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| MRGE > SEC Filings for MRGE > Form 10-Q on 30-Oct-2009 | All Recent SEC Filings |
30-Oct-2009
Quarterly Report
Cautionary Note Regarding Forward-Looking Statements
The discussion below contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act, and Section 21E of the Exchange Act. We have used words such as "believes," "intends," "anticipates," "expects" and similar expressions to identify forward-looking statements. These statements are based on information currently available to us and are subject to a number of risks and uncertainties that may cause our actual results of operations, financial condition, cash flows, performance, business prospects and opportunities and the timing of certain events to differ materially from those expressed in, or implied by, these statements. These risks, uncertainties and other factors include, without limitation, those matters discussed in Item 1A of Part I of our Annual Report on Form 10-K for the year ended December 31, 2008. Except as expressly required by the federal securities laws, we undertake no obligation to update such factors or to publicly announce the results of any of the forward-looking statements contained herein to reflect future events, developments, or changed circumstances, or for any other reason. The following discussion should be read in conjunction with our consolidated financial statements and notes thereto appearing in our Annual Report on Form 10-K, and Item 1A, "Risk Factors" in both our Annual Report on Form 10-K for the year ended December 31, 2008 and this Quarterly Report on Form 10-Q.
Management's Discussion and Analysis is presented in the following order:
· Overview
· Results of Operations
· Business Segments
· Liquidity and Capital Resources
· Material Off Balance Sheet Arrangements
· Critical Accounting Policies
Overview
We develop software solutions that automate healthcare data and diagnostic workflow to create a more comprehensive electronic record of the patient experience. Our products, ranging from standards-based development toolkits to fully integrated clinical applications, have been used by healthcare providers worldwide for over 20 years. We have significantly expanded our product offerings during the last quarter through strategic acquisitions.
On September 1, 2009, we completed the acquisition of Confirma, Inc. ("Confirma"), a provider of computer systems for processing and presentation of data from magnetic resonance imaging ("MRI") studies. Under terms of the agreement, we acquired all the outstanding shares of Confirma in exchange for 5.4 million shares of Merge Common Stock. Total consideration for the transaction was $16.2 million. Upon completion of the acquisition, we renamed this entity Merge CAD.
On July 20, 2009, we completed the acquisition of etrials Worldwide, Inc. ("etrials"), a provider of clinical trials software and services. Under the terms of the Merger Agreement, we acquired all of the outstanding shares of common stock of etrials for consideration per share of $0.80 in cash, without interest, and 0.3448 shares of Merge Common Stock. Total consideration for the transaction was $25.1 million. Upon completion of the acquisition, we renamed this entity Merge eClinical.
We have seen our markets become increasingly affected by the continuing global macroeconomic downturn. The downturn, which first started in the U.S., has also impacted our customers in other parts of the world. We believe that the initiatives undertaken to reduce our operating expenses have appropriately positioned our recurring cost structure. We believe it is likely that this economic downturn will continue to persist; however, we cannot predict its severity, duration or impact on our future operating results.
We will attempt to use the economic downturn as an opportunity to expand our market share and to continue moving into similar, related, or adjacent markets to those in which we currently are active, as well as invest in international growth. We continue to develop new products and are pleased with the breadth and depth of our product lines and service capabilities.
We are also monitoring the increasing regulatory and legislative activity surrounding healthcare and health information technology. Thus far in 2009, the American Reinvestment and Recovery Act was passed in the U.S. and included stimulus monies for health IT adoption. Current legislation under discussion in the U.S. includes changes to the utilization factor for reimbursement, which could negatively impact imaging practices, as well as overall healthcare reform. Due to the complexity of the reform legislation and its potential impact on us as both a vendor and employer, it is difficult to forecast any potential net impact on our customers and market, and thus we remain cautious about the impact on our business.
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Results of Operations
In addition to the acquisitions of etrials and Confirm, the following operational activities and economic considerations have significantly impacted the comparability of the results of operations for the periods discussed herein:
· Concurrent with the acquisition of etrials in July 2009, we completed a restructuring initiative to reduce our workforce by approximately 35 individuals based upon an assessment of ongoing personnel needs. As a result, we incurred $1.7 million of severance and related costs in the third quarter of 2009.
· During 2008, we completed two significant restructuring initiatives, the first in February 2008 and the second in June 2008. Both of these initiatives included workforce reductions in all parts of the organization as well as elimination of facilities.
· In the second quarter of 2008, we disposed of our French subsidiary.
· In the second quarter of 2008, we completed a private placement pursuant to which we raised net proceeds of $16.6 million.
· In the third quarter of 2008, we exited our operations in India.
· Our Canadian operations primarily invoice customers in U.S. dollars, whereas the majority of operating expenses, which include approximately one-fourth of our current workforce, are denominated in the Canadian dollar. During late 2008, the U.S. dollar to Canadian dollar exchange rate significantly strengthened. As a result, we have experienced an approximate 6% reduction in average cost for our Canadian dollar denominated expenses in the three months ended September 30, 2009 when compared to similar costs in the three months ended September 30, 2008. In the nine months ended September 30, 2009, we experienced an approximate 15% reduction of similar costs compared to the nine months ended September 30, 2008 as a result of exchange rate changes.
In addition, we have enhanced our financial reporting process to allow us to obtain discrete operating results for our business units. As a result, effective in the third quarter of 2009, we have reportable segments, which we have designated as Direct and Indirect. See "Business Segments" for further discussion.
Three Months Ended September 30, 2009 Compared to the Three Months Ended September 30, 2008
The results of operations for the three months ended September 30, 2009 include those of etrials since July 20, 2009 and Confirma since September 1, 2009. The following table sets forth selected, summarized, unaudited, consolidated financial data for the periods indicated, as well as comparative data showing increases and decreases between the periods. All amounts, except percentages, are in thousands.
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Three Months Ended September 30, Change
2009 % (1) 2008 % (1) $ %
Net sales:
Software and other $ 7,755 45.9% $ 7,398 50.6% $ 357 4.8%
Services and maintenance 9,152 54.1% 7,218 49.4% 1,934 26.8%
Total net sales 16,907 100.0% 14,616 100.0% 2,291 15.7%
Cost of sales:
Software and other 600 7.7% 1,314 17.8% (714) -54.3%
Services and maintenance 3,402 37.2% 2,528 35.0% 874 34.6%
Amortization 899 NM (2) 742 NM (2) 157 21.2%
Total cost of sales 4,901 29.0% 4,584 31.4% 317 6.9%
Gross margin
Software and other 6,256 80.7% (3) 5,342 72.2% (3) 914 17.1%
Services and maintenance 5,750 62.8% 4,690 65.0% 1,060 22.6%
Total gross margin 12,006 71.0% 10,032 68.6% 1,974 19.7%
Operating expenses:
Sales and marketing 2,470 14.6% 1,824 12.5% 646 35.4%
Product research and development 2,689 15.9% 2,931 20.1% (242) -8.3%
General and administrative 3,616 21.4% 3,483 23.8% 133 3.8%
Acquisition-related expenses 658 3.9% - 0.0% 658 NM (2)
Trade name impairment, restructuring and 1,974 11.7% (205) -1.4% 2,179 NM (2)
other expenses
Depreciation, amortization and impairment 755 4.5% 654 4.5% 101 15.4%
Total operating costs and expenses 12,162 71.9% 8,687 59.4% 3,475 40.0%
Operating income (loss) (156) -0.9% 1,345 9.2% (1,501) -111.6%
Other income (expense), net (751) -4.4% (648) -4.4% (103) 15.9%
Income (loss) before income taxes (907) -5.4% 697 4.8% (1,604) -230.1%
Income tax expense (benefit) 29 0.2% 269 1.8% (240) -89.2%
Net income (loss) $ (936) -5.5% $ 428 2.9% $ (1,364) -318.7%
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(1) Percentages are of total net sales, except for cost of sales
and gross margin, which are based upon related net sales.
(2) NM denotes percentage
is not meaningful.
(3) Gross margin for software and other sales includes
amortization expense recorded in cost of sales.
Net Sales
Net sales, by segment, are as follows:
Three Months Ended September 30, Change
2009 % 2008 % $ %
Indirect
Software and other $ 5,455 32.3 % $ 4,374 29.9 % $ 1,081 24.7 %
Services and maintenance 2,449 14.5 % 2,695 18.4 % (246 ) -9.1 %
Total net sales 7,904 46.7 % 7,069 48.4 % 835 11.8 %
Direct
Software and other 2,300 13.6 % 3,024 20.7 % (724 ) -23.9 %
Services and maintenance 6,703 39.6 % 4,523 30.9 % 2,180 48.2 %
Total net sales 9,003 53.3 % 7,547 51.6 % 1,456 19.3 %
Total net sales $ 16,907 $ 14,616 $ 2,291
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Software and Other Sales. Total software and other sales in 2009 were $7.8 million, an increase of $0.4 million, or 4.8%, from $7.4 million in 2008. Indirect sales increased $1.1 million, including $0.2 million from Confirma, as a result of our 2008 shift in strategic focus towards sales of technology and less emphasis on customer engineering projects. The third quarter of 2008 was the first full quarter after funding had been received from Merrick (June 2008), which began to alleviate viability concerns, which we believe no longer exist today. Direct sales decreased $0.7 million, primarily as a result of the downturn in general macroeconomic conditions in North America, transition to a per-study pricing model and 2009 having fewer contracts with significant hardware components when compared to 2008. We anticipate that the revenue recognized from software and other sales may vary significantly on a quarterly basis, especially in the current economic environment.
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Service and Maintenance Sales. Total service and maintenance sales in 2009 were $9.1 million, an increase of $1.9 million, or 26.8%, from $7.2 million in 2008. Indirect sales decreased $0.7 million due to a decrease in the number of custom engineering services projects and revenue, primarily as a result of the reluctance of customers to start new projects in the current economic environment and the 2008 shift in strategic focus previously discussed. Indirect service and maintenance sales in 2009 include $0.4 million from Confirma. The increase of $2.2 million in Direct is primarily due to the acquisition of etrials, which accounted for $2.4 million in sales.
Gross Margin
Gross Margin - Software and Other Sales. Gross margin on software and other sales was $6.2 million in 2009, an increase of $0.9 million, or 17.1%, from $5.3 million in 2008. Gross margin as a percentage of software and other sales increased to 80.7% in 2009 from 72.2% in 2008, primarily due to the change in mix of sales from our segments. Indirect sales, which typically consist of software only or minimal hardware component contracts that generate high margins, were 70.3% of sales in 2009 compared to 59.1% in 2008. In addition, Direct sales, which can include greater hardware components, incurred a decrease in the hardware component portion of sales to 9.5% of sales in 2009 compared to 23.8% in 2008. We expect our gross margin on software and other sales going forward to fluctuate depending on the mix between the segments and the hardware components included in such sales.
Gross Margin - Services and Maintenance Sales. Gross margin on services and maintenance sales was $5.8 million in 2009, an increase of $1.1 million, or 22.6%, from $4.7 million in 2008. Gross margin as a percentage of services and maintenance sales decreased to 62.8% in 2009 from 65.0% in 2008, primarily as a result of the acquisition of etrials. Costs of sales for etrials include the hosting and other vendor fees associated with the clinical trial services provided. As the majority of such costs are fixed, we expect our gross margin on services and maintenance sales going forward to fluctuate depending on the sales generated by etrials and overall services and maintenance sales mix between the segments.
Sales and Marketing
Sales and marketing expense increased $0.6 million, or 35.4%, to $2.4 million in 2009 from $1.8 million in 2008. The increase was primarily due to expenses associated with the etrials and Confirma businesses, which were acquired in the third quarter of 2009.
Product Research and Development
Product research and development expense decreased $0.2 million, or 8.3%, to $2.7 million in 2009 from $2.9 million in 2008. The decrease was primarily due to a $0.3 million reduction in third party service costs as a result of our restructuring initiative completed in 2008, a $0.3 million reduction due to the disposal of our India operations in the third quarter of 2008, and $0.2 million of employee related costs as a result of the July 2009 restructuring initiative. This decrease was offset by $0.6 million of expenses associated with the etrials and Confirma businesses, which were acquired in the third quarter of 2009.
General and Administrative
General and administrative expense increased $0.1 million, or 3.8%, to $3.6 million in 2009 from $3.5 million in 2008. Expenses increased $0.9 million as a result of our acquisitions in the third quarter of 2009, offset by decreases of $0.4 million in legal fees and various expense reduction efforts, such as the disposal of our India operations in the third quarter of 2008. The 2009 expense includes severance, which did not qualify as a restructuring charge, to former officers of Confirma of $0.2 million.
Acquisition-Related Expenses
Acquisition-related expenses are costs incurred to effect business combinations, including banking, legal, accounting, valuation and other professional or consulting fees. In 2009, we incurred $0.7 million in expenses related to our acquisitions of etrials, which we completed in July 2009, and Confirma, which we completed in September 2009.
Trade Name Impairment, Restructuring and Other Expenses
In 2009, we recorded $2.0 million in trade name impairment, restructuring and other expense, including $1.7 million in restructuring expenses related to the initiative announced in July 2009, and $0.3 million due to the abandonment of a portion of leased space subsequent to the acquisition of Confirma. In 2008, we recorded a $0.2 million gain due to a $0.1 million gain on the sale of an Indian subsidiary and minor changes in estimates related to the restructuring initiative announced in June 2008.
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Income Tax Expense (Benefit)
In 2009, we recorded income tax expense resulting in an effective tax rate of
(3.2)%, compared to an effective tax rate of 38.6% in 2008. Our effective tax
rates in 2009 and 2008 differ significantly from statutory rates primarily due
to recording a valuation allowance for deferred tax assets that are not
more-likely-than-not to be realized, primarily in the U.S., and realizing assets
that are fully reserved with a valuation allowance, primarily in Canada. Our
expected effective income tax rate is volatile and may move up or down with
changes in, among other items, operating income and the results of changes in
tax law and regulations of the U.S. and the foreign jurisdictions in which we
operate.
Nine Months Ended September 30, 2009 Compared to the Nine Months Ended September 30, 2008
The results of operations for the nine months ended September 30, 2009 include those of etrials since July 20, 2009 and Confirma since September 1, 2009. The following table sets forth selected, summarized, unaudited, consolidated financial data for the periods indicated, as well as comparative data showing increases and decreases between the periods. All amounts, except percentages, are in thousands.
Nine Months Ended September 30, Change
2009 % (1) 2008 % (1) $ %
Net sales:
Software and other $ 25,459 53.5% $ 19,733 47.4% $ 5,726 29.0%
Services and maintenance 22,110 46.5% 21,941 52.6% 169 0.8%
Total net sales 47,569 100.0% 41,674 100.0% 5,895 14.1%
Cost of sales:
Software and other 2,710 10.6% 3,842 19.5% (1,132) -29.5%
Services and maintenance 7,925 35.8% 9,471 43.2% (1,546) -16.3%
Amortization 2,172 NM (2) 2,174 NM (2) (2) -0.1%
Total cost of sales 12,807 26.9% 15,487 37.2% (2,680) -17.3%
Gross margin
Software and other 20,577 80.8% (3) 13,717 69.5% (3) 6,860 50.0%
Services and maintenance 14,185 64.2% 12,470 56.8% 1,715 13.8%
Total gross margin 34,762 73.1% 26,187 62.8% 8,575 32.7%
Operating expenses:
Sales and marketing 5,968 12.5% 7,497 18.0% (1,529) -20.4%
Product research and development 7,503 15.8% 11,151 26.8% (3,648) -32.7%
General and administrative 8,972 18.9% 18,093 43.4% (9,121) -50.4%
Acquisition-related expenses 997 2.1% - 0.0% 997 NM (2)
Trade name impairment, restructuring and 1,974 4.1% 11,862 28.5% (9,888) -83.4%
other expenses
Depreciation, amortization and impairment 1,849 3.9% 2,954 7.1% (1,105) -37.4%
Total operating costs and expenses 27,263 57.3% 51,557 123.7% (24,294) -47.1%
Operating income (loss) 7,499 15.8% (25,370) -60.9% 32,869 -129.6%
Other income (expense), net (5,075) -10.7% (346) -0.8% (4,729) NM (2)
Income (loss) before income taxes 2,424 5.1% (25,716) -61.7% 28,140 -109.4%
Income tax expense (benefit) 72 0.2% (115) -0.3% 187 -162.6%
Net income (loss) $ 2,352 4.9% $ (25,601) -61.4% $ 27,953 -109.2%
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(1) Percentages are of total net sales, except for cost of sales and
gross margin, which are based upon related net sales.
(2) NM denotes percentage
is not meaningful.
(3) Gross margin for software and other sales includes amortization
expense recorded in cost of sales.
Net Sales
Net sales, by segment, are as follows:
~ 22 ~
--------------------------------------------------------------------------------
Index
Nine Months Ended September 30, Change
2009 % 2008 % $ %
Indirect
Software and other $ 18,603 39.1 % $ 10,882 26.1 % $ 7,721 71.0 %
Services and maintenance 6,503 13.7 % 8,786 21.1 % (2,283 ) -26.0 %
Total net sales 25,106 52.8 % 19,668 47.2 % 5,438 27.6 %
Direct
Software and other 6,856 14.4 % 8,851 21.2 % (1,995 ) -22.5 %
Services and maintenance 15,607 32.8 % 13,155 31.6 % 2,452 18.6 %
Total net sales 22,463 47.2 % 22,006 52.8 % 457 2.1 %
Total net sales $ 47,569 $ 41,674 $ 5,895
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Software and Other Sales. Total software and other sales in 2009 were $25.4 million, an increase of approximately $5.7 million, or 29.0%, from $19.7 million in 2008. Indirect sales increased $7.7 million, primarily due to the fact that sales were negatively affected in 2008 because of customer concerns with our financial viability. We believe that these concerns were largely alleviated with the financing transaction completed in June of 2008. In addition, 2009 Indirect sales, when compared to 2008, include $1.8 million of additional sales from Eklin Medical Systems, Inc. ("Eklin") due to a new agreement with this customer in the second quarter of 2009. Direct sales decreased $2.0 million primarily as a result of the downturn in general macroeconomic conditions in North America, transition to a per-study pricing model and 2009 having fewer contracts with significant hardware components compared to 2008. We anticipate that the revenue recognized from software and other sales may vary significantly on a quarterly basis.
Service and Maintenance Sales. Total service and maintenance sales in 2009 were $22.1 million, an increase of $0.2 million, or 0.8%, from $21.9 million in 2008. Direct sales increased $2.5 million primarily due to the acquisition of etrials, which accounted for $2.4 million in sales. Indirect sales decreased $2.3 million due to a decline in the number of custom engineering services projects and revenue, primarily as a result of the reluctance of customers to start new projects in the current economic environment and the 2008 shift in strategic focus previously discussed. Indirect service and maintenance sales in 2009 include $0.4 million from Confirma.
Gross Margin
Gross Margin - Software and Other Sales. Gross margin on software and other sales was $20.6 million in 2009, an increase of $6.9 million, or 50.0%, from $13.7 million in 2008. Gross margin as a percentage of software and other sales increased to 80.8% in 2009 from 69.5% in 2008, primarily due to the mix in sales from our segments. Indirect sales, which typically consist of software only or minimal hardware component contracts that generate higher margins, were 73.1% of software and other sales in 2009 compared to 55.1% in 2008. In addition, Direct sales, which can include greater hardware components, incurred a decrease in the hardware component portion of sales to 15.5% of sales in 2009 compared to 30.5% in 2008. We expect our gross margin on software and other sales going forward to fluctuate depending on the mix of sales between the segments and the hardware components included in such sales.
Gross Margin - Services and Maintenance Sales. Gross margin on services and maintenance sales was $14.2 million in 2009, an increase of $1.7 million, or 13.8%, from $12.5 million in 2008. Gross margin as a percentage of sales increased to 64.2% in 2009 from 56.8% in 2008 primarily due to a decrease in salaries and other related expenses (including travel and entertainment) as a result of our restructuring initiatives completed in 2008. As the majority of service and maintenance costs are fixed, we expect the gross margin going forward to fluctuate depending on the mix of sales between the segments.
Sales and Marketing
Sales and marketing expense decreased $1.5 million, or 20.4%, to $6.0 million in 2009 from $7.5 million in 2008. Salaries, commissions and other related expenses (including travel and entertainment) decreased by $1.6 million and share-based compensation expense decreased by $0.2 million as a result of the restructuring initiatives completed in the first half of 2008. Also, we experienced a $0.2 million decrease in Canadian related costs due to the strengthening of the average exchange rate for the U.S dollar compared to the Canadian dollar in 2009. In addition, 2008 includes $0.3 million of sales and marketing expenses related to the French subsidiary which we disposed of in April 2008. These decreases were offset by an increase of $0.8 million in expenses related to our 2009 acquisitions. We anticipate that the quarterly sales and marketing expenses will increase during the remainder of 2009, when compared to the first three quarters of 2009, due to the additional headcount and related expenses associated with our acquisitions of etrials and Confirma in the third quarter of 2009.
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