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(I.R.S. Employer |
Incorporation or Organization)
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Identification No.) |
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1250 Northpoint Parkway, West Palm Beach, Florida
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33407 |
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(Address of Principal Executive Offices)
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(Zip Code) |
Registrants Telephone Number, Including Area Code (561) 478-8770
Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report
Indicate
by check þ 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 þ No o
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 non-accelerated
filer in Rule 12b-2 of the Exchange act. (Check one):
Large accelerated filer o Accelerated filer o Non-accelerated filer þ
Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2
of the Exchange Act).
Yes o No þ
On July 27, 2007, 37,189,957 shares of the Registrants Common Stock and 760,461 exchangeable
shares of HEARx Canada, Inc. were outstanding.
INDEX
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Page |
PART I. |
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FINANCIAL INFORMATION |
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Item 1.
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Financial Statements: |
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Consolidated Balance Sheets
June 30, 2007 and December 30, 2006
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3 |
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Consolidated Statements of Operations
Six months ended June 30, 2007 and July 1, 2006
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4 |
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Consolidated Statements of Operations
Three months ended June 30, 2007 and July 1, 2006
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5 |
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Consolidated Statements of Cash Flows
Six months ended June 30, 2007 and July 1, 2006
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6 |
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Notes to Consolidated Financial Statements
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7 |
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Item 2.
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Managements Discussion and Analysis of Financial Condition
and Results of Operations
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17 |
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Item 3.
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Quantitative and Qualitative Disclosures About Market Risk
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31 |
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Item 4.
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Controls and Procedures
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31 |
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PART II. |
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OTHER INFORMATION |
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Item 2.
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Unregistered Sales of Equity
Securities and Use of Proceeds
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32 |
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Item 4.
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Submission of Matters to a Vote of Security Holders
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32 |
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Item 6.
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Exhibits
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33 |
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Signatures
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34 |
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2
Part I Financial Information
Item 1. Financial Statements
HearUSA, Inc.
Consolidated Balance Sheets
(unaudited)
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June 30, |
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December 30, |
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2007 |
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2006 |
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(Dollars in thousands) |
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ASSETS (Note 3) |
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Current assets |
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Cash and cash equivalents |
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$ |
3,210 |
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$ |
2,326 |
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Accounts and notes receivable, less allowance for
doubtful accounts of $426,469 and $434,098 |
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7,551 |
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7,591 |
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Inventories |
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2,460 |
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2,371 |
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Prepaid expenses and other |
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1,822 |
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1,400 |
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Deferred tax asset |
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73 |
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67 |
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Total current assets |
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15,116 |
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13,755 |
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Property and equipment, net (Note 2) |
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4,096 |
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3,878 |
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Goodwill (Note 2) |
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54,726 |
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50,970 |
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Intangible assets, net (Note 2) |
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14,919 |
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13,592 |
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Deposits and other |
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710 |
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876 |
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Restricted cash and cash equivalents |
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209 |
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205 |
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Total Assets |
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$ |
89,776 |
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$ |
83,276 |
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LIABILITIES AND STOCKHOLDERS EQUITY |
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Current liabilities |
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Accounts payable |
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$ |
8,874 |
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$ |
10,463 |
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Accrued expenses |
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3,480 |
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2,509 |
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Accrued compensation |
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2,926 |
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2,826 |
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Current maturities of long-term debt |
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11,688 |
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8,391 |
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Current maturities of convertible subordinated notes, net of debt discount of $1,263,003 in 2006 |
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2,487 |
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Current maturities of subordinated notes, net of debt discount of $234,223 and $452,228 |
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1,526 |
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1,308 |
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Dividends payable |
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34 |
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34 |
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Minority interest in net income of consolidated joint venture, currently payable |
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737 |
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633 |
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Total current liabilities |
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29,265 |
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28,651 |
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Long-term debt (Notes 2 and 3) |
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31,157 |
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28,599 |
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Deferred income taxes |
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5,624 |
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5,234 |
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Convertible subordinated notes, net of debt discount of $217,923 in 2006 (Note 4) |
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2,282 |
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Subordinated notes, net of debt discount of $60,123 in 2006 (Note 5) |
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660 |
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1,480 |
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Warrant liability (Note 5) |
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110 |
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Total long-term liabilities |
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37,441 |
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37,705 |
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Commitments and contingencies |
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Stockholders equity (Note 6 and 7) |
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Preferred stock (aggregate liquidation preference $2,330,000, $1 par, 7,500,000 shares
authorized) |
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Series H Junior Participating (none outstanding) |
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Series J (233 shares outstanding) |
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Total preferred stock |
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Common stock: $.10 par; 75,000,000 shares authorized
37,710,000 and 32,029,750 shares issued |
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3,771 |
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3,203 |
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Stock subscription |
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(412 |
) |
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(412 |
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Additional paid-in capital |
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132,394 |
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123,972 |
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Accumulated deficit |
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(113,458 |
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(109,521 |
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Accumulated other comprehensive income |
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3,260 |
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2,163 |
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Treasury stock, at cost:523,662 common shares |
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(2,485 |
) |
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(2,485 |
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Total Stockholders Equity |
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23,070 |
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16,920 |
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Total Liabilities and Stockholders Equity |
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$ |
89,776 |
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$ |
83,276 |
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See accompanying notes to the consolidated financial statements
3
HearUSA, Inc.
Consolidated Statements of Operations
Six Months Ended June 30, 2007 and July 1, 2006
(unaudited)
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June 30, |
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July 1, |
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2007 |
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2006 |
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(Dollars in thousands, except per |
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share amounts) |
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Net revenues |
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Hearing aids and other products |
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$ |
45,107 |
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$ |
41,032 |
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Services |
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3,367 |
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2,877 |
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Total net revenues |
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48,474 |
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43,909 |
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Operating costs and expenses |
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Hearing aids and other products (Note 3) |
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11,789 |
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12,189 |
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Services |
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1,032 |
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787 |
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Total cost of products sold and services |
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12,821 |
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12,976 |
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Center operating expenses |
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24,742 |
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20,065 |
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General and administrative expenses (Notes 1 and 7) |
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7,425 |
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6,588 |
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Depreciation and amortization |
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1,025 |
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980 |
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Total operating costs and expenses |
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46,013 |
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40,609 |
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Income from operations |
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2,461 |
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3,300 |
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Non-operating income (expenses): |
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Gain from insurance proceeds |
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57 |
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Interest income |
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84 |
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91 |
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Interest expense (Notes 2, 3, 4 and 5) |
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(5,377 |
) |
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(2,798 |
) |
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Income
(loss) before income tax expense and minority interest in income of consolidated
joint venture |
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(2,832 |
) |
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650 |
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Income tax expense |
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(352 |
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(577 |
) |
Minority interest in income of consolidated joint venture |
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(683 |
) |
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(62 |
) |
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Net income (loss) |
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(3,867 |
) |
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11 |
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Dividends on preferred stock |
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(70 |
) |
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(70 |
) |
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Net loss applicable to common stockholders |
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$ |
(3,937 |
) |
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$ |
(59 |
) |
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Net loss applicable to common stockholders per common share basic and diluted |
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$ |
(0.11 |
) |
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$ |
(0.00 |
) |
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Weighted average number of shares of common stock outstanding basic and diluted |
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34,815 |
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32,188 |
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See accompanying notes to the consolidated financial statements
4
HearUSA, Inc.
Consolidated Statements of Operations
Three Months Ended June 30, 2007 and July 1, 2006
(unaudited)
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June 30, |
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July 1, |
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2007 |
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2006 |
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(Dollars in thousands, except per |
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share amounts) |
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Net revenues |
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Hearing aids and other products |
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$ |
23,166 |
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$ |
20,838 |
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Services |
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|
1,754 |
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|
1,419 |
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Total net revenues |
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24,920 |
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|
22,257 |
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Operating costs and expenses |
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Hearing aids and other products (Note 3) |
|
|
6,062 |
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6,076 |
|
Services |
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|
556 |
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|
414 |
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Total cost of products sold and services |
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|
6,618 |
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|
6,490 |
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Center operating expenses |
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|
13,143 |
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|
10,301 |
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General and administrative expenses (Notes 1 and 7) |
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|
3,813 |
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|
3,349 |
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Depreciation and amortization |
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|
536 |
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|
488 |
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Total operating costs and expenses |
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24,110 |
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20,628 |
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Income from operations |
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810 |
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1,629 |
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Non-operating income (expenses): |
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Interest income |
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37 |
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52 |
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Interest expense (Notes 2, 3, 4 and 5) |
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(3,697 |
) |
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(1,371 |
) |
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Income (loss) before income tax expense and minority interest in income of consolidated
joint venture |
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(2,850 |
) |
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|
310 |
|
Income tax expense |
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(206 |
) |
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|
(313 |
) |
Minority interest in income of consolidated joint venture |
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|
(259 |
) |
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|
(62 |
) |
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Net loss |
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(3,315 |
) |
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|
(65 |
) |
Dividends on preferred stock |
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(36 |
) |
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|
(35 |
) |
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|
Net loss applicable to common stockholders |
|
$ |
(3,351 |
) |
|
$ |
(100 |
) |
|
|
|
|
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|
Net loss applicable to common stockholders per common share basic and diluted |
|
$ |
(0.09 |
) |
|
$ |
(0.00 |
) |
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|
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|
|
|
|
|
|
|
|
Weighted average number of shares of common stock outstanding basic and diluted |
|
|
37,358 |
|
|
|
32,216 |
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|
See accompanying notes to the consolidated financial statements
5
HearUSA, Inc.
Consolidated Statements of Cash Flows
Six Months Ended June 30, 2007 and July 1, 2006
(unaudited)
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June 30, |
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July 1, |
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2007 |
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2006 |
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|
|
(Dollars in thousands) |
|
Cash flows from operating activities |
|
|
|
|
|
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|
|
Net income (loss) |
|
$ |
(3,867 |
) |
|
$ |
11 |
|
Adjustments to reconcile net income (loss) to net cash provided
by (used in) operating activities: |
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|
Debt discount amortization |
|
|
1,783 |
|
|
|
1,380 |
|
Interest on reduction of warrant exercise price |
|
|
1,371 |
|
|
|
|
|
Depreciation and amortization |
|
|
1,025 |
|
|
|
980 |
|
Interest on Siemens Tranche C |
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|
|
|
|
620 |
|
Employee stock-based compensation |
|
|
278 |
|
|
|
474 |
|
Provision for doubtful accounts |
|
|
205 |
|
|
|
174 |
|
Deferred income tax expense |
|
|
352 |
|
|
|
515 |
|
Consulting stock-based compensation |
|
|
115 |
|
|
|
13 |
|
Loss on disposition of property and equipment |
|
|
|
|
|
|
9 |
|
Principal payments on long-term debt made through rebate credits |
|
|
(2,343 |
) |
|
|
(1,473 |
) |
Minority
interest in income of consolidated joint venture |
|
|
683 |
|
|
|
62 |
|
Decrease in fair value of warrant liability |
|
|
|
|
|
|
(317 |
) |
Other |
|
|
(5 |
) |
|
|
(14 |
) |
(Increase) decrease in: |
|
|
|
|
|
|
|
|
Accounts and notes receivable |
|
|
(51 |
) |
|
|
134 |
|
Inventories |
|
|
(78 |
) |
|
|
(1,208 |
) |
Prepaid expenses and other |
|
|
(361 |
) |
|
|
(4 |
) |
Increase (decrease) in: |
|
|
|
|
|
|
|
|
Accounts payable and accrued expenses |
|
|
(866 |
) |
|
|
272 |
|
Accrued salaries and other compensation |
|
|
89 |
|
|
|
24 |
|
|
|
|
Net cash provided by (used in) operating activities |
|
|
(1,670 |
) |
|
|
1,652 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities |
|
|
|
|
|
|
|
|
Purchase of property and equipment |
|
|
(154 |
) |
|
|
(564 |
) |
Business acquisitions |
|
|
(2,392 |
) |
|
|
(4,910 |
) |
|
|
|
Net cash used in investing activities |
|
|
(2,546 |
) |
|
|
(5,474 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities |
|
|
|
|
|
|
|
|
Proceeds from issuance of long-term debt, net of financing cost |
|
|
7,231 |
|
|
|
3,165 |
|
Principal payments on long-term debt |
|
|
(1,629 |
) |
|
|
(1,445 |
) |
Principal payments on convertible subordinated notes |
|
|
(784 |
) |
|
|
(1,250 |
) |
Principal payments on subordinated notes |
|
|
(880 |
) |
|
|
(880 |
) |
Proceeds from the exercise of warrants |
|
|
1,734 |
|
|
|
|
|
Proceeds from the exercise of employee options |
|
|
17 |
|
|
|
|
|
Dividends paid on preferred stock |
|
|
(70 |
) |
|
|
(70 |
) |
Distributions paid to minority interest |
|
|
(579 |
) |
|
|
|
|
|
|
|
Net cash provided by (used in) financing activities |
|
|
5,040 |
|
|
|
(480 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Effects of exchange rate changes on cash |
|
|
60 |
|
|
|
(20 |
) |
|
|
|
Net increase (decrease) in cash and cash equivalents |
|
|
884 |
|
|
|
(4,322 |
) |
Cash and cash equivalents at the beginning of period |
|
|
2,326 |
|
|
|
6,707 |
|
|
|
|
Cash and cash equivalents at the end of period |
|
$ |
3,210 |
|
|
$ |
2,385 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of cash flows information: |
|
|
|
|
|
|
|
|
Cash paid for interest |
|
$ |
853 |
|
|
$ |
773 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental schedule of non-cash investing and financing activities: |
|
|
|
|
|
|
|
|
Principal payments on long-term debt made through rebate credits |
|
$ |
(2,343 |
) |
|
$ |
(1,473 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Issuance of notes payable in exchange for business acquisitions |
|
$ |
2,280 |
|
|
$ |
4,640 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance of capital lease in exchange for property and equipment |
|
$ |
328 |
|
|
$ |
|
|
|
|
|
See accompanying notes to consolidated financial statements
6
HearUSA, Inc
Notes to Consolidated Financial Statements
The accompanying unaudited consolidated financial statements have been prepared in accordance
with generally accepted accounting principles for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all
of the information and footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments, consisting of normal recurring
accruals, considered necessary for a fair presentation have been included. Operating results for
the three month and the six month periods ended June 30, 2007 are not necessarily indicative of the
results that may be expected for the year ending December 29, 2007. For further information, refer
to the audited consolidated financial statements and footnotes thereto included in the Companys
annual report on Form 10-K for the year ended December 30, 2006.
1. Description of the Company and Summary of Significant Accounting Policies
The Company
HearUSA Inc. (HearUSA or the Company), a Delaware corporation, was organized in 1986. As of
June 30, 2007, the Company has a network of 168 company-owned hearing care centers in eight states
and the Province of Ontario, Canada. The Company also sponsors a network of approximately 1,600
credentialed audiology providers that participate in selected hearing benefit programs contracted
by the Company with employer groups, health insurers and benefit sponsors in 49 states. The
centers and the network providers provide audiological products and services for the hearing
impaired.
Basis of Consolidation
The consolidated financial statements include the accounts of the Company and its wholly owned and
majority controlled subsidiaries. Intercompany accounts and transactions have been eliminated in
consolidation.
During the first six months of 2007, the Companys 50% owned joint venture HEARx West generated net
income of approximately $1.4 million. According to the Companys agreement with its joint venture
partner, The Permanente Federation, the Company had included in its statement of operations 100% of
the losses incurred by the joint venture since its inception and then received 100% of the net
income of the joint venture until the accumulated deficit was eliminated which was completely
eliminated at the end of the second quarter of 2006. The Company now records 50% of the ventures
net income as minority interest in income of consolidated subsidiary in the Companys consolidated
statements of operations and with a corresponding liability on its consolidated balance sheets.
Such amount for the first six months of 2007 was approximately $683,000, compared to $62,000 in the
first six months of 2006.
Net income (loss) applicable to common stockholders per common share
Net income (loss) applicable to common stockholders per common share is calculated in accordance
with SFAS No. 128 Earnings Per Share which requires companies to present basic and diluted
earnings per share. Net income (loss) applicable to common stockholders per common share basic
is based on the weighted average number of common shares outstanding during the year. Net Income
applicable to common stockholders per common share diluted is based on the weighted average
number of common shares and dilutive potential common shares outstanding during the year. Under
the if-converted method, securities are assumed to be converted at the beginning of the period and
the resulting common shares are included in the denominator of the diluted earnings per share
calculation for the entire period presented. Common stock equivalent for convertible subordinated
notes, outstanding options and warrants to purchase common stock of approximately 8.8 million and
8.9 million were excluded from the computations of net loss applicable to common stockholders per
common share diluted for the six month period ended June 30, 2007 and July 1, 2006 and quarter
ended June 30, 2007 and July 1, 2006, respectively, because the effect of their inclusion would be
anti-dilutive.
7
HearUSA, Inc
Notes to Consolidated Financial Statements
For purposes of computing net income (loss) applicable to common stockholders per common share
basic and diluted, for the six months and the three months ended June 30, 2007 and July 1, 2006,
the weighted average number of shares of common stock outstanding includes the effect of the
760,461 and 767,358, respectively, exchangeable shares of HEARx Canada, Inc., as if they were
outstanding common stock of the Company.
Comprehensive income (loss)
Comprehensive income (loss) is defined to include all changes in equity except those resulting from
investments by owners and distributions to owners. The Companys other comprehensive income (loss)
represents a foreign currency translation adjustment.
Components of comprehensive income (loss) are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Three Months Ended |
Dollars in thousands |
|
June 30, 2007 |
|
July 1, 2006 |
|
June 30, 2007 |
|
July 1, 2006 |
|
|
|
Net income (loss) for the period |
|
$ |
(3,867 |
) |
|
$ |
11 |
|
|
$ |
(3,315 |
) |
|
$ |
(65 |
) |
Other comprehensive income: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign currency translation adjustments |
|
|
1,097 |
|
|
|
429 |
|
|
|
981 |
|
|
|
454 |
|
|
|
|
Comprehensive income (loss) for the
period |
|
$ |
(2,770 |
) |
|
$ |
440 |
|
|
$ |
(2,334 |
) |
|
$ |
389 |
|
|
|
|
Reclassifications
Certain amounts in the 2006 consolidated financial statements have been reclassified in order to
conform to the 2007 presentation.
Recent
Accounting Pronouncements
In July 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, including a decision whether
to file or not to file in a particular jurisdiction. FIN 48 is effective for fiscal years beginning after December 15, 2006.
If there are changes in net assets as a result of application of FIN 48 these will be accounted for as an adjustment to retained
earnings. Because the guidance was recently issued, we have not yet determined the impact, if any, of adopting the provisions of
FIN 48 on our financial position, results of operations and liquidity.
In September 2006, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS)
157 Fair Value Measurement (SFAS 157), which defines fair value, establishes a framework for measuring fair
value, and expands disclosures about fair value measurements. The provisions of SFAS 157 are effective for the Company on
January 1, 2008 and is not expected to have a significant impact on the Companys consolidated results of operations
and financial condition.
In February 2007, the FASB issued SFAS 159, The Fair Value Option for Financial Assets and Financial Liabilities -
including an amendment of FASB Statement 115 (SFAS 159), which permits measurement of financial instruments and
other certain items at fair value. SFAS 159 does not require any new fair value measurements. SFAS 159 is effective
for financial statements issued for fiscal years beginning after November 15, 2007. Early adoption of SFAS 159
is permitted provided that SFAS 157 is concurrently adopted. We do not expect SFAS 159 to have an impact on our
financial statements.
In May 2007, the FASB issued FASB Staff Position No. FIN 48-1 (FSP 48-1), Definition of Settlement in FASB
Interpretation No. 48. FSP 48-1 amended FIN 48 to provide guidance on how an enterprise should determine whether a
tax position is effectively settled for the purpose of recognizing previously unrecognized tax benefits. FSP 48-1
required application upon the initial adoption of FIN 48. The adoption of FSP 48-1 did not affect the Companys
consolidated results of operations and financial condition.
2. Business Acquisitions
During the first six months of 2007, the Company acquired the assets of six hearing care centers in
New York, Missouri, Michigan, Florida, California and the Province of Ontario in six separate
transactions. Consideration paid was cash of approximately $2.3 million and notes payable totaling
approximately $2.2 million. The Company is in the process of recording the fair values of the
assets acquired. Accordingly the following estimates may change. At this time these are
managements best estimates. The acquisitions resulted in additions to goodwill of approximately
$2.9 million, fixed assets of approximately $116,000 and customer lists and non-compete agreements
of approximately $1.5 million. The notes payable bear interest varying from 5% to 6% and are
payable in quarterly installments varying from $18,000 to $256,000, plus accrued interest, through
June 2011. In connection with these acquisitions, the Company drew approximately $2.2 million from
its acquisition line of credit with Siemens.
8
HearUSA, Inc
Notes to Consolidated Financial Statements
The following unaudited pro forma information represents the results of operations for HearUSA,
Inc. for the six and three months ended June 30, 2007, as if the acquisitions had been consummated
as of December 31, 2006. This pro forma information does not purport to be indicative of what may
occur in future years.
|
|
|
|
|
|
|
|
|
|
|
Six Months Ended |
|
Three Months Ended |
Dollars in thousands, except per share amounts |
|
June 30, 2007 |
|
June 30, 2007 |
|
|
|
Total revenue |
|
$ |
49,562 |
|
|
$ |
25,217 |
|
|
|
|
Net loss applicable to common stockholders |
|
$ |
(3,303 |
) |
|
$ |
(3,823 |
) |
|
|
|
Net loss applicable to common stockholders per share basic and diluted |
|
$ |
(0.10 |
) |
|
$ |
(0.10 |
) |
|
|
|
3. Long-term Debt (also see Notes 4 and 5)
Long-term debt consists of the following:
|
|
|
|
|
|
|
|
|
|
|
June 30, |
|
|
December 30, |
|
Dollars in thousands |
|
2007 |
|
|
2006 |
|
|
|
|
Notes payable to Siemens |
|
|
|
|
|
|
|
|
Tranche B |
|
$ |
4,123 |
|
|
$ |
3,543 |
|
Tranche C |
|
|
23,323 |
|
|
|
23,997 |
|
Tranche D |
|
|
7,200 |
|
|
|
2,200 |
|
|
|
|
Total notes payable to Siemens |
|
|
34,646 |
|
|
|
29,740 |
|
Notes payable from business acquisitions and others |
|
|
8,199 |
|
|
|
7,250 |
|
|
|
|
Total debt |
|
|
42,845 |
|
|
|
36,990 |
|
Less current maturities |
|
|
11,688 |
|
|
|
8,391 |
|
|
|
|
Long-term debt |
|
$ |
31,157 |
|
|
$ |
28,599 |
|
|
|
|
The approximate aggregate maturities on long-term debt obligations are as follows:
|
|
|
|
|
Dollars in thousands |
|
Amount |
|
2007 (remainder) |
|
$ |
9,501 |
|
2008 |
|
|
6,660 |
|
2009 |
|
|
5,719 |
|
2010 |
|
|
4,566 |
|
2011 |
|
|
3,754 |
|
Thereafter |
|
|
12,645 |
|
Notes payable to Siemens
On December 30, 2006, the Company entered into a Second Amended and Restated Credit Agreement,
Amended and Restated Supply Agreement, Amendment No. 1 to Amended and Restated Security Agreement
and an Investor Rights Agreement with Siemens Hearing Instruments, Inc.
Pursuant to these agreements, the parties have increased and restructured the credit facility,
extended the term of the credit facility and the supply arrangements, increased the rebates to
which the Company may be entitled upon the purchase of Siemens hearing aids and granted Siemens
certain conversion rights with respect to the debt. On the closing date, Siemens agreed to
transfer $2.2 million of accounts payable to the newly available credit and the Company drew down
an additional $5 million in cash in January 2007.
The credit facility has been increased from $26 million to $50 million and its term extended to
February 2013. The first $30 million of the line is structured in two tranches and all of it now
bears interest at 9.5%. Tranche B is a revolver established to accommodate funding for
acquisitions by the Company. The Company may borrow under Tranche B up to a $30 million limit,
less any amounts then outstanding under Tranche C. At the time of the closing, there was
outstanding under Tranche B approximately $3.5 million of principal and accrued interest. Required
quarterly payments of principal corresponding to $65 per Siemens unit sold by the acquired centers
plus imputed interest thereon under Tranche B are subject to rebate credits described below.
Additional loans may be made to the Company under Tranche C for certain acquisitions, up to a $30
million limit, less any amounts then outstanding under Tranche B. On the closing date, there was
outstanding under Tranche C a balance of approximately $24 million of principal and accrued
interest. The Company must make quarterly installment payments on Tranche C of $730,000 of
principal plus imputed interest thereon, which quarterly payments are also subject to rebate
credits described below.
9
HearUSA, Inc
Notes to Consolidated Financial Statements
The required principal payments of Tranche B and Tranche C, with imputed interest, will continue to
be eligible for repayment utilizing rebate credits on purchases of hearing aids from Siemens,
provided that the Company meets the minimum purchase requirements under the Amended Supply
Agreement. Siemens will also provide the Company with a minimum of an additional $1.25 million per
annum of volume discounts under the Amended Supply Agreement, when certain volume tests are met,
that can be applied against the remaining principal balances of Tranches B and C through rebate credits. In
the
event that Tranche B and C are completely paid-off, the equivalent of the above rebate credits
and additional volume discounts can be applied in reduction of Tranche D through rebate credits and
in the event that all Tranches are completely paid-off, such rebate credits and volume discounts
will be paid in cash to the Company.
The following table shows the rebate credits received from Siemens pursuant to the Amended Supply
Agreement in 2007 and the Supply Agreement in 2006 and the application of such rebate credits
against principal and interest payments on Tranches B and C during each of the periods ended:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Six months ended |
|
|
Three months ended |
|
Dollars in thousands |
|
June 30, 2007 |
|
|
July 1, 2006 |
|
|
June 30, 2007 |
|
|
July 1, 2006 |
|
|
|
|
Portion applied against quarterly principal payments |
|
$ |
2,343 |
|
|
$ |
1,473 |
|
|
$ |
1,183 |
|
|
$ |
743 |
|
Portion applied against quarterly interest payments |
|
|
1,313 |
|
|
|
110 |
|
|
|
672 |
|
|
|
63 |
|
|
|
|
|
|
$ |
3,656 |
|
|
$ |
1,583 |
|
|
$ |
1,855 |
|
|
$ |
806 |
|
|
|
|
The new $20 million Tranche line of credit is a revolver bearing interest at an annual rate of
5%, interest payable monthly with the principal due and payable at the end of the term. This line
is to be used primarily for acquisitions under the parties acquisition guidelines.
The Amended Credit Agreement provides that the Company will reduce the principal balance by making
annual payments in an amount equal to 20% of Excess Cash Flow (as that term is defined in the
Amended Credit Agreement), and by paying over to Siemens 25% of proceeds from equity offerings the
Company may complete. The Company did not have any Excess Cash Flow (as defined) in 2006.
In addition, the Company must prepay approximately $4.2 million under the $20 million line of
credit within the first six months of the agreement. On July 24, 2007, the parties amended the
agreement to extend the payment date for of this amount to September 24, 2007.
Under the terms of the Amended Credit Agreement, after a three-year waiting period Siemens has the
right to convert approximately $21.2 million of the outstanding debt at $3.30 per share
(representing approximately 6.4 million shares or 19.99% of the Companys outstanding common stock
at the time of the closing). Siemens will have the right to convert prior to the end of the
three-year holding period in the event of a change of control of HearUSA, a default by HearUSA
under the agreements or failure of HearUSA to make the required principal prepayments. These
conversion rights may entitle Siemens to a lower conversion price, but in all events Siemens will
be limited to approximately 6.4 million shares of common stock. The parties have entered into an
Investor Rights Agreement pursuant to which the Company granted Siemens resale registration rights
for the common stock underlying the credit facility This agreement states the Company will use its
best effort to register the shares underlying the conversion option and in any event within 180
days after the date of the agreement. The agreement further states that the parties acknowledge
and agree that although the Company is obligated to use its best efforts to effect the registration
of the securities in accordance with the terms of the agreement, the Company will not be liable to
Siemens for liquidated damages or penalties in the event its best efforts are insufficient to
accomplish the intent of the agreement. On June 30, 2007, the Company filed the required Form S-3
Form to register the shares for resale and is now in the process of this registration.
In addition, the Company has granted to Siemens certain rights of first refusal in the event the
Company chooses to engage in a capital raising transaction or if there is a change of control
transaction involving an entity in the hearing aid industry.
The Company has extended to Siemens a security interest in substantially all of the Companys
assets to secure repayment of the loans, just as the Company did in connection with the original
credit agreement.
The Siemens credit facility imposes certain financial and other covenants on the Company which are
customary for loans of this size and nature, including restrictions on the conduct of the Companys
business, the incurrence of indebtedness, merger or sale of assets, the modification of material
agreements, changes in capital structure, making certain payments and paying dividends. If the
Company cannot maintain compliance with these covenants, Siemens may terminate future funding under
the credit facility and declare all then outstanding amounts under the facility immediately due and
payable. In addition, a material breach of the Amended Supply Agreement or a willful breach of
certain of the Companys obligations under the Investor Rights Agreement may be declared to be a
breach of the Amended Credit Agreement and Siemens would have the right to declare all amounts
outstanding under the credit facility immediately due and payable. Any non-compliance with the
Amended Supply Agreement could have a material adverse effect on the Companys financial condition
and continued operations.
10
HearUSA, Inc
Notes to Consolidated Financial Statements
This financing transaction was assessed under EITF 94-18, Debtors Accounting for Changes in
Line-of-Credit or Revolving Debt Arrangements, and determined to be a modification. In accordance
with EITF 94-18, unamortized financing fees will be amortized over the extended life of the
agreement.
This financing transaction is recorded in accordance with Emerging Issues Task Force Issue No. 98-5
Accounting for Convertible Securities with Beneficial Conversion Features or Contingently
Adjustable Conversion Ratios and 00-27 Application of Issue No. 98-5 to Certain Convertible
Instruments. Accordingly, at the time of issuance assuming the most favorable conversion price at
the closing date and no changes to the current circumstances except for the passage of
time no beneficial conversion feature should be recognized at the date of closing for the entire
amount of the available under the credit agreement ($50 million). However, each subsequent draw
down would have to be analyzed regarding bifurcation and beneficial conversion feature and
beneficial conversion features could be recorded in the future if the embedded feature is in the
money as of the date of the future drawdown.
Notes payable from business acquisitions and other
Notes payable from business acquisitions totaling approximately $7.7 million at June 30, 2007 (see
note 2) and approximately $7.0 million at December 30, 2006 are payable in monthly or quarterly
installment varying from $8,000 to $255,000 over periods varying from 2 to 5 years and bear
interest at rates varying from 5.0% to 7.0%. Other notes totaling approximately $526,000 at June
30, 2007 and approximately $226,000 at December 30, 2006, relating mostly to capital leases, are
payable in monthly or quarterly installment varying from $1,000 to $10,000 over periods varying
from 1 to 3 years and bear interest at rates varying from 9.1% to 12.8%.
4. Convertible Subordinated Notes
On April 9, 2007, the Company and holders of 14 of 15 outstanding units converted the balance of
their notes, after a prepayment of approximately $409,000 by the Company, into approximately 3.1
million common shares and exercised their approximate 2.5 million warrants for a consideration of
approximately $1.7 million, or $0.70 per share. The Company also paid down $375,000 of the
approximate $417,000 outstanding balance to the non-participating note holder on the closing date.
This transaction resulted in a non-cash charge of approximately $2.6 million due to the
acceleration of the remaining balance of the debt discount amortization for approximately $1.2
million and the reduction in the price of the warrants for approximately $1.4 million recorded in
the second quarter of 2007. The remaining principal balance of approximately $42,000 owed to the
non-participating note holder was converted to common stock in June 2007.
During the first six months of 2007 and 2006, approximately $3.2 million and $1.3 million,
respectively, of interest expense was recorded related to this financing, including non-cash
prepaid finder fees, a debt discount amortization charge and deemed dividend related to the
reduction in the price of the warrants of approximately $3.0 million (including the $2.6 million
charge indicated above related to the conversion and exercise of warrants) and non-cash prepaid
finder fees and a debt discount amortization of $911,000, respectively.
These convertible subordinated notes were issued in December 2003 through a private placement of
$7.5 million and included warrants to purchase approximately 2.6 million shares of the Companys
common stock. The notes were convertible at $1.75 per share and the remaining warrants could be
exercised at $1.75 per share. The quoted closing market price of the Companys common stock on
the
commitment date was $2.37 per share. The notes bore interest at 11% annually for the first two
years and then at 8% through the remainder of their term. The Company recorded a debt discount of
approximately $7.5 million consisting of the intrinsic value of the beneficial conversion feature
of approximately $4.5 million and the portion of the proceeds allocated to the warrants issued to
the investors of approximately $3.0 million, using a Black-Scholes option pricing model, based on
the relative fair values of the investor warrants and the notes. The debt discount was being
amortized as interest expense over the five-year term of the note using the effective interest
method. The notes were subordinate to the Siemens notes payable.
11
HearUSA, Inc
Notes to Consolidated Financial Statements
In addition to the 2.6 million investor warrants issued to the investors in the financing, the
Company also issued 117,143 common stock purchase warrants with the same terms as the investor
warrants and paid cash of approximately $206,000 to third parties as finder fees and financing
costs. These warrants were valued at approximately $220,000 using a Black-Scholes option pricing
model. The total of such costs of approximately $426,000 was being amortized as interest expense
using the effective interest method over the five-year term of the notes.
5. Subordinated Notes and Warrant Liability
On August 22, 2005, the Company completed a private placement of $5.5 million three-year
subordinated notes (Subordinated Notes) with warrants (Note Warrants) to purchase approximately
1.5 million shares of the Companys common stock at $2.00 per share expiring on November 22, 2008.
The Note Warrants are all currently exercisable. The quoted closing market price of the Companys
common stock on the commitment date was $1.63 per share. The notes bear interest at 7% per annum.
Proceeds from this financing were used to redeem all of the Companys 1998-E Series Convertible
Preferred Stock. The notes are subordinate to the Siemens notes payable.
The Company recorded a debt discount of approximately $1.9 million based on the portion of the
proceeds allocated to the fair value of the Note Warrants, using a Black-Scholes option pricing
model. The debt discount is being amortized as interest expense over the three-year term of the
notes using the effective interest method. In addition to the Note Warrants, the Company also
issued 55,000 common stock purchase warrants with the same terms as the Note Warrants and paid cash
of approximately $330,000 to third parties as finder fees and financing costs. These warrants were
valued at approximately $66,000 using a Black-Scholes option pricing model. The total of such
costs of approximately $396,000 is being amortized as interest expense using the effective interest
method over the three-year term of the notes. During the first six months of 2007 and 2006,
approximately $479,000 and $752,000 respectively, in interest expense was recorded related to this
financing, including non-cash prepaid finder fees and debt discount amortization charges of
approximately $292,000 and $469,000, respectively. The future non-cash debt discount and prepaid
finder fees to be amortized as interest expense in future years total approximately $312,000 for
the remainder of 2007 and $192,000 in 2008. In the event the Company retires the Subordinated
Notes, the Company will be required to expense the debt discount and prepaid financing fees in the
period in which the retirement occurs.
At issuance, the Company agreed to register the common shares underlying the warrant shares and to
maintain such registration during the three-year period ending September 2008 so that the warrant
holders could sell their shares if the Note Warrants were exercised. The liability created by the
Companys agreement to register and keep the underlying shares registered during the three-year
period was recorded as a warrant liability of $1.9 million based on the fair value of the warrants,
using a Black-Scholes option pricing model at issuance. Any gains or losses resulting from changes
in fair value from period to period are recorded in interest expense. As the holders exercise
their Note Warrants, the applicable portion of the liability will be reclassified to additional
paid in capital. During the third quarter of 2006 the Company renegotiated its registration
obligations with the Note Warrant holders to eliminate the penalty provisions of the registration
rights agreement for failure to keep the registration active. Holders of eighty-six percent of the
Note Warrants agreed to the changes. For those who agreed to the changes, the value of the Note
Warrant was calculated at the date the amended registration rights agreement was signed and
approximately $918,000 was reclassified from warrant liability to additional paid in capital.
Effective January 1, 2007, under FSP EITF 00-19-2, which specifies that the contingent
obligation to make future payments or otherwise transfer consideration under a registration payment
arrangement, whether issued as a separate agreement or included as a provision of a financial
instrument or other agreement, should be separately recognized and measured in accordance with FASB
Statement No. 5, Accounting for Contingencies, the warrant liability balance of approximately
$110,000 was reclassified to additional paid-in capital.
12
HearUSA, Inc
Notes to Consolidated Financial Statements
On the date of issuance of the Subordinated Notes, the Company prepaid interest for the first four
months of the notes. On December 22, 2005, the Company began making quarterly payments of
principal corresponding to 8% of the original principal amount plus interest and a premium of 2% of
the principal payment made. Approximate annual aggregate amount of maturities of such notes
maturing in future years is approximately $880,000 for the remainder of 2007 and approximately $1.5
million in 2008.
6. Stockholders Equity
Common stock
During the six months ended June 30, 2007, approximately 2.5 million warrants were exercised at an
exercise price of $.0.70, approximately 3.2 million shares of common stock were issued in
connection with the conversion of the 2003 Convertible Subordinated Notes and employee stock
options for 25,000 shares of common stock were exercised.
7. Stock-based Compensation
Under the terms of the companys stock option plans, officers, certain other employees and
non-employee directors may be granted options to purchase the companys common stock at a price
equal to the closing price of the Companys common stock on the date the option is granted. For
financial reporting purposes, stock-based compensation expense is included in general and
administrative expenses. Stock-based compensation expense total approximately $278,000 and
$474,000 in the first six months of 2007 and 2006, respectively. As of June 30, 2007, there was
approximately $725,000 of total unrecognized compensation cost related to share-based compensation
under our stock award plans. That cost is expected to be recognized over a straight-line period of
four years.
Stock-based Payment Award Activity
The following table provides additional information regarding options outstanding and options that
were exercisable as of June 30, 2007 (options and in the money values in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
|
Weighted |
|
Remaining |
|
|
|
|
|
|
|
|
Average |
|
Contractual Term |
|
Aggregate |
|
|
Shares |
|
Exercise |
|
(in years) |
|
Intrinsic Value |
|
|
|
Outstanding at December 30, 2006 |
|
|
5,318 |
|
|
$ |
1.30 |
|
|
|
|
|
|
|
|
|
Granted |
|
|
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
Exercised |
|
|
(25 |
) |
|
$ |
0.67 |
|
|
|
|
|
|
|
|
|
Forfeited/expired/cancelled |
|
|
(38 |
) |
|
$ |
7.11 |
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at June 30, 2007 |
|
|
5,255 |
|
|
$ |
1.26 |
|
|
|
6.40 |
|
|
$ |
2,894 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable June 30, 2007 |
|
|
3,563 |
|
|
$ |
1.19 |
|
|
|
5.84 |
|
|
$ |
2,411 |
|
|
|
|
The aggregate intrinsic value is calculated as the difference between the exercise price of
the underlying awards and the quoted price of our common stock for the options that were
in-the-money at June 30, 2007.
13
HearUSA, Inc
Notes to Consolidated Financial Statements
A summary of the status and changes in our non-vested shares related to our equity incentive plans
as of and during the six months ended June 30, 2007 is presented below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted Average |
|
|
|
|
|
|
|
Grant-Date |
|
|
|
Shares |
|
|
Fair Value |
|
|
|
|
Non-vested at December 30, 2006 |
|
|
2,211 |
|
|
$ |
1.25 |
|
Granted |
|
|
|
|
|
|
|
|
Vested |
|
|
(515 |
) |
|
$ |
1.19 |
|
Forfeited unvested |
|
|
(3 |
) |
|
$ |
1.74 |
|
|
|
|
Non-vested at June 30, 2007 |
|
|
1,693 |
|
|
$ |
1.26 |
|
|
|
|
9. Segments
The following operating segments represent identifiable components of the Company for which
separate financial information is available. The following table represents key financial
information for each of the Companys business segments, which include the operation and management
of centers; the establishment, maintenance and support of an affiliated network; and the operation
of an e-commerce business. The centers offer people afflicted with hearing loss a complete range of
services and products, including diagnostic audiological testing, the latest technology in hearing
aids and listening devices to improve their quality of life. The network, unlike the Company-owned
centers, is comprised of hearing care practices owned by independent audiologists. The network
revenues are mainly derived from administrative fees paid by employer groups, health insurers and
benefit sponsors to administer their benefit programs as well as maintaining an affiliated provider
network. E-commerce offers on-line product sales of hearing aid related products, such as
batteries, hearing aid accessories and assistive listening devices. The Companys business units
are located in the United States and Canada.
The following is the Companys segment information:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Centers |
|
|
E-commerce |
|
|
Network |
|
|
Corporate |
|
|
Total |
|
For the six months ended: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Hearing aids and other products revenues |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2007 |
|
$ |
45,047 |
|
|
$ |
60 |
|
|
|
|
|
|
|
|
|
|
$ |
45,107 |
|
July 1, 2006 |
|
$ |
41,014 |
|
|
$ |
18 |
|
|
|
|
|
|
|
|
|
|
$ |
41,032 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service revenues |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2007 |
|
$ |
2,590 |
|
|
|
|
|
|
$ |
777 |
|
|
|
|
|
|
$ |
3,367 |
|
July 1, 2006 |
|
$ |
2,121 |
|
|
|
|
|
|
$ |
756 |
|
|
|
|
|
|
$ |
2,877 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from operations |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2007 |
|
$ |
9,567 |
|
|
$ |
(54 |
) |
|
$ |
543 |
|
|
$ |
(7,595 |
) |
|
$ |
2,461 |
|
July 1, 2006 |
|
$ |
9,695 |
|
|
$ |
(99 |
) |
|
$ |
392 |
|
|
$ |
(6,688 |
) |
|
$ |
3,300 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of and for the six months ended: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2007 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and
amortization |
|
$ |
853 |
|
|
|
|
|
|
$ |
1 |
|
|
$ |
171 |
|
|
$ |
1,025 |
|
Total assets |
|
$ |
71,811 |
|
|
|
|
|
|
$ |
936 |
|
|
$ |
17,029 |
|
|
$ |
89,776 |
|
Capital expenditures |
|
$ |
108 |
|
|
|
|
|
|
|
|
|
|
$ |
86 |
|
|
$ |
194 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
July 1, 2006 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and
amortization |
|
$ |
878 |
|
|
|
|
|
|
$ |
2 |
|
|
$ |
100 |
|
|
$ |
980 |
|
Total assets |
|
$ |
61,573 |
|
|
|
|
|
|
$ |
1,105 |
|
|
$ |
14,461 |
|
|
$ |
77,139 |
|
Capital expenditures |
|
$ |
476 |
|
|
|
|
|
|
|
|
|
|
$ |
88 |
|
|
$ |
564 |
|
14
HearUSA, Inc
Notes to Consolidated Financial Statements
Hearing aids and other products revenues as a percentage consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
Six months ended |
|
|
2007 |
|
2006 |
|
|
|
Hearing aid revenues
|
|
|
95.4 |
% |
|
|
96.0 |
% |
Other products revenues
|
|
|
4.6 |
% |
|
|
4.0 |
% |
Services revenues as a percentage consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
Six months ended |
|
|
2007 |
|
2006 |
|
|
|
Hearing aid repairs
|
|
|
49.2 |
% |
|
|
51.7 |
% |
Testing and other income
|
|
|
50.8 |
% |
|
|
48.3 |
% |
Income (loss) from operations at the segment level is computed before the following, the sum
of which is included in the column Corporate as loss from operations:
|
|
|
|
|
|
|
|
|
|
|
Six months ended |
|
|
2007 |
|
2006 |
|
|
|
General and administrative expenses
|
|
$ |
(7,424 |
) |
|
$ |
(6,588 |
) |
Deprecation and amortization
|
|
$ |
(171 |
) |
|
$ |
(100 |
) |
|
|
|
Corporate loss from operations
|
|
$ |
(7,595 |
) |
|
$ |
(6,688 |
) |
|
|
|
Information concerning geographic areas:
As of and for the six months ended June 30, 2007 and July 1, 2006:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States |
|
|
Canada |
|
|
United States |
|
|
Canada |
|
|
|
2007 |
|
|
2007 |
|
|
2006 |
|
|
2006 |
|
|
|
$ |
|
|
$ |
|
|
$ |
|
|
$ |
|
|
Hearing aid and
other product
revenues |
|
|
39,641 |
|
|
|
5,466 |
|
|
|
36,373 |
|
|
|
4,659 |
|
Service revenues |
|
|
3,103 |
|
|
|
264 |
|
|
|
2,669 |
|
|
|
209 |
|
Long-lived assets |
|
|
60,195 |
|
|
|
14,465 |
|
|
|
52,396 |
|
|
|
11,464 |
|
|
Total assets |
|
|
72,954 |
|
|
|
16,822 |
|
|
|
63,472 |
|
|
|
13,667 |
|
|
10. Income Taxes
Uncertain Income Tax Positions
We file income tax returns in the U.S. federal jurisdiction, with various states and with various
foreign jurisdictions. We are subject to tax audits in all jurisdictions for which we file tax
returns. Tax audits by their very nature are often complex and can require several years to
complete. There are currently no tax audits that have commenced with respect to income returns in
any jurisdiction.
Federal: Under the tax statute of limitations applicable to the Internal Revenue Code, we are no
longer subject to U.S. federal income tax examinations by the Internal Revenue Service for years
before 2003. However, because we are carrying forward income tax attributes, such as net operating
losses and tax credits from 2002 and earlier tax years, these attributes can still be audited when
utilized on returns filed in the future.
State: Under the statutes of limitation applicable to most state income tax laws, we are no longer
subject to state income tax examinations by tax authorities for years before 2003 in states in
which we have filed
income tax returns. Certain states may take the position that we are subject to income tax in such
states even though we have not filed income tax returns in such states and, depending on the
varying state income tax statutes and administrative practices, the statute of limitations in such
states may extend to years before 2003.
15
HearUSA, Inc
Notes to Consolidated Financial Statements
Foreign: We began foreign operations in 2002. We are subject to foreign tax examinations by tax
authorities for all such years of operation.
As a result of our January 1, 2007 implementation of FIN 48, the total amount of gross tax
benefits, excluding the offsetting full valuation allowance, that became unrecognized, was
approximately $11 million. There were no accrued interest and penalties resulting from such
unrecognized tax benefits. We recognize interest and penalties, if any, related to uncertain tax
positions in general and administrative expenses. As of June 30, 2007, the total amount of gross
unrecognized tax benefits was $11 million, with no accrued interest and penalties on such
unrecognized tax benefits.
The net unrecognized tax benefits, if recognized, would impact the effective tax rate as of
December 30, 2006 and June 30, 2007, due to the effect of our full net deferred tax asset valuation
allowance.
We do not currently anticipate that any significant increase or decrease to the gross unrecognized
tax benefits will be recorded during the remainder of 2007.
Other Income Tax Disclosures
Consistent with 2006, we anticipate recording a valuation allowance against all of our deferred tax
assets during 2007 other than for the Canadian deferred tax benefits. As a result of this valuation
allowance, we expect our full year effective tax rate to be at or about zero.
Under Section 382 of the Internal Revenue Code, or Section 382, certain significant changes in
ownership may restrict the future utilization of our tax loss carryforwards. The annual limitation
is equal to the value of our stock immediately before the ownership change, multiplied by the
long-term tax-exempt rate (i.e., the highest of the adjusted federal long-term rates in effect for
any month in the three-calendar-month period ending with the calendar month in which the change
date occurs). Based upon preliminary calculations, we estimate that the utilization of pre-Section
382 ownership change tax losses for federal income tax purposes would be limited to approximately
$2 million per year. As a result, federal net operating losses may expire before we are able to
fully utilize them. As we have recorded a full valuation allowance against our net deferred tax
assets, there is no current impact of this limitation for financial reporting purposes. A more
detailed calculation will be prepared once we have taxable income reportable under federal and
state laws.
16
Forward Looking Statements
This Form 10-Q and, in particular, this managements discussion and analysis contain or
incorporate a number of forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Act of 1934. These statements include
those relating to the Companys belief that its current cash and cash equivalents and cash flow
from operations at current net revenue levels will be sufficient to support the Companys
operational needs through the next twelve months; belief that the Company is in line to achieve its
revenues growth objective for the year of 15% to 20% and revenues target of $102 million to $107
million in 2007; expectations that the negative trend in average selling prices and comparable
center revenues will not continue for the remainder of the year, that the new Coach Shula TV
campaign will start showing benefits in the third and fourth quarter of 2007 to return to
historical marketing cost levels, for the balance of the year, the new compensation program should
have a positive impact on the Companys average unit selling price and that the Company will
continue to see increase in revenues from the centers acquired within the last twelve months;
expectation that in the remainder of 2007 the total cost of products sold before the Siemens rebate
credits as a percent of total net revenues will be consistent with the first six months of 2007;
expectation that in the remainder of 2007 the Siemens rebate credit in absolute dollar will remain
consistent with the first six months of 2007; expectation that additional center operating expenses
due to acquisitions should be consistent with the current center operating expenses when looked at
as a percent of total net revenues, expectations that the general and administrative expenses for
the reminder of the year to be consistent with the first half of the
year when looked at in dollars; expectation to achieve the long-term objective to reach an income from operations, in percent of total net
revenues, of 10% to 12%. These forward-looking statements are based on current expectations,
estimates, forecasts and projections about the industry and markets in which we operate and
managements beliefs and assumptions. Any statements that are not statements of historical fact
should be considered forward-looking statements and should be read in conjunction with our
consolidated financial statements and notes to the consolidated financial statements included in
this report. The statements are not guarantees of future performance and involve certain risks,
uncertainties and assumptions that are difficult to predict, and those risks described in the
Companys annual report on Form 10-K for fiscal 2006 filed with the Securities and Exchange
Commission.
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
GENERAL
In the first six months of 2007, the Company continued to focus on its acquisition program and
closed on six transactions involving six centers with aggregate annual estimated revenues of
approximately $4.1 million. At the time of this filing, two additional transactions involving four
centers with aggregate annual estimated revenues of approximately $1.7 million were closed and we
had non-binding letters of intent to acquire six centers with aggregate annual estimated
revenues of approximately $5.0 million. The average number of centers in the first six months 2007
was approximately 168, compared to approximately 139 in the same period of 2006.
Included in the $3.4 million loss applicable to common stockholder in the second quarter of 2007
are $2.6 million of cash and non-cash interest expenses associated with the 2003 Convertible
Subordinated Notes (see Note 4 Convertible Subordinated Notes, Notes to Consolidated Financial
Statements included herein), which were all converted or paid off by the end of the second quarter
of 2007, as well as additional marketing costs related to the new TV and Don Shula campaigns of
approximately $668,000. The signing of Don Shula delayed the launch of the TV campaign from the
first quarter of 2007 to the middle of the second quarter of 2007. As a result, the Company
expects to realize the benefits in the third and fourth quarters of 2007, as well as returning to
historical marketing cost levels for the balance of the year. Also the Company incurred additional
one-time professional fees of approximately $232,000 related to the restatement of prior years
financial statements. Included in the $3.9 million of the first six months of 2007 are
approximately $3.2 million of charges related to the 2003
Convertible Subordinated Notes as well as the additional marketing and restatement costs discussed
above totaling approximately $900,000.
17
RESULTS OF OPERATIONS
For the three months ended June 30, 2007 compared to the three months ended July 1, 2006
Revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% Change |
|
|
Hearing aids and other products |
|
$ |
23,166 |
|
|
$ |
20,838 |
|
|
$ |
2,328 |
|
|
|
11.2 |
% |
Services |
|
|
1,754 |
|
|
|
1,419 |
|
|
|
335 |
|
|
|
23.6 |
% |
|
Total net revenues |
|
$ |
24,920 |
|
|
$ |
22,257 |
|
|
$ |
2,663 |
|
|
|
12.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% Change (3) |
|
|
Revenues from centers acquired in 2006 (1) |
|
$ |
3,054 |
|
|
$ |
|
|
|
$ |
3,054 |
|
|
|
13.7 |
% |
|
Revenues from centers acquired in 2007 |
|
|
686 |
|
|
|
|
|
|
|
686 |
|
|
|
3.1 |
% |
|
Total Revenues from acquired centers |
|
$ |
3,740 |
|
|
$ |
|
|
|
$ |
3,740 |
|
|
|
16.8 |
% |
|
Revenues from comparable centers (2) |
|
$ |
21,180 |
|
|
$ |
22,257 |
|
|
$ |
(1,077 |
) |
|
|
(4.8 |
)% |
|
Total net revenues |
|
$ |
24,920 |
|
|
$ |
22,257 |
|
|
$ |
2,663 |
|
|
|
12.0 |
% |
|
|
|
|
(1) |
|
Represents that portion of revenues from the 2006 acquired centers recognized for those
acquisitions that had less than one full quarter of revenues recorded in the second quarter
2006 due to the timing of their acquisition. |
|
(2) |
|
Also includes revenues from the network business segment as well as the impact of fluctuation
of the Canadian exchange rate. |
|
(3) |
|
The revenues from acquired centers percentage changes are calculated by dividing those
revenues by the total second quarter 2006 net revenues. |
The $2.7 million or 12.0% increase in net revenues over 2006 is attributable to the centers
acquired within the last twelve months which generated approximately $3.7 million in net revenues
or 16.8% over 2006, offset by a decrease in net revenues from comparable centers of approximately
$1.1 million or 4.8% below the 2006 total net revenues. The decline in revenues from comparable
centers in the second quarter when compared to the same period of 2006 is attributable to both a
decrease in the number of units sold and a small decline in our average unit selling price. The
comparable centers total net revenues also include a favorable impact of $91,000 related to
fluctuations in the Canadian exchange rate from 2006 to 2007.
In total in the second
quarter of 2007 there was an 11.1% increase in the number of hearing aids
sold over the same period in 2006 due to the additional number of centers in that quarter resulting
from acquisitions made within the last twelve months, which increased by approximately 22.0% on
average. As indicated above, this increase was partially offset with a decrease in the units from
comparable centers. The increase was also partially offset by a 0.6% decrease in the average unit
selling price mostly attributable to a different mix of products sold and from promotions. Service
revenues increased approximately $335,000, or 23.6% over last year due in part to the additional
number of centers and change in our pricing structure for these types
of services as well as an increase in the Network business segment net revenues due to additional
contracts.
The decrease in units from comparable centers when compared to the same period of last year is due
primarily to a combination of two factors. First, the Company benefited from an extraordinarily
successful new product launch targeted to a specific segment of the hearing impaired population in
2006. This program began in the first quarter of 2006 and had its largest impact in the second
quarter of 2006. Secondly, the TV campaign scheduled for launch in the first quarter of 2007 to
off-set this was delayed until the middle of the second quarter of 2007 when the Company had the
opportunity to engage Don Shula as its spokesperson.
Management does not expect to see the negative trend in average selling prices and comparable
center revenues to continue for the remainder of the year. The third and fourth quarter of 2006
were particularly low in units sold and in average selling price due to the impact of the new
Florida Medicaid benefit
implemented in July 2006, as well as the slow down of the aforementioned new product launch. We
expect the Don Shula campaigns (both TV and print) to start showing benefits in the third and
fourth quarter of 2007. We also implemented a new compensation program providing our professionals
incentives to provide our patients with the best technology available. We expect this will have a
positive impact on our average unit selling price. Management also expects to continue to see
increase in revenues from the centers acquired within the last twelve months resulting from
trailing effect of acquisitions made in preceding quarters and new acquisitions, to be closed
during the remainder of 2007.
18
Cost of Products Sold and Services
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of products sold and services (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% |
|
|
Hearing aids and other products |
|
$ |
6,062 |
|
|
$ |
6,076 |
|
|
$ |
(14 |
) |
|
|
(0.2 |
)% |
Services |
|
|
556 |
|
|
|
414 |
|
|
|
142 |
|
|
|
34.3 |
% |
|
Total cost of products sold and services |
|
$ |
6,618 |
|
|
$ |
6,490 |
|
|
$ |
128 |
|
|
|
2.0 |
% |
|
Percent of total net revenues |
|
|
26.6 |
% |
|
|
29.2 |
% |
|
|
(2.6 |
)% |
|
|
(8.9 |
)% |
|
The cost of products sold includes the effect of rebate credits pursuant to our agreements
with Siemens. The following table reflects the components of the rebate credits which are included
in the above costs of products sold for hearing aids (see Note 3 Long-term Debt, Notes to
Consolidated Financial Statements included herein):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Siemens rebate credits included above (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% |
|
|
Base required payments on Tranches A and C forgiven |
|
$ |
1,043 |
|
|
$ |
730 |
|
|
$ |
313 |
|
|
|
42.9 |
% |
|
Required payments of $65 per Siemens unit from acquired
centers on Tranche B forgiven |
|
|
140 |
|
|
|
13 |
|
|
|
126 |
|
|
|
900.0 |
% |
|
Interest expense on Tranches A, B and C forgiven |
|
|
672 |
|
|
|
63 |
|
|
|
609 |
|
|
|
966.7 |
% |
|
Total Siemens rebate credits |
|
$ |
1,855 |
|
|
$ |
806 |
|
|
$ |
1,048 |
|
|
|
129.9 |
% |
|
Percent of total net revenues |
|
|
7.4 |
% |
|
|
3.6 |
% |
|
|
3.8 |
% |
|
|
105.6 |
% |
|
The decrease of total cost of products sold and services, as a percentage of total net
revenues, is primarily due to the additional Siemens rebate credits provided for in the new
agreements signed in December 2006, as indicated in the above table. Cost of products sold before
the impact of the Siemens rebate credits, in percent of total net revenues, were 34.0% in the
second quarter of 2007 compared to 32.8% in the first quarter of 2006. This increase is due to a
different mix of products sold and the lower average unit selling price. For the remainder of the
year, management expects the cost of products sold, in percent of total net revenues and before the
impact of the Siemens rebate credits, to remain consistent with the first half of the year and that
the Siemens rebate credits, in absolute dollar, will remain consistent with the first six months of
2007.
Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% |
|
|
Center operating expenses |
|
$ |
13,143 |
|
|
$ |
10,301 |
|
|
$ |
2,842 |
|
|
|
27.6 |
% |
|
Percent of total net revenues |
|
|
52.7 |
% |
|
|
46.3 |
% |
|
|
6.4 |
% |
|
|
13.8 |
% |
|
General and administrative expenses |
|
$ |
3,813 |
|
|
$ |
3,349 |
|
|
$ |
464 |
|
|
|
13.9 |
% |
|
Percent of total net revenues |
|
|
15.3 |
% |
|
|
15.0 |
% |
|
|
0.3 |
% |
|
|
2.0 |
% |
|
Depreciation and amortization |
|
$ |
536 |
|
|
$ |
488 |
|
|
$ |
48 |
|
|
|
9.8 |
% |
|
Percent of total net revenues |
|
|
2.2 |
% |
|
|
2.2 |
% |
|
|
0.0 |
% |
|
|
0.0 |
% |
|
The increase in center operating expenses in the second quarter of 2007 is mainly attributable
to additional expenses of approximately $1.5 million related to the centers acquired during the
last twelve months and the additional cost of the Coach Shula TV campaign of approximately
$668,000. The remaining increase relates to increase in incentive compensation of approximately
$55,000 related to additional total net revenues and other normal annual increases. As a percent
of total net revenues, center operating expenses increased from 46.3% in the second quarter of 2006
to 52.7% in the second quarter of 2007. This increase is due in part to the additional marketing
expense discussed above, which corresponds to approximately 2.7% of total net revenues and the
decline in comparable center total net
revenues. Center operating expenses related to centers acquired in the last
twelve months, at 40.4% of related total net revenues, were in line with management expectations.
Management expects that center operating expenses will increase in dollars during the remainder of
2007 due to additional centers acquired in the second quarter of 2007 as well as pending
acquisitions, however, it is expected that these increases will be consistent with the current
center operating expenses when looked at as a percent of total net revenues.
19
The increase in general and administrative expenses is primarily attributable to increases in
professional fees related to the restatement in the companys financial statement for prior years
for approximately $232,000, increases in property and business interruption and directors and
officers insurance premiums and increases in occupancy expenses. Management expects the general
and administrative expenses for the remainder of the year to be consistent with the first half of
the year when looked at it in dollars.
Depreciation and amortization expense in the second quarter of 2007 remained stable compared to the
same period in 2006. Depreciation was $308,000 in the second quarter of 2007 and $290,000 in the
second quarter of 2006. Amortization expense was $228,000 in the second quarter 2007 and $198,000
in the second quarter 2006. Most of the amortization expense comes from the amortization of
intangible assets related to the acquisitions made by the Company.
Income from Operations
Income from operations decreased approximately $819,000 from $1.6 million (or 7.3% of total net
revenues) in the second quarter of 2006 to approximately $810,000 (or 3.3% of total net revenues)
in the second quarter of 2007. As indicated above, this decrease was mostly caused by the
additional marketing expense and restatement costs, which all together accounted for approximately
$900,000, or 3.6% or total net revenues. The remaining decrease of 0.3 base points in the margin
is attributable to the decrease in total net revenues from comparable centers, which is estimated
to have had a negative impact of approximately $650,000 or 2.6% of
total net revenues. The Companys long term
objective is still to reach a 10% to 12% income from operations, as a percent of total net
revenues.
Interest Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% |
|
|
Notes payable from business acquisitions and others |
|
$ |
140 |
|
|
$ |
29 |
|
|
$ |
111 |
|
|
|
382.8 |
% |
Siemens Tranche C2 Interest paid with monthly payments |
|
|
|
|
|
|
118 |
|
|
|
(118 |
) |
|
|
|
|
Siemens Tranches C1 and C3 accrued interest added to
loan balance |
|
|
|
|
|
|
324 |
|
|
|
(324 |
) |
|
|
|
|
Siemens Tranches A, B and C interest forgiven |
|
|
672 |
|
|
|
63 |
|
|
|
609 |
|
|
|
966.7 |
% |
Siemens Tranche D-paid monthly |
|
|
117 |
|
|
|
|
|
|
|
117 |
|
|
|
100.0 |
% |
2003 Convertible Subordinated Notes (1) |
|
|
2,561 |
|
|
|
640 |
|
|
|
1,921 |
|
|
|
300.2 |
% |
2005 Subordinated Notes (2) |
|
|
207 |
|
|
|
342 |
|
|
|
(135 |
) |
|
|
(39.5 |
)% |
Warrant liability change in value (3) |
|
|
|
|
|
|
(145 |
) |
|
|
145 |
|
|
|
|
|
|
Total interest expense |
|
$ |
3,697 |
|
|
$ |
1,371 |
|
|
$ |
2,326 |
|
|
|
169.7 |
% |
|
|
|
|
(1) |
|
Includes $2.6 million in 2007 and $530,000 in 2006 of non-cash prepaid fees, debt discount
amortization and deemed dividend. |
|
(2) |
|
Includes $135,100 in 2007 and $223,000 in 2006 of non-cash debt discount amortization. |
|
(3) |
|
Relates to the change in value of the warrants related to the 2003 Subordinated Notes and is
a non-cash item. |
The $2.3 million increase in interest expense in the second quarter of 2007 is mostly
attributable to the additional interest on the new Siemens Tranche D with a balance of $7.2 million
at the beginning of the year, which did not exist in the second quarter of 2006, additional
interest on the new promissory notes
issued for business acquisitions during 2006 and a non-cash charge of approximately $2.6 million
due to conversion of the 2003 Convertible Subordinated Notes in the second quarter of 2007,
partially offset by reductions due to lower principal balances following the quarterly repayments
made, as well as additional interest on Siemens Tranche C due to higher average balance in the
second quarter of 2007 compared to 2006. 2006 also benefited from a reduction on interest due to
reduction in value of the warrant liability which did not exist in 2007.
20
Income Taxes
The Company has temporary timing differences between the financial statement and tax reporting
arising primarily from differences in the amortization of intangible assets and goodwill and
depreciation of fixed assets. The deferred tax assets for US purposes have been offset by a
valuation allowance because it was determined that these assets were not likely to be used. The
deferred tax assets for Canadian tax purposes are recorded in reduction of the deferred income tax
liability on the Companys balance sheet and were approximately $680,000 at December 30, 2006.
During the second quarter, the Company recorded a deferred tax expense of approximately $206,000
compared to approximately $314,000 in the second quarter of 2006 related to estimated taxable
income generated by the Canadian operations during the quarter and the estimated deduction of tax
deductible goodwill from its US operations. The deferred income tax expense related to the
Canadian operations of approximately $86,000 is due to the estimated utilization of deferred tax
benefit previously recorded as discussed above. The deferred income tax expense recorded of
approximately $120,000 was recorded because it cannot be offset by other temporary differences as
it relates to infinite-lived assets and that the timing of reversing the liability is unknown.
Minority Interest
During the second quarter of 2007, HEARx West, the Companys fifty percent owned joint
venture; generated net income of approximately $557,000. The Company recorded a minority interest
equal to 50% of the ventures net income that exceeded the accumulated deficit, as an expense in
the Companys consolidated statements of operations and with a corresponding liability on its
consolidated balance sheets. The minority interest for the second quarter of 2007 was
approximately $259,000 compared to $62,000 in the same period of 2006. This increase is due to the
fact that the minority interest started to be calculated on toward the end of the second quarter of
last year.
Net Loss Applicable to Common Stockholders
The increase in the net loss applicable to common stockholders of approximately $3.4 million in the
second quarter of 2007, or $0.09 per share, from a net loss applicable to common stockholders of
approximately $100,000 in the second quarter of 2006, or $0.00 per share, is mostly attributable to
the non-cash charge of approximately $2.6 million ($0.07 per share) related to the conversion of
the 2003 convertible notes and exercise of related warrants (compared to a charge of approximately
$655,000 for these same notes in the same period of 2006), the additional marketing expense and
restatement costs discussed above and totaling approximately $900,000 ($0.02 per share) and the
increase in the minority interest charge of approximately $197,000 ($0.01 per share), as explained
above. The 2007 performance was also affected by the reduction in revenues from comparable center
from one period to another, which is estimated to have had a negative impact of approximately
$650,000 (0.02 per share).
For the six months ended June 30, 2007 compared to the six
months ended July 1, 2006
Revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% Change |
|
|
Hearing aids and other products |
|
$ |
45,107 |
|
|
$ |
41,032 |
|
|
$ |
4,075 |
|
|
|
9.9 |
% |
Services |
|
|
3,367 |
|
|
|
2,877 |
|
|
|
490 |
|
|
|
17.0 |
% |
|
Total net revenues |
|
$ |
48,474 |
|
|
$ |
43,909 |
|
|
$ |
4,565 |
|
|
|
10.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% Change (3) |
|
|
Revenues from centers acquired in 2006 (1) |
|
$ |
6,224 |
|
|
$ |
|
|
|
$ |
6,224 |
|
|
|
14.2 |
% |
|
Revenues from centers acquired in 2007 |
|
|
1,010 |
|
|
|
|
|
|
|
1,010 |
|
|
|
2.3 |
% |
|
Total Revenues from acquired centers |
|
$ |
7,234 |
|
|
$ |
|
|
|
$ |
7,234 |
|
|
|
16.5 |
% |
|
Revenues from comparable centers (2) |
|
$ |
41,240 |
|
|
$ |
43,909 |
|
|
$ |
(2,669 |
) |
|
|
(6.1 |
)% |
|
Total net revenues |
|
$ |
48,474 |
|
|
$ |
43,909 |
|
|
$ |
4,565 |
|
|
|
10.4 |
% |
|
|
|
|
(1) |
|
Represents that portion of revenues from the 2006 acquired centers recognized for those
acquisitions that had less than one full quarter of revenues recorded in the first six
months of 2006 due to the timing of their acquisition. |
|
(2) |
|
Also includes revenues from the network business segment as well as the impact of
fluctuation of the Canadian exchange rate. |
|
(3) |
|
The revenues from acquired centers percentage changes are calculated by dividing those
revenues by the total first six months of 2006 net revenues. |
21
The $4.6 million or 10.4% increase in net revenues over 2006 is a result of revenues from the
centers acquired within the last twelve months which generated approximately $7.2 million or 16.5%
over 2006, offset by a decrease in net revenues from comparable centers of approximately $2.7
million or 6.1% below the 2006 total net revenues level. The decline in revenues from comparable
centers in 2007 when compared to the same period of 2006 is attributable to both a decrease in the
number if hearing aids sold, and a slight decrease in the average unit selling price. The
comparable centers total net revenues also include a favorable impact of $34,000 related to
fluctuations in the Canadian exchange rate from 2006 to 2007.
In total in the second quarter of 2007 there was a 9.2% increase in the number of hearing aids sold
over the same period in 2006 due to the additional number of centers in the first six months of
2007 resulting from acquisitions made within the last twelve months, which increased by
approximately 22% on average. As indicated above, this increase was partially offset with a
decrease in the units from comparable centers. In addition, the average unit selling price
increased slightly by 0.1%, mostly attributable to a different mix of products sold and promotions.
Service revenues increased approximately $490,000, or 17.0% over last year, due in part to the
additional number of centers and change in our pricing structure for
these types of services.
As
indicated for the second quarter, the decrease in units from comparable centers when compared to the same period of last year is due
primarily to a combination of two factors. First, the Company benefited from an extraordinarily
successful new product launch targeted to a specific segment of the hearing impaired population in
2006. This program began in the first quarter of 2006 and had its largest impact in the second
quarter of 2006. Secondly, the TV campaign scheduled for launch in the first quarter of 2007 to
off-set this was delayed until the middle of the second quarter of 2007 when the Company had the
opportunity to engage Don Shula as its spokesperson.
Cost of Products Sold and Services
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of products sold and services (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% |
|
|
Hearing aids and other products |
|
$ |
11,789 |
|
|
$ |
12,189 |
|
|
$ |
(400 |
) |
|
|
(3.3 |
)% |
Services |
|
|
1,032 |
|
|
|
787 |
|
|
|
245 |
|
|
|
31.1 |
% |
|
Total cost of products sold and services |
|
$ |
12,821 |
|
|
$ |
12,976 |
|
|
$ |
(155 |
) |
|
|
(1.2 |
)% |
|
Percent of total net revenues |
|
|
26.4 |
% |
|
|
29.6 |
% |
|
|
(3.2 |
)% |
|
|
(10.8 |
)% |
|
The cost of products sold includes the effect of rebate credits pursuant to our agreements
with Siemens. The following table reflects the components of the rebate credits which are included
in the above costs of products sold for hearing aids (see Note 3 Long-term Debt, Notes to
Consolidated Financial Statements included herein):
22
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Siemens rebate credits included above (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% |
|
|
Base required payments on Tranches A and C forgiven |
|
$ |
2,085 |
|
|
$ |
1,460 |
|
|
$ |
625 |
|
|
|
42.8 |
% |
|
Required payments of $65 per Siemens unit from acquired
centers on Tranche B forgiven |
|
|
258 |
|
|
|
13 |
|
|
|
245 |
|
|
|
1884.6 |
% |
|
Interest expense on Tranches A, B and C forgiven |
|
|
1,313 |
|
|
|
110 |
|
|
|
1,203 |
|
|
|
1093.6 |
% |
|
Total Siemens rebate credits |
|
$ |
3,656 |
|
|
$ |
1,583 |
|
|
$ |
2,073 |
|
|
|
131.0 |
% |
|
Percent of total net revenues |
|
|
7.5 |
% |
|
|
3.6 |
% |
|
|
3.9 |
% |
|
|
108.3 |
% |
|
The decrease of total cost of products sold and services, as a percentage of total net
revenues, is primarily due to the additional Siemens rebate credits provided for in the new
agreements signed in December 2006, as shown in the above table. Cost of products sold before the
impact of the Siemens rebate credits, in percent of total net revenues, were 34.0% in the first six
months of 2007 compared to 33.2% in the first six months of 2006. This increase is due to a
different mix of products sold.
Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% |
|
|
Center operating expenses |
|
$ |
24,742 |
|
|
$ |
20,065 |
|
|
$ |
4,677 |
|
|
|
23.3 |
% |
|
Percent of total net revenues |
|
|
51.0 |
% |
|
|
45.7 |
% |
|
|
5.3 |
% |
|
|
11.6 |
% |
|
General and administrative expenses |
|
$ |
7,425 |
|
|
$ |
6,588 |
|
|
$ |
837 |
|
|
|
12.7 |
% |
|
Percent of total net revenues |
|
|
15.3 |
% |
|
|
15.0 |
% |
|
|
0.3 |
% |
|
|
2.0 |
% |
|
Depreciation and amortization |
|
$ |
1,025 |
|
|
$ |
980 |
|
|
$ |
45 |
|
|
|
4.6 |
% |
|
Percent of total net revenues |
|
|
2.1 |
% |
|
|
2.2 |
% |
|
|
(0.1 |
)% |
|
|
(4.5 |
)% |
|
The increase in center operating expenses in the second quarter of 2007 is mainly attributable
to additional expenses of approximately $3.6 million related to the centers acquired during the
last twelve months and the additional cost of the Coach Shula TV campaign of approximately
$668,000. The remaining increase relates to increase in incentive compensation of approximately
$94,000 related to additional total net revenues and other normal annual increases. As a percent
of total net revenues, center operating expenses increased from 45.7% in the second quarter of 2006
to 51.0% in the second quarter of 2007. This increase is due in part to the additional marketing
expense discussed above, which corresponds to approximately 1.4% of total net revenues and the
decline in comparable centers total net revenues. Center operating expenses
related to centers acquired in the last twelve months, at 42.5% of related total net revenues, were
in line with management expectations.
The increase in general and administrative expenses is primarily attributable to increases in wages
due to normal merit increases, professional fees related to the restatement of prior years
financial statements, increases in property and business interruption and directors and officers
insurance premiums and increases in occupancy expenses.
Depreciation and amortization expense in 2007 remained stable compared to the same period in 2006.
Decreases as certain property and equipment become fully depreciated were offset by increases due
to the acquisition of fixed assets and intangible assets during 2007. Depreciation was $613,000 in
2007 and $599,000 in 2006. Amortization expense was $412,000 in 2007 and $381,000 in 2006. Most
of the amortization expense comes from the amortization of intangible assets related to the
acquisitions made by the Company.
Income from Operations
Income from operations decreased approximately $839,000 from $3.3 million (or 7.5% of total net
revenues) in the first half of 2006 to approximately $2.5 million (or 5.1% of total net revenues)
in the first half of 2007. As indicated above, this decrease was mostly caused by the additional
marketing expense and restatement costs, which all together accounted for approximately $900,000,
or 1.9% or total net revenues. The remaining decrease of 0.5 base points in the margin is
attributable to the decrease in total net revenues from comparable centers, which is estimated to
have had a negative impact of approximately $1.6 million or 3.3% of total net revenues.
23
When compared to the entire year in 2006, income from operations, as a percentage of total net
revenues, improved from 4.3% to 5.1%. Also when compared to the third and fourth quarter of 2006,
the improvement is even more significant where the percentage were 1.8% and 0.4%, respectively.
These improvements over preceding quarters are mostly attributable to the reduction in our cost of
products sold, resulting in one part from initiatives implemented during the fourth quarter of 2006
to increase our average unit selling price and on the other part to the additional benefits from
the new Siemens agreements signed on December 30, 2006. It is
also attributable to the fact that general and administrative
expenses remained stable at $7.4 million in the first six months of
2007 compared to the last six months of 2006, while revenues increased $3.6 million or 8.1%, which
resulted in a decrease of general and administrative expenses, in percentage of total net revenues from 16.5% to 15.3%.
Interest Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense (dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Change |
|
|
% |
|
|
Notes payable from business acquisitions and others |
|
$ |
278 |
|
|
$ |
81 |
|
|
$ |
197 |
|
|
|
243.2 |
% |
Siemens Tranche C2 Interest paid with monthly payments |
|
|
|
|
|
|
207 |
|
|
|
(207 |
) |
|
|
|
|
Siemens Tranches C1 and C3 accrued interest added to
loan balance |
|
|
|
|
|
|
620 |
|
|
|
(620 |
) |
|
|
|
|
Siemens Tranches A, B and C interest forgiven |
|
|
1,313 |
|
|
|
110 |
|
|
|
1,203 |
|
|
|
1093.6 |
% |
Siemens Tranche D-paid monthly |
|
|
176 |
|
|
|
|
|
|
|
176 |
|
|
|
100.0 |
% |
2003 Convertible Subordinated Notes (1) |
|
|
3,163 |
|
|
|
1,345 |
|
|
|
1,818 |
|
|
|
135.2 |
% |
2005 Subordinated Notes (2) |
|
|
447 |
|
|
|
752 |
|
|
|
(305 |
) |
|
|
(40.6 |
)% |
Warrant liability change in value (3) |
|
|
|
|
|
|
(317 |
) |
|
|
317 |
|
|
|
|
|
|
Total interest expense |
|
$ |
5,377 |
|
|
$ |
2,798 |
|
|
$ |
2,579 |
|
|
|
92.2 |
% |
|
|
|
|
(1) |
|
Includes $2.6 million in 2007 and $911,000 in 2006 of non-cash prepaid fees, debt discount
amortization and deemed dividend. |
|
(2) |
|
Includes $292,100 in 2007 and $469,000 in 2006 of non-cash debt discount amortization. |
|
(3) |
|
Relates to the change in value of the warrants related to the 2003 Subordinated Notes and is
a non-cash item. |
The increase in interest expense in 2007 is attributable to the additional interest on the new
Siemens Tranche D with a balance of $7.2 million at the beginning of the year, which did not exist
in 2006 and additional interest on the new promissory notes issued for business acquisitions during
2006 and non-cash interest charges of approximately $2.6 million for the early conversion of the
2003 Convertible Subordinated Notes, partially offset by reductions due to lower principal balances
following the quarterly repayments made, as well as additional interest on Siemens Tranche C due to
higher average balance in the first six months of 2007 compared to 2006. 2006 also benefited from
a reduction on interest due to reduction in value of the warrant liability which did not exist in
2007.
Income Taxes
The Company has temporary timing differences between the financial statement and tax reporting
arising primarily from differences in the amortization of intangible assets and goodwill and
depreciation of fixed assets. The deferred tax assets for US purposes have been offset by a
valuation allowance because it was determined that these assets were not likely to be used. The
deferred tax assets for Canadian tax purposes are recorded in reduction of the deferred income tax
liability on the Companys balance sheet and were approximately $680,000 at December 30, 2006.
During the first six months of 2007, the Company recorded a deferred tax expense of approximately
$352,000 compared to approximately $578,000 in 2006 related to estimated taxable income generated
by the Canadian operations during the quarter and the estimated deduction of tax deductible
goodwill from its US operations. The deferred income tax expense related to the Canadian
operations of approximately $161,000 is due to the estimated utilization of deferred tax benefit
previously recorded as discussed above. The deferred income tax expense recorded of approximately
$191,000 was recorded because it cannot be offset by other temporary differences as it relates to
infinite-lived assets and that the timing of reversing the liability is unknown. Deferred income
tax expense will continue to be recorded for these two items as long as the Canadian operations
generate taxable income and/or tax deductible goodwill exist for US tax purposes. Tax deductible
goodwill with a balance of approximately $21.3 million at December 31, 2006 will continue to increase as we continue to purchase the assets
of businesses.
24
Minority Interest
During the first six months of 2007, HEARx West, the Companys fifty percent owned joint
venture; generated net income of approximately $1.4 million. The Company recorded a minority
interest equal to 50% of the ventures net income that exceeded the accumulated deficit, as an
expense in the Companys consolidated statements of operations and with a corresponding liability
on its consolidated balance sheets. The minority interest for the first six months of 2007 was
approximately $683,000, compared to $62,000 in the same period of last year. This increase is due
to the fact that the minority interest started to be calculated on toward the end of the second
quarter of last year.
Net Loss Applicable to Common Stockholders
The increase in the net loss applicable to common stockholders of approximately $3.9 million in the
first six months of 2007, or $0.11 per share, from a net loss applicable to common stockholders of
approximately $59,000 in the first six months of 2006 is mostly attributable to the non-cash charge
of approximately $2.6 million ($0.07 per share) related to the conversion of the 2003 convertible
notes and exercise of related warrants, the additional marketing expense and restatement costs
discussed above and totaling approximately $900,000 ($0.03 per share) and the increase in the
minority interest charge of approximately $621,000 ($0.02 per share), as explained above. The 2007
performance was also affected by the reduction in revenues from comparable center from one period
to another, which is estimated to have had a negative impact of approximately $1.6 million ($0.05
per share).
LIQUIDITY AND CAPITAL RESOURCES
Siemens Transaction
On December 30, 2006, the Company entered into a Second Amended and Restated Credit Agreement,
Amended and Restated Supply Agreement, Amendment No. 1 to Amended and Restated Security Agreement
and an Investor Rights Agreement with Siemens Hearing Instruments, Inc.
Pursuant to these agreements, the parties have increased and restructured the credit facility,
extended the term of the credit facility and the supply arrangements, increased the rebates to
which the Company may be entitled upon the purchase of Siemens hearing aids and granted Siemens
certain conversion rights with respect to the debt. On the closing date, Siemens agreed to
transfer $2.2 million of accounts payable to the newly available credit and subsequently the
Company drew down an additional $5 million in cash in January 2007.
The credit facility has been increased from $26 million to $50 million and its term extended to
February 2013. The first $30 million of the line is structured in two tranches and all of it now
bears interest at 9.5%. Tranche B is a revolver established to accommodate funding for
acquisitions by the Company. The Company may borrow under Tranche B up to a $30 million limit,
less any amounts then outstanding under Tranche C. At the time of the closing, there was
outstanding under Tranche B approximately $3.5 million of principal and accrued interest. Required
quarterly payments of principal and interest under Tranche B are subject to rebate credits
described below. Additional loans may be made to the Company under Tranche C for certain
acquisitions, up to a $30 million limit, less any amounts then outstanding under Tranche B. On the
closing date, there was outstanding under Tranche C a balance of approximately $24 million of
principal and accrued interest. The Company must make quarterly installment payments on Tranche C
of $730,000 of principal plus imputed interest thereon, which quarterly payments are also subject
to rebate credits as described below.
25
The required principal payments of Tranche B and Tranche C, with imputed interest, will continue to
be eligible for repayment utilizing rebate credits on purchases of hearing aids from Siemens, provided
that the Company meets the minimum purchase requirements under the Amended Supply Agreement.
Siemens will also provide the Company with a minimum of an additional $1.25 million per annum of
volume discounts under the Amended Supply Agreement, when certain volume tests are met, that can be
applied against the remaining principal balances of Tranches B and C through rebate credits. In
the event that Tranche B and C are completely paid-off, the equivalent of the above rebate credits
and additional volume discounts can be applied in reduction of Tranche D through rebate credits and
in the event that all Tranches are completely paid-off, such rebate credits and volume discounts
will be paid in cash to the Company.
The new $20 million Tranche D line of credit is a revolver bearing interest at an annual rate of
5%, interest payable monthly with the principal due and payable at the end of the term. This line
is to be used primarily for acquisitions under the parties acquisition guidelines.
The Amended Credit Agreement provides that the Company will reduce the principal balance by making
annual payments in an amount equal to 20% of Excess Cash Flow (as that term is defined in the
Amended Credit Agreement), and by paying over to Siemens 25% of proceeds from equity offerings the
Company may complete. The Company did not have any Excess Cash Flow (as defined) in 2006. In
addition, The Company must prepay approximately $4.2 million under the $20 million line of credit
within the first six months of the agreement. On July 24, 2007, the parties agreed to extend the
payment date of this amount to September 24, 2007.
Under the terms of the Amended Credit Agreement, after a three-year waiting period, Siemens has the
right to convert approximately $21.2 million of the outstanding debt at $3.30 per share
(representing approximately 6.4 million shares, of the Companys outstanding common stock at the
time of the closing). Siemens will have the right to convert prior to the end of the three-year
holding period in the event of a change of control of HearUSA, a default by HearUSA under the
agreements or certain principal prepayments by HearUSA. These conversion rights may entitle
Siemens to a lower conversion price, but in all events Siemens will be limited to approximately 6.5
million shares of common stock. The parties have entered into an Investor Rights Agreement
pursuant to which the Company granted Siemens resale registration rights for the common stock
underlying the credit facility. The investor rights agreement states the Company will use its best
effort to register the shares underlying the conversion option and in any event within 180 days
after the date of the agreement. The agreement further states that the parties acknowledge and
agree that although the Company is obligated to use its best efforts to effect the registration of
the securities in accordance with the terms of the agreement, the Company will not be liable to the
Investor for liquidated damages or penalties in the event its best efforts are insufficient to
accomplish the intent of the agreement. On June 30, 2007 the Company filed a Form S-3 form to
register these shares for resale and is now in the registration process.
In addition, the Company has granted to Siemens certain rights of first refusal in the event the
Company chooses to engage in a capital raising transaction or if there is a change of control
transaction involving a person in the hearing aid industry.
The Company has extended to Siemens a security interest in substantially all of the Companys
assets to secure repayment of the loans, just as the Company did in connection with the original
credit agreement.
The Siemens credit facility imposes certain financial and other covenants on the Company which are
customary for loans of this size and nature, including restrictions on the conduct of the Companys
business, the incurrence of indebtedness, merger or sale of assets, the modification of material
agreements, changes in capital structure, making certain payments and paying dividends. If the
Company cannot maintain compliance with these covenants, Siemens may terminate future funding under
the credit facility and declare all then outstanding amounts under the facility immediately due and
payable. In addition, a material breach of the Amended Supply Agreement or a willful breach of
certain of the Companys obligations under the Investor Rights Agreement may be declared to be a
breach of the Amended Credit Agreement and Siemens would have the right to declare all amounts
outstanding under the credit facility immediately due and payable. Any non-compliance with the
Amended Supply
26
Agreement could have a material adverse effect on the Companys financial condition and continued
operations.
Working Capital
The working capital deficit decreased approximately $800,000 to approximately $14.1 million as
of June 30, 2007 from approximately $14.9 million as of December 30, 2006. The decrease in the
deficit is attributable to a decrease of approximately $2.5 million in current maturities of
convertible subordinated notes and an excess of cash provided by financing activities of
approximately $2.5 million over cash used for investing activities, offset by an increase of
approximately $3.3 million current maturities of long-term debt.
The working capital deficit of approximately $14.1 million includes approximately $3.6 million
representing the current maturities of the long-term debt to Siemens which may be repaid through
rebate credits. In the first six months of 2007, the Company generated income from operations of
approximately $2.5 million compared to $3.3 million in the first six month of 2006. Cash and cash
equivalents as of June 30, 2007 were approximately $3.2 million.
Cash Flows
Net cash used in operating activities in 2007 increased approximately $3.3 million compared to
net cash provided by operating activities in 2006, mainly attributable to a decrease in cash
provided by operating activities before changes in non-cash working capital items of approximately
$2.8 million from one period to another, and a decrease in cash due to changes in non-cash working
capital items of approximately $485,000.
During 2007, cash of approximately $2.4 million was used to complete the acquisition of centers, a
decrease of approximately $2.5 million over the $4.9 million spent on acquisitions in 2006. It is
expected that additional funds will continue to be used for acquisitions during the remainder of
2007. The source of these funds is expected to be primarily the Siemens acquisition line of
credit.
In 2007, funds of approximately $3.3 million were used to repay long-term debt. This is a decrease
of $322,000 from 2006 due to the payment and conversion of the convertible subordinated notes in
the second quarter of 2007 (see Note 4 Convertible Subordinated Notes, Notes to Consolidated
Financial Statements included herein) offset in part by increase in cash outflows relating to
additional notes from business acquisitions. In 2007, proceeds of $5 million were received from
the Siemens Tranche D and $2.2 million from the Siemens Tranches B and C used for acquisitions.
The Company expects to continue to draw additional money from the Siemens acquisition line of
credit, as indicated above, in order to cover the cash portion of its 2007 acquisitions. The
Company also made a first distribution to minority interest related to its HEARx West joint venture
with Kaiser in the amount of approximately $579,000. Such distribution did not exist in prior
years.
The Company believes that current cash and cash equivalents and cash flow from operations, at
current net revenue levels, will be sufficient to support the Companys operational needs through
the remainder of the year. However, there can be no assurance that the Company can maintain
compliance with the Siemens loan covenants, that net revenue levels will remain at or higher than
current levels or that unexpected cash needs will not arise for which the cash, cash equivalents
and cash flow from operations will not be sufficient. In the event of a shortfall in cash, the
Company might consider short-term debt, or additional equity or debt offerings. There can be no
assurance however, that such financing will be available to the Company on favorable terms or at
all. The Company also is continuing its aggressive cost controls and sales and gross margin
improvements.
27
Below is a chart setting forth the Companys contractual cash payment obligations, which have been
aggregated to facilitate a basic understanding of the Companys liquidity as of June 30, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments due by period (000s) |
|
|
|
|
|
|
|
Less |
|
|
|
|
|
|
|
|
|
|
More |
|
|
|
|
|
|
|
than 1 |
|
|
1 3 |
|
|
4 5 |
|
|
Than 5 |
|
Contractual obligations |
|
Total |
|
|
year |
|
|
years |
|
|
Years |
|
|
years |
|
|
|
|
Long-term debt (1) |
|
$ |
42,845 |
|
|
$ |
11,688 |
|
|
$ |
11,299 |
|
|
$ |
7,610 |
|
|
$ |
12,248 |
|
Subordinated notes |
|
|
2,420 |
|
|
|
1,760 |
|
|
|
660 |
|
|
|
|
|
|
|
|
|
|
|
|
Subtotal of obligations recorded on balance sheet |
|
|
45,265 |
|
|
|
13,448 |
|
|
|
11,959 |
|
|
|
7,610 |
|
|
|
12,248 |
|
Interest to be paid on long-term debt (2) |
|
|
1,616 |
|
|
|
638 |
|
|
|
571 |
|
|
|
311 |
|
|
|
96 |
|
Interest to be paid on subordinated notes |
|
|
116 |
|
|
|
113 |
|
|
|
3 |
|
|
|
|
|
|
|
|
|
Operating leases |
|
|
18,571 |
|
|
|
5,593 |
|
|
|
8,277 |
|
|
|
3,145 |
|
|
|
1,556 |
|
Employment agreements |
|
|
4,420 |
|
|
|
2,177 |
|
|
|
2,154 |
|
|
|
89 |
|
|
|
|
|
Purchase obligations |
|
|
548 |
|
|
|
536 |
|
|
|
12 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total contractual cash obligations |
|
$ |
70,536 |
|
|
$ |
22,505 |
|
|
$ |
22,976 |
|
|
$ |
11,155 |
|
|
$ |
13,900 |
|
|
|
|
|
|
|
(1) |
|
Approximately $18.6 million can be repaid through preferred pricing reductions from
Siemens, including $3.6 million in less than 1 year and $7.1 million in years 1-3, $7.1
million in years 4-5 and $800,000 in more than 5 years. |
|
(2) |
|
Interest on long-term debt excludes the interest on the new Tranches A, B and C that can be
repaid through preferred pricing reductions from Siemens pursuant to the Amended and Restated
Credit Agreement. Interest repaid through preferred pricing reductions was $1.3 million in
the first six months of 2007. (See Note 4a Long-Term Debt, Notes to Consolidated Financial
Statements included herein). |
CRITICAL ACCOUNTING POLICIES
Management believes the following critical accounting policies affect the significant judgments and
estimates used in the preparation of the consolidated financial statements:
Goodwill
The Companys goodwill resulted from the combination with Helix in 2002 and the acquisitions made
since the inception of its acquisition program in 2005. On at least an annual basis, the Company is
required to assess whether its goodwill is impaired. The Company elected to perform this analysis
on the first day of its fourth quarter. In order to do this, management applied judgment in
determining its reporting units, which represent distinct parts of the Companys business. The
reporting units determined by management are the centers, the network and e-commerce. The
definition of the reporting units affects the Companys goodwill impairment assessments. The annual
goodwill impairment assessment involves estimating the fair value of a reporting unit and comparing
it with its carrying amount. If the carrying value of the reporting unit exceeds its fair value,
additional steps are required to calculate a potential impairment charge. Calculating the fair
value of the reporting units requires significant estimates and long-term assumptions. The Company
utilized an independent appraisal firm to test goodwill for impairment as of the first day of the
Companys fourth quarter during 2006 and 2005, and each of these tests indicated no impairment.
The Company estimates the fair value of its reporting units by applying a weighted average of three
methods: quoted market price, external transactions, and discounted cash flow. Significant changes
in key assumptions about the business and its prospects, or changes in market conditions, stock
price, interest rates or other externalities, could result in an impairment charge.
28
Revenue recognition
Revenues from the sale of audiological products are recognized at the time of delivery. Revenues
from hearing care services and repair are recognized at the time those services are performed.
The Company has capitation contracts with certain health care organizations under which the Company
is paid an amount for each enrollee of the health maintenance organization to provide to the
enrollee a once every three years discount on certain hearing products and services. The amount
paid to the Company by the healthcare organization is calculated on a per-capita basis and is
referred to as capitation revenue. Capitation revenue is earned as a result of agreeing to provide
services to members without regard to the actual amount of service provided; revenue is recorded in
the period that the beneficiaries are entitled to hearing care services.
Allowance for doubtful accounts
Certain of the accounts receivable of the Company are from health insurance and managed care
organizations and government agencies. These organizations could take up to nine months before
paying a claim made by the Company and also impose a limit on the time the claim can be billed.
The Company provides an allowance for doubtful accounts equal to the estimated uncollectible
amounts. That estimate is based on historical collection experience, current economic and market
conditions, and a review of the current status of each customers trade accounts receivable.
In order to calculate that allowance, the Company first identifies any known uncollectible amounts
in its accounts receivable listing and charges them against the allowance for doubtful accounts.
Then a specific percent per plan and per aging categories is applied against the remaining
receivables to estimate the needed allowance. Any changes in the percent assumptions per plan and
aging categories results in a change in the allowance for doubtful accounts. For example, an
increase of 10% in the percent applied against the remaining receivables would increase the
allowance for doubtful accounts by approximately $27,000.
Sales returns
The Company provides to all patients purchasing hearing aids a specific return period of at least
30 days if the patient is dissatisfied with the product. The Company provides an allowance in
accrued expenses for returns. The return period can be extended to 60 days if the patient attends
the Companys H.E.L.P. program. The Company calculates its allowance for returns using estimates
based upon actual historical returns. The cost of the hearing aid is reimbursed to the Company by
the manufacturer.
Impairment of Long-Lived Assets
Long-lived assets are subject to a review for impairment if events or changes in circumstances
indicate that the carrying amount of the asset may not be recoverable. If the future undiscounted
cash flows generated by an asset or asset group is less than its carrying amount, it is considered
to be impaired and would be written down to its fair value. Currently we have not experienced any
events that would indicate a potential impairment of these assets, but if circumstances change we
could be required to record a loss for the impairment of long-lived assets.
Stock-based compensation
Share-based payments are accounted for in accordance with the provisions of SFAS No. 123 (revised
2004), Share-Based Payment (SFAS No. 123(R)). To determine the fair value of our stock option
awards, we use the Black-Scholes option pricing model, which requires management to apply judgment
and make assumptions to determine the fair value of our awards. These assumptions include
estimating the length of time employees will retain their vested stock options before exercising
them (the expected term), the estimated volatility of the price of our common stock over the
expected term and an estimate of the number of options that will ultimately be forfeited.
29
The expected term is based on historical experience of similar awards, giving consideration to the
contractual terms, vesting schedules and expectations of future employee behavior. Expected stock
price volatility is based on a historical volatility of our common stock for a period at least
equal to the expected term. Estimated forfeitures are calculated based on historical experience.
Changes in these assumptions can materially affect the estimate of the fair value of our
share-based payments and the related amount recognized in our Consolidated Financial Statements.
Income taxes
Income taxes are calculated in accordance with SFAS No. 109, Accounting for Income Taxes (SFAS No.
109), which requires the use of the asset and liability method. Under this method, deferred tax
assets and liabilities are recognized based on the difference between the carrying amounts of
existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities
are measured using the enacted tax rates. A valuation allowance is established against the
deferred tax assets when it is more likely than not that some portion or all of the deferred taxes
may not be realized.
Both the calculation of the deferred tax assets and liabilities, as well as the decision to
establish a valuation allowance requires management to make estimates and assumptions. Although we
do not believe there is a reasonable likelihood that there will be a material change in the
estimates and assumptions used, if actual results are not consistent with the estimates and
assumptions, the balances of the deferred tax assets, liabilities and valuation allowance could be
adversely affected.
RECENT ACCOUNTING PRONOUNCEMENTS
In July 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, including a decision whether to file or not to file
in a particular jurisdiction. FIN 48 is effective for fiscal years beginning after December 15,
2006. If there are changes in net assets as a result of application of FIN 48 these will be
accounted for as an adjustment to retained earnings. Because the guidance was recently issued, we
have not yet determined the impact, if any, of adopting the provisions of FIN 48 on our financial
position, results of operations and liquidity.
In September 2006, the Financial Accounting Standards Board (FASB) issued Statement of
Financial Accounting Standards (SFAS) 157 Fair Value Measurement (SFAS 157), which defines fair
value, establishes a framework for measuring fair value, and expands disclosures about fair value
measurements. The provisions of SFAS 157 are effective for the Company on January 1, 2008 and is
not expected to have a significant impact on the Companys consolidated results of operations and
financial condition.
In February 2007, the FASB issued SFAS 159, "The Fair Value Option for Financial Assets and
Financial Liabilities including an amendment of FASB Statement 115 (SFAS 159), which permits
measurement of financial instruments and other certain items at fair value. SFAS 159 does not
require any new fair value measurements. SFAS 159 is effective for financial statements issued for
fiscal years beginning after November 15, 2007. Early adoption of SFAS 159 is permitted provided
that SFAS 157 is concurrently adopted. We do not expect SFAS 159 to have an impact on our financial
statements.
In May 2007, the FASB issued FASB Staff Position No. FIN 48-1 (FSP 48-1), Definition of
Settlement in FASB Interpretation No. 48. FSP 48-1 amended FIN 48 to provide guidance on how an
enterprise should determine whether a tax position is effectively settled for the purpose of
recognizing previously unrecognized tax benefits. FSP 48-1 required application upon the initial
adoption of FIN 48. The adoption of FSP 48-1 did not affect the Companys consolidated results of
operations and financial condition.
30
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company does not engage in derivative transactions. The Company is exposed to Canadian currency
exchange rates and the Company is not hedging that exposure. Differences in the fair value of
investment securities are not material; therefore the related market risk is not significant. The
Companys exposure to market risk for changes in interest rates relates primarily to the Companys
long-term debt. The following table presents the Companys financial instruments for which fair
value is subject to changing market interest rates:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed Rate |
|
|
|
Total |
|
|
|
|
9.5% |
|
|
|
5% note |
|
|
7% |
|
|
|
|
|
|
|
|
|
|
|
due January |
|
|
|
Due January |
|
|
Due August |
|
|
|
|
|
|
|
|
|
|
|
2013 |
|
|
|
2013 |
|
|
2008 |
|
|
Other |
|
|
|
|
|
|
|
|
$ |
|
|
|
|
|
|
|
$ |
|
|
$ |
|
|
|
$ |
|
|
|
|
(000s) |
|
|
|
(000s) |
|
|
(000s) |
|
|
(000s) |
|
|
|
(000s) |
|
|
|
|
|
|
|
|
|
|
|
2007 |
|
|
|
(3,290 |
) |
|
|
|
(4,200 |
) |
|
|
(880 |
) |
|
|
(2,011 |
) |
|
|
|
(10,381 |
) |
2008 |
|
|
|
(3,628 |
) |
|
|
|
(3,000 |
) |
|
|
(1,540 |
) |
|
|
(3,033 |
) |
|
|
|
(11,201 |
) |
2009 |
|
|
|
(3,628 |
) |
|
|
|
|
|
|
|
|
|
|
|
(2,091 |
) |
|
|
|
(5,719 |
) |
2010 |
|
|
|
(3,628 |
) |
|
|
|
|
|
|
|
|
|
|
|
(939 |
) |
|
|
|
(4,567 |
) |
2011 |
|
|
|
(3,628 |
) |
|
|
|
|
|
|
|
|
|
|
|
(126 |
) |
|
|
|
(3,754 |
) |
2012 |
|
|
|
(9,643 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(9,643 |
) |
2013 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
|
(27,445 |
) |
|
|
|
(7,200 |
) |
|
|
(2,420 |
) |
|
|
(8,200 |
) |
|
|
|
(45,265 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Estimated fair value |
|
|
|
(27,540 |
) |
|
|
|
(7,200 |
) |
|
|
(2,410 |
) |
|
|
(8,230 |
) |
|
|
|
(45,380 |
) |
|
|
|
|
|
|
|
|
|
|
Item 4. Controls and Procedures
The Companys management, with the participation of the Companys chief executive officer and chief financial officer,
evaluated the effectiveness of the Companys disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act) as of June 30, 2007. The Companys chief executive officer and chief
financial officer concluded that, as of June 30, 2007, the Companys disclosure controls and procedures were not
effective. The Company is taking steps to remediate any deficiencies in its disclosure controls and procedures including
hiring outside firms to assist in these matters.
No change in the Companys internal control over financial reporting (as defined in Rules 13a-15(f) and
15d-15(f) under the Securities Exchange Act) occurred during the fiscal quarter ended June 30, 2007 that has materially
affected, or is reasonably likely to materially affect, the Companys internal control over financial reporting.
31
Part II Other Information
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Effective April 9, 2007, all but one of the holders of the Companys 2003 Convertible Subordinated Notes converted their
notes into a total of 3,158,966 shares of common stock. At the same time, these holders exercised warrants, paying
$1,749,930 cash for a total of 2,499,900 shares of common stock. The Company relied on Section 4(2) as the exemption
from the registration requirements of the Securities Act of 1933. The transaction qualified as a private placement
to accredited investors.
Item 4. Submission of Matters to a Vote of Security Holders
The Company held its annual meeting of stockholders on June 11, 2007. At that meeting, the
stockholders were asked to consider and act on the election of directors and the approval of the
HearUSA 2007 Incentive Compensation Plan.
The following persons were elected as directors for terms expiring in 2008 and received the number
of votes set forth opposite their respective names:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Against/ |
Nominee |
|
For |
|
Withheld |
Paul A. Brown, M. D.
|
|
|
30,184,539 |
|
|
|
7,699,969 |
|
Stephen J. Hansbrough
|
|
|
30,283,044 |
|
|
|
7,601,464 |
|
Thomas W. Archibald
|
|
|
29,933,608 |
|
|
|
7,950,900 |
|
David J. McLachlan
|
|
|
29,929,178 |
|
|
|
7,955,330 |
|
Joseph L. Gitterman III
|
|
|
29,925,862 |
|
|
|
7,958,646 |
|
Michel Labadie
|
|
|
29,932,108 |
|
|
|
7,952,400 |
|
Bruce N. Bagni
|
|
|
29,933,248 |
|
|
|
7,951,260 |
|
The HearUSA 2007 Incentive Compensation Plan was approved by the following number of votes
received:
|
|
|
|
|
For |
|
Against |
|
Abstain |
17,969,542
|
|
12,570,023
|
|
116,820 |
32
Item 6. Exhibits
|
|
|
2.1
|
|
Plan of Arrangement, including exchangeable share provisions (incorporated herein
by reference to Exhibit 2.3 to the Companys Joint Proxy Statement/Prospectus on
Form S-4 (Reg. No. 333-73022)). |
|
|
|
3.1
|
|
Restated Certificate of Incorporation of HEARx Ltd., including certain certificates
of designations, preferences and rights of certain preferred stock of the Company
(incorporated herein by reference to Exhibit 3 to the Companys Current Report on
Form 8-K, filed May 17, 1996 (File No. 001-11655)). |
|
|
|
3.2
|
|
Amendment to the Restated Certificate of Incorporation (incorporated herein by
reference to Exhibit 3.1A to the Companys Quarterly Report on Form 10-Q for the
period ended June 28, 1996 (File No. 001-11655)). |
|
|
|
3.3
|
|
Amendment to Restated Certificate of Incorporation including one for ten reverse
stock split and reduction of authorized shares (incorporated herein to Exhibit 3.5
to the Companys Quarterly Report on Form 10-Q for the period ending July 2, 1999
(File No. 001-11655)). |
|
|
|
3.4
|
|
Amendment to Restated Certificate of Incorporation including an increase in
authorized shares and change of name (incorporated herein by reference to Exhibit
3.1 to the Companys Current Report on Form 8-K, filed July 17, 2002 (File No.
001-11655)). |
|
|
|
3.5
|
|
Certificate of Designations, Preferences and Rights of the Companys 1999 Series H
Junior Participating Preferred Stock (incorporated herein by reference to Exhibit 4
to the Companys Current Report on Form 8-K, filed December 17, 1999 (File No.
001-11655)). |
|
|
|
3.6
|
|
Certificate of Designations, Preferences and Rights of the Companys Special Voting
Preferred Stock (incorporated herein by reference to Exhibit 3.2 to the Companys
Current Report on Form 8-K, filed July 19, 2002 (File No. 001-11655)). |
|
|
|
3.7
|
|
Amendment to Certificate of Designations, Preferences and Rights of the Companys
1999 Series H Junior Participating Preferred Stock (incorporated herein by
reference to Exhibit 4 to the Companys Current Report on Form 8-K, filed July 17,
2002 (File No. 001-11655)). |
|
|
|
3.8
|
|
Certificate of Designations, Preferences and Rights of the Companys 1998-E
Convertible Preferred Stock (incorporated herein by reference to Exhibit 4.1 to the
Companys Current Report on Form 8-K, filed August 28, 2003 (File No. 001-11655)). |
|
|
|
3.9
|
|
Amendment of Restated Certificate of Incorporation (increasing authorized capital)
(incorporated herein by reference to Exhibit 3.9 to the Companys Quarterly Report
on Form 10-Q, filed August 8, 2004.) |
|
|
|
3.10
|
|
Amended and Restated By-Laws of HearUSA, Inc. (effective May 9, 2005) (incorporated
herein by reference to Exhibit 3.1 to the Companys Current Report on Form 8-K,
filed May 13, 2005). |
|
|
|
4.1
|
|
Amended and Restated Rights Agreement, dated July 11, 2002 between HEARx and the
Rights Agent, which includes an amendment to the Certificate of Designations,
Preferences and Rights of the Companys 1999 Series H Junior Participating
Preferred Stock (incorporated herein by reference to Exhibit 4.9.1 to the Companys
Joint Proxy/Prospectus on Form S-4 (Reg. No. 333-73022)). |
|
|
|
4.2
|
|
Form of Support Agreement among HEARx Ltd., HEARx Canada, Inc. and HEARx
Acquisition ULC (incorporated herein by reference to Exhibit 99.3 to the Companys
Joint Proxy Statement/Prospectus on Form S-4 (Reg No. 333-73022)). |
|
|
|
4.3
|
|
Form of 2003 Convertible Subordinated Note due November 30, 2008 (incorporated
herein by reference to Exhibit 4.1 to the Companys Current Report on Form 8-K,
filed December 31, 2003). |
|
|
|
9.1
|
|
Form of Voting and Exchange Trust Agreement among HearUSA, Inc., HEARx Canada, Inc
and HEARx Acquisition ULC and ComputerShare Trust Company of Canada (incorporated
herein by reference to Exhibit 9.1 to the Companys Joint Proxy
Statement/Prospectus on Form S-4 (Reg. No. 333-73022)). |
|
|
|
10.1
|
|
Form of 2003 Convertible Subordinated Notes Conversion Agreement, dated as of April 9,
2007, between HearUSA, Inc. and investors in the Companys December 2003 private
placement pursuant to that Purchase Agreement dated as of December 18, 2003. |
|
|
|
31.1
|
|
CEO Certification, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
|
31.2
|
|
CFO Certification, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
|
|
|
32
|
|
CEO and CFO Certification, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
33
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
|
|
|
|
|
August 13, 2007
|
HearUSA Inc.
(Registrant)
|
|
|
/s/Stephen J. Hansbrough
|
|
|
Stephen J. Hansbrough |
|
|
President/Chief Executive Officer |
|
|
HearUSA, Inc.
|
|
|
/s/Gino Chouinard
|
|
|
Gino Chouinard |
|
|
EVP/Chief Financial Officer
HearUSA, Inc. |
|
34