UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549














FORM
10-Q














QUARTERLY
REPORT


PURSUANT
TO SECTION 13 OR 15(d) OF


THE
SECURITIES EXCHANGE ACT OF 1934











For
the quarterly period ended May 31, 2009


Commission
file number 0-5905











CHATTEM,
INC.


A
TENNESSEE CORPORATION


I.R.S.
EMPLOYER IDENTIFICATION NO. 62-0156300


1715
WEST 38TH STREET


CHATTANOOGA,
TENNESSEE 37409


TELEPHONE:  423-821-4571














Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.


YESþ      NO 





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate website, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding
12 months (or for such shorter period that the registrant was required to submit
and post such files)


YES      NO 





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting
company.  See the definitions of “large accelerated filer”,
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act.  (Check one):





Large accelerated
filerþAccelerated filer


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 þ





As
of July 1, 2009, 19,016,960 shares of the Company’s common stock, without par
value, were outstanding.








CHATTEM,
INC.





INDEX










PART I.  FINANCIAL
      INFORMATION
                          PAGE
      NO.Item
      1.    Financial StatementsConsolidated
      Balance Sheets as of May 31, 2009 and November 30, 2008
                          3Consolidated
      Statements of Income for the Three and Six Months
      Ended May 31, 2009 and May 31, 2008
                          5Consolidated
      Statements of Cash Flows for the Six Months Ended
      May 31, 2009 and May 31, 2008
                          6Notes
      to Consolidated Financial Statements
                          7Item
      2.    Management's Discussion and Analysis of Financial
      Condition and
      Results of Operations
                          27Item
      3.    Quantitative and Qualitative Disclosures About Market
      Risk
                          38Item
      4.    Controls and Procedures
                          38PART
      II.  OTHER INFORMATIONItem
      1.    Legal Proceedings
                          39Item
      1A. Risk Factors
                          39Item
      2.    Unregistered Sales of Equity Securities and Use of
      Proceeds
                          39Item
      3.    Defaults Upon Senior Securities
                          39Item
      4.    Submission of Matters to a Vote of Security
      Holders
                          39Item
      5.    Other Information
                          39Item
      6.    Exhibits
                          39SIGNATURES
                          41








2


PART 1. FINANCIAL
INFORMATION




Item 1. Financial
Statements




CHATTEM, INC. AND
SUBSIDIARIES





CONSOLIDATED BALANCE
SHEETS


(In
thousands)





ASSETS
              
              MAY
      31,
                2009
              
              
              NOVEMBER
      30,
                2008(Unaudited)CURRENT
      ASSETS:Cash
      and cash equivalents
              
              $
              28,734
              
              
              $
              32,310Accounts
      receivable, less allowances of $11,220 at
                May
      31, 2009 and $9,718 at November 30, 2008
              
              
              59,876
              
              
              
              49,417Inventories
              
              
              45,398
              
              
              
              40,933Deferred
      income taxes
              
              
              3,874
              
              
              
              3,968Prepaid
      expenses and other current assets
              
              
              2,588
              
              
              
              2,451Total
      current assets
              
              
              140,470
              
              
              
              129,079PROPERTY,
      PLANT AND EQUIPMENT, NET
              
              
              32,534
              
              
              
              32,243OTHER
      NONCURRENT ASSETS:Patents,
      trademarks and other purchased product rights, net
              
              
              616,187
              
              
              
              616,670Debt
      issuance costs, net
              
              
              10,349
              
              
              
              12,253Other
              
              
              2,653
              
              
              
              2,727Total
      other noncurrent assets
              
              
              629,189
              
              
              
              631,650TOTAL
      ASSETS
              
              $
              802,193
              
              
              $
              792,972











The
accompanying notes are an integral part of these consolidated financial
statements.





3


CHATTEM, INC. AND
SUBSIDIARIES





CONSOLIDATED BALANCE
SHEETS


(In
thousands)








LIABILITIES AND SHAREHOLDERS’
      EQUITY
              
              MAY
      31,
                2009
              
              
              NOVEMBER
      30,
                2008(Unaudited)CURRENT
      LIABILITIES:Current
      maturities of long-term debt
              
              $
              3,000
              
              
              $
              3,000Accounts
      payable and other
              
              
              14,758
              
              
              
              18,116Bank
      overdraft
              
              
              838
              
              
              
              1,184Accrued
      liabilities
              
              
              24,352
              
              
              
              21,293Total
      current liabilities
              
              
              42,948
              
              
              
              43,593LONG-TERM
      DEBT, less current maturities
              
              
              406,800
              
              
              
              456,500DEFERRED
      INCOME TAXES
              
              
              45,923
              
              
              
              35,412OTHER
      NONCURRENT LIABILITIES
              
              
              1,329
              
              
              
              1,609COMMITMENTS
      AND CONTINGENCIES (Note 18)SHAREHOLDERS’
      EQUITY:Preferred
      shares, without par value, authorized 1,000,
                none
      issued
              
              
              —
              
              
              
              —Common
      shares, without par value, authorized 100,000,
                issued
      and outstanding 19,004 at May 31, 2009 and
                18,978 
      at November 30, 2008
              
              
              32,845
              
              
              
              28,926Retained
      earnings
              
              
              275,026
              
              
              
              231,230307,871
              
              
              
              260,156Cumulative
      other comprehensive income (loss), net of tax:Interest
      rate hedge adjustment
              
              
              (1,308
              )
              
              
              (1,787
              )Foreign
      currency translation adjustment
              
              
              173
              
              
              
              (968
              )Unrealized
      actuarial gains and losses
              
              
              (1,543
              )
              
              
              (1,543
              )Total
      shareholders’ equity
              
              
              305,193
              
              
              
              255,858TOTAL
      LIABILITIES AND SHAREHOLDERS’
                EQUITY
              
              $
              802,193
              
              
              $
              792,972














The
accompanying notes are an integral part of these consolidated financial
statements.




4


CHATTEM, INC. AND
SUBSIDIARIES





CONSOLIDATED
STATEMENTS OF INCOME


(Unaudited
and in thousands, except per share amounts)









FOR
      THE THREE MONTHS
                ENDED MAY 31,
              
              
              FOR
      THE SIX MONTHS
                ENDED MAY 31,2009
              
              
              2008
              
              
              2009
              
              
              2008TOTAL
      REVENUES
              
              $
              121,830
              
              
              $
              116,716
              
              
              $
              237,922
              
              
              $
              237,489COSTS
      AND EXPENSES:Cost
      of sales
              
              
              37,131
              
              
              
              32,641
              
              
              
              72,388
              
              
              
              67,374Advertising
      and promotion
              
              
              26,969
              
              
              
              30,247
              
              
              
              55,558
              
              
              
              64,743Selling,
      general and administrative
              
              
              14,330
              
              
              
              15,186
              
              
              
              29,756
              
              
              
              30,652Product
      recall expenses
              
              
              —
              
              
              
              —
              
              
              
              —
              
              
              
              6,043Total
      costs and expenses
              
              
              78,430
              
              
              
              78,074
              
              
              
              157,702
              
              
              
              168,812INCOME
      FROM OPERATIONS
              
              
              43,400
              
              
              
              38,642
              
              
              
              80,220
              
              
              
              68,677OTHER
      INCOME (EXPENSE):Interest
      expense
              
              
              (5,285
              )
              
              
              (6,565
              )
              
              
              (10,949
              )
              
              
              (13,117
              )Investment
      and other income, net
              
              
              67
              
              
              
              116
              
              
              
              178
              
              
              
              253Loss
      on early extinguishment of debt
              
              
              —
              
              
              
              —
              
              
              
              (696
              )
              
              
              (526
              )Total
      other income (expense)
              
              
              (5,218
              )
              
              
              (6,449
              )
              
              
              (11,467
              )
              
              
              (13,390
              )INCOME
      BEFORE INCOME TAXES
              
              
              38,182
              
              
              
              32,193
              
              
              
              68,753
              
              
              
              55,287PROVISION
      FOR INCOME TAXES
              
              
              13,952
              
              
              
              11,461
              
              
              
              24,957
              
              
              
              19,682NET
      INCOME
              
              $
              24,230
              
              
              $
              20,732
              
              
              $
              43,796
              
              
              $
              35,605NUMBER
      OF COMMON SHARES:Weighted
      average outstanding-basic
              
              
              19,219
              
              
              
              19,118
              
              
              
              19,342
              
              
              
              19,112Weighted
      average and potential dilutive outstanding
              
              
              19,219
              
              
              
              19,518
              
              
              
              19,403
              
              
              
              19,592NET
      INCOME PER COMMON SHARE:Basic
              
              $
              1.26
              
              
              $
              1.08
              
              
              $
              2.26
              
              
              $
              1.86Diluted
              
              $
              1.26
              
              
              $
              1.06
              
              
              $
              2.26
              
              
              $
              1.82














The
accompanying notes are an integral part of these consolidated financial
statements.





5


CHATTEM, INC. AND
SUBSIDIARIES





CONSOLIDATED STATEMENTS OF
CASH FLOWS


(Unaudited
and in thousands)







FOR
      THE SIX MONTHS ENDED MAY 31,2009
                      
                      
                      2008OPERATING
      ACTIVITIES:Net
      income
                      
                      $
                      43,796
                      
                      
                      $
                      35,605Adjustments
      to reconcile net income to net cash provided by
                        operating
      activities:Depreciation
      and amortization
                      
                      
                      3,785
                      
                      
                      
                      4,216Deferred
      income taxes
                      
                      
                      8,487
                      
                      
                      
                      8,898Tax
      benefit realized from stock options exercised
                      
                      
                      (147
                      )
                      
                      
                      (1,855
                      )Stock-based
      compensation
                      
                      
                      3,543
                      
                      
                      
                      2,580Loss
      on early extinguishment of debt
                      
                      
                      696
                      
                      
                      
                      526Other,
      net
                      
                      
                      (21
                      )
                      
                      
                      135Changes
      in operating assets and liabilities, net of effects from
      acquisitions:Accounts receivable and other
                      
                      
                      (10,459
                      )
                      
                      
                      (11,692
                      )Inventories
                      
                      
                      (4,429
                      )
                      
                      
                      906Prepaid expenses and other current assets
                      
                      
                      (137
                      )
                      
                      
                      (180
                      )Accounts payable and accrued liabilities
                      
                      
                      (1,625
                      )
                      
                      
                      (7,850
                      )Net cash provided by operating
activities
                      
                      
                      43,489
                      
                      
                      
                      31,289INVESTING
      ACTIVITIES:Purchases
      of property, plant and equipment
                      
                      
                      (2,234
                      )
                      
                      
                      (2,466
                      )(Increase)
      decrease in other assets, net
                      
                      
                      1,349
                      
                      
                      
                      (1,140
                      )Net cash used in investing
      activities
                      
                      
                      (885
                      )
                      
                      
                      (3,606
                      )FINANCING
      ACTIVITIES:Repayment
      of long-term debt
                      
                      
                      (1,500
                      )
                      
                      
                      (36,500
                      )Proceeds
      from borrowings under revolving credit facility
                      
                      
                      1,000
                      
                      
                      
                      109,500Repayments
      of revolving credit facility
                      
                      
                      (20,500
                      )
                      
                      
                      (94,312
                      )Change
      in bank overdraft
                      
                      
                      (346
                      )
                      
                      
                      (1,246
                      )Repurchase
      of common shares
                      
                      
                      (26,107
                      )
                      
                      
                      (12,554
                      )Proceeds
      from exercise of stock options
                      
                      
                      995
                      
                      
                      
                      2,165Tax
      benefit realized from stock options exercised
                      
                      
                      147
                      
                      
                      
                      1,855Net cash used in financing
    activities
                      
                      
                      (46,311
                      )
                      
                      
                      (31,092
                      )EFFECT
      OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS
                      
                      
                      131
                      
                      
                      
                      (23
                      )CASH
      AND CASH EQUIVALENTS:Decrease
      for the period
                      
                      
                      (3,576
                      )
                      
                      
                      (3,432
                      )At
      beginning of period
                      
                      
                      32,310
                      
                      
                      
                      15,407At
      end of period
                      
                      $
                      28,734
                      
                      
                      $
                      11,975PAYMENTS
      FOR:Interest
                      
                      $
                      9,548
                      
                      
                      $
                      11,489Taxes
                      
                      $
                      12,969
                      
                      
                      $
                      9,931














The
accompanying notes are an integral part of these consolidated financial
statements.




6


CHATTEM, INC.  AND
SUBSIDIARIES





NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS


(Unaudited)





All
monetary and share amounts (other than per share amounts) in these Notes are
expressed in thousands.





1.
            BASIS OF
      PRESENTATION





The
accompanying unaudited consolidated financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information and the instructions to Form 10-Q and Rule 10-01 of Regulation
S-X.  Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles in the United
States for complete financial statements.  These consolidated
financial statements should be read in conjunction with the audited consolidated
financial statements and related notes thereto included in our Annual Report on
Form 10-K for the year ended November 30, 2008.  The accompanying
unaudited consolidated financial statements, in the opinion of management,
include all adjustments necessary for a fair presentation.  All such
adjustments are of a normal recurring nature.





2.
            CASH AND CASH
      EQUIVALENTS





We
consider short-term deposits and investments with original maturities of three
months or less to be cash equivalents.





3.
            RECENT ACCOUNTING
      PRONOUNCEMENTS





In
December 2007, the Financial Accounting Standards Board (“FASB”) issued
Statement of Financial Accounting Standards (“SFAS”) No. 141R, “Business
Combinations” (“SFAS 141R”).  SFAS 141R establishes principles and
requirements for how the acquirer in a business combination recognizes and
measures the identifiable assets acquired, liabilities assumed, and intangible
assets acquired 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 provisions of SFAS 141R are effective for
acquisitions closing after the first annual reporting period beginning after
December 15, 2008.  Accordingly, we will apply the provisions of SFAS
141R prospectively to business combinations consummated beginning in the first
quarter of our fiscal 2010.  We do not expect SFAS 141R to have an
effect on our previous acquisitions.





In
April 2008, the FASB issued FASB Staff Position (“FSP”) No. FAS 142-3,
“Determination of the Useful Life of Intangible Assets” (“FSP FAS 142-3”). 
In determining the useful life of intangible assets, FSP FAS 142-3 removes the
requirement to consider whether an intangible asset can be renewed without
substantial cost of material modifications to the existing terms and conditions
and, instead, requires an entity to consider its own historical experience in
renewing similar arrangements. FSP FAS 142-3 also requires expanded disclosure
related to the determination of intangible asset useful lives.  FSP FAS
142-3 is effective for financial statements issued for fiscal years beginning
after December 15, 2008, or our fiscal 2010.  We are currently
evaluating the impact, if any, of FSP FAS 142-3.




In May
2008, the FASB issued FSP Accounting Principles Board (“APB”) Opinion No. 14-1,
“Accounting for Convertible Debt Instruments That May Be Settled in Cash upon
Conversion (Including Partial Cash Settlement)” (“FSP 14-1”).  FSP
14-1 specifies that issuers of convertible debt instruments should separately
account for the liability and equity components of the instrument in a manner
that will reflect the entity’s non-convertible debt borrowing rate on the
instrument’s issuance date when interest is recognized in subsequent
periods.  Upon adoption of FSP 14-1, the proceeds received from the
issuance of the 2.0% Convertible Notes and the 1.625% Convertible Notes
(collectively, the “Convertible Notes”) will be allocated between the liability
and equity component by determining the fair value of the liability component
using our non-convertible debt borrowing rate at the time the Convertible Notes
were issued.  The difference between the proceeds of the Convertible
Notes and the calculated fair value of the liability component will be recorded
as a debt discount with a corresponding increase to common shares in our
consolidated balance sheet.  The debt discount will be amortized as
additional non-cash interest expense over the remaining life of the Convertible
Notes using the effective interest rate method.  Although FSP 14-1
will have no impact on our cash flows, FSP 14-1 will result in additional
non-cash interest expense until maturity or early extinguishment of the
Convertible Notes.  The provisions of FSP 14-1 are to be applied
retrospectively to all periods presented upon adoption and are effective for
fiscal years beginning after December 15, 2008, or our fiscal 2010, and interim
periods within those fiscal years.  Upon adoption of FSP 14-1, we
estimate non-cash interest expense will increase approximately $6,600 and $7,200
(or $0.22 and $0.25 per share) for the fiscal years ended November 30, 2009 and
2008, respectively.  The additional non-cash interest expense is
expected to increase as the Convertible Notes approach their respective maturity
dates and accrete to their face values.





7


In
December 2008, the FASB issued FSP No. FAS 132(R)-1, “Employers’ Disclosures
about Postretirement Benefit Plan Assets” (“FSP 132R-1”).  FSP 132R-1
enhances the required disclosures about plan assets in an employer’s defined
benefit pension or other postretirement plan, including investment allocations
decisions, inputs and valuations techniques used to measure the fair value of
plan assets and significant concentrations of risks within plan
assets.  FSP 132R-1 is effective for financial statements issued for
fiscal years ending after December 15, 2009, or our fiscal 2010.  We
are currently evaluating the impact, if any, of FSP 132R-1.





In June
2009, the FASB issued SFAS No. 168, “The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting
Principles, a replacement of FASB Statement No. 162” (“SFAS
168”).  SFAS 168 eliminates the previous levels of U.S. GAAP. It does
not include any guidance or interpretations of GAAP beyond what is already
reflected in the FASB literature. It merely takes previously issued FASB
standards and other authoritative pronouncements, changes the nomenclature
previously used to refer to FASB standards, in the past, and includes them in
specific topic areas.  SFAS 168 is effective for financial statements
issued for interim and annual periods ending after September 15,
2009.  We are currently evaluating the impact, if any, of SFAS
168.





4.
            STOCK-BASED
      COMPENSATION





We
currently provide stock-based compensation under five stock incentive plans that
have been approved by our shareholders.  Our 1999 Non-Statutory Stock
Option Plan for Non-Employee Directors allows for the issuance of up to 200
shares of common stock.  The 2000 Non-Statutory Stock Option Plan
provides for the issuance of up to 1,500 shares of common stock.  The
2003 and 2005 Stock Incentive Plans both provide for the issuance of up to 1,500
shares of common stock.   The 2009 Equity Incentive Plan, which
was adopted by our board of directors on January 28, 2009 and was approved by
our shareholders at the April 8, 2009 annual shareholders’ meeting, provides for
the issuance of up to 1,750 shares of common stock.  Stock options
granted under all of these plans generally vest over four years from the date of
grant as specified in the plans or by the compensation committee of our board of
directors and are exercisable for a period of up to ten years from the date of
grant.





We
account for stock-based compensation under the provisions of SFAS No. 123
(revised 2004), “Share-Based Payment” (“SFAS 123R”), which requires the
recognition of the cost of employee services received in exchange for an award
of equity instruments in the financial statements and is measured based on the
grant date fair value of the award.  SFAS 123R also requires the stock
option compensation expense to be recognized over the period during which an
employee is required to provide service in exchange for the award (the vesting
period).





The
following table represents the impact of stock-based compensation expense on our
consolidated statements of income during the three and six months ended May 31,
2009 and 2008, respectively:





Three Months Ended May 31,
                
                
                Six Months Ended May 31,2009
                
                
                2008
                
                
                2009
                
                
                2008Income
      from operations
                
                $
                2,064
                
                
                $
                1,241
                
                
                $
                3,543
                
                
                $
                2,580Provision
      for income taxes
                
                
                754
                
                
                
                442
                
                
                
                1,286
                
                
                
                918Net
      income
                
                $
                1,310
                
                
                $
                799
                
                
                $
                2,257
                
                
                $
                1,662Basic
      net income per share
                
                $
                0.07
                
                
                $
                0.04
                
                
                $
                0.12
                
                
                $
                0.09Diluted
      net income per share
                
                $
                0.07
                
                
                $
                0.04
                
                
                $
                0.12
                
                
                $
                0.08





The stock
option compensation expense was included partly in cost of sales, advertising
and promotion expenses and selling, general and administrative expenses in the
accompanying consolidated statements of income.  We capitalized $219
and $209 of stock option compensation cost as a component of the carrying cost
of inventory on-hand as of May 31, 2009 and 2008, respectively.





The
weighted average grant-date fair value of stock options granted during the three
and six months ended May 31, 2009 was $20.93 and $20.99, respectively, and for
stock options granted during the three and six months ended May 31, 2008 was
$27.99.  The fair value of each stock option grant was estimated on
the date of grant using a Flex Lattice Model.  The following
assumptions were used to determine the fair value of stock option grants during
the six months ended May 31, 2009 and 2008:





8


Six
      Months Ended
                            May 31,2009
                          
                          2008Expected
      life
                          
                          6.0
      years
                          
                          6.0
      yearsVolatility
                          
                          
                          37%
                          
                          
                          
                          36%Risk-free
      interest rate
                          
                          
                          2.61%
                          
                          
                          
                          3.84%Dividend
      yield
                          
                          
                          0%
                          
                          
                          
                          0%Forfeitures
                          
                          
                          0.4%
                          
                          
                          
                          0.3%





The
expected life of stock options represents the period of time that the stock
options granted are expected to be outstanding based on historical exercise
trends.  The expected volatility is based on the historical price
volatility of our common stock and consideration of the implied volatility of
our common stock.  The risk-free interest rate represents the U.S.
Treasury bill rate for the expected life of the related stock
options.  The dividend yield represents our anticipated cash dividend
over the expected life of the stock options.  In connection with using
the Flex Lattice Model to determine the fair value of stock option grants, the
forfeiture rate was determined by analyzing post vesting stock option activity
for three separate groups (non-employee directors, officers and other
employees).





A summary
of stock option activity for the six months ended May 31, 2009 is presented
below:





Shares
                  Under
                  Option
                
                
                Weighted
                  Average
                  ExercisePrice
                
                Weighted
                  Average
                  Remaining
                  Contractual
                  Life
                
                Aggregate
                  Intrinsic
      ValueOutstanding
      at December 1, 2008
                
                
                1,510
                
                
                $
                50.23Granted
                
                
                386
                
                
                
                55.53Exercised
                
                
                (29
                )
                
                
                34.23Cancelled
                
                
                (11
                )
                
                
                59.91Outstanding
      at May 31, 2009
                
                
                1,856
                
                
                $
                51.53
                
                4.4
      years
                
                $
                18,568Exercisable
      at May 31, 2009
                
                
                913
                
                
                $
                43.85
                
                3.6
      years
                
                $
                15,112





The total
fair value of stock options that vested during the three months ended May 31,
2009 and 2008 was $1,946 and $1,249, respectively, and during the six
months ended May 31, 2009 and 2008 was $3,580 and $2,605,
respectively.  The total intrinsic value of stock options exercised
during the three months ended May 31, 2009 and 2008 was $208 and $163,
respectively, and during the six months ended May 31, 2009 and 2008 was $807 and
$4,703, respectively.





As of May
31, 2009, we had $20,124 of unrecognized compensation cost related to stock
options that will be recorded over a weighted average period of approximately
2.9 years.





We are
also authorized to grant restricted shares of common stock to employees under
our stock incentive plans that have been approved by
shareholders.  The restricted shares under these plans meet the
definition of “nonvested shares” in SFAS 123R.  The restricted shares
generally vest over a four year service period commencing upon the date of
grant.  The total fair market value of restricted shares on the date
of grant is amortized to expense on a straight line basis over the four-year
vesting period.  The amortization expense related to restricted shares
during the three months ended May 31, 2009 and 2008 was $0 and $64,
respectively, and was $43 and $157 for the six months ended May 31, 2009 and
2008, respectively.  All grants of restricted shares were fully vested
effective February 28, 2009.





Restricted share activity for the six
months ended May 31, 2009 under the plans is summarized as follows:





Number
                  ofShares
                
                
                Weighted
                  Average
                  Grant
      Date
                  FairValueNonvested
      at December 1, 2008
                
                
                1
                
                
                $
                35.37Granted
                
                
                —
                
                
                
                —Vested
                
                
                (1
                )
                
                
                35.37Forfeited
                
                
                —
                
                
                
                —Nonvested
      at May 31, 2009
                
                
                —
                
                
                $
                —





9


5.
            EARNINGS PER
      SHARE





The
following table presents the computation of earnings per share for the three and
six months ended May 31, 2009 and 2008, respectively:





For
      the Three Months
                  Ended May
    31,
                
                
                For
      the Six Months
                  Ended May 31,2009
                
                
                2008
                
                
                2009
                
                
                2008NET
      INCOME
                
                $
                24,230
                
                
                $
                20,732
                
                
                $
                43,796
                
                
                $
                35,605NUMBER
      OF COMMON SHARES:Weighted
      average outstanding
                
                
                19,219
                
                
                
                19,118
                
                
                
                19,342
                
                
                
                19,112Issued
      upon assumed exercise of outstanding stock options
                
                
                —
                
                
                
                101
                
                
                
                —
                
                
                
                101Issued
      upon assumed exercise of convertible notes
                
                
                —
                
                
                
                296
                
                
                
                61
                
                
                
                376Effect
      of issuance of restricted common shares
                
                
                —
                
                
                
                3
                
                
                
                —
                
                
                
                3Weighted
      average and potential dilutive outstanding (1)
                
                
                19,219
                
                
                
                19,518
                
                
                
                19,403
                
                
                
                19,592NET
      INCOME PER COMMON   SHARE:Basic
                
                $
                1.26
                
                
                $
                1.08
                
                
                $
                2.26
                
                
                $
                1.86Diluted
                
                $
                1.26
                
                
                $
                1.06
                
                
                $
                2.26
                
                
                $
                1.82





(1)  Because their effects
are anti-dilutive, excludes shares issuable under stock option plans whose grant
price was greater than the weighted-average market price of common shares
outstanding as follows: 898 and 528 shares for the three months ended May 31,
2009 and 2008, respectively, and 825 and 465 shares for the six months ended May
31, 2009 and 2008, respectively.





6.
            LONG-TERM
      DEBT





Long-term
debt consisted of the following as of May 31, 2009 and November 30,
2008:





2009
                
                
                2008Revolving
      Credit Facility due 2010 at a variable rate of  6.07% as
      of November 30, 2008
                
                $
                —
                
                
                $
                19,5002.0%
      Convertible Senior Notes due 2013
                
                
                96,300
                
                
                
                125,0001.625%
      Convertible Senior Notes due 2014
                
                
                100,000
                
                
                
                100,000Term
      Loan due 2013 at a variable rate of 6.70% and 6.57% as of May 31,
      2009 and November 30, 2008, respectively
                
                
                106,000
                
                
                
                107,5007.0%
      Senior Subordinated Notes due 2014
                
                
                107,500
                
                
                
                107,500
 Total
      long-term debt
                
                
                409,800
                
                
                
                459,500Less:  current
      maturities
                
                
                3,000
                
                
                
                3,000Total
      long-term debt, net of current maturities
                
                $
                406,800
                
                
                $
                456,500







In
February 2004, we entered into a Senior Secured Revolving Credit Facility with a
maturity date of February 2009 (the “Revolving Credit Facility”) with Bank of
America, N.A. that provided an initial borrowing capacity of $25,000 and an
additional $25,000, subject to successful syndication.  In March 2004,
we entered into a commitment agreement with a syndicate of commercial banks led
by Bank of America, N.A., as agent, that enabled us to borrow up to a total of
$50,000 under the Revolving Credit Facility and an additional $50,000, subject
to successful syndication.  In November 2005, we entered into an
amendment to our Revolving Credit Facility (the “Amended Revolving Credit
Facility”) that, among other things, increased our borrowing capacity under the
facility from $50,000 to $100,000, increased our flexibility to repurchase
shares of our stock, improved our borrowing rate under the facility and extended
the maturity date to November 2010.  Upon successful syndication, we
had the ability to increase the borrowing capacity under the Amended Revolving
Credit Facility by $50,000 to an aggregate of $150,000.  In November
2006, we entered into an amendment to our Amended Revolving Credit Facility
that, among other things, permitted the sale of the 2.0% Convertible Senior
Notes due 2013 (the “2.0% Convertible Notes”).  In January 2007,
we




10


completed
an amendment to the Amended Revolving Credit Facility providing for up to a
$100,000 revolving credit facility and a $300,000 term loan (the “Credit
Facility”).  The Credit Facility includes “accordion” features that
permit us under certain circumstances to increase our borrowings under the
revolving credit facility by $50,000 and to borrow an additional $50,000 as a
term loan, subject to successful syndication.  In April 2007, we
entered into an amendment to our Credit Facility that, among other things,
permitted the sale of the 1.625% Convertible Senior Notes due
2014  (the “1.625% Convertible Notes”) and reduced the applicable
interest rates on the revolving credit facility portion of our Credit
Facility.





Borrowings
under the revolving credit facility portion of our Credit Facility bear interest
at LIBOR plus applicable percentages of 0.875% to 1.500% or the higher of the
federal funds rate plus 0.50% or the prime rate (the “Base
Rate”).  The applicable percentages are calculated based on our
leverage ratio.  As of May 31, 2009 and November 30, 2008, we had $0
and $19,500, respectively, of borrowings outstanding under the revolving credit
facility portion of our Credit Facility.  As of July 1, 2009, we had
$0 of borrowings outstanding under the revolving credit facility portion of our
Credit Facility and our borrowing capacity was $100,000.





The term
loan under the Credit Facility bears interest at either LIBOR plus 1.75% or the
Base Rate plus 0.75%.  The term loan borrowings are to be repaid in
increments of $750 each calendar quarter.  The principal outstanding
after scheduled repayment and any unscheduled prepayments matures and is payable
January 2013.  In January 2008, we utilized borrowings under the
revolving credit facility portion of our Credit Facility to repay $35,000 of the
term loan under the Credit Facility.  In connection with the term loan
repayment in January 2008, we retired a proportional share of the term loan debt
issuance costs and recorded the resulting loss on early extinguishment of debt
of $526 in the first quarter of fiscal 2008.





Borrowings
under the Credit Facility are secured by substantially all of our assets, except
real property, and shares of capital stock of our domestic subsidiaries held by
us and by the assets of the guarantors (our domestic
subsidiaries).  The Credit Facility contains covenants,
representations, warranties and other agreements by us that are customary in
credit agreements and security instruments relating to financings of this
type.  The significant financial covenants include fixed charge
coverage ratio, leverage ratio, senior secured leverage ratio and brand value
calculations.  At May 31, 2009, we were in compliance with all
applicable financial and restrictive covenants under the Credit
Facility.





In
February 2004, we issued and sold $125,000 of our 7.0% Senior Subordinated Notes
due 2014 (the “7.0% Subordinated Notes”).  During fiscal 2005, we
repurchased $17,500 of the  7.0% Subordinated Notes in the open market
at an average premium of 1.6% over the principal amount of the
notes.  The outstanding balance of the remaining 7.0% Subordinated
Notes was reduced to $107,500.





Interest
payments on the 7.0% Subordinated Notes are due semi-annually in March and
September.  Our domestic subsidiaries are guarantors of the 7.0%
Subordinated Notes.  The guarantees of the 7.0% Subordinated Notes are
unsecured senior subordinated obligations of the guarantors.  At any
time after March 1, 2009, we may redeem any of the 7.0% Subordinated Notes upon
not less than 30 nor more than 60 days’ notice at redemption prices (expressed
in percentages of principal amount), plus accrued and unpaid interest, if any,
and liquidation damages, if any, to the applicable redemption rate, if redeemed
during the twelve-month periods beginning March 2009 at 103.500%, March 2010 at
102.333%, March 2011 at 101.167% and March 2012 and thereafter at
100.000%.  As of July 1, 2009, no such redemption has
occurred.





The
indenture governing the 7.0% Subordinated Notes, among other things, limits our
ability and the ability of our restricted subsidiaries to: (i) borrow money or
sell preferred stock, (ii) create liens, (iii) pay dividends on or redeem or
repurchase stock, (iv) make certain types of investments, (v) sell stock in our
restricted subsidiaries, (vi) restrict dividends or other payments from
restricted subsidiaries, (vii) enter into transactions with affiliates, (viii)
issue guarantees of debt and (ix) sell assets or merge with other
companies.  In addition, if we experience specific kinds of changes in
control, we must offer to purchase the 7.0% Subordinated Notes at 101.0% of
their principal amount plus accrued and unpaid interest.





In
November 2006, we entered into an interest rate swap (“swap”) agreement
effective January 2007.  The swap has decreasing notional principal
amounts beginning October 2007 and a swap rate of 4.98% over the life of the
agreement.  During the second quarter of fiscal 2008 we retired a
portion of the swap for approximately $270, and during the first quarter of
fiscal 2009, we retired an additional portion of the swap for approximately
$195, which were recorded as additional interest expense in the accompanying
consolidated statements of income.  As of May 31, 2009, we had
$105,000 of LIBOR based borrowings hedged under the provisions of the
swap.  During the six months ended May 31, 2009, the decrease in fair
value of the swap of $479, net of tax, was recorded to other comprehensive
income.  The fair value of the swap of $2,638 is included in
accrued liabilities.  As of May 31, 2009, the swap was deemed to be an
effective cash flow hedge.  The fair value of the swap is valued by a
third party.  The agreement governing the swap terminates in January
2010.





In
November 2006, we completed a private offering of $125,000 of the 2.0%
Convertible Notes to qualified institutional purchasers pursuant to Section 4(2)
of the Securities Act of 1933.  The 2.0% Convertible Notes bear
interest at an annual rate of 2.0%, payable semi-annually in May and November of
each year.  The 2.0% Convertible Notes are convertible into our common






11


stock at
an initial conversion price of $58.92 per share, upon the occurrence of certain
events, including the closing price of our common stock exceeding 130% of the
initial conversion price per share, or $76.59 per share, for 20 of the last 30
consecutive trading days of the preceding fiscal quarter (the “prescribed
measurement period”).  The evaluation of the classification of the
2.0% Convertible Notes occurs each fiscal quarter.





Upon
conversion, a holder will receive, in lieu of common stock, an amount of cash
equal to the lesser of (i) the principal amount of the 2.0% Convertible
Notes, or (ii) the conversion value, determined in the manner set forth in
the indenture governing the 2.0% Convertible Notes, of a number of shares equal
to the conversion rate. If the conversion value exceeds the principal amount of
the 2.0% Convertible Notes on the conversion date, we will also deliver, at our
election, cash or common stock or a combination of cash and common stock with
respect to the conversion value upon conversion. If conversion occurs in
connection with a change of control, we may be required to deliver additional
shares of our common stock by increasing the conversion rate with respect to
such notes. The maximum aggregate number of shares that we would be obligated to
issue upon conversion of the 2.0% Convertible Notes is 2,059.





Concurrently
with the sale of the 2.0% Convertible Notes, we purchased a note hedge from an
affiliate of Merrill Lynch (the “Counterparty”), which is designed to mitigate
potential dilution from the conversion of the 2.0% Convertible Notes. Under the
note hedge, the Counterparty is required to deliver to us the number of shares
of our common stock that we are obligated to deliver to the holders of the 2.0%
Convertible Notes with respect to the conversion, calculated exclusive of shares
deliverable by us by reason of any additional premium relating to the 2.0%
Convertible Notes or by reason of any election by us to unilaterally increase
the conversion rate pursuant to the indenture governing the 2.0% Convertible
Notes. The note hedge expires at the close of trading on November 15, 2013,
which is the maturity date of the 2.0% Convertible Notes, although the
Counterparty will have ongoing obligations with respect to 2.0% Convertible
Notes properly converted on or prior to that date of which the Counterparty has
been timely notified.





In
addition, we issued warrants to the Counterparty that could require us to issue
up to approximately 1,634 shares of our common stock on November 15, 2013
upon notice of exercise by the Counterparty. The exercise price is $74.82 per
share, which represented a 60.0% premium over the closing price of our shares of
common stock on November 16, 2006. If the Counterparty exercises the
warrant, we will have the option to settle in cash or shares the excess of the
price of our shares on that date over the initially established exercise
price.





The note
hedge and warrant are separate and legally distinct instruments that bind us and
the Counterparty and have no binding effect on the holders of the 2.0%
Convertible Notes.





On
December 4, 2008, we issued an aggregate of 487 shares of our common stock in
exchange for $28,700 in aggregate principal amount of our outstanding 2.0%
Convertible Notes.  Upon completion of the transaction, the balance of
the remaining 2.0% Convertible Notes was reduced to $96,300
outstanding.  In connection with this transaction, we retired a
proportional share of the 2.0% Convertible Notes debt issuance costs and
recorded the resulting loss on early extinguishment of debt of $696 in the first
quarter of fiscal 2009.





In April
2007, we completed a private offering of $100,000 of the 1.625% Convertible
Notes to qualified institutional investors pursuant to Rule 144A under the
Securities Act of 1933.  The 1.625% Convertible Notes bear interest at
an annual rate of 1.625%, payable semi-annually in May and November of each
year.  The 1.625% Convertible Notes are convertible into our common
stock at an initial conversion price of $73.20 per share, upon the occurrence of
certain events, including the closing price of our common stock exceeding 130%
of the initial conversion price per share, or $95.16 per share, for the
prescribed measurement period.  The evaluation of the classification
of the 1.625% Convertible Notes occurs each fiscal quarter.





Upon
conversion, a holder will receive, in lieu of common stock, an amount of cash
equal to the lesser of (i) the principal amount of the 1.625% Convertible
Notes, or (ii) the conversion value, determined in the manner set forth in
the indenture governing the 1.625%  Convertible Notes, of a number of
shares equal to the conversion rate. If the conversion value exceeds the
principal amount of the 1.625% Convertible Note on the conversion date, we will
also deliver, at our election, cash or common stock or a combination of cash and
common stock with respect to the conversion value upon conversion. If conversion
occurs in connection with a change of control, we may be required to deliver
additional shares of our common stock by increasing the conversion rate with
respect to such notes. The maximum aggregate number of shares that we would be
obligated to issue upon conversion of the 1.625% Convertible Notes is
1,694.





Concurrently
with the sale of the 1.625% Convertible Notes, we purchased a note hedge from
the Counterparty, which is designed to mitigate potential dilution from the
conversion of the 1.625% Convertible Notes. Under the note hedge, the
Counterparty is required to deliver to us the number of shares of our common
stock that we are obligated to deliver to the holders of the 1.625% Convertible
Notes with respect to the conversion, calculated exclusive of shares deliverable
by us by reason of any additional premium relating to the 1.625% Convertible
Notes or by reason of any election by us to unilaterally increase the conversion
rate pursuant to the indenture governing the 1.625% Convertible Notes. The note
hedge expires at the close of




12


trading
on May 1, 2014, which is the maturity date of the 1.625% Convertible Notes,
although the Counterparty will have ongoing obligations with respect to 1.625%
Convertible Notes properly converted on or prior to that date of which the
Counterparty has been timely notified.





In
addition, we issued warrants to the Counterparty that could require us to issue
up to approximately 1,366 shares of our common stock on May 1, 2014 upon notice
of exercise by the Counterparty. The exercise price is $94.45 per share, which
represented a 60% premium over the closing price of our shares of common stock
on April 4, 2007. If the Counterparty exercises the warrant, we will have the
option to settle in cash or shares the excess of the price of our shares on that
date over the initially established exercise price.





Pursuant
to EITF 90-19,“Convertible Bonds with Issuer Option to Settle for Cash upon Conversion”
(“EITF 90-19”), EITF 00-19, “Accounting for Derivative Financial Instruments
Indexed to, and Potentially Settled in, a Company’s Own Stock”  (“EITF
00-19”), and EITF 01-6,  “The Meaning of Indexed to a Company’s Own
Stock”  (“EITF 01-6”), the 2.0% Convertible Notes and the 1.625%
Convertible Notes are accounted for as convertible debt in the accompanying
consolidated balance sheet and the embedded conversion option in the 2.0%
Convertible Notes and the 1.625% Convertible Notes has not been accounted for as
a separate derivative. Additionally, pursuant to EITF 00-19 and EITF 01-6, the
note hedges and warrants are accounted for as equity transactions, and
therefore, the payments associated with the issuance of the note hedges and the
proceeds received from the issuance of the warrants were recorded as a charge
and an increase, respectively, in common shares in shareholders’ equity as
separate equity transactions.





For
income tax reporting purposes, we have elected to integrate the 2.0% Convertible
Notes and the 1.625% Convertible Notes and the respective note hedge
transaction. Integration of the respective note hedge with the 2.0% Convertible
Notes and the 1.625% Convertible Notes creates an in-substance original issue
debt discount for income tax reporting purposes and therefore, the cost of the
note hedge transactions will be accounted for as interest expense over the term
of the 2.0% Convertible Notes and the 1.625% Convertible Notes, respectively,
for income tax reporting purposes. The income tax benefit related to each
respective convertible note issuance was recognized as a deferred tax
asset.





The
scheduled future maturities of long-term debt to be funded for the next five
successive fiscal years and those thereafter as of May 31, 2009 are as
follows:





2009
                
                $
                1,5002010
                
                
                3,0002011
                
                
                3,0002012
                
                
                3,0002013
                
                
                191,800Thereafter
                
                
                207,500$
                409,800





7.
            FAIR VALUE
      MEASUREMENTS





We
currently measure and record in the accompanying consolidated financial
statements an interest rate swap at fair value.  SFAS 157, which we
adopted December 1, 2007, establishes a fair value hierarchy for those
instruments measured at fair value that distinguishes between assumptions based
on market data (observable inputs) and our own assumptions (unobservable
inputs).  The hierarchy consists of three levels:




Level
      1 -
                  Quoted
      market prices in active markets for identical assets or
    liabilities;Level
      2 -
                  Inputs
      other than Level 1 inputs that are either directly or indirectly
      observable; andLevel
      3 -
                  Unobservable
      inputs developed using estimates and assumptions developed by us, which
      reflect those that a market participant would
  use.





Determining
which category an asset or liability falls within the hierarchy requires
significant judgment.  We evaluate our hierarchy disclosures each
quarter.





13


The
following table summarizes the financial instruments measured at fair value in
the accompanying consolidated balance sheet as of May 31, 2009:





Fair
      Value Measurements as of
                  May 31, 2009Level 1
                
                
                Level 2
                
                
                Level 3
                
                
                TotalLiabilitiesInterest
      rate swap (1)
                
                $
                —
                
                
                $
                2,638
                
                
                $
                —
                
                
                $
                2,638


(1)
            The
      total fair value of the interest rate swap is classified as a current
      liability as of May 31, 2009 and matures January 2010. We value this
      financial instrument using the “Income Approach” valuation
      technique.  This method uses valuation techniques to convert
      future amounts to a single present value amount.  The
      measurement is based on the value indicated by current market expectations
      about those future amounts.





SFAS 157 requires separate disclosure
of assets and liabilities measured at fair value on a recurring basis, as
documented above, from those measured at fair value on a nonrecurring
basis.  As of May 31, 2009, no assets or liabilities are measured at
fair value on a nonrecurring basis.





At May
31, 2009 and November 30, 2008, the carrying value of the 7.0% Subordinated
Notes approximated fair value based on market prices and market volume for same
or similar issues.  At May 31, 2009 and November 30, 2008, the fair
value of the 2.0% Convertible Notes was determined to be $97,628 and $153,965,
respectively, based upon consideration of our closing stock price of $59.73 and
$72.57, respectively, and determination of conversion value as defined in the
indenture under which the 2.0% Convertible Notes were issued.  At May
31, 2009 and November 30, 2008, the fair value of the 1.625% Convertible Notes
was determined to be $81,601 and $99,143, respectively, based upon consideration
of our closing stock price and determination of conversion value as defined in
the indenture under which the 1.625% Convertible Notes were issued.





8.
            ADVERTISING
      EXPENSES





We incur
significant expenditures on television, radio and print advertising to support
our nationally branded over-the-counter (“OTC”) health care products, toiletries
and dietary supplements.  Customers purchase products from us with the
understanding that the brands will be supported by our extensive media
advertising.  This advertising supports the retailers’ sales effort
and maintains the important brand franchise with the consuming
public.  Accordingly, we consider our advertising program to be
clearly implicit in our sales arrangements with our
customers.  Therefore, we allocate a percentage of the necessary
supporting advertising expenses to each dollar of sales by charging a percentage
of sales on an interim basis based upon anticipated annual sales and advertising
expenditures (in accordance with APB Opinion No. 28, “Interim Financial
Reporting”) and adjusting that accrual to the actual expenses incurred at the
end of the year.





9.
            SHIPPING AND
      HANDLING





Shipping
and handling costs of $3,638 and $3,986 are included in selling, general and
administrative expenses for the three months ended May 31, 2009 and 2008,
respectively, and $7,418 and $7,983 for the six months ended May 31, 2009 and
2008, respectively.





10.
            PATENT, TRADEMARKS AND
      OTHER PURCHASED PRODUCT
RIGHTS





The
carrying value of trademarks, which are not subject to amortization under the
provisions of SFAS No. 142, “Goodwill and Other Intangible Assets” (“SFAS 142”),
was $613,329 as of May 31, 2009 and November 30, 2008.  The gross
carrying amount of intangible assets subject to amortization at May 31, 2009 and
November 30, 2008, which consist primarily of non-compete agreements and
distribution rights, was $7,028.  The related accumulated amortization
of intangible assets at May 31, 2009 and November 30, 2008 was $4,170 and
$3,687, respectively.  Amortization of our intangible assets subject
to amortization under the provisions of SFAS 142 for the three months ended May
31, 2009 and 2008 was $241 and $228, respectively, and for the six months ended
May 31, 2009 and 2008 was $483 and $434, respectively.





14


Estimated
annual amortization expense for these assets for the next five successive fiscal
years and those thereafter as of May 31, 2009 are as follows:





2009
                
                $
                4622010
                
                
                9252011
                
                
                9252012
                
                
                2082013
                
                
                75Thereafter
                
                
                263$
                2,858





11.
            INVENTORIES





Inventories
consisted of the following as of May 31, 2009 and November 30,
2008:





2009
                
                
                2008Raw
      materials and work in process
                
                $
                18,522
                
                
                $
                16,753Finished
      goods
                
                
                26,876
                
                
                
                24,180Total
      inventories
                
                $
                45,398
                
                
                $
                40,933





12.
            ACCRUED
      LIABILITIES





Accrued
liabilities consisted of the following as of May 31, 2009 and November 30,
2008:





2009
                
                
                2008Interest
                
                $
                2,540
                
                
                $
                3,216Salaries,
      wages and commissions
                
                
                2,917
                
                
                
                5,333Product
      advertising and promotion
                
                
                5,437
                
                
                
                2,611Litigation
      settlement and legal fees
                
                
                1,076
                
                
                
                799Income
      taxes payable
                
                
                9,340
                
                
                
                4,636Interest
      rate swap
                
                
                2,638
                
                
                
                2,602Other
                
                
                404
                
                
                
                2,096Total
      accrued liabilities
                
                $
                24,352
                
                
                $
                21,293





13.
            ACCUMULATED OTHER
      COMPREHENSIVE INCOME





Accumulated
other comprehensive income consisted of the following components for the three
and six months ended May 31, 2009 and 2008, respectively:





For
      the Three Months Ended May 31,
                
                
                For
      the Six Months Ended May 31,2009
                
                
                2008
                
                
                2009
                
                
                2008Net
      income
                
                $
                24,230
                
                
                $
                20,732
                
                
                $
                43,796
                
                
                $
                35,605Other
      – interest rate hedge adjustment, net of tax of $278, $838, $295, and
      $(183), respectively
                
                
                451
                
                
                
                1,361
                
                
                
                479
                
                
                
                (212
                )Other
      – foreign currency translation adjustment
                
                
                1,256
                
                
                
                (26
                )
                
                
                1,141
                
                
                
                160Total
                
                $
                25,937
                
                
                $
                22,067
                
                
                $
                45,416
                
                
                $
                35,553





14.
            STOCK
      REPURCHASE





On
April 30, 2008, our Board of Directors increased the authorization to repurchase
our common stock to a total of $100,000 under the terms of our existing stock
repurchase program.  In the three and six months ended May 31, 2009,
we repurchased 491 shares of our common stock for $26,107 at an average price
per share of $53.13.  In the three and six months ended May 31, 2008,
we repurchased 183 and 187 shares of our common stock, respectively, for $12,314
and $12,554, respectively, at an average price per share of $67.04 and $67.00,
respectively.  The repurchased shares were retired and returned to
unissued.  As of July 1, 2009, the current amount available under the
authorization from the Board of Directors was $47,806.





15


15.     
POST RETIREMENT
BENEFIT PLANS





DEFINED BENEFIT PENSION
PLAN





We have a
noncontributory defined benefit pension plan (the “Pension Plan”), which covers
substantially all employees as of December 31, 2000.  The Pension Plan
provides benefits based upon years of service and employee compensation to
employees who had completed one year of service prior to December 31,
2000.  On December 31, 2000, benefits and participation in the Pension
Plan were frozen.  Contributions to the Pension Plan are calculated by
an independent actuary and have been sufficient to provide benefits to
participants and meet the funding requirements of the Employee Retirement Income
Security Act of 1974.  Plan assets as of May 31, 2009 and November 30,
2008 were invested primarily in United States government and agency securities
and corporate debt and equity securities.





Net
periodic pension benefit for the three and six months ended May 31, 2009 and
2008 included the following components:





For
      the Three MonthsEnded May
      31,
                
                
                For
      the Six MonthsEnded May
      31,2009
                
                
                2008
                
                
                2009
                
                
                2008Interest
      cost
                
                $
                145
                
                
                $
                152
                
                
                $
                291
                
                
                $
                304Amortization
      of loss
                
                
                47
                
                
                
                —
                
                
                
                93
                
                
                
                —Expected
      return on plan assets
                
                
                (170
                )
                
                
                (234
                )
                
                
                (340
                )
                
                
                (468
                )Net
      periodic pension benefit
                
                $
                22
                
                
                $
                (82
                )
                
                $
                44
                
                
                $
                (164
                )





No
employer contributions were made for the six months ended May 31, 2009 and 2008,
and no employer contributions are expected to be made for the Pension Plan in
fiscal 2009.





DEFINED
CONTRIBUTION PLAN





We
sponsor a defined contribution plan that covers substantially all
employees.  Eligible employees are allowed to contribute their
eligible compensation up to the applicable annual elective deferral and salary
reduction limits as set forth by the IRS.  We make matching
contributions of 25% on the first 6% of contributed compensation.  The
cost of the matching contribution totaled $71 and $62 for the three months ended
May 31, 2009 and 2008, respectively, and $160 and $150 for the six months ended
May 31, 2009 and 2008, respectively.  In addition to matching
contributions, safe harbor contributions equaling 3% of eligible annual
compensation are made on behalf of eligible participants.  Safe harbor
contributions totaled $192 and $169 for the three months ended May 31, 2009 and
2008, respectively and $475 and $457 for the six months ended May 31, 2009 and
2008, respectively.  Total matching and safe harbor contributions for
fiscal 2009 are expected to approximate amounts funded in fiscal
2008.  Total matching and safe harbor contributions in fiscal 2008
were $1,172.





POSTRETIREMENT
HEALTH CARE BENEFITS PLAN





We
maintain a postretirement health care benefits plan (the “Retiree Health Plan”)
for certain eligible employees over the age of 65.  On May 31, 2006,
Retiree Health Plan eligibility was restricted to current retirees and those
active employees that were retirement eligible as of that date (age 55 and 10
years of service or age 65). Contributions to the Retiree Health Plan are
limited to approximately $2 per participant per year and are paid monthly on a
fully insured basis.  Participants are required to pay any insurance
premium amount in excess of the $2 employer
contribution.   Employer contributions expected for fiscal 2009
are approximately $95.





Net
periodic postretirement health benefit for the three and six months ended May
31, 2009 and 2008, included the following components:





For
      the Three Months
                  Ended May 31,
                
                
                For
      the Six Months
                  Ended May 31,2009
                
                
                2008
                
                
                2009
                
                
                2008Service
      cost
                
                $
                1
                
                
                $
                5
                
                
                $
                3
                
                
                $
                10Interest
      cost
                
                
                14
                
                
                
                14
                
                
                
                28
                
                
                
                28Recognized
      net actuarial gain
                
                
                (34
                )
                
                
                (24
                )
                
                
                (68
                )
                
                
                (48
                )Net
      periodic postretirement health benefit
                
                $
                (19
                )
                
                $
                (5
                )
                
                $
                (37
                )
                
                $
                (10
                )





16


16.     
INCOME
TAXES





We
account for income taxes using the asset and liability approach as prescribed by
SFAS 109, FIN 48 and other applicable FSP’s and FASB
Interpretations.  This approach requires recognition of deferred tax
assets and liabilities for the expected future tax consequences of events that
have been included in our consolidated financial statements or tax
returns.  Using the enacted tax rates in effect for the year in which
the differences are expected to reverse, deferred tax assets and liabilities are
determined based on the differences between the financial reporting and the tax
basis of an asset or liability.  We record income tax expense in our
consolidated financial statements based on an estimated annual effective income
tax rate.  Our tax rate for the six months ended May 31, 2009 and 2008
was 36.3% and 35.6%, respectively.  As of May 31, 2009, there were no
significant changes to our unrecognized tax benefit as reported in our Form 10-K
for the fiscal year ended November 30, 2008.





17.     
PRODUCT SEGMENT
INFORMATION





Net sales
within our single healthcare business segment for the three and six months ended
May 31, 2009 and 2008 are as follows:





For
      the Three Months
                  Ended May 31,
                
                
                For
      the Six Months
                  Ended May 31,2009
                
                
                2008
                
                
                2009
                
                
                2008Medicated
      skin care
                
                $
                37,970
                
                
                $
                34,471
                
                
                $
                79,427
                
                
                $
                72,124Topical
      pain care
                
                
                24,314
                
                
                
                24,772
                
                
                
                46,357
                
                
                
                50,087Oral
      care
                
                
                18,466
                
                
                
                15,415
                
                
                
                36,751
                
                
                
                31,187Internal
      OTC
                
                
                11,686
                
                
                
                13,274
                
                
                
                23,050
                
                
                
                24,484Medicated
      dandruff shampoos
                
                
                9,724
                
                
                
                8,707
                
                
                
                19,087
                
                
                
                19,286Dietary
      supplements
                
                
                5,569
                
                
                
                5,133
                
                
                
                9,841
                
                
                
                10,507Other
      OTC and toiletry products
                
                
                8,369
                
                
                
                6,919
                
                
                
                12,493
                
                
                
                12,331Total
      domestic net sales
                
                
                116,098
                
                
                
                108,691
                
                
                
                227,006
                
                
                
                220,006International
      revenues
                
                
                5,732
                
                
                
                8,025
                
                
                
                10,916
                
                
                
                17,483Total
      revenues
                
                $
                121,830
                
                
                $
                116,716
                
                
                $
                237,922
                
                
                $
                237,489





18.     
COMMITMENTS AND
CONTINGENCIES





GENERAL
LITIGATION




We were
named as a defendant in a number of lawsuits alleging that the plaintiffs were
injured as a result of ingestion of products containing Phenylpropanolamine
(“PPA”), which was an active ingredient in most of our Dexatrim products until
November 2000.  The lawsuits filed in federal court were transferred
to the United States District Court for the Western District of Washington
before United States District Judge Barbara J. Rothstein (In Re
Phenylpropanolamine (“PPA”) Products Liability Litigation, MDL No.
1407).  The remaining lawsuits were filed in state court in a number
of different states.





On April
13, 2004, we entered into a class action settlement agreement with
representatives of the plaintiffs’ settlement class, which provided for a
national class action settlement of all Dexatrim PPA
claims.  On November 12, 2004, Judge Barbara J. Rothstein of the
United States District Court for the Western District of Washington entered a
final order and judgment certifying the class and granting approval of the DexatrimPPA
settlement.  The Dexatrim PPA settlement
included claims against us involving alleged injuries by Dexatrim products containing
PPA in which the alleged injury occurred after December 21, 1998, the date we
acquired the Dexatrim
brand.  A total of 14 claimants with alleged injuries that occurred
after December 21, 1998 elected to opt-out of the class
settlement.  Subsequently, we have settled twelve of the opt-out
claims. The other two opt-outs have not filed lawsuits against us, and we
believe the applicable statutes of limitation have run against their
claims.





In
accordance with the terms of the class action settlement, approximately $70,885
was initially funded into a settlement trust.  We have resolved all
claims in the settlement and paid all trust expenses.  On June 14,
2006, we filed a motion to dissolve the settlement trust.  The court
granted this motion on July 14, 2006.  We dissolved the settlement
trust pursuant to a letter to the trustee dated September 24, 2008.





17


We were
also named as a defendant in approximately 206 lawsuits relating to Dexatrimcontaining PPA which
involved alleged injuries by Dexatrim products containing
PPA manufactured and sold prior to our acquisition of Dexatrimon December 21,
1998.  The DELACO Company (“DELACO”), successor by merger to the
Thompson Medical Company, Inc., which owned the brand prior to December 21,
1998, owed us an indemnity obligation for any liabilities arising from these
lawsuits.  On February 12, 2004, DELACO filed a Chapter 11 bankruptcy
petition in the United States Bankruptcy Court for the Southern District of New
York.  We filed a claim for indemnification in DELACO’s
bankruptcy.  We entered into a settlement agreement with DELACO dated
June 30, 2005 that resolved DELACO’s indemnity obligations to us (“the DELACO
Agreement”).  The DELACO Agreement was approved by the DELACO
bankruptcy court on July 28, 2005.  In accordance with the DELACO
bankruptcy plan, a settlement trust established under the plan paid us $8,750 on
March 17, 2006, which was included in our consolidated statements of income, net
of legal expenses, as litigation settlement for 2006.  The payment to
us by the DELACO settlement trust of $8,750 has conclusively compromised and
settled our indemnity claim filed in the DELACO bankruptcy. The confirmation of
the DELACO bankruptcy plan effectively released us from liability for all PPA
products liability cases with injury dates prior to December 21,
1998.





On
December 30, 2003, the United States Food and Drug Administration ("FDA") issued
a consumer alert on the safety of dietary supplements containing ephedrine
alkaloids and on February 6, 2004 published a final rule with respect to these
products.  The final rule prohibits the sale of dietary supplements
containing ephedrine alkaloids because such supplements present an unreasonable
risk of illness or injury.  The final rule became effective on April
11, 2004.  We discontinued the manufacturing and shipment of Dexatrim containing ephedrine
in September 2002. During April to June 2008, we received notification from an
attorney of 26 individual claims alleging the development of pulmonary arterial
hypertension as a result of ingesting Dexatrim containing ephedrine
and/or PPA in 1998 through 2003.  In September 2008, we resolved all
of these claims for $13,250, of which approximately $2,545 was funded from the
proceeds of theDexatrim settlement trust.  We are not currently aware of any
additional product liability claims relating to Dexatrim.





We were
previously named as a defendant in a putative class action lawsuit filed by
California consumer Robert O. Wilkinson in the United States District Court for
the Southern District of California relating to the labeling, advertising,
promotion and sale of Chattem’s Garlique
product.  We were served with this lawsuit on July 5,
2007.  On May 21, 2009, this case was dismissed with prejudice to
Wilkinson but without prejudice to any potential class.





We have
been named as a defendant in a putative class action lawsuit filed by Florida
consumer James A. Wilson in the United States District Court for the Southern
District of Florida relating to the labeling, advertising, promotion and sale of
our Garlique
product.  We were served with this lawsuit on May 27,
2009.  The plaintiff seeks injunctive relief, compensatory and
punitive damages, and attorney fees.  The plaintiff alleges that we
mislabeled our product and made false advertising claims.  The
plaintiff seeks certification of a national class.  We are vigorously
defending the case.





On
February 8, 2008, we initiated a voluntary nationwide recall of our Icy Hot Heat Therapy
products, including consumer “samples” that were included on a limited
promotional basis in cartons of our 3 oz. Aspercreme product, and are
no longer marketing these products.  We conducted the recall to the
consumer level.  We recalled these products because we received some
consumer reports of first, second and third degree burns, as well as skin
irritation resulting from consumer use or possible misuse of the
products.  As of July 1, 2009, there were approximately 160 consumers
with pending claims against us and four products liability lawsuits pending
against us alleging burns and skin irritation from the use of the Icy Hot Heat Therapy
products.  We may receive additional claims and/or lawsuits in the
future alleging burns and/or skin irritation from use of our Heat Therapy
products.  The outcome of any such potential litigation cannot be
predicted.





On July
25, 2008, LecTec Corporation filed a complaint against us in the U.S. District
Court for the Eastern District of Texas, which alleges that our Icy Hot and Capzasin patch products
infringe LecTec’s patents.  In the same lawsuit, LecTec has asserted
patent infringement claims against Endo Pharmaceuticals, Inc.; Johnson &
Johnson Consumer Products Company, Inc.; The Mentholatum Company, Inc.; and
Prince of Peace Enterprises, Inc.  LecTec seeks injunctive relief, and
compensatory and enhanced damages for the alleged infringement, and attorneys’
fees and expenses.  LecTec filed a motion for preliminary injunction
against us and the other defendants in February 2009 seeking an order preventing
us and the other defendants from selling the specified patch products while the
litigation is pending.  Our response opposing the motion is due August
30, 2009 and LecTec’s reply is due September 30, 2009.  The trial date
is currently scheduled for January 4, 2011.  We are vigorously
defending this lawsuit.





Other
claims, suits and complaints arise in the ordinary course of our business
involving such matters as patents and trademarks, product liability,
environmental matters, employment law issues and other alleged injuries or
damage. The outcome of such litigation cannot be predicted, but, in the opinion
of management, based in part upon assessments from counsel, all such other
pending matters are without merit or are of such kind or involve such other
amounts that are not reasonably estimable or would not have a material adverse
effect on our financial position, results of operations or cash flows if
disposed of unfavorably.





18


We
maintain insurance coverage for product liability claims relating to our
products under claims-made policies which are subject to annual
renewal.  For the current annual policy period beginning September 1,
2008, we maintain product liability insurance coverage in the amount of $30,000
through our captive insurance subsidiary, of which approximately $2,539 has been
funded as of July 1, 2009.  We also have $25,000 of excess coverage
through a third party reinsurance policy.





REGULATORY





We were
notified in October 2000 that the FDA denied a citizen petition submitted by
Thompson Medical Company, Inc., the previous owner of Sportscreme and Aspercreme.  The
petition sought a determination that 10% trolamine salicylate, the active
ingredient in Sportscreme and Aspercreme, was clinically
proven to be an effective active ingredient in external analgesic OTC drug
products and should be included in the FDA's yet-to-be finalized monograph for
external analgesics. We are working to develop alternate formulations for Sportscreme and Aspercreme in the event that
the FDA does not consider the available clinical data to conclusively
demonstrate the efficacy of trolamine salicylate when the OTC external analgesic
monograph is finalized. If 10% trolamine salicylate is not included in the final
monograph, we would likely be required to discontinue these products as
currently formulated after expiration of an anticipated grace period. If this
occurred, we believe we could still market these products as homeopathic
products or reformulate them using other ingredients included in the FDA
monograph.  We believe that the monograph is unlikely to become final
and take effect before the end of 2009.





Certain
of our topical analgesic products are currently marketed under an FDA tentative
final monograph for external analgesics. In 2003, the FDA proposed that the
final monograph exclude external analgesic products in patch, plaster or
poultice form, unless the FDA received additional data supporting the safety and
efficacy of these products. On October 14, 2003, we submitted to the FDA
information regarding the safety of our Icy Hot patches and arguments
to support the inclusion of patch products in the final monograph. We also
participated in an industry-wide effort coordinated by Consumer Healthcare
Products Association (“CHPA”) requesting that patches be included in the final
monograph and seeking to establish with the FDA a protocol of additional
research that would allow the patches to be marketed under the final monograph
even if the final monograph does not explicitly allow them. The CHPA submission
to the FDA was made on October 15, 2003.  The FDA has not responded to
our or CHPA’s submission.  The most recent Unified Agenda of Federal
Regulatory and Deregulatory Actions published in the Federal Register provided a
target final monograph publication date of December 2009. If the final monograph
excludes products in patch, plaster or poultice form, we would have to file and
obtain approval of a new drug application (“NDA”) in order to continue to market
the Icy Hot, Capzasin and Aspercreme patch products,
the Icy Hot Sleeve
and/or similar delivery systems under our other topical analgesic brands. In
such case, we would have to cease marketing the existing products likely within
one year from the effective date of the final monograph, or pending FDA review
and approval of an NDA. The preparation of an NDA would likely take us six to 24
months and would be expensive. It typically takes the FDA at least 12 months to
rule on an NDA once it is submitted and there is no assurance that an NDA would
be approved. Sales of our Icy
Hot, Capzasin,
andAspercreme patches
and Icy Hot Sleeve
products represented approximately 8% of our consolidated total revenues in
fiscal 2008.





We have
responded to certain questions with respect to efficacy received from the FDA in
connection with clinical studies for pyrilamine maleate, one of the active
ingredients used in certain of thePamprin and Prēmsyn
PMS products. While we addressed all of the FDA questions in detail, the final
monograph for menstrual drug products, which has not yet been issued, will
determine if the FDA considers pyrilamine maleate safe and effective for
menstrual relief products. If pyrilamine maleate were not included in the final
monograph, we would be required to reformulate the products to continue to
provide the consumer with multi-symptom relief benefits.  We believe
that any adverse finding by the FDA would likewise affect our principal
competitors in the menstrual product category and that finalization of the
menstrual products monograph is not imminent.  Moreover, we have
formulated alternative Pamprin products that fully
comply with both the internal analgesic and menstrual product
monographs.




We are aware of the FDA’s concern about
the potential toxicity due to taking more than the recommended amount of the
analgesic ingredient acetaminophen, an ingredient found in Pamprin and Premsyn PMS.  We
are participating in an industry-wide effort to reassure the FDA that the
current recommended dosing regimens are safe and effective and that proper
labeling and public education by both OTC and prescription drug companies are
the best policies to abate the FDA’s concern.
 
 On April 29, 2009, FDA finalized one
part of the monograph on internal analgesic products that directly affects Pamprin and Premsyn PMS.The final rule
requires that acetaminophen-containing OTC products include on their labeling
new liver warnings and directions for use.  In addition, the
ingredient name “acetaminophen” must be made more
prominent on the products’ labeling.  The final rule’s compliance date
for all affected products is April 29, 2010.  We will be revising our
product labels to comply with this FDA final rule.  FDA has not yet
determined a final action date for the remaining parts of the monograph on
internal analgesics.





19
 
 More recently, on June 29-30, 2009, FDA
convened a meeting of the appropriate FDA Advisory Committees to discuss
potential steps to reduce acetaminophen-related liver injury.  The
joint Advisory Committee generally agreed that clearer labeling and better
public education are necessary but recommended that FDA take certain
administrative actions to further protect the public, such as changing the
directions for use of OTC products to reduce the maximum milligrams per dose and
the maximum total daily dosage.  If FDA agrees with the Advisory
Committee and implements these changes, it could affect the labeling and
formulation of certain maximum-strength (500 mg) versions of Pamprin and Premsyn PMS.  After
citing a lack of data and urging FDA to conduct further research, a majority of
the joint Advisory Committee voted against removing OTC combination
acetaminophen products from the market or limiting package sizes.  We
believe that FDA will address these issues in its future efforts to finalize the
monograph on internal analgesic products and, prior to monograph closure, may
issue revised labeling requirements within the next year that will cause the OTC
industry to relabel its analgesic products.
  During
the finalization of the monograph on sunscreen products, the FDA chose to hold
in abeyance specific requirements relating to the characterization of a
product’s ability to reduce UVA radiation.  In September 2007, the FDA
published a new proposed rule amending the previously stayed final monograph on
sunscreens to include new formulation options, labeling requirements and testing
standards for measuring UVA protection and revised testing for UVB
protection.  When implemented, the final rule will require all
sunscreen manufacturers to conduct new testing and revise the labeling of their
products within eighteen months after issuance of the final rule.  We
will be required to take such actions for our Bullfrog product
line.


Our
business is also regulated by the California Safe Drinking Water and Toxic
Enforcement Act of 1986, known as Proposition 65.  Proposition 65
prohibits businesses from exposing consumers to chemicals that the state has
determined cause cancer or reproduction toxicity without first giving fair and
reasonable warning unless the level of exposure to the carcinogen or
reproductive toxicant falls below prescribed levels.  From time to
time, one or more ingredients in our products could become subject to an inquiry
under Proposition 65.  If an ingredient is on the state’s list as a
carcinogen, it is possible that a claim could be brought in which case we would
be required to demonstrate that exposure is below a “no significant risk” level
for consumers.  Any such claims may cause us to incur significant
expense, and we may face monetary penalties or injunctive relief, or both, or be
required to reformulate our product to acceptable levels.  The State
of California under Proposition 65 is also considering the inclusion of titanium
dioxide on the state’s list of suspected carcinogens.  Titanium
dioxide has a long history of widespread use as an excipient in prescription and
OTC pharmaceuticals, cosmetics, dietary supplements and skin care products and
is an active ingredient in our Bullfrog Superblock products.
We have participated in an industry-wide submission to the State of California,
facilitated through the CHPA, presenting evidence that titanium dioxide presents
“no significant risk” to consumers.





On
February 8, 2008, we initiated a voluntary nationwide recall of all lots of the
medical device, Icy Hot
Heat Therapy Air Activated Heat patch (Back and Arm, Neck and Leg), including
consumer “samples” that were included on a limited promotional basis in cartons
of our 3 oz. Aspercreme
product.  The recall was due to adverse events reports which
associated the use of the products with temporary or medically reversible health
consequences, skin irritation and burns.  The recall was voluntary and
conducted with the full knowledge of the FDA. On February 5-8, 2008, the FDA
conducted a medical device inspection of our manufacturing plant, manufacturing
records, and consumer complaint handling system related to the manufacture and
distribution of the Heat Therapy device.  On February 8, 2008, the FDA
issued a Form FDA-483 noting three inspectional observations pertaining to
medical device reporting, device correction reports, and corrective and
preventive action procedures.  We responded to the Form FDA-483 on
February 14 and February 20, 2008 committing to correct the cited observations.
On June 10, 2008, we received a warning letter from the FDA asserting the Heat
Therapy devices are misbranded and adulterated based on the inspectional
observations and requesting additional information to correct the
observations.  On June 24, 2008, we responded to the warning letter
addressing the noted violations and providing the requested
documentation.  On September 22, 2008, the FDA responded stating that
our response to the warning letter was thorough and appeared to adequately
address the FDA’s concerns.  We are no longer marketing theIcy Hot Heat Therapy
products.







19.     
CONSOLIDATING
FINANCIAL STATEMENTS





The
consolidating financial statements, for the dates or periods indicated, of
Chattem, Inc.  (“Chattem”), Signal Investment & Management Co.
(“Signal”), SunDex, LLC (“SunDex”) and Chattem (Canada) Holdings, Inc.
(“Canada”), the guarantors of the long-term debt of Chattem, and the
non-guarantor direct and indirect wholly-owned subsidiaries of Chattem are
presented below.  Signal is 89% owned by Chattem and 11% owned by
Canada.  SunDex and Canada are wholly-owned subsidiaries of
Chattem.  The guarantees of Signal, SunDex and Canada are full and
unconditional and joint and several.  The guarantees of Signal, SunDex
and Canada as of May 31, 2009 arose in conjunction with Chattem’s Credit
Facility and Chattem’s issuance of the 7.0% Subordinated Notes (See Note
6).  The maximum amount of future payments the guarantors would be
required to make under the guarantees as of May 31, 2009 is
$213,500.




20


Note
19


CHATTEM,
INC. AND SUBSIDIARIES


CONSOLIDATING
BALANCE SHEETS





MAY
      31, 2009


(Unaudited
      and in thousands)


CHATTEM
                
                
                GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                NON-GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                ELIMINATIONS
                
                
                CONSOLIDATEDASSETSCURRENT
      ASSETS:Cash
      and cash equivalents
                
                $
                18,361
                
                
                $
                315
                
                
                $
                10,058
                
                
                $
                —
                
                
                $
                28,734Accounts
      receivable, less allowances of $11,220
                
                
                54,676
                
                
                
                19,144
                
                
                
                5,532
                
                
                
                (19,476
                )
                
                
                59,876Interest
      receivable
                
                
                101
                
                
                
                654
                
                
                
                (84
                )
                
                
                (671
                )
                
                
                —Inventories
                
                
                39,611
                
                
                
                1,634
                
                
                
                4,153
                
                
                
                —
                
                
                
                45,398Deferred
      income taxes
                
                
                3,836
                
                
                
                —
                
                
                
                38
                
                
                
                —
                
                
                
                3,874Prepaid
      expenses and other current assets
                
                
                3,031
                
                
                
                —
                
                
                
                192
                
                
                
                (635
                )
                
                
                2,588Total
      current assets
                
                
                119,616
                
                
                
                21,747
                
                
                
                19,889
                
                
                
                (20,782
                )
                
                
                140,470PROPERTY,
      PLANT AND EQUIPMENT, NET
                
                
                31,101
                
                
                
                775
                
                
                
                658
                
                
                
                —
                
                
                
                32,534OTHER
      NONCURRENT ASSETS:Patents,
      trademarks and other purchased product rights, net
                
                
                2,859
                
                
                
                674,057
                
                
                
                1,561
                
                
                
                (62,290
                )
                
                
                616,187Debt
      issuance costs, net
                
                
                10,349
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                10,349Investment
      in subsidiaries
                
                
                602,740
                
                
                
                64,682
                
                
                
                97,690
                
                
                
                (765,112
                )
                
                
                —Note
      receivable
                
                
                —
                
                
                
                34,694
                
                
                
                —
                
                
                
                (34,694
                )
                
                
                —Other
                
                
                2,653
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                2,653Total
      other noncurrent assets
                
                
                618,601
                
                
                
                773,433
                
                
                
                99,251
                
                
                
                (862,096
                )
                
                
                629,189TOTAL
      ASSETS
                
                $
                769,318
                
                
                $
                795,955
                
                
                $
                119,798
                
                
                $
                (882,878
                )
                
                $
                802,193LIABILITIES AND SHAREHOLDERS’
      EQUITYCURRENT
      LIABILITIES:Current
      maturities of long-term debt
                
                $
                3,000
                
                
                $
                —
                
                
                $
                —
                
                
                $
                —
                
                
                $
                3,000Accounts
      payable and other
                
                
                13,139
                
                
                
                —
                
                
                
                1,869
                
                
                
                (250
                )
                
                
                14,758Bank
      overdraft
                
                
                838
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                838Accrued
      liabilities
                
                
                39,409
                
                
                
                1,525
                
                
                
                3,950
                
                
                
                (20,532
                )
                
                
                24,352Total
      current liabilities
                
                
                56,386
                
                
                
                1,525
                
                
                
                5,819
                
                
                
                (20,782
                )
                
                
                42,948LONG-TERM
      DEBT, less current maturities
                
                
                412,555
                
                
                
                (7,555
                )
                
                
                36,494
                
                
                
                (34,694
                )
                
                
                406,800DEFERRED
      INCOME TAXES
                
                
                (21,468
                )
                
                
                68,634
                
                
                
                (1,243
                )
                
                
                —
                
                
                
                45,923OTHER
      NONCURRENT LIABILITIES
                
                
                1,329
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                1,329INTERCOMPANY
      ACCOUNTS
                
                
                15,323
                
                
                
                (21,606
                )
                
                
                6,283
                
                
                
                —
                
                
                
                —SHAREHOLDERS’
      EQUITY:Preferred shares, without par value, authorized 1,000, none
      issued
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —Common
      shares, without par value, authorized 100,000, issued and
      outstanding 19,004
                
                
                32,845
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                32,845Shares
      of subsidiaries
                
                
                —
                
                
                
                641,659
                
                
                
                78,999
                
                
                
                (720,658
                )
                
                
                —Dividends
                
                
                —
                
                
                
                (24,876
                )
                
                
                —
                
                
                
                24,876
                
                
                
                —Retained
      earnings
                
                
                275,026
                
                
                
                136,480
                
                
                
                (5,505
                )
                
                
                (130,975
                )
                
                
                275,026307,871
                
                
                
                753,263
                
                
                
                73,494
                
                
                
                (826,757
                )
                
                
                307,871Cumulative
      other comprehensive income (loss), net of tax:Interest
      rate hedge adjustment
                
                
                (1,308
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (1,308
                )Foreign
      currency translation adjustment
                
                
                173
                
                
                
                1,694
                
                
                
                (1,049
                )
                
                
                (645
                )
                
                
                173Unrealized
      actuarial gains and losses
                
                
                (1,543
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (1,543
                )Total
      shareholders’ equity
                
                
                305,193
                
                
                
                754,957
                
                
                
                72,445
                
                
                
                (827,402
                )
                
                
                305,193TOTAL
      LIABILITIES AND SHAREHOLDERS’ EQUITY
                
                $
                769,318
                
                
                $
                795,955
                
                
                $
                119,798
                
                
                $
                (882,878
                )
                
                $
                802,193








21


Note 19


CHATTEM,
INC. AND SUBSIDIARIES


CONSOLIDATING
BALANCE SHEETS





NOVEMBER
      30, 2008


(In
      thousands)




CHATTEM
                
                
                GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                NON-GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                ELIMINATIONS
                
                
                CONSOLIDATEDASSETSCURRENT
      ASSETS:Cash
      and cash equivalents
                
                $
                22,055
                
                
                $
                1,570
                
                
                $
                8,685
                
                
                $
                —
                
                
                $
                32,310Accounts
      receivable, less allowances of $9,718
                
                
                44,175
                
                
                
                16,226
                
                
                
                5,242
                
                
                
                (16,226
                )
                
                
                49,417Interest
      receivable
                
                
                108
                
                
                
                641
                
                
                
                (91
                )
                
                
                (658
                )
                
                
                —Inventories,
      net
                
                
                35,795
                
                
                
                1,811
                
                
                
                3,327
                
                
                
                —
                
                
                
                40,933Deferred
      income taxes
                
                
                3,932
                
                
                
                —
                
                
                
                36
                
                
                
                —
                
                
                
                3,968Prepaid
      expenses and other current assets
                
                
                4,024
                
                
                
                —
                
                
                
                332
                
                
                
                (1,905
                )
                
                
                2,451Total
      current assets
                
                
                110,089
                
                
                
                20,248
                
                
                
                17,531
                
                
                
                (18,789
                )
                
                
                129,079PROPERTY,
      PLANT AND EQUIPMENT, NET
                
                
                30,792
                
                
                
                775
                
                
                
                676
                
                
                
                —
                
                
                
                32,243OTHER
      NONCURRENT ASSETS:Patents,
      trademarks and other purchased product rights, net
                
                
                3,341
                
                
                
                674,057
                
                
                
                1,561
                
                
                
                (62,289
                )
                
                
                616,670Debt
      issuance costs, net
                
                
                12,253
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                12,253Investment
      in subsidiaries
                
                
                597,821
                
                
                
                64,682
                
                
                
                97,690
                
                
                
                (760,193
                )
                
                
                —Note
      receivable
                
                
                —
                
                
                
                34,694
                
                
                
                —
                
                
                
                (34,694
                )
                
                
                —Other
                
                
                2,727
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                2,727Total
      other noncurrent assets
                
                
                616,142
                
                
                
                773,433
                
                
                
                99,251
                
                
                
                (857,176
                )
                
                
                631,650TOTAL
      ASSETS
                
                $
                757,023
                
                
                $
                794,456
                
                
                $
                117,458
                
                
                $
                (875,965
                )
                
                $
                792,972LIABILITIES AND SHAREHOLDERS’
      EQUITYCURRENT
      LIABILITIES:Current
      maturities of long-term debt
                
                $
                3,000
                
                
                $
                —
                
                
                $
                —
                
                
                $
                —
                
                
                $
                3,000Accounts
      payable
                
                
                16,463
                
                
                
                —
                
                
                
                1,736
                
                
                
                (83
                )
                
                
                18,116Bank
      overdrafts
                
                
                1,184
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                1,184Accrued
      liabilities
                
                
                34,594
                
                
                
                699
                
                
                
                4,708
                
                
                
                (18,708
                )
                
                
                21,293Total
      current liabilities
                
                
                55,241
                
                
                
                699
                
                
                
                6,444
                
                
                
                (18,791
                )
                
                
                43,593LONG-TERM
      DEBT, less current maturities
                
                
                455,900
                
                
                
                (1,200
                )
                
                
                36,494
                
                
                
                (34,694
                )
                
                
                456,500DEFERRED
      INCOME TAXES
                
                
                (24,111
                )
                
                
                60,766
                
                
                
                (1,243
                )
                
                
                —
                
                
                
                35,412OTHER
      NONCURRENT LIABILITIES
                
                
                1,609
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                1,609INTERCOMPANY
      ACCOUNTS
                
                
                12,526
                
                
                
                (18,962
                )
                
                
                6,436
                
                
                
                —
                
                
                
                —SHAREHOLDERS’
      EQUITYPreferred
      shares, without par value, authorized 1,000, none issued
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                —Common
      shares, without par value, authorized 100,000, issued and outstanding
      18,978
                
                
                28,926
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                28,926Share
      capital of subsidiaries
                
                
                —
                
                
                
                641,659
                
                
                
                77,935
                
                
                
                (719,594
                )
                
                
                —Dividends
                
                
                —
                
                
                
                (69,628
                )
                
                
                —
                
                
                
                69,628
                
                
                
                —Retained
      earnings
                
                
                231,230
                
                
                
                179,428
                
                
                
                (6,416
                )
                
                
                (173,012
                )
                
                
                231,230260,156
                
                
                
                751,459
                
                
                
                71,519
                
                
                
                (822,978
                )
                
                
                260,156Accumulated
      other comprehensive income (loss), net of tax:Interest
      rate hedge adjustment
                
                
                (1,787
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (1,787
                )Foreign
      currency translation adjustment
                
                
                (968
                )
                
                
                1,694
                
                
                
                (2,192
                )
                
                
                498
                
                
                
                (968
                )Unrealized
      actuarial gains and losses
                
                
                (1,543
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (1,543
                )Total
      shareholders’ equity
                
                
                255,858
                
                
                
                753,153
                
                
                
                69,327
                
                
                
                (822,480
                )
                
                
                255,858TOTAL
      LIABILITIES AND  SHAREHOLDERS’ EQUITY
                
                $
                757,023
                
                
                $
                794,456
                
                
                $
                117,458
                
                
                $
                (875,965
                )
                
                $
                792,972







22


Note 19





CHATTEM,
INC. AND SUBSIDIARIES


CONSOLIDATING
STATEMENTS OF INCOME





FOR THE
SIX MONTHS ENDED MAY 31, 2009


(Unaudited
and in thousands)






CHATTEM
                
                
                GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                NON-GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                ELIMINATIONS
                
                
                CONSOLIDATEDTOTAL
      REVENUES
                
                $
                220,113
                
                
                $
                47,396
                
                
                $
                9,512
                
                
                $
                (39,099
                )
                
                $
                237,922COSTS
      AND EXPENSES:Cost
      of sales
                
                
                66,623
                
                
                
                2,598
                
                
                
                4,745
                
                
                
                (1,578
                )
                
                
                72,388Advertising
      and promotion
                
                
                51,348
                
                
                
                2,079
                
                
                
                2,131
                
                
                
                —
                
                
                
                55,558Selling,
      general and administrative
                
                
                28,524
                
                
                
                606
                
                
                
                626
                
                
                
                —
                
                
                
                29,756Product
      recall expenses
                
                
                (509
                )
                
                
                —
                
                
                
                509
                
                
                
                —
                
                
                
                —Equity
      in subsidiary income
                
                
                (26,329
                )
                
                
                —
                
                
                
                —
                
                
                
                26,329
                
                
                
                —Total
      costs and expenses
                
                
                119,657
                
                
                
                5,283
                
                
                
                8,011
                
                
                
                24,751
                
                
                
                157,702INCOME
      FROM OPERATIONS
                
                
                100,456
                
                
                
                42,113
                
                
                
                1,501
                
                
                
                (63,850
                )
                
                
                80,220OTHER
      INCOME (EXPENSE):Interest
      expense
                
                
                (10,974
                )
                
                
                —
                
                
                
                (1,284
                )
                
                
                1,309
                
                
                
                (10,949
                )Investment
      and other income, net
                
                
                129
                
                
                
                1,309
                
                
                
                1,311
                
                
                
                (2,571
                )
                
                
                178Loss
      on early extinguishment of debt
                
                
                (696
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (696
                )Royalties
                
                
                (35,950
                )
                
                
                (1,562
                )
                
                
                (9
                )
                
                
                37,521
                
                
                
                —Corporate
      allocations
                
                
                1,035
                
                
                
                (936
                )
                
                
                (99
                )
                
                
                —
                
                
                
                —Total
      other income (expense)
                
                
                (46,456
                )
                
                
                (1,189
                )
                
                
                (81
                )
                
                
                36,259
                
                
                
                (11,467
                )INCOME
      BEFORE INCOME TAXES
                
                
                54,000
                
                
                
                40,924
                
                
                
                1,420
                
                
                
                (27,591
                )
                
                
                68,753PROVISION
      FOR INCOME TAXES
                
                
                10,204
                
                
                
                14,244
                
                
                
                509
                
                
                
                —
                
                
                
                24,957NET
      INCOME (LOSS)
                
                $
                43,796
                
                
                $
                26,680
                
                
                $
                911
                
                
                $
                (27,591
                )
                
                $
                43,796











23


Note
19





CHATTEM,
INC. AND SUBSIDIARIES


CONSOLIDATING
STATEMENTS OF INCOME




FOR THE
SIX MONTHS ENDED MAY 31, 2008


(Unaudited
and in thousands)





CHATTEM
                
                
                GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                NON-GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                ELIMINATIONS
                
                
                CONSOLIDATEDTOTAL
      REVENUES
                
                $
                216,390
                
                
                $
                46,210
                
                
                $
                12,435
                
                
                $
                (37,546
                )
                
                $
                237,489COSTS
      AND EXPENSES:Cost
      of sales
                
                
                61,020
                
                
                
                2,387
                
                
                
                5,638
                
                
                
                (1,671
                )
                
                
                67,374Advertising
      and promotion
                
                
                57,984
                
                
                
                3,611
                
                
                
                3,148
                
                
                
                —
                
                
                
                64,743Selling,
      general and administrative
                
                
                29,114
                
                
                
                226
                
                
                
                1,312
                
                
                
                —
                
                
                
                30,652Product
      recall expenses
                
                
                5,555
                
                
                
                —
                
                
                
                488
                
                
                
                —
                
                
                
                6,043Equity
      in subsidiary income
                
                
                (24,908
                )
                
                
                —
                
                
                
                —
                
                
                
                24,908
                
                
                
                —Total
      costs and expenses
                
                
                128,765
                
                
                
                6,224
                
                
                
                10,586
                
                
                
                23,237
                
                
                
                168,812INCOME
      FROM OPERATIONS
                
                
                87,625
                
                
                
                39,986
                
                
                
                1,849
                
                
                
                (60,783
                )
                
                
                68,677OTHER
      INCOME (EXPENSE):Interest
      expense
                
                
                (13,112
                )
                
                
                —
                
                
                
                (1,285
                )
                
                
                1,280
                
                
                
                (13,117
                )Investment
      and other income, net
                
                
                58
                
                
                
                1,285
                
                
                
                1,440
                
                
                
                (2,530
                )
                
                
                253Loss
      on early extinguishment of debt
                
                
                (526
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (526
                )Royalties
                
                
                (34,224
                )
                
                
                (1,652
                )
                
                
                —
                
                
                
                35,876
                
                
                
                —Corporate
      allocations
                
                
                1,006
                
                
                
                (926
                )
                
                
                (80
                )
                
                
                —
                
                
                
                —Total
      other income (expense)
                
                
                (46,798
                )
                
                
                (1,293
                )
                
                
                75
                
                
                
                34,626
                
                
                
                (13,390
                )INCOME
      BEFORE INCOME TAXES
                
                
                40,827
                
                
                
                38,693
                
                
                
                1,924
                
                
                
                (26,157
                )
                
                
                55,287PROVISION
      FOR INCOME TAXES
                
                
                5,222
                
                
                
                13,775
                
                
                
                685
                
                
                
                —
                
                
                
                19,682NET
      INCOME (LOSS)
                
                $
                35,605
                
                
                $
                24,918
                
                
                $
                1,239
                
                
                $
                (26,157
                )
                
                $
                35,605








24


Note
19





CHATTEM,
INC. AND SUBSIDIARIES


CONSOLIDATING
STATEMENTS OF CASH FLOWS





FOR THE
SIX MONTHS ENDED MAY 31, 2009


(Unaudited
and in thousands)




CHATTEM
                
                
                GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                NON-GUARANTOR
      SUBSIDIARY
                  COMPANIES
                
                
                ELIMINATIONS
                
                
                CONSOLIDATEDOPERATING
      ACTIVITIES:Net
      income (loss)
                
                $
                43,796
                
                
                $
                26,680
                
                
                $
                911
                
                
                $
                (27,591
                )
                
                $
                43,796Adjustments
      to reconcile net income (loss) to net cashprovided
      by (used in) operating activities:Depreciation
      and amortization
                
                
                3,710
                
                
                
                —
                
                
                
                75
                
                
                
                —
                
                
                
                3,785Deferred
      income taxes
                
                
                623
                
                
                
                7,867
                
                
                
                (3
                )
                
                
                —
                
                
                
                8,487Tax
      benefit realized from stock options exercised
                
                
                (147
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (147
                )Stock-based
      compensation expense
                
                
                3,543
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                3,543Loss
      on early extinguishment of debt
                
                
                696
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                696Other,
      net
                
                
                110
                
                
                
                —
                
                
                
                (131
                )
                
                
                —
                
                
                
                (21
                )Equity
      in subsidiary income
                
                
                (27,591
                )
                
                
                —
                
                
                
                —
                
                
                
                27,591
                
                
                
                —Changes
      in operating assets and liabilities:Accounts
      receivable
                
                
                (10,502
                )
                
                
                (2,917
                )
                
                
                (290
                )
                
                
                3,250
                
                
                
                (10,459
                )Interest
      Receivable
                
                
                7
                
                
                
                (13
                )
                
                
                (7
                )
                
                
                13
                
                
                
                —Inventories
                
                
                (3,781
                )
                
                
                177
                
                
                
                (825
                )
                
                
                —
                
                
                
                (4,429
                )Prepaid
      expenses and other current assets
                
                
                993
                
                
                
                —
                
                
                
                140
                
                
                
                (1,270
                )
                
                
                (137
                )Accounts
      payable and accrued liabilities
                
                
                166
                
                
                
                828
                
                
                
                (626
                )
                
                
                (1,993
                )
                
                
                (1,625
                )Net
      cash provided by (used in) operating activities
                
                
                11,623
                
                
                
                32,622
                
                
                
                (756
                )
                
                
                —
                
                
                
                43,489INVESTING
      ACTIVITIES:Purchases
      of property, plant and equipment
                
                
                (2,257
                )
                
                
                —
                
                
                
                23
                
                
                
                —
                
                
                
                (2,234
                )Change
      in other assets, net
                
                
                272
                
                
                
                —
                
                
                
                1,077
                
                
                
                —
                
                
                
                1,349Net cash (used in)
      provided by investing activities
                
                
                (1,985
                )
                
                
                —
                
                
                
                1,100
                
                
                
                —
                
                
                
                (885
                )FINANCING
      ACTIVITIES:Repayment
      of long-term debt
                
                
                (1,500
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (1,500
                )Proceeds
      from borrowings under revolving credit facility
                
                
                1,000
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                1,000Repayments
      of revolving credit facility
                
                
                (20,500
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (20,500
                )Change
      in bank overdraft
                
                
                (346
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (346
                )Repurchase
      of common shares
                
                
                (26,107
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (26,107
                )Proceeds
      from exercise of stock options
                
                
                995
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                995Tax
      benefit realized from stock options exercised
                
                
                147
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                147Intercompany
      debt proceeds (payments)
                
                
                6,355
                
                
                
                (6,355
                )
                
                
                —
                
                
                
                —
                
                
                
                —Changes
      in intercompany accounts
                
                
                3,010
                
                
                
                (2,646
                )
                
                
                (364
                )
                
                
                —
                
                
                
                —Dividends
      paid
                
                
                23,614
                
                
                
                (24,876
                )
                
                
                1,262
                
                
                
                —
                
                
                
                —Net cash (used in) provided by financing
      activities
                
                
                (13,332
                )
                
                
                (33,877
                )
                
                
                898
                
                
                
                —
                
                
                
                (46,311
                )EFFECT
      OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS
                
                
                —
                
                
                
                —
                
                
                
                131
                
                
                
                —
                
                
                
                131CASH
      AND CASH EQUIVALENTS:(Decrease)
      increase for the period
                
                
                (3,694
                )
                
                
                (1,255
                )
                
                
                1,373
                
                
                
                —
                
                
                
                (3,576
                )At
      beginning of period
                
                
                22,055
                
                
                
                1,570
                
                
                
                8,685
                
                
                
                —
                
                
                
                32,310At
      end of period
                
                $
                18,361
                
                
                $
                315
                
                
                $
                10,058
                
                
                $
                —
                
                
                $
                28,734






25


Note
19





CHATTEM,
INC. AND SUBSIDIARIES


CONSOLIDATING
STATEMENTS OF CASH FLOWS





FOR THE
SIX MONTHS ENDED MAY 31, 2008


(Unaudited
and in thousands)




CHATTEM
                
                
                GUARANTOR
                  SUBSIDIARY
                  COMPANIES
                
                
                NON-GUARANTOR
      SUBSIDIARY
                  COMPANIES
                
                
                ELIMINATIONS
                
                
                CONSOLIDATEDOPERATING
      ACTIVITIES:Net
      income (loss)
                
                $
                35,605
                
                
                $
                24,918
                
                
                $
                1,239
                
                
                $
                (26,157
                )
                
                $
                35,605Adjustments
      to reconcile net income (loss) to net cashprovided
      by (used in) operating activities:Depreciation
      and amortization
                
                
                4,152
                
                
                
                —
                
                
                
                64
                
                
                
                —
                
                
                
                4,216Deferred
      income taxes
                
                
                1,033
                
                
                
                7,867
                
                
                
                (2
                )
                
                
                —
                
                
                
                8,898Tax
      benefit realized from stock options exercised
                
                
                (1,855
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (1,855
                )Stock-based
      compensation expense
                
                
                2,580
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                2,580Loss
      on early extinguishment of debt
                
                
                526
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                526Other,
      net
                
                
                112
                
                
                
                —
                
                
                
                23
                
                
                
                —
                
                
                
                135Equity
      in subsidiary income
                
                
                (26,157
                )
                
                
                —
                
                
                
                —
                
                
                
                26,157
                
                
                
                —Changes
      in operating assets and liabilities:Accounts
    receivable
                
                
                (11,393
                )
                
                
                (911
                )
                
                
                (299
                )
                
                
                911
                
                
                
                (11,692
                )Interest
      Receivable
                
                
                16
                
                
                
                (16
                )
                
                
                (16
                )
                
                
                16
                
                
                
                —Inventories
                
                
                (412
                )
                
                
                1,389
                
                
                
                (71
                )
                
                
                —
                
                
                
                906Prepaid expenses and other current
      assets
                
                
                (125
                )
                
                
                —
                
                
                
                95
                
                
                
                (150
                )
                
                
                (180
                )Accounts payable and accrued liabilities
                
                
                (5,701
                )
                
                
                103
                
                
                
                (1,475
                )
                
                
                (777
                )
                
                
                (7,850
                )Net cash (used in) provided by operating activities
                
                
                (1,619
                )
                
                
                33,350
                
                
                
                (442
                )
                
                
                —
                
                
                
                31,289INVESTING
      ACTIVITIES:Purchases
      of property, plant and equipment
                
                
                (2,388
                )
                
                
                —
                
                
                
                (78
                )
                
                
                —
                
                
                
                (2,466
                )(Increase)
      decrease in other assets, net
                
                
                (1,271
                )
                
                
                —
                
                
                
                131
                
                
                
                —
                
                
                
                (1,140
                )Net cash (used in) provided by
    investing activities
                
                
                (3,659
                )
                
                
                —
                
                
                
                53
                
                
                
                —
                
                
                
                (3,606
                )FINANCING
      ACTIVITIES:Repayment
      of long-term debt
                
                
                (36,500
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (36,500
                )Proceeds
      from borrowings under revolving credit facility
                
                
                109,500
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                109,500Repayments
      of revolving credit facility
                
                
                (94,312
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (94,312
                )Change
      in bank overdraft
                
                
                (1,246
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (1,246
                )Repurchase
      of common shares
                
                
                (12,554
                )
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                (12,554
                )Proceeds
      from exercise of stock options
                
                
                2,165
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                2,165Tax
      benefit realized from stock options exercised
                
                
                1,855
                
                
                
                —
                
                
                
                —
                
                
                
                —
                
                
                
                1,855Changes
      in intercompany accounts
                
                
                (1,071
                )
                
                
                1,463
                
                
                
                (392
                )
                
                
                —
                
                
                
                —Dividends
      paid
                
                
                33,649
                
                
                
                (34,899
                )
                
                
                1,250
                
                
                
                —
                
                
                
                —Net
      cash (used in) provided by financing activities
                
                
                1,486
                
                
                
                (33,436
                )
                
                
                858
                
                
                
                —
                
                
                
                (31,092
                )EFFECT
      OF EXCHANGE RATE CHANGES ON CASH AND   CASH
      EQUIVALENTS
                
                
                —
                
                
                
                —
                
                
                
                (23
                )
                
                
                —
                
                
                
                (23
                )CASH
      AND CASH EQUIVALENTS:(Decrease)
      increase for the period
                
                
                (3,792
                )
                
                
                (86
                )
                
                
                446
                
                
                
                —
                
                
                
                (3,432
                )At
      beginning of period
                
                
                4,685
                
                
                
                590
                
                
                
                10,132
                
                
                
                —
                
                
                
                15,407At
      end of period
                
                $
                893
                
                
                $
                504
                
                
                $
                10,578
                
                
                $
                —
                
                
                $
                11,975

















26


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





The
following discussion and analysis of our financial condition and results of
operations should be read in conjunction with the audited consolidated financial
statements and related notes thereto included in our 2008 Annual Report on Form
10-K filed with the Securities and Exchange Commission (“SEC”).  This
discussion and analysis contains forward-looking statements that involve risks,
uncertainties and assumptions.  The actual results may differ
materially from those anticipated in these forward-looking statements as a
result of a number of factors, including, but not limited to, those described in
our filings with the SEC.





Overview





Founded
in 1879, we are a leading marketer and manufacturer of a broad portfolio of
branded over-the-counter (“OTC”) healthcare products, toiletries and dietary
supplements including such categories as medicated skin care, topical pain care,
oral care, internal OTC, medicated dandruff shampoos, dietary supplements, and
other OTC and toiletry products. Our portfolio of products includes
well-recognized brands such as:




•
            Gold Bond, Cortizone-10and Balmex
      – medicated skin care;





•
            Icy Hot, AspercremeandCapzasin – topical pain
care;





•
            ACT and Herpecin-L– oral
      care;





•
            Unisom, Pamprin and Kaopectate– internal
      OTC;





•
            Selsun Blue– medicated
      dandruff shampoos;





•
            Dexatrim, Garlique and New Phase– dietary
      supplements; and





•
            Bullfrog, Ultraswim and Sun-In – other OTC and
      toiletry products.





Our
products target niche markets that are often outside the focus of larger
companies where we believe we can achieve and sustain significant market share
through product innovation and strong advertising and promotion support. Many of
our products are among the U.S. market leaders in their respective categories.
For example, our portfolio of topical pain care brands, our Cortizone-10 anti-itch
ointment and our Gold
Bond medicated body powders have the leading U.S. market share in these
categories. We support our brands through extensive and cost-effective
advertising and promotion, the expenditures for which represented approximately
23% of our total revenues in the first half of fiscal 2009. We sell our products
nationally through mass merchandiser, drug and food channels, principally
utilizing our own sales force.





Our
experienced management team has grown our business by acquiring brands,
developing product line extensions and increasing market penetration of our
existing products.





Developments
During Fiscal 2009





Products





In the
first half of fiscal 2009, we introduced the following product line extensions:
ACT Total Care, Gold Bond Ultimate Protecting
Lotion, Gold Bond
Anti-Itch Lotion, Gold
Bond Foot Pain Cream, Cortizone-10 Cooling Gel,
Cortizone-10 Easy
Relief Applicator, Icy
Hot No-Mess Applicator, Icy Hot Medicated Roll, Capzasin Quick Relief and
Selsun Blue Itchy Dry
Scalp.





2.0%
Convertible Notes





On
December 4, 2008 we issued an aggregate of 487,123 shares of our common stock in
exchange for $28.7 million in aggregate principal amount of our outstanding 2.0%
Convertible Senior Notes due 2013 (“2.0% Convertible Notes”).  Upon
completion of the transaction, the balance of the remaining 2.0% Convertible
Notes was reduced to $96.3 million outstanding.  In connection with
this transaction, we retired a proportional share of the 2.0% Convertible Notes
debt issuance costs and recorded the resulting loss on early extinguishment of
debt of $0.7 million in the first quarter of fiscal 2009.





27


Stock
Repurchase





During
the first six months of fiscal 2009, we repurchased 491,392 shares of our common
stock under our stock repurchase program for $26.1 million at an average price
per share of $53.13.





Results
of Operations





The following table sets forth, for the
periods indicated, certain items from our unaudited consolidated statements of
income expressed as a percentage of total revenues:




For
      the Three Months
                                  Ended May 31,
                                
                                
                                For the Six  Months
                                  Ended May
      31,2009
                                
                                
                                2008
                                
                                
                                2009
                                
                                
                                2008TOTAL
      REVENUES
                                
                                
                                100.0
                                %
                                
                                
                                100.0
                                %
                                
                                
                                100.0
                                %
                                
                                
                                100.0
                                %COSTS
      AND EXPENSES:Cost
      of sales
                                
                                
                                30.5
                                
                                
                                
                                28.0
                                
                                
                                
                                30.4
                                
                                
                                
                                28.4Advertising
      and promotion
                                
                                
                                22.1
                                
                                
                                
                                25.9
                                
                                
                                
                                23.4
                                
                                
                                
                                27.3Selling,
      general and administrative
                                
                                
                                11.8
                                
                                
                                
                                13.0
                                
                                
                                
                                12.5
                                
                                
                                
                                12.9Product
      recall expenses
                                
                                
                                —
                                
                                
                                
                                —
                                
                                
                                
                                —
                                
                                
                                
                                2.5Total
      costs and expenses
                                
                                
                                64.4
                                
                                
                                
                                66.9
                                
                                
                                
                                66.3
                                
                                
                                
                                71.1INCOME
      FROM OPERATIONS
                                
                                
                                35.6
                                
                                
                                
                                33.1
                                
                                
                                
                                33.7
                                
                                
                                
                                28.9OTHER
      INCOME (EXPENSE):Interest
      expense
                                
                                
                                (4.3
                                )
                                
                                
                                (5.6
                                )
                                
                                
                                (4.6
                                )
                                
                                
                                (5.5
                                )Investment
      and other income, net
                                
                                
                                0.1
                                
                                
                                
                                0.1
                                
                                
                                
                                0.1
                                
                                
                                
                                0.1Loss
      on early extinguishment of debt
                                
                                
                                —
                                
                                
                                
                                —
                                
                                
                                
                                (0.3
                                )
                                
                                
                                (0.2
                                )Total
      other income (expense)
                                
                                
                                (4.2
                                )
                                
                                
                                (5.5
                                )
                                
                                
                                (4.8
                                )
                                
                                
                                (5.6
                                )INCOME
      BEFORE INCOME TAXES
                                
                                
                                31.4
                                
                                
                                
                                27.6
                                
                                
                                
                                28.9
                                
                                
                                
                                23.3PROVISION
      FOR INCOME TAXES
                                
                                
                                11.5
                                
                                
                                
                                9.8
                                
                                
                                
                                10.5
                                
                                
                                
                                8.3NET
      INCOME
                                
                                
                                19.9
                                %
                                
                                
                                17.8
                                %
                                
                                
                                18.4
                                %
                                
                                
                                15.0
                                %







Critical
Accounting Policies





The
preparation of financial statements in accordance with U.S. generally accepted
accounting principles requires management to use estimates.  Several
different estimates or methods can be used by management that might yield
different results.  The following are the significant estimates used
by management in the preparation of the unaudited consolidated financial
statements for the three and six months ended May 31, 2009.





Allowance
for Doubtful Accounts





As of May
31, 2009, an estimate was made of the collectibility of the outstanding accounts
receivable balances.   This estimate requires the utilization of
outside credit services, knowledge about the customer and the customer’s
industry, new developments in the customer’s industry and operating results of
the customer as well as general economic conditions and historical
trends.  When all these facts are compiled, a judgment as to the
collectibility of the individual account is made.   Many factors
can impact this estimate, including those noted in this
paragraph.  The adequacy of the estimated allowance may be impacted by
the deterioration in the financial condition of a large customer, weakness in
the economic environment resulting in a higher level of customer bankruptcy
filings or delinquencies and the competitive environment in which the customer
operates.  During the second quarter of fiscal 2009, we performed a
detailed assessment of the collectibility of trade accounts receivable and did
not make any significant adjustments to our estimate of allowance for doubtful
accounts.  The balance of allowance for doubtful accounts was $0.5 and
$0.4 million at May 31, 2009 and November 30, 2008, respectively.





28


Revenue
Recognition





Revenue
is recognized when our products are shipped to our customers.  It is
generally our policy across all classes of customers that all sales are
final.   As is common in the consumer products industry,
customers return products for a variety of reasons including products damaged in
transit, discontinuance of a particular size or form of product and shipping
errors.  As sales are recorded, we accrue an estimated amount for
product returns, as a reduction of these sales, based upon our historical
experience and consideration of discontinued products, product divestitures,
estimated inventory levels held by our customers and retail point of sale data
on existing and newly introduced products.  The level of returns may
fluctuate from our estimates due to several factors including weather
conditions, customer inventory levels and competitive conditions.  We
charge the allowance account resulting from this accrual with any authorized
deduction from remittance by the customer or product returns upon receipt of the
product.





We
separate returns into the two categories of seasonal and non-seasonal
products.  We use the historical return detail of seasonal and
non-seasonal products for at least the most recent three fiscal years on
generally all products, which is normalized for any specific occurrence that is
not reasonably likely to recur, to determine the amount of product return as a
percentage of sales, and estimate an allowance for potential returns based on
product sold in the current period.  To consider product sold in
current and prior periods, an estimate of inventory held by our retail customers
is calculated based on customer inventory detail.  This estimate of
inventory held by our customers, along with historical returns as a percentage
of sales, is used to determine an estimate of potential product
returns.  This estimate of the allowance for seasonal and non-seasonal
returns is further analyzed by considering retail customer point of sale
data.  We also consider specific events, such as discontinued product
or product divestitures, when determining the adequacy of the
allowance.  Based on consideration of the sales of Icy Hot Pro Therapy
performing below expectations, review of retail point of sales data and an
estimate of inventory on hand at customers, an allowance of product returns of
Icy Hot Pro Therapy was $0.7 million
as of November 30, 2008.  As of May 31, 2009, the allowance remaining
for Icy Hot Pro Therapyreturns is $0.4 million.





Our
estimate of product returns for seasonal and non-seasonal products as of May 31,
2009 was $2.4 million and $1.1 million, respectively, and $1.4 million and $1.3
million, respectively, as of November 30, 2008.  For the six months
ended May 31, 2009, we increased our estimate of returns for seasonal products
by approximately $1.0 million, which resulted in a decrease to net sales in our
consolidated financial statements, and decreased our estimate for non-seasonal
returns by approximately $0.2 million, which resulted in an increase to net
sales in our consolidated financial statements.  During the six months
ended May 31, 2008, we increased our estimate of returns for seasonal products
by approximately $1.3 million, which resulted in a decrease to net sales in our
consolidated financial statements, and decreased our estimate for non-seasonal
returns by approximately $0.2 million, which resulted in an increase to net
sales in our consolidated financial statements.  Each percentage point
change in the seasonal return rate would impact net sales by approximately $0.2
million.  Each percentage point change in the non-seasonal return rate
would impact net sales by approximately $0.6 million.





We
routinely enter into agreements with customers to participate in promotional
programs.  The cost of these programs is recorded as either
advertising and promotion expense or as a reduction of sales as prescribed by
Emerging Issues Task Force 01-9, “Accounting for Consideration Given by a Vendor
to a Customer (Including a Reseller of the Vendor’s Products)” (“EITF
01-9”).  A significant portion of the programs are recorded as a
reduction of sales and generally take the form of coupons and vendor allowances,
which are normally taken via temporary price reductions, scan downs, display
activity and participations in in-store programs provided uniquely by the
customer.  We also enter into cooperative advertising programs with
certain customers, the cost of which is recorded as advertising and promotion
expense.  In order for retailers to receive reimbursement under such
programs, the retailer must meet specified advertising guidelines and provide
appropriate documentation of the advertisement being run.





We
analyze promotional programs in two primary categories -- coupons and vendor
allowances.  Customers normally utilize vendor allowances in the form
of temporary price reductions, scan downs, display activity and participations
in in-store programs provided uniquely by the customer.  We estimate
the liability for outstanding coupons by utilizing a third-party clearinghouse
to track coupons issued, coupon value, distribution and expiration dates,
quantity distributed and estimated redemption rates that are provided by
us.  We estimate the redemption rates of issued coupons based on an
internal analysis of historical coupon redemption rates and expected future
retail sales by considering recent point of sale data.  The estimate
for vendor allowances is based on estimated unit sales of a product under a
program and amounts committed for such programs in each fiscal
year.  Estimated unit sales are determined by considering customer
forecasted sales, point of sale data and the nature of the program being
offered.  The three most recent years of expected program payments
versus actual payments made and current year retail point of sale trends are
analyzed to determine future expected payments.  Customer delays in
requesting promotional program payments due to their audit of program
participation and resulting request for reimbursement is also considered to
evaluate the accrual for vendor allowances.  The costs of these
programs is often variable based on the number of units actually
sold.  As of May 31, 2009, the accrued liability related to coupon
redemption and reserve for vendor allowances was $3.0 million and $5.6 million,
respectively, and $1.9 million and $6.4 million, respectively as of May 31,
2008.  Each percentage point change in promotional program
participation and advertising and promotion expense would impact net sales by
approximately $0.1 million and an insignificant amount,
respectively.





29


Income
Taxes





We
account for income taxes using the asset and liability approach as prescribed by
SFAS 109, FIN 48 and other applicable FSP’s and FASB
Interpretations.  This approach requires recognition of deferred tax
assets and liabilities for the expected future tax consequences of events that
have been included in the consolidated financial statements or tax
returns.  Using the enacted tax rates in effect for the year in which
the differences are expected to reverse, deferred tax assets and liabilities are
determined based on the differences between the financial reporting and the tax
basis of an asset or liability.  We adopted FIN 48, as amended by FSP
FIN 48-1, on December 1, 2007.  FIN 48 clarifies the accounting for
uncertainty in income taxes recognized in the financial statements in accordance
with SFAS 109.  We record income tax expense in our consolidated
financial statements based on an estimated annual effective income tax
rate.  Our tax rate for the six months ended May 31, 2009 was 36.3%,
as compared to 35.6% for the six months ended May 31, 2008.





Accounting
for Acquisitions and Intangible Assets





We
account for our acquisitions under the purchase method of accounting for
business combinations as prescribed by SFAS No. 141, “Business Combinations”
(“SFAS 141”).  Under SFAS 141, the cost, including transaction costs,
are allocated to the underlying net assets, based on their respective estimated
fair values.  Business combinations consummated beginning in the first
quarter of fiscal 2010 will be accounted for under SFAS 141R.





We
account for our Intangible Assets in accordance with SFAS 142.  Under
SFAS 142, intangible assets with indefinite useful lives are not amortized but
are reviewed for impairment at least annually. Intangible assets with finite
lives are amortized over their estimated useful lives using the straight-line
method.





The
judgments made in determining the estimated fair value and expected useful lives
assigned to each class of assets and liabilities acquired can significantly
affect net income.  For example, the useful life of property, plant,
and equipment acquired will differ substantially from the useful life of brand
licenses and trademarks.  Consequently, to the extent a longer-lived
asset is ascribed greater value under the purchase method than a shorter-lived
asset or a value is assigned to an indefinite-lived asset, net income in a given
period may be higher.





Determining
the fair value of certain assets and liabilities acquired is judgmental in
nature and often involves the use of significant estimates and
assumptions.  An area that requires significant judgment is the fair
value and useful lives of intangible assets.  In this process, we
often obtain the assistance of a third party valuation firm for certain
intangible assets.





Our
intangible assets consist of exclusive brand licenses, trademarks and other
intellectual property, customer relationships and non-compete
agreements.  We have determined that our trademarks have indefinite
useful lives, as cash flows from the use of the trademarks are expected to be
generated indefinitely. The useful lives of our intangible assets are reviewed
as circumstances dictate using the guidance of applicable accounting
literature.





The value
of our intangible assets is exposed to future adverse changes if we experience
declines in operating results or experience significant negative industry or
economic trends.  We review our indefinite-lived intangible assets for
impairment at least annually by comparing the carrying value of the intangible
assets to its estimated fair value.  The estimate of fair value is
determined by discounting the estimate of future cash flows of the intangible
assets.  Consistent with our policy, we perform the annual impairment
testing of our indefinite-lived intangible assets during our fourth quarter
ending November 30, with the most recent test performed during the quarter ended
November 30, 2008.  No impairment or adjustment to the carrying value
of our indefinite-lived intangible assets was required as a result of this
testing.





Fair
Value Measurements




On
December 1, 2007, we adopted SFAS 157, which provides guidance for using fair
value to measure assets and liabilities.  SFAS 157 applies both to
items recognized and reported at fair value in the financial statements and to
items disclosed at fair value in the notes to the financial
statements.  SFAS 157 does not change existing accounting rules
governing what can or must be recognized and reported at fair value and
clarifies that fair value is defined as the price received to sell an asset, or
paid to transfer a liability, in an orderly transaction between market
participants at the measurement date.  Additionally, SFAS 157 does not
eliminate practicability exceptions that exist in accounting pronouncements
amended by SFAS 157 when measuring fair value.  As a result, we are
not required to recognize any new assets or liabilities at fair
value.




SFAS 157
also establishes a framework for measuring fair value.  Fair value is
generally determined based on quoted market prices in active markets for
identical assets or liabilities.  If quoted market prices are not
available, SFAS 157 provides guidance on alternative valuation techniques that
place greater reliance on observable inputs and less reliance on unobservable
inputs.




30


Stock-Based
Compensation





We
account for stock-based compensation under the provisions of SFAS 123R, which
requires the recognition of the cost of employee services received in exchange
for an award of equity instruments in the financial statements and is measured
based on the grant date fair value of the award.  The fair value of
each stock option grant is estimated using a Flex Lattice Model.  The
input assumptions used in determining fair value are the expected life of the
stock options, the expected volatility of our common stock, the risk-free
interest rate over the expected life of the option and the expected forfeiture
rate of the options granted.  We recognize stock option compensation
expense over the period during which an employee provides service in exchange
for the award (the vesting period).




Comparison
of Three Months Ended May 31, 2009 and 2008





To
facilitate discussion of our operating results for the three months ended May
31, 2009 and 2008, we have included the following selected data from our
unaudited consolidated statements of income:





Increase (Decrease)2009
                
                
                2008
                
                
                Amount
                
                
                Percentage(dollars
      in thousands)Domestic
      net sales
                
                $
                116,098
                
                
                $
                108,691
                
                
                $
                7,407
                
                
                
                6.8
                %International
      revenues (including royalties)
                
                
                5,732
                
                
                
                8,025
                
                
                
                (2,293
                )
                
                
                (28.6
                )Total
      revenues
                
                
                121,830
                
                
                
                116,716
                
                
                
                5,114
                
                
                
                4.4Cost
      of sales
                
                
                37,131
                
                
                
                32,641
                
                
                
                4,490
                
                
                
                13.8Advertising
      and promotion expense
                
                
                26,969
                
                
                
                30,247
                
                
                
                (3,278
                )
                
                
                (10.8
                )Selling,
      general and administrative expense
                
                
                14,330
                
                
                
                15,186
                
                
                
                (856
                )
                
                
                (5.6
                )Interest
      expense
                
                
                5,285
                
                
                
                6,565
                
                
                
                (1,280
                )
                
                
                (19.5
                )Net  income
                
                
                24,230
                
                
                
                20,732
                
                
                
                3,498
                
                
                
                16.9





Domestic
Net Sales





Domestic
net sales for the three months ended May 31, 2009 increased $7.4 million, or
6.8%, to $116.1 million from $108.7 million in the prior year
quarter.   A comparison of domestic net sales for the categories
of products included in our portfolio of OTC healthcare products is as
follows:




Increase (Decrease)2009
                  
                  
                  2008
                  
                  
                  Amount
                  
                  
                  Percentage(dollars
      in thousands)Medicated
      skin care
                  
                  $
                  37,970
                  
                  
                  $
                  34,471
                  
                  
                  $
                  3,499
                  
                  
                  
                  10.2
                  %Topical
      pain care
                  
                  
                  24,314
                  
                  
                  
                  24,772
                  
                  
                  
                  (458
                  )
                  
                  
                  (1.8
                  )Oral
      care
                  
                  
                  18,466
                  
                  
                  
                  15,415
                  
                  
                  
                  3,051
                  
                  
                  
                  19.8Internal
      OTC
                  
                  
                  11,686
                  
                  
                  
                  13,274
                  
                  
                  
                  (1,588
                  )
                  
                  
                  (12.0
                  )Medicated
      dandruff shampoos
                  
                  
                  9,724
                  
                  
                  
                  8,707
                  
                  
                  
                  1,017
                  
                  
                  
                  11.7Dietary
      supplements
                  
                  
                  5,569
                  
                  
                  
                  5,133
                  
                  
                  
                  436
                  
                  
                  
                  8.5Other
      OTC and toiletry products
                  
                  
                  8,369
                  
                  
                  
                  6,919
                  
                  
                  
                  1,450
                  
                  
                  
                  21.0Total
                  
                  $
                  116,098
                  
                  
                  $
                  108,691
                  
                  
                  $
                  7,407
                  
                  
                  
                  6.8





Net sales
in the medicated skin care category increased $3.5 million, or 10.2%, in the
second quarter of fiscal 2009 compared to the prior year quarter primarily due
to the launch of Gold
Bond Anti-Itch Lotion, Gold Bond Foot Pain Cream,
Gold Bond Ultimate
Protecting Lotion, Cortizone-10 Cooling Gel and
Cortizone-10 Easy
Relief during the first quarter of fiscal 2009 and the continued growth of our
existing Gold Bond
lotion business.





Net sales
in the topical pain care category decreased $0.5 million, or 1.8%, for the
second quarter of fiscal 2009 compared to the prior year quarter, due primarily
to lower sales of Aspercreme and certain other
smaller brands in the category and reduced SKU count at certain retail
customers, partially offset by the second quarter launch of Icy Hot Medicated Roll and
first quarter launch of Icy
Hot No-Mess Applicator in fiscal 2009.





31


Net sales
in the oral care category increased $3.1 million, or 19.8%, in the second
quarter of fiscal 2009 compared to the prior year quarter due in part to the
launch of ACT Total
Care in the first quarter of fiscal 2009 and the continued performance of ACT Restoring and ACT Rinse.





Net sales
in the internal OTC category decreased $1.6 million, or 12.0%, in the second
quarter of fiscal 2009 compared to the prior year quarter due to increased
competitive pressure from the private label sector within the category, the lack
of a launch of any new products in fiscal 2009 similar to the first quarter of
fiscal 2008 launch of Unisom Sleepmelts and
decreased distribution at certain retail customers of certain products within
this category.





Net sales
in the medicated dandruff shampoos category increased $1.0 million, or 11.7%, in
the second quarter of fiscal 2009 compared to the prior year quarter primarily
resulting from the launch of Selsun Blue Itchy Dry Scalp
in the first quarter of fiscal 2009, partially offset by a decline in sales of
Selsun Salon products
due to distribution changes as a result of the launch of Selsun Blue Itchy Dry
Scalp.





Net sales
in the dietary supplements category increased $0.4 million, or 8.5%, for the
second quarter of fiscal 2009 compared to the prior year quarter, due mainly to
sales of Dexatrim Max
Complex 7, which was initially launched in the third quarter of fiscal
2008.





Net sales
in the other OTC and toiletry products category increased $1.5 million, or
21.0%, in the second quarter of fiscal 2009 compared to the prior year quarter
primarily due to the timing of shipments of Bullfrog.





Domestic
sales variances were principally the result of changes in unit sales volume with
the exception of certain selected products for which we implemented a unit sales
price increase effective April 2008 and December 2008 and the increased
utilization of promotion programs considered a vendor allowance per the
provisions of EITF 01-9, which are accounted for as a reduction of total
revenues and not as a component of advertising and promotion expense in the
three month period ended May 31, 2009 as compared to the same year ago
period.





International
Revenues





For the
second quarter of fiscal 2009, international revenues decreased $2.3 million, or
28.6%, compared to the prior year quarter, primarily as a result of terminating
shipments to certain distributors serving Latin American markets to reduce the
potential for diversion of English language packaging back to the United States
market, unfavorable exchange rates that decreased revenues by approximately $1.0
million and the unfavorable macro-economic conditions in the markets where our
products are sold.  We are seeking new Latin American distributors for
the affected markets and are converting the packaging for the major products
sold in these markets to local Spanish language.





Cost
of Sales





Cost of
sales in the second quarter of fiscal 2009 was 30.5% as a percentage of total
revenues compared to 28.0% in the prior year quarter and gross margin for the
same period of fiscal 2009 was 69.5% compared to 72.0% in the prior year
quarter.  The decrease in gross margin was primarily attributable to
the increased cost of certain raw material input components and an increased
utilization by retailers of programs to reduce product prices to consumers, the
costs of which are recorded as a reduction of total revenues rather than
advertising and promotion expense.





Advertising
and Promotion Expense





Advertising
and promotion expenses in the second quarter of fiscal 2009 decreased $3.3
million, or 10.8%, compared to the prior year quarter and were 22.1% of
total revenues in the second quarter of fiscal 2009 compared to 25.9% for the
prior year quarter.  The decrease in advertising and promotion expense
was a result of greater utilization by retailers of programs to reduce product
prices to consumers, the costs of which are recorded as a reduction of total
revenues rather than advertising and promotion expense, and reduced sampling
programs, partially offset by an increase in marketing research
expenses.





Selling,
General and Administrative Expense





Selling,
general and administrative expenses in the second quarter of fiscal 2009
decreased $0.9 million, or 5.6%, compared to the prior year
quarter.  Selling, general and administrative expenses were 11.8% and
13.0% of total revenues for the second quarter of fiscal 2009 and 2008,
respectively.  The decrease in selling, general and administrative
expenses as a percentage of total revenues was attributable to foreign currency
exchange gains resulting from intercompany transactions and reduced
transportation costs related to outbound product shipments.





32


Interest
Expense





Interest
expense decreased $1.3 million, or 19.5%, in the second quarter of fiscal 2009
compared to the prior year quarter reflecting the repayment of $48.2 million in
principal of our Credit Facility since May 31, 2008 and the exchange of 487,123
shares of common stock for $28.7 million of the 2.0% Convertible Notes in
December 2008.  Until our indebtedness is reduced substantially,
interest expense will continue to represent a significant percentage of our
total revenues.





Comparison
of Six Months Ended May 31, 2009 and 2008





To
facilitate discussion of our operating results for the six months ended May 31,
2009 and 2008, we have included the following selected data from our unaudited
consolidated statements of income:





Increase (Decrease)2009
                
                
                2008
                
                
                Amount
                
                
                Percentage(dollars
      in thousands)Domestic
      net sales
                
                $
                227,006
                
                
                $
                220,006
                
                
                $
                7,000
                
                
                
                3.2
                %International
      revenues (including royalties)
                
                
                10,916
                
                
                
                17,483
                
                
                
                (6,567
                )
                
                
                (37.6
                )Total
      revenues
                
                
                237,922
                
                
                
                237,489
                
                
                
                433
                
                
                
                0.2Cost
      of sales
                
                
                72,388
                
                
                
                67,374
                
                
                
                5,014
                
                
                
                7.4Advertising
      and promotion expense
                
                
                55,558
                
                
                
                64,743
                
                
                
                (9,185
                )
                
                
                (14.2
                )Selling,
      general and administrative expense
                
                
                29,756
                
                
                
                30,652
                
                
                
                (896
                )
                
                
                (2.9
                )Product
      recall expenses
                
                
                —
                
                
                
                6,043
                
                
                
                (6,043
                )
                
                
                (100.0
                )Interest
      expense
                
                
                10,949
                
                
                
                13,117
                
                
                
                (2,168
                )
                
                
                (16.5
                )Loss
      on early extinguishment of debt
                
                
                696
                
                
                
                526
                
                
                
                170
                
                
                
                32.3Net
      income
                
                
                43,796
                
                
                
                35,605
                
                
                
                8,191
                
                
                
                23.0





Domestic
Net Sales





Domestic
net sales for the six months ended May 31, 2009 increased $7.0 million,
or 3.2%, compared to the same period in fiscal 2008.  A
comparison of domestic net sales for the categories of products included in our
portfolio of OTC healthcare products is as follows:


Increase (Decrease)2009
                
                
                2008
                
                
                Amount
                
                
                Percentage(dollars
      in thousands)Medicated
      skin care
                
                $
                79,427
                
                
                $
                72,124
                
                
                $
                7,303
                
                
                
                10.1
                %Topical
      pain care
                
                
                46,357
                
                
                
                50,087
                
                
                
                (3,730
                )
                
                
                (7.4
                )Oral
      Care
                
                
                36,751
                
                
                
                31,187
                
                
                
                5,564
                
                
                
                17.8Internal
      OTC
                
                
                23,050
                
                
                
                24,484
                
                
                
                (1,434
                )
                
                
                (5.9
                )Medicated
      dandruff shampoos
                
                
                19,087
                
                
                
                19,286
                
                
                
                (199
                )
                
                
                (1.0
                )Dietary
      supplements
                
                
                9,841
                
                
                
                10,507
                
                
                
                (666
                )
                
                
                (6.3
                )Other
      OTC and toiletry products
                
                
                12,493
                
                
                
                12,331
                
                
                
                162
                
                
                
                1.3Total
                
                $
                227,006
                
                
                $
                220,006
                
                
                $
                7,000
                
                
                
                3.2





Net sales
in the medicated skin care category increased $7.3 million, or 10.1%, for the
first six months of fiscal 2009 compared to the same period in fiscal 2008
primarily due to the launch of Gold Bond Anti-Itch Lotion,
Gold Bond Foot Pain
Cream, Gold Bond
Ultimate Protecting Lotion, Cortizone-10 Cooling Gel and
Cortizone-10 Easy
Relief during the first quarter of fiscal 2009 and the continued growth of our
existing Gold Bond
lotion business.





Net sales
in the topical pain care category decreased $3.7 million, or 7.4%, for the first
six months of fiscal 2009 compared to the same period in fiscal 2008, primarily
as a result of the discontinuance of shipments of Icy Hot Heat Therapy
following the voluntary recall of the product announced on February 8, 2008 and
lower sales of Aspercreme and certain other
smaller brands in the category and reduced SKU count at certain retail
customers, partially offset by the first quarter launch of Icy Hot No-Mess Applicator
and the second quarter launch of Icy Hot Medicated Roll in
fiscal 2009.  Excluding sales ofIcy Hot Heat Therapy, sales
in the category decreased 3.8% compared to the prior year period.





Net sales
in the oral care category increased $5.6 million, or 17.8%, for the first six
months of fiscal 2009 compared to the same period in fiscal 2008 due in part to
the launch of ACT Total
Care in the first quarter of fiscal 2009 and the continued performance of ACT Restoring and ACT Rinse.





33


Net sales
in the internal OTC category decreased $1.4 million, or 5.9%, for the first six
months of fiscal 2009 compared to the same period in fiscal 2008 primarily due
to increased competitive pressure from the private label sector within the
category, the lack of a launch of any new products in fiscal 2009 similar to the
first quarter of fiscal 2008 launch of Unisom Sleepmelts and
decreased distribution at certain retail customers of certain products within
this category.





Net sales
in the medicated dandruff shampoos category decreased $0.2 million, or 1.0%, for
the first six months of fiscal 2009 compared to the same period in fiscal 2008
primarily resulting from a decline in sales of Selsun Salon products due to
distribution changes to accommodate the launch of Selsun Blue Itchy Dry Scalp
in the first quarter of fiscal 2009, offset by the initial sell-in of Selsun Blue Itchy Dry
Scalp.





Net sales
in the dietary supplements category decreased $0.7 million, or 6.3%, for the
first six months of fiscal 2009 compared to the same period in fiscal 2008,
primarily resulting from the decline in sales of Dexatrim Max2O, partially offset by sales
of Dexatrim Max Complex
7, which was initially launched in the third quarter of fiscal
2008.





Net sales
in the other OTC and toiletry products category increased $0.2 million, or 1.3%,
for the first six months of fiscal 2009 compared to the same period in fiscal
2008.





Domestic
sales variances were principally the result of changes in unit sales volume with
the exception of certain selected products for which we implemented a unit sales
price increase effective April 2008 and December 2008 and the increased
utilization of promotion programs considered a vendor allowance per the
provisions of EITF 01-9, which are accounted for as a reduction of total
revenues and not as a component of advertising and promotion expense in the six
month period ended May 31, 2009 as compared to the same year ago
period.





International
Revenues





For the
six months ended May 31, 2009, international revenues decreased $6.6 million, or
37.6%, compared to the same period in fiscal 2008, primarily as a result of
terminating shipments to certain distributors serving Latin American markets to
reduce the potential for diversion of English language packaging back to the
United States market and unfavorable exchange rates that decreased revenues by
approximately $1.8 million and the unfavorable macro-economic conditions in the
markets where our products are sold.  We are seeking new Latin
American distributors for the affected markets and are converting the packaging
for the major products sold in these markets to local Spanish
language.





Cost
of Sales





Cost of
sales for the six months ended May 31, 2009 was 30.4% as a percentage of total
revenues compared to 28.4% in the prior year period and gross margin for the
same period of fiscal 2009 was 69.6% compared to 71.6% in the prior year
period. The decrease in gross margin was primarily attributable to the
increased cost of certain raw material input components and an increased
utilization by retailers of programs to reduce product prices to consumers, the
costs of which are recorded as a reduction of total revenues rather than
advertising and promotion expense.





Advertising
and Promotion Expense





Advertising
and promotion expenses for the six months ended May 31, 2009 decreased $9.2
million, or 14.2%, compared to the same period in fiscal 2008 and were 23.4% of
total revenues for the six months ended May 31, 2009 as compared to 27.3% for
the same period in fiscal 2008. The decrease in advertising and promotion
expense was a result of greater utilization by retailers of programs to reduce
product prices to consumers, the costs of which are recorded as a reduction of
total revenues rather than advertising and promotion expense, and reduced
sampling programs, partially offset by an increase in marketing research
expenses.





Selling,
General and Administrative Expense





Selling,
general and administrative expenses for the six months ended May 31, 2009
decreased $0.9 million, or 2.9%, compared to the same period of fiscal 2008
and were 12.5% and 12.9% of total revenues for the six months ended May 31,
2009 and 2008, respectively. The decrease in selling, general and
administrative expenses as a percentage of total revenues was attributable to
foreign currency exchange gains resulting from intercompany transactions and
reduced transportation costs related to outbound product shipments.





Product
Recall Expenses





During
the first half of fiscal 2008, we incurred $6.0 million of product recall
expenses related to the voluntary recall of our Icy Hot Heat Therapy product
that was initiated in February 2008.  Based in part on consideration
of on-hand inventory and retail point of sales data, the $6.0 million of product
recall expenses related to product returns, inventory obsolescence, destruction
costs, consumer refunds, legal fees and other estimated expenses.  As
of May 31, 2009, we do not expect to record additional expenses related to the
recall of Icy Hot Heat
Therapy.





34


Interest
Expense





Interest
expense decreased $2.2 million, or 16.5%, for the six months ended May 31, 2009
compared to the same period in fiscal 2008 reflecting the repayment of $48.2
million in principal of our Credit Facility since May 31, 2008 and the exchange
of 487,123 shares of our common stock for $28.7 million of the 2.0% Convertible
Notes in December 2008.  Until our indebtedness is reduced
substantially, interest expense will continue to represent a significant
percentage of our total revenues.





Loss
on Early Extinguishment of Debt





On December 4, 2008, we issued an
aggregate of 487,123 shares of our common stock in exchange for $28.7 million in
aggregate principal of our outstanding 2.0% Convertible Notes.  In
connection with this transaction, we retired a proportional share of the 2.0%
Convertible Notes debt issuance costs and recorded the resulting amount as loss
on early extinguishment of debt of $0.7 million in the first quarter of fiscal
2009.





During
the first quarter of fiscal 2008, we utilized borrowings under the revolving
credit facility portion of our Credit Facility to repay $35.0 million of the
term loan under the Credit Facility.  In connection with the term loan
repayment, we retired a proportional share of the term loan debt issuance costs
and recorded the resulting amount as loss on extinguishment of debt of $0.5
million.





Liquidity
and Capital Resources





We have
historically financed our operations with a combination of internally generated
funds and borrowings.  Our principal uses of cash are for operating
expenses, working capital, acquisitions, repurchases of our common stock,
servicing long-term debt, payment of income taxes and capital
expenditures.





Cash of
$43.5 million and $31.3 million was provided by operations for the six
months ended May 31, 2009 and 2008, respectively.  The increase in
cash flows from operations over the prior year period was primarily attributable
to higher net income and an increase in accounts payable and accrued
liabilities, partially offset by an increase in inventory.





Investing activities used cash of $0.9
million and $3.6 million in the six months ended May 31, 2009 and 2008,
respectively.  Cash flow used in investing activities was primarily a
result of purchases of manufacturing equipment.





Financing
activities used cash of $46.3 million and $31.1 million in the six months ended
May 31, 2009 and 2008, respectively.  Cash flow used in financing
activities was a result of the repayment of amounts outstanding under the Credit
Facility and the repurchase of 491,392 shares of our common stock.





As of May
31, 2009, our total debt was $409.8 million, consisting of the 7.0% Subordinated
Notes of $107.5 million, the 2.0% Convertible Notes of $96.3 million, the 1.625%
Convertible Notes of $100.0 million and $106.0 million outstanding under the
term loan portion of our Credit Facility.  As of May 31, 2009, no
amounts were outstanding under the revolving credit facility portion of our
Credit Facility and we were in compliance with all applicable financial and
restrictive covenants under the Credit Facility.





We
believe that cash provided by operating activities, our cash and cash
equivalents balance and funds available under the revolving credit facility
portion of our Credit Facility will be sufficient to fund our capital
expenditures and debt service and working capital requirements for the
foreseeable future as our business is currently conducted.  It is
likely that any acquisitions we make in the future will require us to obtain
additional financing.  If additional financing is required, there are
no assurances that it will be available, or, if available, that it can be
obtained on terms favorable to us or not dilutive to our future
earnings.







Foreign
Operations





Historically,
our primary foreign operations have been through our Canadian and United Kingdom
(“U.K.”) subsidiaries.  Since November 1, 2004, our European business
has been conducted through Chattem Global Consumer Products Limited, a
wholly-owned subsidiary located in Limerick, Ireland.   In
connection with the acquisition of ACT in Western Europe in May
2007, we established Chattem Greece, a wholly-owned subsidiary located in Alimos
Attica, Greece.  In November 2008, we established Chattem Peru SRL
(“Chattem Peru”), a wholly-owned subsidiary located in Lima,
Peru.  Chattem Peru utilizes third party




35


distributors
to sell certain of our Selsun
Blue products throughout Peru.  The functional currencies of
these subsidiaries are Canadian dollars, British pounds, Euros and Peruvian Sol,
respectively.  Fluctuations in exchange rates can impact operating
results, including total revenues and expenses, when translations of the
subsidiary financial statements are made in accordance with SFAS No. 52,
“Foreign Currency Translation”.  For the six months ended May 31, 2009
and 2008, these subsidiaries accounted for 5% and 7% of total revenues,
respectively, and 2% and 3% of total assets, respectively.  It has not
been our practice to hedge our assets and liabilities or our intercompany
transactions due to the inherent risks associated with foreign currency hedging
transactions and the timing of payments between us and our foreign
subsidiaries.  Historically, gains or losses from foreign currency
transactions have not had a material impact on our operating
results.  Gains of $0.4 million and an insignificant amount, resulting
from foreign currency transactions for the six months ended May 31, 2009 and
2008, respectively, are included in selling, general and administrative expenses
in the unaudited consolidated statements of income.








Recent
Accounting Pronouncements





In
December 2007, the Financial Accounting Standards Board (“FASB”) issued SFAS No.
141R, “Business Combinations” (“SFAS 141R”).  SFAS 141R establishes
principles and requirements for how the acquirer in a business combination
recognizes and measures the identifiable assets acquired, liabilities assumed,
and intangible assets acquired 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 provisions of SFAS 141R are
effective for acquisitions closing after the first annual reporting period
beginning after December 15, 2008.  Accordingly, we will apply the
provisions of SFAS 141R prospectively to business combinations consummated
beginning in the first quarter of our fiscal 2010.  We do not expect
SFAS 141R to have an effect on our previous acquisitions.





In
April 2008, the FASB issued FASB Staff Position (“FSP”) No. FAS 142-3,
“Determination of the Useful Life of Intangible Assets” (“FSP FAS 142-3”). 
In determining the useful life of intangible assets, FSP FAS 142-3 removes the
requirement to consider whether an intangible asset can be renewed without
substantial cost of material modifications to the existing terms and conditions
and, instead, requires an entity to consider its own historical experience in
renewing similar arrangements. FSP FAS 142-3 also requires expanded disclosure
related to the determination of intangible asset useful lives.  FSP FAS
142-3 is effective for financial statements issued for fiscal years beginning
after December 15, 2008, or our fiscal 2010.  We are currently
evaluating the impact, if any, of FSP FAS 142-3.




In May
2008, the FASB issued FSP Accounting Principles Board (“APB”) Opinion No. 14-1,
“Accounting for Convertible Debt Instruments That May Be Settled in Cash upon
Conversion (Including Partial Cash Settlement)” (“FSP 14-1”).  FSP
14-1 specifies that issuers of convertible debt instruments should separately
account for the liability and equity components of the instrument in a manner
that will reflect the entity’s non-convertible debt borrowing rate on the
instrument’s issuance date when interest is recognized in subsequent
periods.  Upon adoption of FSP 14-1, the proceeds received from the
issuance of the 2.0% Convertible Notes and the 1.625% Convertible Notes
(collectively, the “Convertible Notes”) will be allocated between the liability
and equity component by determining the fair value of the liability component
using our non-convertible debt borrowing rate at the time the Convertible Notes
were issued.  The difference between the proceeds of the Convertible
Notes and the calculated fair value of the liability component will be recorded
as a debt discount with a corresponding increase to common shares in our
consolidated balance sheet.  The debt discount will be amortized as
additional non-cash interest expense over the remaining life of the Convertible
Notes using the effective interest rate method.  Although FSP 14-1
will have no impact on our cash flows, FSP 14-1 will result in additional
non-cash interest expense until maturity or early extinguishment of the
Convertible Notes.  The provisions of FSP 14-1 are to be applied
retrospectively to all periods presented upon adoption and are effective for
fiscal years beginning after December 15, 2008, or our fiscal 2010, and interim
periods within those fiscal years.  Upon adoption of FSP 14-1, we
estimate non-cash interest expense will increase approximately $6.6 million and
$7.2 million (or $0.22 and $0.25 per share) for the fiscal years ended November
30, 2009 and 2008, respectively.  The additional non-cash interest
expense is expected to increase as the Convertible Notes approach their
respective maturity dates and accrete to their face values.





In
December 2008, the FASB issued FSP No. FAS 132(R)-1, “Employers’ Disclosures
about Postretirement Benefit Plan Assets” (“FSP 132R-1”).  FSP 132R-1
enhances the required disclosures about plan assets in an employer’s defined
benefit pension or other postretirement plan, including investment allocations
decisions, inputs and valuations techniques used to measure the fair value of
plan assets and significant concentrations of risks within plan
assets.  FSP 132R-1 is effective for financial statements issued for
fiscal years ending after December 15, 2009, or our fiscal 2010.  We
are currently evaluating the impact, if any, of FSP 132R-1.





In June
2009, the FASB issued SFAS No. 168, “TheFASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting
Principles, a replacement of FASB Statement No. 162” (“SFAS
168”).  SFAS 168 eliminates the previous levels of U.S. GAAP. It does
not include any guidance or interpretations of GAAP beyond what is already
reflected in the FASB literature. It merely takes previously issued FASB
standards and other authoritative pronouncements, changes the nomenclature
previously used to refer to FASB standards in the past, and includes them in
specific topic areas.  SFAS 168 is effective for financial statements
issued for interim and annual periods ending after September 15,
2009.  We are currently evaluating the impact, if any, of SFAS
168.





36


Forward Looking
Statements





We may
from time to time make written and oral forward-looking statements.
Forward-looking statements may appear in writing in documents filed with the
Securities and Exchange Commission, in press releases and in reports to
shareholders or be made orally in publicly accessible conferences or conference
calls. The Private Securities Litigation Reform Act of 1995 contains a safe
harbor for forward-looking statements. We rely on this safe harbor in making
such disclosures. These forward-looking statements generally can be identified
by use of phrases such as “believe,” “plan,” “expect,” “anticipate,” “intend,”
“forecast” or other similar words or phrases.  These forward-looking
statements relate to, among other things, our strategic and business initiatives
and plans for growth or operating changes; our financial condition and results
of operation; future events, developments or performance; and management’s
expectations, beliefs, plans, estimates and projections.  The
forward-looking statements are based on management’s current beliefs and
assumptions about expectations, estimates, strategies and projections. These
statements are not guarantees of future performance and involve risks,
uncertainties and assumptions that are difficult to predict. Therefore, actual
outcomes and results may differ materially from what is expressed or forecasted
in such forward-looking statements. We undertake no obligation to update
publicly any forward-looking statements whether as a result of new information,
future events or otherwise. Factors that could cause our actual results to
differ materially from those anticipated in the forward-looking statements in
this Form 10-Q and the documents incorporated herein by reference include the
following:





•
            we
      face significant competition in the OTC healthcare, toiletries and dietary
      supplements markets;


•
            our
      business could be adversely affected by a prolonged downturn or recession
      in the United States and/or the other countries in which we conduct
      significant business;


•
            we
      may be adversely effected by factors affecting our customer’s
      businesses;


•
            we
      rely on a few large customers, particularly Wal-Mart Stores, Inc., for a
      significant portion of our sales;


•
            our
      acquisition strategy is subject to risk and may not be
      successful;


•
            our
      initiation of a voluntary recall of our Icy Hot Heat Therapy
      products could expose us to additional product liability
      claims;


•
            we
      may receive additional claims that allege personal injury from ingestion
      of Dexatrim;


•
            litigation
      may adversely affect our business, financial condition and results of
      operations;


•
            we
      have a significant amount of debt that could adversely affect our business
      and growth prospects;


•
            we
      may discontinue products or product lines, which could result in returns
      and asset write-offs, and/or engage in product recalls, any of which would
      reduce our cash flow and earnings;


•
            our
      product liability insurance coverage may be insufficient to cover existing
      or future liability claims;


•
            our
      business is regulated by numerous federal, state and foreign governmental
      authorities, which subjects us to elevated compliance costs, risks of
      non-compliance and the potential adverse effect of new or changing
      regulations;


•
            our
      success depends on our ability to anticipate and respond in a timely
      manner to changing consumer
preferences;


•
            our
      projections of earnings are highly subjective and our future earnings
      could vary in a material amount from our
  projections;


•
            we
      may be adversely affected by fluctuations in buying decisions of mass
      merchandise, drug and food trade buyers and the trend toward retail trade
      consolidation;


•
            we
      rely on third party manufacturers for a portion of our product portfolio,
      including products under our Gold Bond, Icy Hot, Selsun, Dexatrim, ACT, Unisom and Cortizone-10brands;


•
            our
      dietary supplement business could suffer as a result of injuries caused by
      dietary supplements in general, unfavorable scientific studies or negative
      press;


•
            our
      business could be adversely affected if we are unable to successfully
      protect our intellectual property or defend claims of infringement by
      others;


•
            because
      most of our operations are located in Chattanooga, Tennessee, we are
      subject to regional and local
risks;


•
            we
      depend on sole or limited source suppliers for ingredients in certain of
      our products, and our inability to buy these ingredients would prevent us
      from manufacturing these products;


•
            we
      are subject to the risk of doing business
  internationally;


•
            the
      terms of our outstanding debt obligations limit certain of our
      activities;


•
            to
      service our indebtedness, we will require a significant amount of
      cash;


•
            our
      operations are subject to significant environmental laws and
      regulations;


•
            we
      are dependent on certain key executives, the loss of whom could have a
      material adverse effect on our
business;


•
            our
      shareholder rights plan and charter contain provisions that may delay or
      prevent a merger, tender offer or other change of control of
      us;






37


•
            the
      trading price of our common stock may be
  volatile;


•
            we
      have no current intentions of paying dividends to holders of our common
      stock;


•
            we
      can be affected adversely and unexpectedly by the implementation of new,
      or changes in the interpretation of existing, accounting principles
      generally accepted in the United States of America
    (“GAAP”);


•
            identification
      of a material weakness in our internal controls over financial reporting
      may adversely affect our financial
results;


•
            the
      convertible note hedge and warrant transactions may affect the value of
      our common stock and our convertible
notes;


•
            conversion
      of our convertible notes may dilute the ownership interest of existing
      shareholders, including holders who had previously converted their
      convertible notes;


•
            virtually
      all of our assets consists of intangibles;
and


•
            other
      risks described in our Securities and Exchange Commission
      filings.




Item 3.  Quantitative
and Qualitative Disclosures About Market Risks





We are
exposed to market risk from changes in interest rates and foreign currency
exchange rates, which may adversely affect our results of operations and
financial condition.  We seek to minimize the risks from these
interest rates and foreign currency exchange rate fluctuations through our
regular operating and financing activities.





Our
exposure to interest rate risk currently relates to amounts outstanding under
our Credit Facility.  Loans under the revolving credit facility
portion of our Credit Facility bear interest at LIBOR plus applicable
percentages of 0.875% to 1.50% or the higher of the federal funds rate plus
0.50% or the prime rate (the “Base Rate”).  The applicable percentages
are calculated based on our leverage ratio.  The term loan under our
Credit Facility bears interest at either LIBOR plus 1.75% or the Base Rate plus
0.75%.  As of May 31, 2009, we had no borrowings outstanding under the
revolving credit facility portion of our Credit Facility and $106.0 million was
outstanding under the term loan portion of our Credit Facility.  The
variable rate for the term loan portion was LIBOR plus 1.75%, or 2.88%, as of
May 31, 2009.  The 7.0% Subordinated Notes, the 1.625% Convertible
Notes and the 2.0% Convertible Notes are fixed interest rate
obligations.





In
November 2006, we entered into an interest rate swap (“swap”) agreement
effective January 2007.  The swap has decreasing notional principal
amounts beginning October 2007 and a swap rate of 4.98% over the life of the
agreement.  As of May 31, 2009, the decrease in fair value of $0.5
million, net of tax, was recorded to other comprehensive income and the swap was
deemed to be an effective cash flow hedge.  The swap agreement
terminates in January 2010.





The
impact on our results of operations of a one-point rate change on the July 1,
2009 outstanding $105.3 million term loan balance of our Credit Facility for the
next twelve months would be approximately $0.5 million, net of tax.





We are subject to risk from changes in
the foreign exchange rates relating to our Canadian, U.K., Irish, Grecian and
Peruvian subsidiaries.  Assets and liabilities of these subsidiaries
are translated to U.S. dollars at year-end exchange rates. Income and expense
items are translated at average rates of exchange prevailing during the
year.  Translation adjustments are accumulated as a separate component
of shareholders' equity. Gains and losses, which result from transactions
denominated in foreign currencies, are included in selling, general and
administrative expenses in our consolidated statements of income.  The
potential loss resulting from a hypothetical 10.0% adverse change in the quoted
foreign currency exchange rate amounts to approximately $1.4 million as of May
31, 2009.





This market risk discussion contains
forward-looking statements.  Actual results may differ materially from
this discussion based upon general market conditions and changes in financial
markets.





Item 4.   Controls
and Procedures





Under the
supervision and with the participation of our management, including our Chief
Executive Officer and Chief Financial Officer, we have evaluated the
effectiveness of our disclosure controls and procedures (as such terms are
defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of
1934, as amended (the “Exchange Act”)), as of May 31, 2009 (the “Evaluation
Date”).  Based on such evaluation, such officers have concluded that,
as of the Evaluation Date, our disclosure controls and procedures were effective
in alerting them on a timely basis to material information relating to us
(including our consolidated subsidiaries) required to be included in our reports
filed or submitted under the Exchange Act.





38


PART II.  OTHER
INFORMATION




Item 1.   
Legal Proceedings





See Note 18 of Notes to Consolidated
Financial Statements included in Part 1, Item 1 of this Report.





Item 1A.  Risk
Factors





There have been no material changes
from the risk factors previously disclosed in our Annual Report on Form 10-K for
the year ended November 30, 2008.




Item
2.   Unregistered Sales of Equity Securities and Use of
Proceeds





A summary of the common stock
repurchase activity for our second quarter of fiscal 2009 is as
follows:





Period
              
              Total
      Number
                of
      Shares
                Purchased
              
              
              Average
      Price
                Paid Per Share (1)
              
              
              Total
      Number
                of
      Shares
                Purchased
                as
      Part of
                Publicly
                Announced
                Plans
      or
                Programs (2)
              
              
              Approximate
                Dollar
      Value
                of
      Shares that
                may
      yet be
                Purchased
                under
      the Plans
                or
      Programs (2)March
      1– March 31
              
              
              50,500
              
              
              $
              56.10
              
              
              
              50,500
              
              
              $
              73,913,336April
      1 – April 30
              
              
              390,892
              
              
              
              52.49
              
              
              
              390,892
              
              
              
              71,080,472May
      1 – May 31
              
              
              50,000
              
              
              
              55.13
              
              
              
              50,000
              
              
              
              50,562,818Total
      Second Quarter
              
              
              491,392
              
              
              $
              53.13
              
              
              
              491,392
              
              
              $
              47,806,121





(1)
            Average
      price paid per share includes broker
  commissions.




(2)
            On
      April 30, 2008, our Board of Directors increased the authorization to a
      total of $100.0 million of our common stock under the terms of our
      existing stock repurchase program.  There is no expiration date
      specified for our stock buyback
program.





Item
3.   Defaults Upon Senior Securities




None.





Item 4.  
Submission of Matters to a Vote of Security Holders





Our annual meeting of shareholders was
held on April 8, 2009 in Chattanooga, Tennessee.  At the meeting, the
following items were submitted to a vote of shareholders:





(1)
            The
      following persons were elected as directors to serve for a three-year
      term:  Robert E. Bosworth (11,515,577 votes for and 6,074,875
      votes withheld), Gary D. Chazen (17,336,304 votes for and 254,148 votes
      withheld), and Joey B. Hogan (15,477,439 votes for and 2,113,013 votes
      withheld).  Other directors whose terms of office continued
      after the annual meeting are: Samuel E. Allen, Philip H. Sanford, Ruth W.
      Brinkley, Zan Guerry and Bill W.
Stacy.


(2)
            Approval
      of the Chattem, Inc. 2009 Equity Incentive Plan (11,122,285 votes for;
      4,375,685 votes against; and 70,287 abstentions).(3)
            Ratification
      of Grant Thornton, LLP as our independent registered public accounting
      firm for fiscal 2009 (17,568,439 votes for; 11,981 votes against; and
      13,639 abstentions).








Item 5.   Other
Information





None.




39


Item 6.  
Exhibits





Exhibits
(numbered in accordance with Item 601 of Regulation S-K):





Exhibit
      Number
                  
                  Description31.1
                  
                  Certification
      required by Rule 13a-14(a) under the Securities Exchange Act of
      193431.2
                  
                  Certification
      required by Rule 13a-14(a) under the Securities Exchange Act of
      193432
                  
                  Certification
      required by Rule 13a-14(b) under the Securities Exchange Act of 1934 and
      18 U.S.C. Section 1350










































40


CHATTEM,
INC.


SIGNATURES








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










CHATTEM,
      INC.
                  (Registrant)Dated:  July 10,
    2009
                /s/ Zan
      GuerryZan
      GuerryChairman
      and Chief Executive Officer





Dated:  July 10,
    2009
                    /s/ Robert
      B. LongRobert
      B. LongVice
      President and Chief Financial Officer
































41


Chattem, Inc. and
Subsidiaries


Exhibit
Index











Exhibit
      Number
                    
                    Description of
      Exhibit31.1
                    
                    Certification
      required by Rule 13a-14(a) under the Securities Exchange Act of
      193431.2
                    
                    Certification
      required by Rule 13a-14(a) under the Securities Exchange Act of
      193432
                    
                    Certification
      required by Rule 13a-14(b) under the Securities Exchange Act of 1934 and
      18 U.S.C. Section 1350

























































42