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 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 only of normal recurring adjustments) considered necessary for a fair presentation have been included. The results of operations for the three-month period ended August 31, 2016 are not necessarily indicative of the results
to be expected for the fiscal year ending May 31, 2017. For more complete financial information, these consolidated financial statements should be read in conjunction with the May 31, 2016 audited consolidated financial statements and the
notes thereto included in the Companys annual report on Form 10-K for the year ended May 31, 2016.
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:
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August 31,
2016
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May 31,
2016
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(in thousands)
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Raw Materials
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$
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31,208
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$
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29,501
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Work-in-process
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5,168
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4,498
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Finished and purchased goods
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33,463
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30,372
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$
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69,839
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$
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64,371
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3. NET INCOME PER SHARE
The calculation of net income per share attributable to Neogen Corporation follows:
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Three Months Ended
August 31,
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2016
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2015
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(in thousands, except per share amounts)
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Numerator for basic and diluted net income per share -
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Net income attributable to Neogen
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$
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9,881
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$
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9,323
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Denominator for basic net income per share Weighted average shares
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37,615
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37,213
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Effect of dilutive stock options
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550
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542
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Denominator for diluted net income per share
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38,165
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37,755
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Net income attributable to Neogen per share:
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Basic
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$
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0.26
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$
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0.25
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Diluted
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$
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0.26
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$
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0.25
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7
4. SEGMENT INFORMATION
The Company has two reportable segments: Food Safety and Animal Safety. The Food Safety segment is primarily engaged in the development, production and
marketing of diagnostic test kits, dehydrated culture media and related products used by food producers and processors to detect harmful natural toxins, foodborne bacteria, allergens and levels of general sanitation. The Animal Safety segment is
primarily engaged in the development, production and marketing of products dedicated to animal safety, including a complete line of consumable products marketed to veterinarians and animal health product distributors; this segment also provides
genomic identification and related interpretive bioinformatic services. Additionally, the Animal Safety segment produces and markets rodenticides, disinfectants and insecticides to assist in control of rodents, insects and disease in and around
agricultural, food production and other facilities.
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 total sales and operating income of the respective segments. The accounting policies of each of the segments are the same as those described in
Note 1.
Segment information as of and for the three months ended August 31, 2016 and 2015 follows:
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Food
Safety
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Animal
Safety
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Corporate and
Eliminations
(1)
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Total
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(in thousands)
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Fiscal 2017
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Product revenues to external customers
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$
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35,642
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$
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36,603
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$
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0
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$
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72,245
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Service revenues to external customers
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3,361
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8,039
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0
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11,400
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Total revenues to external customers
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39,003
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44,642
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0
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83,645
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Operating income (loss)
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8,083
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7,696
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(1,037
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)
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14,742
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Total assets
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142,339
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211,827
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114,449
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468,615
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Fiscal 2016
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Product revenues to external customers
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$
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32,051
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$
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32,985
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$
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0
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$
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65,036
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Service revenues to external customers
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2,408
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7,416
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0
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9,824
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Total revenues to external customers
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34,459
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40,401
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0
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74,860
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Operating income (loss)
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8,421
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7,340
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(866
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)
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14,895
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Total assets
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132,115
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179,453
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97,818
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409,386
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(1)
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Includes corporate assets, consisting principally of cash and cash equivalents, marketable securities, current and deferred tax accounts and overhead expenses not allocated to specific business segments. Also includes
the elimination of intersegment transactions.
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8
5. EQUITY COMPENSATION PLANS
Qualified and non-qualified options to purchase shares of common stock may be granted to directors, officers and employees of the
Company under the terms of the Companys stock option plans. These options are granted at an exercise price of not less than the fair market value of the
stock on the date of grant. Options vest ratably over three and five year periods and the contractual terms are generally five or ten years. A summary of stock option activity during the three months ended August 31, 2016 follows:
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Shares
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Weighted-
Average
Exercise Price
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Options outstanding at June 1, 2016
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2,081,000
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$
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36.71
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Granted
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0
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0
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Exercised
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(136,000
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28.93
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Forfeited
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(3,000
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)
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39.14
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Options outstanding at August 31, 2016
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1,942,000
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37.25
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During the three month periods ended August 31, 2016 and 2015 the Company recorded $1,516,000 and $1,297,000, respectively, of
compensation expense related to its share-based awards.
The weighted-average fair value per share of stock options granted during fiscal 2016, estimated
on the date of grant using the Black-Scholes option pricing model was $13.11. No options have yet been granted in fiscal 2017. The fair value of stock options granted was estimated using the following weighted-average assumptions.
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FY2016
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Risk-free interest rate
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1.2
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%
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Expected dividend yield
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0
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%
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Expected stock price volatility
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33.3
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%
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Expected option life
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4.0 years
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The Company has an Employee Stock Purchase plan that provides for employee stock purchases at a 5% discount to market price.
The discount is recorded in administrative expense as of the date of purchase.
6. NEW ACCOUNTING PRONOUNCEMENTS
In May 2014, the FASB issued ASU No. 2014-09Revenue from Contracts with Customers. The new standard outlines a single comprehensive model for entities to
use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the revenue model is that an entity should recognize revenue to
depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The standard is designed to create greater comparability
for financial statement users across industries and jurisdictions and also requires enhanced disclosures. In April 2016, the FASB issued Accounting Standards Update No. 2016-10 Revenue from Contracts with Customers (Topic 606), which amends
and adds clarity to certain aspects of the guidance set forth in ASU 2014-09 related to identifying performance obligations and licensing. The guidance is effective for fiscal years, and interim periods within those years, beginning after December
15, 2018. Early adoption is not permitted. The Company is currently evaluating the impact of the adoption of this standard on its consolidated financial statements.
In July 2015, the FASB issued ASU No. 2015-11Inventory: Simplifying the Measurement of Inventory. The update requires inventory not measured using
either the last in, first out (LIFO) or the retail inventory method to be measured at the lower of cost and net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable
cost of completion, disposal and transportation. The update is effective for fiscal years beginning after December 15, 2016. Early adoption is permitted for financial statements that have not been previously issued. The Company is currently
evaluating the impact of ASU 2015-11 on its consolidated financial condition and results of operations.
In September 2015, the FASB issued ASU
2015-16Simplifying the Accounting for Measurement - Period Adjustments. Changes to the accounting for measurement-period adjustments relate to business combinations. Currently, an acquiring entity is required to retrospectively adjust the
balance sheet amounts of the acquiree recognized at the acquisition date with a corresponding adjustment to goodwill as a result of changes made to the balance sheet amounts of the acquiree. The measurement period is the period after the acquisition
date during which the acquirer may adjust the balance sheet amounts recognized for a business combination (generally up to one year from the date of acquisition). The changes eliminate the requirement to make such retrospective adjustments, and
instead require the acquiring entity to record these adjustments in the reporting period they are determined. The new standard is effective for public companies for fiscal years beginning after December 15, 2015. The Company has adopted this
standard, which does not have a material impact on its consolidated financial condition and results of operations.
9
The FASB recently issued ASU No. 2015-17Income Taxes (Topic 740): Balance Sheet Classification of Deferred
Taxes as part of its Simplification Initiative. The amendments eliminate the guidance in Topic 740,
Income Taxes
, that required an entity to separate deferred tax liabilities and assets between current and noncurrent amounts in a classified
balance sheet. Rather, deferred taxes will be presented as noncurrent under the new standard. This ASU is effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2017 for public
companies. Early adoption is permitted. The Company does not believe that adoption of this standard will have a material impact on its consolidated financial condition.
In February 2016, the FASB issued ASU No. 2016-02Leases, to increase transparency and comparability among organizations by recognizing lease assets and
lease liabilities on the balance sheet and disclosing key information about leasing arrangements. A lessee should recognize in the statement of financial position a liability to make lease payments (the lease liability) and a right-of-use asset
representing its right to use the underlying asset for the lease term. The recognition, measurement and presentation of expenses and cash flows arising from a lease by a lessee have not significantly changed from previous U.S. GAAP. This ASU is
effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2018. Modified retrospective application is permitted with certain practical expedients. Early adoption is permitted. The Company is
currently evaluating the impact of ASU No. 2016-02 on its consolidated financial condition and results of operations.
In March 2016, the FASB issued ASU
No. 2016-09 Compensation-Stock Compensation (Topic 718): Improvements to Employee
Share-Based Payment Accounting to provide guidance that changes
the accounting for certain aspects of share-based payments to employees. The guidance requires the recognition of the income tax effects of awards in the income statement when the awards vest or are settled, thus eliminating additional paid-in
capital pools. The guidance also allows for the employer to repurchase more of an employees shares for tax withholding purposes without triggering liability accounting. In addition, the guidance allows for a policy election to account for
forfeitures as they occur rather than on an estimated basis. This ASU is effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2016 with early adoption permitted. The Company is currently
evaluating the impact of ASU No. 2016-09 on its consolidated financial condition and results of operations.
In August, 2016, the FASB issued ASU No.
2016-15 Classification of Certain Cash Receipts and Cash Payments (a consensus of the Emerging Issues Task Force). The amendments in ASU 2016-15 address eight specific cash flow issues and apply to all entities that are required to present a
statement of cash flows under FASB Accounting Standards Codification (FASB ASC) 230, Statement of Cash Flows. The amendments in ASU 2016-15 are effective for public business entities for fiscal years beginning after December 15, 2017, and
interim periods within those fiscal years. Early adoption is permitted, including adoption during an interim period. The Company has not yet adopted this update and is currently evaluating the impact of ASU No. 2016-15 on its consolidated financial
statements.
7. BUSINESS AND PRODUCT LINE ACQUISITIONS
The Consolidated Statements of Income reflect the results of operations for business acquisitions since the respective dates of purchase. All are accounted for
using the acquisition method. Goodwill recognized in the acquisitions discussed below relates primarily to enhancing the Companys strategic platform for the expansion of available product offerings.
On October 1, 2014, the Company acquired all of the stock of BioLumix, Inc., a manufacturer and marketer of automated systems for the detection of microbial
contaminants located in Ann Arbor, Michigan. Consideration for the purchase was $4,514,000 in cash. The final purchase price allocation, based upon the fair value of these assets and liabilities determined using the income approach, included
accounts receivable of $499,000, other receivable of $178,000, net inventory of $421,000, prepaid assets of $48,000, property and equipment of $159,000, current liabilities of $155,000, long-term liabilities of $780,000, intangible assets of
$2,090,000 (with an estimated life of 5-15 years) and the remainder to goodwill (non-deductible for tax purposes). These values are Level 3 fair value measurements. This business was relocated to Lansing, Michigan and integrated with the
Companys operations there, reporting within the Food Safety segment.
On December 8, 2014, the Company acquired the food safety and veterinary
genomic assets of its Chinese distributor Beijing Anapure BioScientific Co., Ltd. Consideration for the purchase was $2,040,000 in cash. The final purchase price allocation, based upon the fair value of these assets and liabilities determined using
the income approach, included inventory of $525,000, property and equipment of $64,000, intangible assets of $422,000 (with an estimated life of 5-15 years) and the remainder to goodwill (deductible for tax purposes). These values are Level 3 fair
value measurements. This business was integrated into the Companys subsidiary in China and reports within the Food Safety segment.
10
On June 1, 2015, the Company acquired the assets of Sterling Test House, a commercial food testing laboratory
based in India. Consideration for the purchase was $1,118,000 in cash and approximately $102,000 of a contingent consideration liability, due in installments on the first two anniversary dates, based on an excess sales formula. The final purchase
price allocation, based upon the fair value of these assets and liabilities determined using the income approach, included accounts receivable of $43,000, inventory of
$14,000, property and equipment of $141,000, contingent consideration accrual of $102,000, intangible assets of $345,000 (with an estimated life of 5-15 years)
and the remainder to goodwill (deductible for tax purposes). These values are Level 3 fair value measurements. This business continues to operate in its current location and reports within the Animal Safety segment. In July 2016, the Company
paid the former owner $70,000 for contingent consideration based on the achievement of sales targets, and reduced the recorded liability by a corresponding amount.
On August 26, 2015, the Company acquired all of the stock of Lab M Holdings, a developer, manufacturer and supplier of microbiological culture media and
diagnostic systems located in the United Kingdom. Consideration for the purchase was $12,436,000 in cash. The final purchase price allocation, based upon the fair value of these assets and liabilities determined using the income approach, included
cash of $285,000, accounts receivable of $975,000, inventory of $1,169,000, property and equipment of $3,337,000, other current assets of $309,000, current liabilities of $948,000, long-term deferred tax liability of $784,000, intangible assets of
$3,611,000 (with an estimated life of 5-15 years) and the remainder to goodwill (non-deductible for tax purposes). These values are Level 3 fair value measurements. This business continues to operate in its current location and reports within the
Food Safety segment.
On December 22, 2015, the Company acquired the rodenticide assets of Virbac Corporation, the North American affiliate of the
France-based Virbac group, a global animal health company. The acquired assets include a rodenticide active ingredient that complements Neogens existing active ingredients, and more than 40 regulatory approvals for a variety of formulations in
the United States, Canada and Mexico. The acquired assets also include a large retail and OEM customer base. Consideration for the purchase was $3,525,000 in cash and up to $300,000 of contingent consideration. The preliminary purchase price
allocation included inventory of $317,000, property and equipment of $60,000, intangible assets of $2,545,000 (with an estimated life of 5-15 years) and the remainder to goodwill (deductible for tax purposes). These values are Level 3 fair value
measurements. The products are manufactured at the Companys production facility in Randolph, Wisconsin and reports within the Animal Safety segment.
On April 26, 2016, the Company acquired the stock of Deoxi Biotecnologia Ltda, an animal genomics laboratory located in
Aracatuba, Brazil. Deoxi was a competitor of Neogens in the livestock genomics market and this acquisition is intended to help accelerate the growth of
Neogens GeneSeek animal genomics services in Brazil. Consideration for the purchase was $1,560,000 in cash and up to $2,552,000 of contingent consideration, due at the end of the each of the first two years, based on an excess net sales
formula. The preliminary purchase price allocation included accounts receivable of $150,000, inventory of $89,000, other current assets of $6,000, property and equipment of $229,000, current liabilities of $246,000, contingent consideration
liabilities of $741,000, intangible assets of $852,000 (with an estimated life of 5-15 years) and the remainder to goodwill (deductible for tax purposes). These values are Level 3 fair value measurements. This business continues to operate in its
current location and reports within the Food
Safety segment.
On May 1, 2016, the Company acquired the stock of Preserve International and its sister company, Tetradyne LLC., manufacturers and marketers of cleaners,
disinfectants and associated products to the swine, poultry, food processing and dairy markets. Preserve and Tetradyne have manufacturing locations in Memphis, Tennessee and Turlock, California. Consideration for the purchase was
$24,086,000 in cash. The preliminary purchase price allocation included accounts receivable of $1,629,000, inventory of $1,964,000, other current assets of
$269,000, land, property and equipment of $1,625,000, current liabilities of $868,000, long-term liabilities of
$660,000, intangible assets of $10,590,000
(with an estimated life of 5-15 years) and the remainder to goodwill (partially deductible for tax purposes). These values are Level 3 fair value measurements. This business continues to operate in its current locations and reports within the Animal
Safety segment.
8. LONG TERM DEBT
The Company has a
financing agreement with a bank providing for an unsecured revolving line of credit of up to $12,000,000, which expires on September 1, 2017. There were no advances against this line of credit in fiscal year 2016 and there have been none thus
far in fiscal 2017, and there is no balance outstanding at August 31, 2016. Interest is at LIBOR plus 100 basis points (rate under the terms of the agreement was 1.66% at August 31, 2016). Financial covenants include maintaining specified
levels of tangible net worth, debt service coverage, and funded debt to EBITDA, each of which the Company was in compliance with at August 31, 2016.
11
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 expenses annual costs of remediation, which have ranged from $47,000 to $57,000 per year over the past five years. The Companys estimated liability for these costs is
$916,000 at August 31, 2016 and May 31, 2016, measured on an undiscounted basis over an estimated period of 15 years; $60,000 of the liability is recorded within current liabilities and the remainder 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, should not have a material effect on its future results of operations or financial position.
10. STOCK PURCHASE
The Company has a stock repurchase program, authorized by the Board of Directors in calendar year 2008, to purchase, subject to market conditions, up to
1,125,000 shares of the Companys common stock. As of August 31, 2016, 1,012,974 shares are available to be repurchased under the program. There were no purchases in fiscal year 2016 and there have been none thus far in fiscal 2017.
12
PART I FINANCIAL INFORMATION