Form 10-Q
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

 

(Mark One)

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended February 28, 2010.

or

 

¨ 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 0-17988

 

 

Neogen Corporation

(Exact name of registrant as specified in its charter)

 

 

 

Michigan   38-2367843

(State or other jurisdiction of

incorporation or organization)

 

(IRS Employer

Identification Number)

620 Lesher Place

Lansing, Michigan 48912

(Address of principal executive offices, including zip code)

(517) 372-9200

(Registrant’s telephone number, including area code)

N/A

(Former name, former address and former fiscal year, if changed since last report)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file reports), and (2) has been subject to such filing requirements for the past 90 days.    YES  x    NO  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (see definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act):

 

Large accelerated filer   ¨    Accelerated filer   x
Non-accelerated filer   ¨  (Do not check if a smaller reporting company)    Smaller Reporting Company   ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act):    YES  ¨    NO  x

As of March 1, 2010, there were 22,557,000 shares of Common Stock outstanding.

 

 

 


Table of Contents

NEOGEN CORPORATION AND SUBSIDIARIES

TABLE OF CONTENTS

 

           Page No.

PART I. FINANCIAL INFORMATION

  

Item 1.

 

Interim Consolidated Financial Statements (unaudited)

   2
 

Consolidated Balance Sheets – February 28, 2010 and May 31, 2009

   2
 

Consolidated Statements of Income – Three months and nine months ended February 28, 2010 and 2009

   3
 

Consolidated Statement of Stockholders’ Equity – Nine months ended February 28, 2010

   4
 

Consolidated Statements of Cash Flows – Nine months ended February 28, 2010 and 2009

   5
 

Notes to Interim Consolidated Financial Statements – February 28, 2010

   6

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   10

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

   14

Item 4.

 

Evaluation of Controls and Procedures

   16

PART II. OTHER INFORMATION

  

Item 1.

 

Legal Proceedings

   16

Item 1A.

 

Risk Factors

   16

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

   16

Item 3.

 

Defaults Upon Senior Securities

   16

Item 4.

 

Reserved

   16

Item 5.

 

Other Information

   16

Item 6.

 

Exhibits

   16

Signatures

   17

CEO Certification

   18

CFO Certification

   19

Section 906 Certification

   20

 

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Table of Contents

PART I – FINANCIAL INFORMATION

 

Item 1. Interim Consolidated Financial Statements

NEOGEN CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

 

     February 28,
2010
    May 31,
2009
     (In thousands, except share
and per share amounts)
     (Unaudited)     (Audited)

ASSETS

    

CURRENT ASSETS

    

Cash and cash equivalents

   $ 31,107      $ 13,842

Accounts receivable, less allowance of $700 and $600.

     23,850        23,363

Inventories

     31,667        31,363

Deferred income taxes

     200        200

Prepaid expenses and other current assets

     3,089        2,998
              

TOTAL CURRENT ASSETS

     89,913        71,766

NET PROPERTY AND EQUIPMENT

     16,948        17,058

OTHER ASSETS

    

Goodwill

     43,534        39,717

Other non-amortizable intangible assets

     4,139        3,730

Customer based intangibles, net of accumulated amortization of $3,626 and $2,861

     6,031        6,143

Other non-current assets, net of accumulated amortization of $1,806 and $1,663

     4,735        3,762
              
     58,439        53,352
              
   $ 165,300      $ 142,176
              

LIABILITIES AND STOCKHOLDERS’ EQUITY

    

CURRENT LIABILITIES

    

Accounts payable

   $ 6,824      $ 3,909

Accrued compensation

     2,049        2,519

Income taxes

     3,249        667

Other accruals

     2,497        2,151
              

TOTAL CURRENT LIABILITIES

     14,619        9,246

DEFERRED INCOME TAXES

     2,725        2,725

OTHER LONG-TERM LIABILITIES

     1,614        1,526
              
     4,339        4,251
              

TOTAL LIABILITIES

     18,958        13,497

STOCKHOLDERS’ EQUITY

    

Preferred stock, $1.00 par value, 100,000 shares authorized, none issued and outstanding

     —          —  

Common stock, $.16 par value, 30,000,000 shares authorized, 22,557,000 shares issued and outstanding at February 28, 2010; 22,105,000 shares issued and outstanding at May 31, 2009

     3,609        3,537

Additional paid-in capital

     66,682        61,517

Accumulated other comprehensive income (loss) and noncontrolling interest

     (425     36

Retained earnings

     76,476        63,589
              

TOTAL STOCKHOLDERS’ EQUITY

     146,342        128,679
              
   $ 165,300      $ 142,176
              

See notes to interim consolidated financial statements

 

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NEOGEN CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

 

     Three Months Ended
February 28,
   Nine Months Ended
February 28,
     2010     2009    2010     2009
     (In thousands, except per share amounts)

Net sales

   $ 33,833      $ 27,840    $ 101,431      $ 87,831

Cost of goods sold

     16,372        14,813      48,178        43,875
                             

GROSS MARGIN

     17,461        13,027      53,253        43,956

OPERATING EXPENSES

         

Sales and marketing

     6,795        5,422      19,172        17,053

General and administrative

     3,391        2,769      9,473        8,382

Research and development

     1,526        1,265      4,687        3,436
                             
     11,712        9,456      33,332        28,871
                             

OPERATING INCOME

     5,749        3,571      19,921        15,085

OTHER INCOME

         

Interest income

     34        60      67        195

Other income (expense)

     (2     542      (1     852
                             
     32        602      66        1,047

INCOME BEFORE INCOME TAXES

     5,781        4,173      19,987        16,132

INCOME TAXES

     1,900        1,350      7,100        5,675
                             

NET INCOME

   $ 3,881      $ 2,823    $ 12,887      $ 10,457
                             

NET INCOME PER SHARE

         

Basic

   $ .17      $ .13    $ .58      $ .48
                             

Diluted

   $ .17      $ .12    $ .56      $ .46
                             

See notes to interim consolidated financial statements

 

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Table of Contents

NEOGEN CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY (UNAUDITED)

 

     Common Stock    Additional
Paid-in
Capital
   Other(1)     Retained
Earnings
   Total  
     Shares    Amount           
     (In thousands except share amounts)  

Balance, June 1, 2009

   22,105,000    $ 3,537    $ 61,517    $ 36      $ 63,589    $ 128,679   

Issuance of shares common stock under equity compensation plans, including $821 of excess income tax benefit

   428,000      68      4,837           4,905   

Issuance of shares under employee stock purchase plan

   24,000      4      328           332   

Comprehensive income:

                

Net income for the nine months ended February 28, 2010

                12,887      12,887   

Foreign currency translation adjustments and other

              (461        (461
                      

Total comprehensive income ($9,085 in the nine months ended February 28, 2009)

                   12,426   
                                          

Balance, February 28, 2010

   22,557,000    $ 3,609    $ 66,682    $ (425   $ 76,476    $ 146,342   
                                          

 

(1) Other represents accumulated foreign currency adjustments of ($788) and ($430) at February 28, 2010 and May 31, 2009 and noncontrolling interest of $363 and $466 at February 28, 2010 and May 31, 2009, respectively.

See notes to interim consolidated financial statements

 

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NEOGEN CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

 

     Nine Months Ended
February 28,
 
     2010     2009  
     (In thousands)  

CASH FLOWS FROM OPERATING ACTIVITIES:

    

Net income

   $ 12,887      $ 10,457   

Adjustments to reconcile net income to net cash provided by operating activities:

    

Depreciation and amortization

     3,147        2,892   

Share based compensation

     1,593        1,543   

Income tax benefit from stock plan transactions

     (821     (428

Changes in operating assets and liabilities, net of business acquisitions:

    

Accounts receivable

     (2     (3,038

Inventories

     185        (5,720

Prepaid expenses and other current assets

     (537     (640

Accounts payable and accruals

     5,159        1,305   
                

NET CASH PROVIDED BY OPERATING ACTIVITIES

     21,611        6,371   

CASH FLOWS FROM INVESTING ACTIVITIES:

    

Purchases of property and equipment and other assets

     (2,444     (1,863

Payments for business acquisitions

     (6,455     (7,672
                

NET CASH USED IN INVESTING ACTIVITIES

     (8,899     (9,535

CASH FLOWS FROM FINANCING ACTIVITIES:

    

Increases (decreases) in other long-term liabilities

     88        (371

Net proceeds from issuance of common stock

     3,644        2,568   

Excess income tax benefit from the exercise of stock options

     821        428   
                

NET CASH PROVIDED BY FINANCING ACTIVITIES

     4,553        2,625   
                

INCREASE (DECREASE) IN CASH

     17,265        (539

CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD

     13,842        14,270   
                

CASH AND CASH EQUIVALENTS AT END OF PERIOD

   $ 31,107      $ 13,731   
                

See notes to interim consolidated financial statements

 

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NEOGEN CORPORATION AND SUBSIDIARIES

NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

1. BASIS OF PRESENTATION

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (generally accepted accounting principles) for interim financial information and with the instructions to Form 10-Q and Article 10 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 only of normal recurring adjustments) considered necessary for a fair presentation have been included. The results of operations for the three month and nine month periods ended February 28, 2010 are not necessarily indicative of the results to be expected for the fiscal year ending May 31, 2010. For more complete financial information, these consolidated financial statements should be read in conjunction with the May 31, 2009 audited consolidated financial statements and the notes thereto included in the Company’s annual report on Form 10-K for the year ended May 31, 2009.

2. INVENTORIES

Inventories are stated at the lower of cost, determined on the first-in, first-out method, or market. The components of inventories follow:

 

     February 28,
2010
   May 31,
2009 (1)
     (In thousands)

Raw materials

   $ 12,328    $ 11,183

Work-in-process

     1,473      1,425

Purchased finished and finished goods

     17,866      18,755
             
   $ 31,667    $ 31,363
             

 

(1) Inventory components at May 31, 2009 were reclassified to conform with 2010 classifications.

3. NET INCOME PER SHARE

The calculation of net income per share follows:

 

     Three Months Ended
February 28,
   Nine Months Ended
February 28,
     2010    2009    2010    2009
     (In thousands, except per share amounts)

Numerator for basic and diluted net income per share:

           

Net income

   $ 3,881    $ 2,823    $ 12,887    $ 10,457

Denominator:

           

Denominator for basic net income per share weighted average shares

     22,536      21,977      22,366      21,894

Effect of dilutive stock options and warrants

     652      706      646      719
                           

Denominator for diluted net income per share

     23,188      22,683      23,012      22,613

Net income per share:

           

Basic

   $ .17    $ .13    $ .58    $ .48
                           

Diluted

   $ .17    $ .12    $ .56    $ .46
                           

The Board of Directors declared a 3 for 2 stock split effective December 15, 2009. All share and per share amounts in this Form 10-Q reflect amounts as if the split took place at the beginning of the periods presented.

 

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4. SEGMENT INFORMATION

The Company has two reportable segments: Food Safety and Animal Safety. The Food Safety segment produces and markets diagnostic test kits and related products used by food producers and processors to detect harmful natural toxins, drug residues, food borne bacteria, food allergens, pesticide residues, disease infections and levels of general sanitation. The Animal Safety segment is primarily engaged in the production and marketing of veterinary instruments, rodenticides and disinfectants and offers a complete line of consumable products to veterinarians and animal health product distributors.

These segments are managed separately because they represent strategic business units that offer different products and require different marketing strategies. The Company evaluates performance based on sales and operating income of the respective segments.

Segment information for the three months ended February 28, 2010 and 2009 follows:

 

     Food
Safety
   Animal
Safety
   Corporate
and
Eliminations (1)
    Total
     (In thousands)

Fiscal 2010

          

Net sales to external customers

   $ 19,719    $ 14,114    $ —        $ 33,833

Operating income (reduction)

     4,980      1,243      (474     5,749

Fiscal 2009

          

Net sales to external customers

   $ 14,173    $ 13,667    $ —        $ 27,840

Operating income (reduction)

     3,017      857      (303     3,571

Segment information for the nine months ended February 28, 2010 and 2009 follows:

 

     Food
Safety
   Animal
Safety
   Corporate
and
Eliminations (1)
    Total
     (In thousands)

Fiscal 2010

          

Net sales to external customers

   $ 55,640    $ 45,791    $ —        $ 101,431

Operating income (reduction)

     15,393      5,888      (1,360     19,921

Total assets

   $ 67,293    $ 69,447    $ 28,560      $ 165,300

Fiscal 2009

          

Net sales to external customers

   $ 45,101    $ 42,730    $ —        $ 87,831

Operating income (reduction)

     10,686      5,303      (904     15,085

Total assets

   $ 61,060    $ 66,873    $ 12,242      $ 140,175

 

(1) Includes corporate assets, consisting principally of cash and cash equivalents, deferred assets and overhead expenses not allocated to specific business segments. Also includes the elimination of intersegment transactions and noncontrolling interests.

 

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5. EQUITY COMPENSATION PLANS

Options are generally granted under the employee and director stock option plan for 5 years and become exercisable in varying installments. Certain non-qualified options are granted for 10 year periods. A summary of stock option activity during the nine months ended February 28, 2010 follows:

 

     Shares     Weighted-Average
Exercise Price

Options outstanding at June 1, 2009

   2,115,767      $ 11.67

Granted

   426,375        19.60

Exercised

   (428,000     8.34

Forfeited

   (27,900     13.56
        

Options outstanding at February 28, 2010

   2,086,242        9.93

During the three and nine months ended February 28, 2010 and 2009 the Company recorded $544,000 and $492,000 and $1,593,000 and $1,543,000 respectively of compensation expense related to its share-based awards.

The Company has 29,250 outstanding warrants that are exercisable for common stock. The warrants have lives of 5 years and were expensed at fair value upon issuance.

The Company has an Employee Stock Purchase plan that provides for employee stock purchases at a 5% discount to market. The discount is expensed as of the date of purchase.

6. NEW ACCOUNTING PRONOUNCEMENTS

On June 1, 2009, the Company adopted ASC 805 Business Combinations (ASC 805). This standard intended to converge rulemaking and reporting under U.S. Generally Accepted Accounting Principles (GAAP) with international accounting rules. ASC 805 establishes principles and requirements for how an acquirer in a business combination recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any controlling interest; recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase; and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. The adoption of the standard had no material impact on the Company’s results of operations or financial position at the date of adoption.

ASC 810 Consolidation (ASC 810) requires all entities to report non-controlling (minority) interests in subsidiaries as equity in the consolidated financial statements. Its intention is to eliminate the diversity in practice regarding the accounting for transactions between an entity and noncontrolling interests. The Company was required to adopt the provisions of both ASC 805 and ASC 810 simultaneously at the beginning of fiscal 2010. The standards were adopted on June 1, 2009, and did not have a material impact on the Company’s results of operations or financial position.

The Company adopted ASC 825 Financial Instruments (ASC 825) in the quarter ended August 31, 2009. The statement requires financial disclosure of certain financial instruments. The statement did not have any impact on the Company’s results of operations or financial position, but we have now added the required disclosures on an interim basis.

The Company adopted ASC 855 Subsequent Events (ASC 855) in the quarter ended August 31, 2009. This standard establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before the financial statements are issued or are available to be issued. ASC 855 is effective for interim or annual financial periods ending after June 15, 2009. The adoption of this standard did not have any impact on the Company’s results of operations or financial position.

7. BUSINESS AND PRODUCT LINE ACQUISITIONS

On June 3, 2008, Neogen Corporation formed a subsidiary in Mexico, Neogen LatinoAmerica SPA to acquire its former distributor. The new business is 40% owned by Neogen Corporation’s former Mexican distributor in Mexico, with the remainder owned by Neogen. The new company distributes the Company’s food and animal safety products throughout Mexico. The consideration of $672,000 was allocated $462,000 to current assets, $30,000 to fixed assets and the remainder to intangible assets.

 

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On June 30, 2008, Neogen Corporation purchased a disinfectant business from DuPont Animal Health Solutions. The products are used in animal health hygiene applications. Assets acquired include 14 different product formulations, associated registrations, patents, trademarks, and other intangibles. As a part of the acquisition the Company obtained the right to distribute certain other related DuPont products in North America. DuPont will distribute certain of the newly acquired Neogen products in other important international markets. Consideration for the purchase was $7,000,000 with potential additional payments of up to $5,000,000 based upon future revenues. The purchase price has been allocated to goodwill, customer based intangibles, trademarks and patents. This acquisition has been integrated into the Lexington, Kentucky operations and is expected to be a strong synergistic fit with the Company’s Animal Safety product line. Results of operations have been included as of the date of acquisition.

On May 4, 2009, Neogen Corporation acquired International Diagnostics Systems Corporation, a St. Joseph, Michigan based developer, manufacturer and marketer of test kits to detect drug residues in food and animal feed, and drugs in forensic and animal samples. International Diagnostic Systems reported sales of $2 million in its most recently completed fiscal year prior to the acquisition. The preliminary allocation of the purchase price included net current assets of $498,000 and intangible assets of $2,964,000 (estimated useful lives of 5-15 years).

On December 1, 2009, the Company purchased the Biokits food safety business of Gen-Probe Incorporated. Consideration for the purchase, which was determined through arms length negotiations, approximated $6.5 million in cash and the assumption of trade accounts payable of $175,000. The preliminary allocation of the purchase price included net current assets of $770,000, fixed assets $163,000 and intangible assets of $5,522,000. The acquired business will operate as a unit of Neogen’s food safety division. Principal products include allergen test kits.

8. LONG TERM DEBT

The Company maintains a financing agreement with a bank (no amounts drawn at February 28, 2010 or May 31, 2009) providing for an unsecured revolving line of credit of $10,000,000. The interest rate is LIBOR plus 125 basis points (rate under terms of the agreement was 1.48% at February 28, 2010). Financial covenants include maintaining specified funded debt to EBITDA and debt service ratios, each of which are complied with at February 28, 2010.

9. COMMITMENTS AND CONTINGENCIES

The Company is involved in environmental remediation and monitoring activities at its Randolph, Wisconsin manufacturing facility and accrues for related costs when such costs are determined to be probable and estimable. The Company is currently expensing annual costs of remediation of approximately $90,000. The Company’s estimated liability for this expense of $916,000 at February 28, 2010 and May 31, 2009 is recorded within other long term liabilities in the consolidated balance sheet.

The Company is subject to certain legal and other proceedings in the normal course of business that, in the opinion of management, will not have a material effect on its future results of operations or financial position.

10. STOCK PURCHASE

In December 2008, the Company’s Board of Directors authorized a program to purchase, subject to market conditions, up to 750,000 shares of the company’s common stock. As of May 31, 2009, 74,684 cumulative shares had been purchased in negotiated and open market transactions for a total price, including commissions, of approximately $923,000. There were no purchases in fiscal year 2010. Shares purchased under the program were retired.

11. SUBSEQUENT EVENTS

Pursuant to ASC 855-Subsequent Events the Company evaluated subsequent events after February 28, 2010 and through the date of initial filing of these financial statements with the SEC. The Company concluded that no material events or transactions occurred subsequent to February 28, 2010 that provide additional evidence about conditions that existed at February 28, 2010 or after that require adjustment to or disclosure in the Consolidated Financial Statements, except on March 31, 2010, Neogen Corporation purchased GeneSeek, Inc., of Lincoln, Nebraska, a leading commercial agricultural genetics laboratory. Consideration for the purchase, which was determined through arms length negotiations, was approximately $13.8 million to purchase all of GeneSeek’s outstanding stock. The purchase price is also subject to contingent payments up to $7.2 million based on the performance of the acquired business going forward. Neogen intends to operate the business as a unit of Neogen’s Animal Safety division from GeneSeek’s current facility in Lincoln, Nebraska.

 

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PART I – FINANCIAL INFORMATION

 

Item 2. Management’s Discussion and Analysis of Financial Conditions and Results of Operations

The information in this Management’s Discussion and Analysis of Financial Condition and Results of Operations contains both historical financial information and forward-looking statements. Neogen does not provide forecasts of future performance. While management is optimistic about the Company’s long-term prospects, historical financial information may not be indicative of future financial performance.

Safe Harbor and Forward-Looking Statements

Forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, are made throughout this Quarterly Report on Form 10-Q. For this purpose, any statements contained herein that are not statements of historical fact may be deemed to be forward looking statements. Without limiting the foregoing, the words “believes,” “anticipates,” “plans,” “expects,” “seeks,” “estimates,” and similar expressions are intended to identify forward-looking statements. There are a number of important factors, including competition, recruitment and dependence on key employees, impact of weather on agriculture and food production, identification and integration of acquisitions, research and development risks, patent and trade secret protection, government regulation and other risks detailed from time to time in the Company’s reports on file at the Securities and Exchange Commission, that could cause Neogen Corporation’s results to differ materially from those indicated by such forward-looking statements, including those detailed in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

In addition, any forward-looking statements represent management’s views only as of the day this Quarterly Report on Form 10-Q was first filed with the Securities and Exchange Commission and should not be relied upon as representing management’s views as of any subsequent date. While management may elect to update forward-looking statements at some point in the future, it specifically disclaims any obligation to do so, even if its views change.

Critical Accounting Policies and Estimates

The discussion and analysis of the Company’s financial condition and results of operations are based on the consolidated financial statements that have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires that management make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, management evaluates the estimates, including those related to receivable allowances, inventories, accuals and intangible assets. These estimates are based on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

The following critical accounting policies and estimates reflect management’s more significant judgments and estimates used in the preparation of the consolidated financial statements:

Revenue Recognition

Revenue from sales of products is recognized at the time title of goods passes to the buyer and the buyer assumes the risks and rewards of ownership, which is generally at the time of shipment. Where right of return exists, allowances are made at the time of sale to reflect expected returns based on historical experience.

Accounts Receivable Allowance

Management attempts to minimize credit risk by reviewing customers’ credit history before extending credit and by monitoring credit exposure on a regular basis. An allowance for possible losses on accounts receivable is established based upon factors surrounding the credit risk of specific customers, historical trends and other information, such as changes in overall changes in customer credit and general credit conditions. Actual collections can differ from historical experience, and if economic or business conditions deteriorate significantly, adjustments to these reserves could be required.

 

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Inventory

A reserve for obsolescence is established based on an analysis of the inventory taking into account the current condition of the asset as well as other known facts and future plans. The amount of reserve required to record inventory at lower of cost or market may be adjusted as condition’s change. Product obsolescence may be caused by shelf life expiration, discontinuation of a product line, or replacement products in the market place or other competitive situations.

Valuation of Non-amortizable Intangible Assets and Goodwill

Management assesses goodwill and other non-amortizable intangible assets for possible impairment on no less often than an annual basis. This test was performed in the fourth quarter of fiscal 2009 and it was determined that no impairment exists. In the event of changes in circumstances that indicate the carrying value of these assets may not be recoverable, management will make an assessment at any time. Factors that could cause an impairment review to take place would include:

 

   

Significant underperformance relative to expected historical or projected future operating results.

 

   

Significant changes in the use of acquired assets or strategy of the Company.

 

   

Significant negative industry or economic trends.

When management determines that the carrying value of non-amortizable intangible assets may not be recoverable based on the existence of one or more of the above indicators of impairment, the carrying value of the reporting unit’s net assets is compared to the projected discounted cash flows of the reporting unit using a discount rate commensurate with the risk inherent in the Company’s current business model. If the carrying amounts of these assets are not recoverable based upon a discounted cash flow analysis, such assets are reduced by the estimated shortfall of fair value to recorded value. Changes to the discount rate or projected cash flows used in the analysis can have a significant impact on the results of the impairment test.

Equity Compensation Plans

ASC 718 Compensation – Stock Compensation (ASC 718) addresses the accounting for share-based employee compensation. Further information on the Company’s equity compensation plans, including inputs used to determine fair value of options is disclosed in Note 5 to the interim consolidated financial statements. ASC 718 requires that share options awarded to employees and shares of stock awarded to employees under certain stock purchase plans are recognized as compensation expense based on their fair value at grant date. The fair market value of options granted under the Company’s stock option plans was estimated on the date of grant using the Black-Scholes option-pricing model using assumptions for inputs such as interest rates, expected dividends, volatility measures and specific employee exercise behavior patterns based on statistical data. Some of the inputs used are not market-observable and have to be estimated or derived from available data. Use of different estimates would produce different option values, which in turn would result in higher or lower compensation expense recognized.

To value options, several recognized valuation models exist. None of these models can be singled out as being the best or most correct one. The model applied is able to handle some of the specific features included in the options granted, which is the reason for its use. If a different model were used, the option values would differ despite using the same inputs. Accordingly, using different assumptions coupled with using a different valuation model could have a significant impact on the fair value of employee stock options. Fair value could be either higher or lower than the ones produced by the model applied and the inputs used.

New Accounting Pronouncements

See note 6 to Interim Consolidated Financial Statements.

 

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Results of Operations

Executive Overview

Neogen Corporation revenues increased by 21% in the third quarter to $33.8 million and by 15% to $101.4 million for the nine-month period ended February 28, 2010 when compared to the prior year. Food Safety sales increased by 39% and 23% in the quarter and in the nine-month period ended February 28, 2010, respectively. Animal Safety sales increased by 3% and 7% in the quarter and the nine-month period ended February 28, 2010, respectively. Exclusive of the revenues from the DuPont, Biokits and IDS acquisitions, overall revenues increased 16.5% and 13.1% in the third quarter and year-to-date periods. Gross margins increased from 46.8% in the February 2009 quarter to 51.6% in the February 2010 quarter and increased from 50.0% to 52.5% on a year-to-date basis. The increase in gross margins was a result of favorable changes in product mix that included an increased percentage of diagnostic product sales. Operating margins increased in the quarter and nine-month periods from 12.8% to 17.0% and from 17.2% to 19.6%, respectively. The improvements were the result of improved gross margins, continuing cost control efforts and the effect of acquisitions.

Revenues

Three Months Ended February 28, 2010 Compared to Three Months Ended February 28, 2009

 

     Three Months Ended February 28  
     2010    2009(1)    Increase
(Decrease)
    %  
     (Dollars in thousands)  

Food Safety

          

Natural Toxins, Allergens & Drug Residues

   $ 10,107    $ 6,717    $ 3,390      50

Bacteria & General Sanitation

     4,902      4,102      800      20

Dehydrated Culture Media & Other

     4,709      3,354      1,355      40
                        
     19,718      14,173      5,545      39

Animal Safety

          

Life Science & Equine Vaccines

     2,103      1,724      379      22

Rodenticides & Disinfectants

     4,831      4,878      (47   (1 )% 

Veterinary Instruments & Other

     7,181      7,065      116      2
                            
     14,115      13,667      448      3
                        

Total Sales

   $ 33,833    $ 27,840    $ 5,993      21
                        

 

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Nine Months Ended February 28, 2010 Compared to Nine Months Ended February 28, 2009

 

     Nine Months Ended February 28  
     2010    2009(1)    Increase
(Decrease)
    %  
     (Dollars in thousands)  

Food Safety

          

Natural Toxins, Allergens & Drug Residues

   $ 28,835    $ 21,903    $ 6,932      32

Bacteria & General Sanitation

     14,028      13,192      836      6

Dehydrated Culture Media & Other

     12,777      10,006      2,771      28
                        
     55,640      45,101      10,539      23

Animal Safety

          

Life Science & Equine Vaccines

     7,086      5,899      1,187      20

Rodenticides & Disinfectants

     17,420      15,447      1,973      13

Veterinary Instruments & Other

     21,285      21,384      (99   —  
                        
     45,791      42,730      3,061      7
                        

Total Sales

   $ 101,431    $ 87,831    $ 13,600      15
                        

 

(1) Certain amounts from 2009 have been reclassified to conform with 2010 classifications.

Food Safety revenues increased 39% in the third quarter and 23% in the first nine months of FY-10. Sales of Natural Toxins, Allergen and Drug Residue products increased by 50% in the quarter and by 32% year-to-date in comparison with FY-09. Mycotoxin third quarter sales growth increased by 67%, as much of the United States had cool and often wet weather conditions during the calendar 2009 summer months and fall harvest seasons. Sales of Food Allergen tests continued their trend of sales growth with an overall increase of 85%. Allergen test kit sales increases ranged from 8% to 65% and were broad-based. Excluding the revenue from the Biokits acquisition in December 2009, allergen revenues increased 23% in the third quarter in comparison with the same quarter of the prior year. Drug residue test kits revenue increased by 9% in the third fiscal quarter and 31% in the year to date period, including Neogen’s new BetaStar Combo, which simultaneously detects beta-lactam and tetracycline antibiotic residues in milk. Bacteria and General Sanitation product sales increased 20% in the quarter and 6% in the first nine months of FY-10. Sales of Soleris capital equipment increased in the quarter but remained behind in the nine month period, as customers appeared to have begun to relax capital expenditure restrictions. Soleris consumable vials increased 26% in the quarter and 21% on a year-to-date basis as unit placements in FY-09 have lead to vial sales in FY-10. Dehydrated Culture Media and Other product sales increased by 40% and 28% in the quarter and in the nine month periods respectively. These sales increases were broad based and continued a trend from the first and second fiscal quarters. The Company also regained some key business from some larger pharmaceutical accounts in the FY-10 quarter.

Animal Safety revenues increased by 3% in the third quarter and 7% in the nine months ended February 28, 2010 in comparison with the prior year. Organic sales were equal to the sales in the third quarter last year and increased by 2% in the nine month period. Life Sciences and Equine Vaccines revenue increased by 22% and 20% in the quarter and nine months respectively. Bolstered by the May 2009 acquisition of IDS, sales for drugs of abuse used in the Forensic market experienced a strong 20% increase in the third quarter and 19% year-to-date. Rodenticide and Disinfectant product sales decreased by 1% in the quarter and increased by 13% on a year-to-date basis. Disinfectant sales growth in the third quarter was down due to the timing of product going from the suppliers to the purchasers. These orders are expected to be filled in the fourth fiscal quarter. Rodenticide and Disinfectant sales in the second and third quarters included new business to a large food animal integrator, representing an important gain in market share that should also benefit future quarters. Veterinary Instrument and Other product sales increased by 2% in the quarter and approximately equaled the comparable nine-month period of the prior year. Despite declines in the food animal protein markets, several of the Company’s portfolio of product lines had modest increases in organic growth in the third quarter.

 

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Gross margins increased from 46.8% in the February 2009 quarter to 51.6% in the February 2010 quarter and increased from 50.0% to 52.5% on a year-to-date basis. The increase in gross margins was a result of favorable changes in product mix that included an increased percentage of diagnostic product sales.

Operating margins in the third quarter increased from 12.8% to 17.0% and from 17.2% to 19.6% in the nine months of sales in FY-10 as compared with FY-09 as a result of gains achieved in the gross margins. Sales and marketing expenses as expressed as a percentage of revenues increased from 19.5% to 20.1% in the third quarter and decreased from 19.4% to 18.9% on a year-to-date basis. The year-to-date decrease in sales and marketing as a percentage of revenues includes the effect of acquisitions that contributed revenue dollars without commensurate increases in distribution costs. General and administrative expenses increased from 9.9% of revenues in FY-09 to 10.0% of revenues in the third quarter of FY-10, and decreased from 9.5% to 9.3% for the first nine months of FY-10. The change in general and administrative expense, while an increase in absolute dollars of $622,000 in the quarter and $1,091,000 fiscal year-to-date, is partially due to the cost of acquiring businesses with increased governmental licensing and regulatory costs and amortization of customer based intangibles. Research expense grew $261,000 in absolute dollars in the third quarter and $1,251,000 for the first nine months of FY-10, remained unchanged as a percent of revenues at 4.5% in the third fiscal quarter and increased from 3.9% to 4.6% in the nine month period. Management believes this deliberate increase in research and development efforts is needed to support the existing products and to increase the supply of future products in key markets.

Other income (expense) included reductions in interest income, as yields on certificates of deposit declined. Other income (expense) also included currency gains in the prior year were reduced in the current year and offset by $212,000 of charges for closing the Wales facility, formerly used for the production of Biokits products.

Financial Condition and Liquidity

Proceeds of $3,644,000 were realized with the exercise of 428,000 stock options and the issuance of 24,000 shares under the Employee Stock Purchase Plan during the nine months ended February 28, 2010. $21,611,000 cash was generated from operations in the first 9 months of the fiscal year. Accounts receivable increased by $497,000 and inventories increased by $304,000 as a result of acquisitions. Excluding acquisitions accounts receivables and inventories remained unchanged due to management efforts to contain cost and strong controls. Inflation and changing prices do not generally have a material effect on operations. As of February 28, 2010, cash and cash equivalents consisted of funds used to support current operations and certificates of deposit with maturities of 90 days or less.

Days of sales in accounts receivable have remained approximately level over the past several years. This is indicative of the management of the growth of accounts receivable on a basis approximating the growth in revenues.

Management believes that the Company’s existing cash balances at February 28, 2010, along with available borrowings under its credit facility and cash expected to be generated from future operations, will be sufficient to fund activities for the foreseeable future. However, existing cash and borrowing capacity may not be sufficient to meet the Company’s cash requirements to commercialize products currently under development or its plans to acquire other organizations, technologies or products that fit within its mission statement. Accordingly, the Company may be required to issue equity securities or enter into other financing arrangements for a portion of its future financing needs.

PART I – FINANCIAL INFORMATION

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

The Company has interest rate and foreign exchange rate risk exposure and no long-term fixed rate investments or borrowings. Primary interest rate risk is due to potential fluctuations of exposure to interest rates for variable rate borrowings.

Foreign exchange risk exposure arises because the Company markets and sells its products throughout the world. It therefore could be affected by weak economic conditions in foreign markets that could reduce demand for its products. Additionally, sales in certain foreign countries as well as certain expenses related to those sales are transacted in currencies other than the U.S. Dollar. The Company’s operating results are primarily exposed to changes in exchange rates between the U.S. Dollar, the British Pound Sterling and the Euro. When the U.S. Dollar weakens against foreign currencies, the dollar value of sales denominated in foreign currencies increases. When the U.S. Dollar strengthens, the opposite situation occurs. Additionally, previously recognized sales in the course of collection can be affected positively or negatively by changes in exchange rates. The Company uses derivative financial instruments to help manage the economic impact of fluctuations in certain currency exchange rates. These contracts are adjusted to fair value through earnings.

 

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Neogen has assets, liabilities and operations outside of the United States that are located in Scotland, Brazil and Mexico where the functional currency is the British Pound Sterling, Brazilian Real and Mexican Peso respectively. The Company’s investment in its foreign subsidiaries are considered long-term.

 

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PART I – FINANCIAL INFORMATION

 

Item 4. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

An evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of February 28, 2010 was carried out under the supervision and with the participation of the Company’s management, including the Chairman & Chief Executive Officer and the Vice President & Chief Financial Officer (“the Certifying Officers”). Based on the evaluation, the Certifying Officers concluded that the Company’s disclosure controls and procedures are effective.

Changes in Internal Controls Over Financial Reporting – There was no change to the company’s internal control over financial reporting during the quarter ended February 28, 2010 that materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II – OTHER INFORMATION

 

Item 1. Legal Proceedings

The Company is subject to certain legal and other proceedings in the normal course of business. In the opinion of management, the outcome of these matters will not have a material effect on its future results of operations or financial position.

 

Item 6. Exhibits

(a) Exhibit Index

 

31.1      Certification of Chief Executive Officer pursuant to Rule 13a – 14 (a).
31.2      Certification of Chief Financial Officer pursuant to Rule 13a – 14 (a).
32      Certification pursuant to 18 U.S.C. sections 1350.

Items 1A, 2, 3, 4, and 5 are not applicable and have been omitted.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

    NEOGEN CORPORATION
   

(Registrant)

Dated: April 9, 2010    
   

/S/ JAMES L. HERBERT

    James L. Herbert
    Chairman & Chief Executive Officer
    (Principal Executive Officer)
Dated: April 9, 2010    
   

/S/ RICHARD R. CURRENT

    Richard R. Current
    Vice President & Chief Financial Officer
    (Principal Financial Officer and Principal Accounting Officer)

 

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