**UNITEDSTATES****SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

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**Form 10-Q**

 

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**ý****          ****QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934**

 

**For the quarterly period ended June 30, 2005**

 

**CommissionFile Number: 333-118675**

 

**Accellent Corp.**

(Exact name of registrant asspecified in its charter)

 

| **Colorado**(State or other jurisdiction of  incorporation or organization)                    | ** ** | **91-2054669**(I.R.S. Employer  Identification Number) |
|------------------------------------------------------------------------------------------------|------------|--------------------------------------------------------|
| ** **                                                                                     | ** ** | ** **                                             |
| **200 West 7th Avenue**                                                                        | ** ** | ** **                                             |
| **Collegeville, Pennsylvania**                                                                 | ** ** | **19426-0992**                                         |
| (Address of  registrant’s principal executive offices)                                    |       | (Zip code)                                             |
|                                                                                           |       |                                                   |
| Registrant’s  Telephone Number, Including Area Code:   **(610)  489-0300** |

 

Indicate by check mark whether the registrant (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or forsuch shorter period that the registrant was required to file such reports), and(2) has been subject to such filing requirements for the past90 days.    Yes ý     No o

 

Indicate by check mark whether the registrant is anaccelerated filer (as defined in Rule 12b-2 of the Act).

Yes o     No ý

 

As of August 9, 2005, 100 shares of theRegistrant’s common stock were outstanding. The registrant is a wholly owned subsidiary of Accellent Inc.

 

 

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**Table ofContents**

 
| **PART I**  | **FINANCIAL INFORMATION** | ** **                                                                                  |
|------------------|---------------------------|---------------------------------------------------------------------------------------------|
|             |                      |                                                                                        |   |
|             | ITEM 1.                   | Financial Statements                                                                        |   |
|             |                      | Unaudited Condensed Consolidated Balance  Sheets                                            |   |
|             |                      | Unaudited Condensed Consolidated Statements  of Operations                                  |   |
|             |                      | Unaudited Condensed Consolidated Statements  of Cash Flows                                  |   |
|             |                      | Notes to Unaudited Condensed Consolidated  Financial Statements                             |   |
|             |                      |                                                                                        |   |
|             | ITEM 2.                   | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |   |
|             |                      |                                                                                        |   |
|             | ITEM 3.                   | Quantitative  and Qualitative Disclosures About Market Risk                                 |   |
|             |                      |                                                                                        |   |
|             | ITEM 4.                   | Controls and  Procedures                                                                    |   |
|             |                      |                                                                                        |   |
| **PART II** | **OTHER  INFORMATION**    | ** **                                                                                  |
|             |                      |                                                                                        |   |
|             | ITEM 6.                   | Exhibits                                                                                    |   |
|             |                      |                                                                                        |   |
| Signatures       |                      |

 

2

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**PART I.  FINANCIAL INFORMATION**

 

**ITEM 1. FINANCIAL STATEMENTS**

 

**ACCELLENTCORP.**

**Unaudited Condensed Consolidated BalanceSheets**

**Asof June 30, 2005 and December 31, 2004**

**(inthousands)**

 
| ** **                                                                                              | ** ** | **June 30,  2005** | ** ** | **December 31,  2004** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| **Assets**                                                                                              |       |                    |       |                        |       |
| Current  assets:                                                                                        |       |                    |       |                        |       |
| Cash and  cash equivalents                                                                              |       | $                       | 14,956     |                        | $          | 16,004 |   |
| Accounts  receivable, net of allowances of $2,152 and $2,909, respectively                              |       | 52,944                  |       | 48,354                      |       |
| Inventories                                                                                             |       | 60,752                  |       | 58,014                      |       |
| Prepaid  expenses and other                                                                             |       | 3,162                   |       | 3,471                       |       |
| Total  current assets                                                                                   |       | 131,814                 |       | 125,843                     |       |
| Property and  equipment, net                                                                            |       | 85,826                  |       | 85,945                      |       |
| Goodwill                                                                                                |       | 282,708                 |       | 289,461                     |       |
| Intangibles,  net                                                                                       |       | 78,785                  |       | 81,874                      |       |
| Deferred  financing costs and other assets                                                              |       | 16,506                  |       | 17,106                      |       |
| Total assets                                                                                            |       | $                       | 595,639    |                        | $          | 600,229 |   |
| **Liabilities  and stockholder’s equity**                                                          |       |                    |       |                        |       |
| Current  liabilities:                                                                                   |       |                    |       |                        |       |
| Current  portion of long-term debt                                                                      |       | $                       | 1,950      |                        | $          | 1,961 |   |
| Accounts  payable                                                                                       |       | 19,394                  |       | 20,447                      |       |
| Accrued  payroll and benefits                                                                           |       | 9,787                   |       | 13,011                      |       |
| Accrued  interest                                                                                       |       | 8,113                   |       | 10,575                      |       |
| Accrued  expenses, other                                                                                |       | 19,331                  |       | 26,986                      |       |
| Total  current liabilities                                                                              |       | 58,575                  |       | 72,980                      |       |
| Notes  payable and long-term debt                                                                       |       | 365,119                 |       | 366,091                     |       |
| Other  long-term liabilities                                                                            |       | 22,421                  |       | 23,667                      |       |
| Total  liabilities                                                                                      |       | 446,115                 |       | 462,738                     |       |
| Redeemable  and convertible preferred stock of parent company                                           |       | —                  |       | 30                          |       |
| Stockholder’s  equity:                                                                             |       |                    |       |                        |       |
| Common  stock, par value $.01 per share, 1,000 shares authorized and 100 shares  issued and outstanding |       | —                  |       | —                      |       |
| Additional  paid-in capital                                                                             |       | 205,049                 |       | 201,348                     |       |
| Accumulated  other comprehensive income                                                                 |       | 1,014                   |       | 1,716                       |       |
| Retained  deficit                                                                                       |       | (56,539                 | )          | (65,603                     | )          |
| Total  stockholder’s equity                                                                        |       | 149,524                 |       | 137,461                     |       |
| Total  liabilities and stockholder’s equity                                                        |       | $                       | 595,639    |                        | $          | 600,229 |   |

 

The accompanying notes are anintegral part of these financial statements.

 

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**ACCELLENTCORP.**

**Unaudited Condensed Consolidated Statementsof Operations**

**Forthe three and six months ended June 30, 2005 and 2004**

**(inthousands)**

 
| ** **                                                                                                           | ** ** | **Three Months Ended  June 30,** | ** ** | **Six Months Ended  June 30,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                                                                                           | ** ** | **2005**                              | ** ** | **2004**                            | ** ** | **2005** | ** ** | **2004** | ** ** |
| Net sales                                                                                                            |       | $                                     | 114,724    |                                | $          | 60,307 |   | $ | 223,597 |   | $ | 112,147 |   |
| Cost of  sales                                                                                                       |       | 77,505                                |       | 42,072                              |       | 154,362 |   | 77,658 |   |
| Gross profit                                                                                                         |       | 37,219                                |       | 18,235                              |       | 69,235 |   | 34,489 |   |
| Selling,  general and administrative expenses                                                                        |       | 15,823                                |       | 8,718                               |       | 30,992 |   | 16,575 |   |
| Research and  development expenses                                                                                   |       | 763                                   |       | 591                                 |       | 1,428 |   | 1,176 |   |
| Restructuring  and other charges                                                                                     |       | 1,790                                 |       | —                              |       | 2,640 |   | — |   |
| Amortization  of intangibles                                                                                         |       | 1,515                                 |       | 1,225                               |       | 3,089 |   | 2,450 |   |
| Income from  operations                                                                                              |       | 17,328                                |       | 7,701                               |       | 31,086 |   | 14,288 |   |
| Interest  expense, net                                                                                               |       | 7,776                                 |       | 8,315                               |       | 15,761 |   | 12,015 |   |
| Other  expense, including debt prepayment penalties of $3,295 for the three and six  months ended June 30, 2004 |       | 174                                   |       | 3,288                               |       | 146 |   | 3,265 |   |
| Income  (loss) before income taxes                                                                                   |       | 9,378                                 |       | (3,902                              | )          | 15,179 |   | (992 | ) |
| Income tax  expense                                                                                                  |       | 3,476                                 |       | 534                                 |       | 6,115 |   | 1,057 |   |
| Net income  (loss)                                                                                                   |       | 5,902                                 |       | (4,436                              | )          | 9,064 |   | (2,049 | ) |
| Dividends on  redeemable and convertible preferred stock of parent company                                           |       | —                                |       | (8,201                              | )          | — |   | (8,201 | ) |
| Net income  (loss) available to common stockholder                                                                   |       | $                                     | 5,902      |                                | $          | (12,637 | ) | $ | 9,064 |   | $ | (10,250 | ) |

 

The accompanying notes are anintegral part of these financial statements.

 

4

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**ACCELLENTCORP.**

**Unaudited Condensed Consolidated Statementsof Cash Flows**

**Forthe six months ended June 30, 2005 and 2004**

**(inthousands)**

 
| ** **                                                                         | ** ** | **Six Months Ended  June 30,** | ** ** |
|------------------------------------------------------------------------------------|------------|-------------------------------------|------------|
| ** **                                                                         | ** ** | **2005**                            | ** ** | **2004** | ** ** |
| **OPERATING  ACTIVITIES:**                                                         |       |                                |       |   |   |
| Net income  (loss)                                                                 |       | $                                   | 9,064      |   | $ | (2,049 | ) |
| Cash  provided by operating activities:                                            |       |                                |       |   |   |
| Depreciation  and amortization                                                     |       | 10,548                              |       | 6,003 |   |
| Amortization  of debt discounts and non-cash interest accrued                      |       | 1,400                               |       | 6,383 |   |
| Deferred  income taxes                                                             |       | 3,864                               |       | — |   |
| Non-cash  compensation charge                                                      |       | 874                                 |       | 105 |   |
| Loss (gain)  on disposal of assets                                                 |       | 112                                 |       | (112 | ) |
| Changes in  operating assets and liabilities, net of business acquired:            |       |                                |       |   |   |
| Increase in  accounts receivable                                                   |       | (4,860                              | )          | (4,727 | ) |
| Increase in  inventories                                                           |       | (3,204                              | )          | (3,371 | ) |
| Decrease  (increase) in prepaid expenses and other                                 |       | 311                                 |       | (420 | ) |
| (Decrease)  increase in accounts payable and accrued expenses                      |       | (6,135                              | )          | 3,269 |   |
| Net cash  provided by operating activities                                         |       | 11,974                              |       | 5,081 |   |
| **INVESTING  ACTIVITIES:**                                                         |       |                                |       |   |   |
| Purchase of  property, plant & equipment                                  |       | (8,906                              | )          | (4,178 | ) |
| Proceeds  from sale of assets                                                      |       | 53                                  |       | 1,373 |   |
| Acquisition  of business                                                           |       | (2,279                              | )          | (213,176 | ) |
| Other non-current  assets                                                          |       | —                              |       | 12 |   |
| Net cash  used in investing activities                                             |       | (11,132                             | )          | (215,969 | ) |
| **FINANCING  ACTIVITIES:**                                                         |       |                                |       |   |   |
| Proceeds  from long-term debt                                                      |       | —                              |       | 372,000 |   |
| Principal  payments on long-term debt                                              |       | (982                                | )          | (184,056 | ) |
| Capital  contributions from parent                                                 |       | —                              |       | 67,862 |   |
| Redemption  and repurchase of redeemable and convertible preferred stock of parent |       | (30                                 | )          | (12,563 | ) |
| Dividends  paid on redeemable and convertible preferred stock of parent company    |       | —                              |       | (8,201 | ) |
| Deferred  financing fees                                                           |       | (749                                | )          | (15,968 | ) |
| Net cash  (used in) provided by financing activities                               |       | (1,761                              | )          | 219,074 |   |
| **EFFECT  OF EXCHANGE RATE CHANGES IN CASH:**                                      |       | (129                                | )          | (30 | ) |
| (Decrease)  increase in cash and cash equivalents                                  |       | (1,048                              | )          | 8,156 |   |
| Cash and  cash equivalents at beginning of period                                  |       | 16,004                              |       | 3,974 |   |
| Cash and  cash equivalents at end of period                                        |       | $                                   | 14,956     |   | $ | 12,130 |   |

 

The accompanying notes are anintegral part of these financial statements.

 

5

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**ACCELLENTCORP.**

**Notes to Unaudited Condensed ConsolidatedFinancial Statements**

**June 30,2005**

 

**1. Summary of Significant Accounting Policies:**

 

*Basis of Presentation*

 

The accompanying unaudited condensed consolidatedfinancial statements of Accellent Corp. (“the Company”) have been prepared inaccordance with accounting principles generally accepted in the United Statesfor interim financial statements and the instructions to Form 10-Q andRegulation S-X. Accordingly, they do not include all information andfootnotes required by accounting principles generally accepted in the UnitedStates for complete financial statements. In the opinion of management, alladjustments (consisting only of normal recurring adjustments) considerednecessary for a fair presentation have been included. Operating results forinterim periods are not necessarily indicative of the results that may beexpected for the fiscal year as a whole. For further information, refer to theconsolidated financial statements and footnotes thereto included in the Company’sAnnual Report on Form 10-K filed on March 15, 2005 with theSecurities and Exchange Commission (File No. 333-118675) for the yearended December 31, 2004. 

 

The Company changed its name from Medical DeviceManufacturing, Inc. to Accellent Corp. on May 4, 2005.  The Company is a wholly owned subsidiary ofAccellent Inc. (“Parent”).  Parentis a holding company with no operations and whose only asset is the stock ofthe Company.  Proceeds from the issuanceof debt and sale of stock of Parent are used by the Company for itsacquisitions of its subsidiaries. Additionally, the proceeds of the Company’sissuance of $175.0 million of 10% Senior Subordinated Notes due July 15,2012 (the “Senior Subordinated Notes”) were used to retire all of the seniornotes of Parent. Accordingly, in compliance with provisions of Staff AccountingBulletin 54 (Topic 5-J, Question 3), the accompanying financialstatements reflect the push down of Parent’s debt, related interest expense,debt issuance costs, the Class B-1 and B-2 Redeemable and ConvertiblePreferred Stock, and the Class C 8% Redeemable Preferred Stock and relateddividends. The Parent debt pushed down to the Company is included in itsconsolidated balance sheets as long-term debt. The Parent Class B-1 andB-2 Redeemable and Convertible Preferred Stock, and the Class C 8%Redeemable Preferred Stock pushed down to the Company is included in itsconsolidated balance sheets as redeemable and convertible preferred stock ofparent company.   As of June 30,2005, the Class B-1 and B-2 Redeemable and Convertible Preferred Stockhave been redeemed. Parent has also raised capital from the sale of commonstock, Class A-1 through A-8 5% Convertible Preferred Stock, Class AAConvertible Preferred Stock and warrants exercisable for Class ABConvertible Preferred Stock. The proceeds from the common stock, Class A-1through A-8 5% Convertible Preferred Stock, Class AA Convertible PreferredStock and warrants exercisable for Class AB Convertible Preferred Stockhave been advanced to the Company and reflected in its consolidated balancesheets as additional paid-in capital since the Company is under no obligationto repay these amounts. Any costs incurred by Parent for the benefit of theCompany have been fully allocated to the Company.   Parent does not incur any common expensesfor the benefit of both Parent and the Company, therefore, no common expensesare allocated from Parent to the Company. For the six months ended June 30, 2004, Parent pushed down to theCompany interest expense, including debt issuance costs, and debt prepaymentpenalties of $6.7 million.  Parent didnot incur any interest expense or debt prepayment penalties for the six monthsended June 30, 2005.   

 

The Company’s operating results have been includedin Parent’s consolidated United States and state income tax returns and in taxreturns of certain foreign subsidiaries. The provision for income taxes in the Company’s financial statements hasbeen determined on a separate return basis. Deferred tax assets and liabilities are recognized for the expected taxconsequences of temporary differences between the tax basis of assets andliabilities and their reported amounts. No formal tax sharing agreement exists between the Company and Parent.

 

***Stock-based compensation***

 

The Company accounts for stock options issuedby Parent to employees of the Company using the intrinsic value method ofAccounting Principles Board Opinion No. 25, “Accounting for Stock Issuedto Employees”, and related interpretations. Had the Company elected torecognize compensation expense for the granting of Parent options under Parentstock option plans based on the fair values at the grant dates consistent withthe methodology prescribed by Statement of Financial Accounting Standards No. 148,“Accounting for Stock-Based Compensation,” pro forma net income (loss) wouldhave been reported as follows (in thousands):

 

6

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| ** **                                                                               | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                                                               | ** ** | **2005**                              | ** ** | **2004**                            | ** ** | **2005** | ** ** | **2004** | ** ** |
| Net income  (loss):                                                                      |       |                                  |       |                                |       |   |   |   |   |
| As reported                                                                              |       | $                                     | 5,902      |                                | $          | (4,436 | ) | $ | 9,064 |   | $ | (10,250 | ) |
| Add total  stock compensation expense, net of tax, included in income (loss) as reported |       | 785                                   |       | 42                                  |       | 823 |   | 85 |   |
|                                                                                     |       |                                  |       |                                |       |   |   |   |   |
| Less total  stock compensation expense—fair value method net of tax                 |       | (1,175                                | )          | (359                                | )          | (1,581 | ) | (702 | ) |
| Pro forma  net income (loss)                                                             |       | $                                     | 5,512      |                                | $          | (4,753 | ) | $ | 8,306 |   | $ | (10,867 | ) |

 

Stock compensation expense, net of tax,included in net income as reported for the three and six month periods ended June 30,2005 includes a charge of $746,000 to increase the Company’s liability forphantom stock plans due to the increase in value of Parent’s common stock.

 

**2. Acquisitions:**

 

On June 30, 2004, the Company acquiredMedSource Technologies, Inc. (“MedSource”) The acquisition was accountedfor as a purchase and accordingly the results of operations include MedSource’sresults beginning June 30, 2004. MedSource is an engineering andmanufacturing services provider to the medical device industry. The purchaseprice was $219.7 million, consisting of $208.8 million in cash forthe purchase of common stock and the cash out of options and warrants, and$10.9 million of transaction fees. The purchase was financed by acombination of new debt and equity as discussed in notes 6 and 8. In addition,the then existing indebtedness of MedSource equal to $36.1 million plusrelated accrued interest was repaid in conjunction with the acquisition. TheCompany estimates that it will incur $17.6 million for integration andother liabilities.

 

The purchase price for the MedSourceacquisition was allocated as follows (in thousands):

 
| Inventories                                 |   | $       | 27,707  |   |
|---------------------------------------------|--------|---------|---------|--------|
| Accounts  receivable                        |   | 24,782  |    |
| Prepaid  expenses and other current assets  |   | 702     |    |
| Property and  equipment                     |   | 44,144  |    |
| Goodwill                                    |   | 162,788 |    |
| Intangible  and other assets                |   | 19,938  |    |
| Current  liabilities                        |   | (30,467 | )       |
| Debt assumed                                |   | (36,131 | )       |
| Other long-term  liabilities                |   | (8,064  | )       |
| Cash paid,  net of cash acquired of $14,304 |   | $       | 205,399 |   |

 

The decrease in goodwill for the six monthsended June 30, 2005 is primarily related to the reduction in accruedintegration and restructuring costs for MedSource as discussed in Note 3, andthe expected utilization of tax benefits acquired from MedSource as discussedin Note 7.

 

The Company determines the value andpotential purchase price of target acquisition companies based on multiples offuture cash flow. These cash flow projections may include an estimate ofimproved cash flow performance as compared to historical performance of thetarget acquisition company based on projected synergies. The value of theacquired company based on our cash flow analysis may differ significantly fromthe carrying value of the acquired net assets, resulting in an allocation of asignificant portion of the purchase price to goodwill.

 

The following unaudited pro formaconsolidated financial information reflects the purchase of MedSource assumingthe acquisition had occurred as of the beginning of the period. This unauditedpro forma information has been provided for informational purposes only and isnot necessarily indicative of the results of operations or financial conditionthat actually would 

 

7

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have been achieved if the acquisitions had been on the date indicated,or that may be reported in the future (in thousands):

 
| ** ** | ** ** | **Six Months Ended  June 30,  2004** | ** ** |
|------------|------------|-------------------------------------------|------------|
| Net sales  |       | $                                         | 205,921    |   |
| Net income |       | 2,957                                     |       |
|            |            |                                           |            |  |

 

The pro forma net income for the six monthsended June 30, 2004 includes $2.2 million of restructuring chargesrecognized by MedSource.

 

**3. Restructuring and Other Charges:**

 

In connection with the MedSource acquisition,the Company identified $17.3 million of costs associated with eliminatingduplicate positions and plant consolidations, which is comprised of$9.7 million in severance payments and $7.6 million in leasetermination and other contract termination costs.   Severance payments relate to approximately510 employees in manufacturing, selling and administration and are expected tobe paid by the end of fiscal year 2007. All other costs are expected to be paidby 2018.  The costs of these plantconsolidations were reflected in the purchase price of MedSource in accordancewith the FASB Emerging Issues Task Force (“EITF”)  No. 95-3, *Recognitionof Liabilities in Connection with a Purchase Business Combination.*  These costs include estimates to closefacilities and consolidate manufacturing capacity, and are subject to changebased on the actual costs incurred to close these facilities.  Changes to these estimates could increase ordecrease the amount of the purchase price allocated to goodwill in the nearterm.  During the first six months offiscal year 2005, the Company decreased the estimated liability for the MedSourcefacilities consolidation by $4.2 million, resulting in a decrease to thepurchase price allocation to goodwill in the same amount.

 

The Company recognized $2.6 million ofrestructuring charges and acquisition integration costs during the first sixmonths of fiscal year 2005, including $0.9 million of severance costs and $1.4million of other exit costs including costs to move production processes fromfive facilities that are closing to other production facilities of theCompany.  In addition to the $2.3 millionin restructuring charges incurred during first six months of fiscal year 2005,the Company incurred $0.3 million of costs for the integration of MedSource.

 

The following table summarizes the recordedaccruals and activity related to the restructuring (in thousands):

 
| ** **                                                                             | ** ** | **Employee costs** | ** ** | **Other costs** | ** ** | **Total** | ** ** |
|----------------------------------------------------------------------------------------|------------|--------------------|------------|-----------------|------------|-----------|------------|
| Balance as  of December 31, 2004                                                  |       | $                  | 7,764      |            | $          | 9,913     |       | $ | 17,677 |   |
| Adjustment  to planned plant closure and severance costs for the MedSource integration |       | (1,829             | )          | (2,328          | )          | (4,157    | )          |
| Restructuring  and integration charges incurred                                        |       | 887                |       | 1,753           |       | 2,640     |       |
| Paid  year-to-date                                                                     |       | (2,657             | )          | (1,894          | )          | (4,551    | )          |
| Balance June 30,  2005                                                            |       | $                  | 4,165      |            | $          | 7,444     |       | $ | 11,609 |   |

 

8

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**4. Comprehensive Income:**

 

Comprehensive income (loss) represents netincome plus the results of any stockholder’s equity changes related to currencytranslation.  For the three and sixmonths ended June 30, 2005 and 2004, the Company reported comprehensiveincome of (in thousands):

 
| ** **                          | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|-------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                          | ** ** | **2005**                              | ** ** | **2004**                            | ** ** | **2005** | ** ** | **2004** | ** ** |
| Net income  (loss)                  |       | $                                     | 5,902      |                                | $          | (4,436 | ) | $ | 9,064 |   | $ | (2,049 | ) |
| Cumulative  translation adjustments |       | (382                                  | )          | (131                                | )          | (702 | ) | (203 | ) |
| Comprehensive  income (loss)        |       | $                                     | 5,520      |                                | $          | (4,567 | ) | $ | 8,362 |   | $ | (2,252 | ) |

 

**5. Inventories:**

 

Inventories at June 30, 2005 and December 31,2004 consisted of the following (in thousands):

 
| ** **      | ** ** | **June 30,  2005** | ** ** | **December 31,  2004** | ** ** |
|-----------------|------------|-------------------------|------------|-----------------------------|------------|
| Raw  materials  |       | $                       | 23,382     |                        | $          | 20,939 |   |
| Work-in-process |       | 23,339                  |       | 24,068                      |       |
| Finished  goods |       | 14,031                  |       | 13,007                      |       |
| Total           |       | $                       | 60,752     |                        | $          | 58,014 |   |

 

**6. Short-term and long-term debt:**

 

Long-term debt at June 30, 2005 and December 31,2004 consisted of the following (in thousands):

 
| ** **                                                                                                    | ** ** | **June 30,  2005** | ** ** | **December 31,  2004** | ** ** |
|---------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| Senior  secured credit facility, interest at 5.74% at June 30, 2005 and 5.28% at  December 31, 2004 |       | $                       | 192,060    |                        | $          | 193,030 |   |
| Senior  subordinated notes maturing July 15, 2012, interest at 10%                                       |       | 175,000                 |       | 175,000                     |       |
| Capital  lease obligations                                                                                    |       | 9                       |       | 22                          |       |
| Total debt                                                                                                    |       | 367,069                 |       | 368,052                     |       |
| Less current  portion                                                                                         |       | (1,950                  | )          | (1,961                      | )          |
| Long-term  debt, excluding current portion                                                                    |       | $                       | 365,119    |                        | $          | 366,091 |   |

 

The Company’s Senior Secured Credit Facilitydated June 30, 2004 (the “Credit Agreement”) includes $194.0 million ofterm loans and up to $40.0 million available under the revolving creditfacility.  Additionally, the Company mayborrow up to $40.0 million in additional term loans, with the approval ofparticipating lenders.  On March 25,2005, the Company amended its Credit Agreement to lower the interest rateapplicable to the term loans as follows: on base rate loans from base rate (generally the applicable primelending rate of Credit Suisse First Boston, as announced from time to time)plus 2.00% to base rate plus 1.25%, on euro dollar rate loans from LIBOR plus3.00% to LIBOR plus 2.25%.  In addition,the amendment increased the amount of potential additional term loans from$40.0 million to $50.0 million and allowed increased flexibility in, and fundsfor, acquisitions.  Additional term loansrequire the approval of participating lenders. Principal payments will continue to be due in the amounts of$1.9 million per year plus, beginning in 2006, 75% of Excess Cash Flow, asdefined by the Credit Agreement. The balance is due June 30, 2010.  As of June 30, 2005, $6.2 millionof the revolving credit facility was supporting the Company’s letters ofcredit, leaving $33.8 million available.

 

The Company incurred $0.7 million in fees inconnection with the amendment of the Credit Agreement during the first sixmonths of fiscal year 2005, which will be amortized to interest expense overthe remaining term of the Credit Agreement. 

 

9

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Also in connection with the amendment, the Company wrote off deferredfinancing costs resulting in a charge to interest expense of $0.2 million forthe first six months of fiscal year 2005.

 

On June 30, 2004, the Company issued$175.0 million of the Senior Subordinated Notes.  Interest is payable on January 15thand July 15th of each year. 

 

The Company’s debt agreements contain variouscovenants, including minimum cash flow (as defined), debt service coverageratios and maximum capital spending limits. In addition, the debt agreementsrestrict the Company from paying dividends and making certain investments.  The covenants and restrictions of theindenture governing the Senior Subordinated Notes apply only to the Company andnot Parent.  All covenants andrestrictions under the Credit Agreement apply to the Company, and the covenantsand restrictions other than financial covenants apply to Parent.

 

As of June 30, 2005, the Company andParent were in compliance with their respective covenants under the CreditAgreement and the Senior Subordinated Notes. 

 

**7. Income taxes:**

 

Income tax expense for the six months ended June 30,2005 was $6.1 million on pre-tax income of $15.2 million, or 40.3% of pre-taxincome.  The effective rate is higherthan the statutory rate primarily due to $3.9 million in charges for non-cashdeferred income taxes, including $2.9 million for tax benefits acquired fromMedSource which have been credited to goodwill and not benefited in thestatement of operations and $1.0 million of charges for the different book andtax treatment for goodwill. The remaining $2.2 million of income tax expensefor the six months ended June 30, 2005 includes $2.1 million for certainstate and foreign income taxes and $0.1 million for domestic federal incometaxes.  The Company expects to offsetmost of its 2005 domestic federal income taxes with net operating loss carryforwards.   For the six months ended June 30, 2004,the Company recorded a tax provision of $1.1 million on a pre-tax net loss of$1.0 million, primarily due to provisions for certain state and foreign incometaxes.

 

**8. Capital Stock and Redeemable Preferred Stock:**

 

The Company has 1,000 shares of common stockauthorized and 100 shares issued and outstanding, $.01 per value per share. Allshares are owned by Parent.

 

The Company has received proceeds from thesale of permanent equity by Parent. The proceeds received by the Company frominception to June 30, 2005 amounted to $205.0 million and areincluded in additional paid-in capital. The Company is under no obligation torepay these amounts to Parent. For a further discussion of the equityinstruments of Parent, see Notes 10 and 11 of the consolidated financialstatements included in Part II, Item 8 of the Company’s Annual Report on Form 10-Kfor the year ended December 31, 2004. 

 

The following table summarizes the amounts recordedas additional paid-in capital and redeemable convertible preferred stock ofParent for the six months ended June 30, 2005 (in thousands):

 
| ** **                                                          | ** ** | **Additional  paid-in capital** | ** ** | **Redeemable  and  convertible  preferred  stock of  Parent** | ** ** |
|---------------------------------------------------------------------|------------|---------------------------------|------------|---------------------------------------------------------------|------------|
| Beginning  balance, January 1, 2005                            |       | $                               | 201,348    |                                                          | $          | 30 |   |
| Amortization  of stock-based compensation                           |       | 77                              |       | —                                                        |       |
| Compensation  charge associated with phantom stock plans of Parent  |       | 20                              |       | —                                                        |       |
| Capital  contribution from Parent, in stock                         |       | 3,604                           |       | —                                                        |       |
| Redemption  of redeemable and convertible preferred stock of Parent |       | —                          |       | (30                                                           | )          |
| Ending  balance, June 30, 2005                                 |       | $                               | 205,049    |                                                          | $          | — |   |

 

10

----

 

During the three months ended June 30,2005, the outstanding shares of Class B-2 Redeemable and ConvertiblePreferred Stock of Parent were redeemed for the carrying value of $30,000.  In addition, Parent issued 244,832 shares ofits Class A-7 5% Convertible Preferred Stock to the former owners ofVenusa in connection with Venusa achieving certain earn-out targets for fiscalyear 2004. The Company recorded a contribution to capital of $3.6 million toreflect the issuance of these shares to the former owners of Venusa.  There are no additional earn-out provisionsrelating to the Venusa acquisition.

 

In July 2005, the Board of Directors ofParent approved the grant of 616,562 shares of its restricted stock to certainmembers of the Company’s management.  Theshares vest 100% on the four year anniversary from the date of grant.  The Company expects to record compensationexpense of $7.6 million over the vesting period of the restricted shares, or 48months, resulting in a quarterly compensation charge to Selling, General andAdministrative expense, or SG&A, of $474,000 starting in July 2005.  Also in July 2005, the Board ofDirectors of Parent approved the grant of 281,152 stock options to certainmembers of the Company’s management at option prices that are below the fairmarket value of the underlying common stock. The Company expects to record compensation expense of $1.2 million overthe vesting period of the stock options, or 60 months, resulting in a quarterlycompensation charge to SG&A of $58,000 starting in July 2005.             

 

**9. Pension Plans:**

 

Effective January 1, 2004, the Companyadopted SFAS No. 132 (revised 2003), *Employers’ Disclosuresabout Pensions and Other Postretirement Benefits*. This standardrequires the disclosure of the components of net periodic benefit costrecognized during interim periods. Components on net periodic pension cost for the three and six monthsended June 30, 2005 and 2004 were as follows (in thousands):

 
| ** **                      | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|---------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                      | ** ** | **2005**                              | ** ** | **2004**                            | ** ** | **2005** | ** ** | **2004** | ** ** |
| Service cost                    |       | $                                     | 23         |                                | $          | 19 |   | $ | 47 |   | $ | 38 |   |
| Interest  cost                  |       | 34                                    |       | 32                                  |       | 70 |   | 65 |   |
| Expected  return of plan assets |       | (14                                   | )          | (14                                 | )          | (29 | ) | (28 | ) |
| Recognized  net actuarial loss  |       | 12                                    |       | 6                                   |       | 23 |   | 11 |   |
|                            |       | $                                     | 55         |                                | $          | 43 |   | $ | 111 |   | $ | 86 |   |

 

Assuming that the actual return on planassets is consistent with the expected annualized rate of 7.0% for theremainder of fiscal year 2005, and that interest rates remain constant, theCompany would be required to make total contributions to its pension plans of$74,000 for fiscal year 2005. 

 

**10. Supplemental Guarantor Condensed Consolidating Financial Statements:**

 

In connection with the Company’s issuance ofits Senior Subordinated Notes, all of its domestic subsidiaries (the “SubsidiaryGuarantors”) guaranteed on a joint and several, full and unconditional basis,the repayment by the Company of such notes. Certain foreign subsidiaries of theCompany (the “Non-Guarantor Subsidiaries”) have not guaranteed suchindebtedness.

 

The following tables present the unauditedconsolidating statements of operations for the three and six months ended June 30,2005 and June 30, 2004 of the Company (“Holdings”), the Subsidiary Guarantorsand the Non-Guarantor Subsidiaries, the unaudited condensed consolidatingbalance sheets as of June 30, 2005 and December 31, 2004, and cashflows for the six months ended June 30, 2005 and June 30, 2004.

 

11

----

 

**Consolidating Statements of Operations**

**Three months ended June 30, 2005 (inthousands):**

 
| ** **                                    | ** ** | **Holdings** | ** ** | **Subsidiary  Guarantors** | ** ** | **Non-  Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------|------------|--------------|------------|----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| Net sales                                     |       | $            | —     |                       | $          | 110,427                           |       | $                | 4,495      |             | $          | (198 | ) | $ | 114,724 |   |
| Cost of  sales                                |       | —       |       | 75,023                     |       | 2,680                             |       | (198             | )          | 77,505           |       |
| Selling,  general and administrative expenses |       | 813          |       | 14,420                     |       | 590                               |       | —           |       | 15,823           |       |
| Research and  development expenses            |       | —       |       | 679                        |       | 84                                |       | —           |       | 763              |       |
| Restructuring  and other charges              |       | —       |       | 1,714                      |       | 76                                |       | —           |       | 1,790            |       |
| Amortization  of intangibles                  |       | —       |       | 1,515                      |       | —                            |       | —           |       | 1,515            |       |
| Income  (loss) from operations                |       | (813         | )          | 17,076                     |       | 1,065                             |       | —           |       | 17,328           |       |
| Interest  expense                             |       | 7,765        |       | 4                          |       | 7                                 |       | —           |       | 7,776            |       |
| Other  expense (income)                       |       | —       |       | 214                        |       | (40                               | )          | —           |       | 174              |       |
| Equity in  earnings of affiliates             |       | 10,931       |       | 415                        |       | —                            |       | (11,346          | )          | —           |       |
| Income tax  expense (benefit)                 |       | (3,549       | )          | 6,342                      |       | 683                               |       | —           |       | 3,476            |       |
| Net income                                    |       | $            | 5,902      |                       | $          | 10,931                            |       | $                | 415        |             | $          | (11,346 | ) | $ | 5,902 |   |

 

**Consolidating Statements of Operations**

**Three months ended June 30, 2004 (inthousands):**

 
| ** **                                    | ** ** | **Holdings** | ** ** | **Subsidiary  Guarantors** | ** ** | **Non-  Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------|------------|--------------|------------|----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| Net sales                                     |       | $            | —     |                       | $          | 56,832                            |       | $                | 3,637      |             | $          | (162 | ) | $ | 60,307 |   |
| Cost of  sales                                |       | —       |       | 39,748                     |       | 2,486                             |       | (162             | )          | 42,072           |       |
| Selling,  general and administrative expenses |       | 57           |       | 8,019                      |       | 642                               |       | —           |       | 8,718            |       |
| Research and  development expenses            |       | —       |       | 533                        |       | 58                                |       | —           |       | 591              |       |
| Restructuring  and other charges              |       | —       |       | —                     |       | —                            |       | —           |       | —           |       |
| Amortization  of intangibles                  |       | —       |       | 1,225                      |       | —                            |       | —           |       | 1,225            |       |
| Income  (loss) from operations                |       | (57          | )          | 7,307                      |       | 451                               |       | —           |       | 7,701            |       |
| Interest  expense (income)                    |       | 8,293        |       | (42                        | )          | 64                                |       | —           |       | 8,315            |       |
| Other  expense (income)                       |       | 3,296        |       | 23                         |       | (31                               | )          | —           |       | 3,288            |       |
| Equity in  earnings of affiliates             |       | 4,873        |       | 385                        |       | —                            |       | (5,258           | )          | —           |       |
| Income tax  expense (benefit)                 |       | (2,337       | )          | 2,838                      |       | 33                                |       | —           |       | 534              |       |
| Net income  (loss)                            |       | $            | (4,436     | )                          | $          | 4,873                             |       | $                | 385        |             | $          | (5,258 | ) | $ | (4,436 | ) |

 

12

----

 

**Consolidating Statements of Operations**

**Six months ended June 30, 2005 (inthousands):**

 
| ** **                                    | ** ** | **Holdings** | ** ** | **Subsidiary  Guarantors** | ** ** | **Non-  Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------|------------|--------------|------------|----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| Net sales                                     |       | $            | —     |                       | $          | 215,097                           |       | $                | 8,782      |             | $          | (282 | ) | $ | 223,597 |   |
| Cost of  sales                                |       | —       |       | 149,271                    |       | 5,373                             |       | (282             | )          | 154,362          |       |
| Selling,  general and administrative expenses |       | 880          |       | 28,998                     |       | 1,114                             |       | —           |       | 30,992           |       |
| Research and  development expenses            |       | —       |       | 1,270                      |       | 158                               |       | —           |       | 1,428            |       |
| Restructuring  and other charges              |       | —       |       | 2,553                      |       | 87                                |       | —           |       | 2,640            |       |
| Amortization  of intangibles                  |       | —       |       | 3,089                      |       | —                            |       | —           |       | 3,089            |       |
| Income  (loss) from operations                |       | (880         | )          | 29,916                     |       | 2,050                             |       | —           |       | 31,086           |       |
| Interest expense  (income)                    |       | 15,705       |       | 49                         |       | 7                                 |       | —           |       | 15,761           |       |
| Other  expense (income)                       |       | —       |       | 219                        |       | (73                               | )          | —           |       | 146              |       |
| Equity in  earnings of affiliates             |       | 18,948       |       | 1,172                      |       | —                            |       | (20,120          | )          | —           |       |
| Income tax  expense (benefit)                 |       | (6,701       | )          | 11,872                     |       | 944                               |       | —           |       | 6,115            |       |
| Net income  (loss)                            |       | $            | 9,064      |                       | $          | 18,948                            |       | $                | 1,172      |             | $          | (20,120 | ) | $ | 9,064 |   |

 

**Consolidating Statements of Operations**

**Six months ended June 30, 2004 (inthousands):**

 
| ** **                                    | ** ** | **Holdings** | ** ** | **Subsidiary  Guarantors** | ** ** | **Non-  Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-----------------------------------------------|------------|--------------|------------|----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| Net sales                                     |       | $            | —     |                       | $          | 105,145                           |       | $                | 7,338      |             | $          | (336 | ) | $ | 112,147 |   |
| Cost of  sales                                |       | —       |       | 72,990                     |       | 5,004                             |       | (336             | )          | 77,658           |       |
| Selling,  general and administrative expenses |       | 111          |       | 15,186                     |       | 1,278                             |       | —           |       | 16,575           |       |
| Research and  development expenses            |       | —       |       | 1,052                      |       | 124                               |       | —           |       | 1,176            |       |
| Restructuring  and other charges              |       | —       |       | —                     |       | —                            |       | —           |       | —           |       |
| Amortization  of intangibles                  |       | —       |       | 2,450                      |       | —                            |       | —           |       | 2,450            |       |
| Income  (loss) from operations                |       | (111         | )          | 13,467                     |       | 932                               |       | —           |       | 14,288           |       |
| Interest  expense (income)                    |       | 11,967       |       | (86                        | )          | 134                               |       | —           |       | 12,015           |       |
| Other  expense (income)                       |       | 3,295        |       | 35                         |       | (65                               | )          | —           |       | 3,265            |       |
| Equity in  earnings of affiliates             |       | 9,009        |       | 786                        |       | —                            |       | (9,795           | )          | —           |       |
| Income tax  expense (benefit)                 |       | (4,315       | )          | 5,295                      |       | 77                                |       | —           |       | 1,057            |       |
| Net income  (loss)                            |       | $            | (2,049     | )                          | $          | 9,009                             |       | $                | 786        |             | $          | (9,795 | ) | $ | (2,049 | ) |

 

13

----

 

**Condensed Consolidating Balance Sheets**

**June 30, 2005 (in thousands):**

 
| ** **                                 | ** ** | **Holdings** | ** ** | **Subsidiary  Guarantors** | ** ** | **Non-  Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|--------------------------------------------|------------|--------------|------------|----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| Cash and  cash equivalents                 |       | $            | 11,223     |                       | $          | 2,517                             |       | $                | 1,216      |             | $          | — |   | $ | 14,956 |   |
| Receivables,  net                          |       | —       |       | 51,437                     |       | 1,602                             |       | (95              | )          | 52,944           |       |
| Inventories                                |       | —       |       | 58,085                     |       | 2,667                             |       | —           |       | 60,752           |       |
| Prepaid  expenses and other                |       | —       |       | 3,005                      |       | 157                               |       | —           |       | 3,162            |       |
| Total  current assets                      |       | 11,223       |       | 115,044                    |       | 5,642                             |       | (95              | )          | 131,814          |       |
| Property,  plant and equipment, net        |       | —       |       | 81,092                     |       | 4,734                             |       | —           |       | 85,826           |       |
| Intercompany  receivable (payable)         |       | (36,879      | )          | 35,199                     |       | 1,677                             |       | 3                |       | —           |       |
| Investment  in subsidiaries                |       | 521,109      |       | 7,174                      |       | —                            |       | (528,283         | )          | —           |       |
| Goodwill                                   |       | 4,205        |       | 278,503                    |       | —                            |       | —           |       | 282,708          |       |
| Intangibles,  net                          |       | —       |       | 78,785                     |       | —                            |       | —           |       | 78,785           |       |
| Deferred  financing costs and other assets |       | 16,127       |       | 354                        |       | 25                                |       | —           |       | 16,506           |       |
| Total assets                               |       | $            | 515,785    |                       | $          | 596,151                           |       | $                | 12,078     |             | $          | (528,375 | ) | $ | 595,639 |   |
|                                       |       |         |       |                       |       |                              |       |             |       |             |       |
| Current  portion of long-term debt         |       | $            | 1,940      |                       | $          | 10                                |       | $                | —     |             | $          | — |   | $ | 1,950 |   |
| Accounts  payable                          |       | 3            |       | 18,441                     |       | 1,042                             |       | (92              | )          | 19,394           |       |
| Accrued  liabilities                       |       | (7,535       | )          | 42,393                     |       | 2,373                             |       | —           |       | 37,231           |       |
| Total  current liabilities                 |       | (5,592       | )          | 60,844                     |       | 3,415                             |       | (92              | )          | 58,575           |       |
| Note payable  and long-term debt           |       | 365,119      |       | —                     |       | —                            |       | —           |       | 365,119          |       |
| Other  long-term liabilities               |       | 6,734        |       | 14,198                     |       | 1,489                             |       | —           |       | 22,421           |       |
| Total  liabilities                         |       | 366,261      |       | 75,042                     |       | 4,904                             |       | (92              | )          | 446,115          |       |
| Equity                                     |       | 149,524      |       | 521,109                    |       | 7,174                             |       | (528,283         | )          | 149,524          |       |
| Total  liabilities and equity              |       | $            | 515,785    |                       | $          | 596,151                           |       | $                | 12,078     |             | $          | (528,375 | ) | $ | 595,639 |   |

 

14

----

 

**Condensed Consolidating Balance Sheets**

**December 31, 2004 (in thousands):**

 
| ** **                                            | ** ** | **Holdings** | ** ** | **Subsidiary  Guarantors** | ** ** | **Non-  Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|-------------------------------------------------------|------------|--------------|------------|----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| Cash and  cash equivalents                            |       | $            | 12,267     |                       | $          | 2,438                             |       | $                | 1,299      |             | $          | — |   | $ | 16,004 |   |
| Receivables,  net                                     |       | —       |       | 46,805                     |       | 1,549                             |       | —           |       | 48,354           |       |
| Inventories                                           |       | —       |       | 55,686                     |       | 2,328                             |       | —           |       | 58,014           |       |
| Prepaid  expenses and other                           |       | —       |       | 3,299                      |       | 172                               |       | —           |       | 3,471            |       |
| Total  current assets                                 |       | 12,267       |       | 108,228                    |       | 5,348                             |       | —           |       | 125,843          |       |
| Property,  plant and equipment, net                   |       | —       |       | 80,907                     |       | 5,038                             |       | —           |       | 85,945           |       |
| Intercompany  receivable (payable)                    |       | (15,713      | )          | 15,189                     |       | —                            |       | 524              |       | —           |       |
| Investment  in subsidiaries                           |       | 502,862      |       | 6,571                      |       | —                            |       | (509,433         | )          | —           |       |
| Goodwill                                              |       | 7,116        |       | 282,345                    |       | —                            |       | —           |       | 289,461          |       |
| Intangibles,  net                                     |       | —       |       | 81,874                     |       | —                            |       | —           |       | 81,874           |       |
| Deferred  financing costs and other assets            |       | 16,815       |       | 320                        |       | (29                               | )          | —           |       | 17,106           |       |
| Total assets                                          |       | $            | 523,347    |                       | $          | 575,434                           |       | $                | 10,357     |             | $          | (508,909 | ) | $ | 600,229 |   |
|                                                  |       |         |       |                       |       |                              |       |             |       |             |       |
| Current  portion of long-term debt                    |       | $            | 1,940      |                       | $          | 21                                |       | $                | —     |             | $          | — |   | $ | 1,961 |   |
| Accounts  payable                                     |       | 14           |       | 19,346                     |       | 1,087                             |       | —           |       | 20,447           |       |
| Accrued  liabilities                                  |       | 12,865       |       | 36,115                     |       | 1,592                             |       | —           |       | 50,572           |       |
| Total  current liabilities                            |       | 14,819       |       | 55,482                     |       | 2,679                             |       | —           |       | 72,980           |       |
| Note payable  and long-term debt                      |       | 366,090      |       | 1                          |       | —                            |       | —           |       | 366,091          |       |
| Other  long-term liabilities                          |       | 4,947        |       | 17,089                     |       | 1,107                             |       | 524              |       | 23,667           |       |
| Total  liabilities                                    |       | 385,856      |       | 72,572                     |       | 3,786                             |       | 524              |       | 462,738          |       |
| Redeemable  and convertible preferred stock of parent |       | 30           |       | —                     |       | —                            |       | —           |       | 30               |       |
| Equity                                                |       | 137,461      |       | 502,862                    |       | 6,571                             |       | (509,433         | )          | 137,461          |       |
| Total  liabilities and equity                         |       | $            | 523,347    |                       | $          | 575,434                           |       | $                | 10,357     |             | $          | (508,909 | ) | $ | 600,229 |   |

 

15

----

 

**Consolidating Statements of Cash Flows**

**Six months ended June 30, 2005 (inthousands):**

 
| ** **                                                          | ** ** | **Holdings** | ** ** | **Subsidiary  Guarantors** | ** ** | **Non-  Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|---------------------------------------------------------------------|------------|--------------|------------|----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| Net cash  (used in) provided by operating activities                |       | $            | (18,179    | )                          | $          | 28,479                            |       | $                | 1,674      |             | $          | — |   | $ | 11,974 |   |
| Cash flows  from investing activities:                              |       |         |       |                       |       |                              |       |             |       |             |       |
| Capital  expenditures                                               |       | —       |       | (8,421                     | )          | (485                              | )          | —           |       | (8,906           | )          |
| Transferred  assets                                                 |       | —       |       | 28                         |       | (28                               | )          | —           |       | —           |       |
| Proceeds  from sale of equipment                                    |       | —       |       | 53                         |       | —                            |       | —           |       | 53               |       |
| Acquisitions,  net of cash acquired                                 |       | (2,279       | )          | —                     |       | —                            |       | —           |       | (2,279           | )          |
| Net cash  used in investing activities                              |       | (2,279       | )          | (8,340                     | )          | (513                              | )          | —           |       | (11,132          | )          |
| Cash flows  from financing activities:                              |       |         |       |                       |       |                              |       |             |       |             |       |
| Repayments                                                          |       | (970         | )          | (12                        | )          | —                            |       | —           |       | (982             | )          |
| Intercompany  advances                                              |       | 21,163       |       | (20,010                    | )          | (1,153                            | )          | —           |       | —           |       |
| Redemption  of redeemable and convertible preferred stock of parent |       | (30          | )          | —                     |       | —                            |       | —           |       | (30              | )          |
| Deferred  financing fees                                            |       | (749         | )          | —                     |       | —                            |       | —           |       | (749             | )          |
| Cash flows  (used in) provided by financing activities              |       | 19,414       |       | (20,022                    | )          | (1,153                            | )          | —           |       | (1,761           | )          |
| Effect of exchange  rate changes in cash                            |       | —       |       | (38                        | )          | (91                               | )          | —           |       | (129             | )          |
| Net decrease  in cash and cash equivalents                          |       | (1,044       | )          | 79                         |       | (83                               | )          | —           |       | (1,048           | )          |
| Cash and  cash equivalents, beginning of period                     |       | 12,267       |       | 2,438                      |       | 1,299                             |       | —           |       | 16,004           |       |
| Cash and  cash equivalents, end of period                           |       | $            | 11,223     |                       | $          | 2,517                             |       | $                | 1,216      |             | $          | — |   | $ | 14,956 |   |

 

16

----

 

**Consolidating Statements of Cash Flows**

**Six months ended June 30, 2004 (inthousands):**

 
| ** **                                                                         | ** ** | **Holdings** | ** ** | **Subsidiary  Guarantors** | ** ** | **Non-  Guarantor  Subsidiaries** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|------------------------------------------------------------------------------------|------------|--------------|------------|----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| Net cash  provided by (used in) operating activities                               |       | $            | (4,165     | )                          | $          | 8,402                             |       | $                | 844        |             | $          | — |   | $ | 5,081 |   |
| Cash flows  from investing activities:                                             |       |         |       |                       |       |                              |       |             |       |             |       |
| Capital  expenditures                                                              |       | —       |       | (3,625                     | )          | (553                              | )          | —           |       | (4,178           | )          |
| Transferred  assets                                                                |       | —       |       | (8                         | )          | 8                                 |       | —           |       | —           |       |
| Proceeds  from sale of equipment                                                   |       | —       |       | 1,373                      |       | —                            |       | —           |       | 1,373            |       |
| Acquisitions,  net of cash acquired                                                |       | (218,480     | )          | 5,304                      |       | —                            |       | —           |       | (213,176         | )          |
| Other  noncurrent assets                                                           |       | 12           |       | —                     |       | —                            |       | —           |       | 12               |       |
| Net cash  (used in) provided by investing activities                               |       | (218,468     | )          | 3,044                      |       | (545                              | )          | —           |       | (215,969         | )          |
| Cash flows  from financing activities:                                             |       |         |       |                       |       |                              |       |             |       |             |       |
| Borrowing                                                                          |       | 372,000      |       | —                     |       | —                            |       | —           |       | 372,000          |       |
| Repayments                                                                         |       | (147,910     | )          | (36,146                    | )          | —                            |       | —           |       | (184,056         | )          |
| Intercompany  advances                                                             |       | (27,140      | )          | 26,826                     |       | 314                               |       | —           |       | —           |       |
| Capital  contributions from parent                                                 |       | 67,862       |       | —                     |       | —                            |       | —           |       | 67,862           |       |
| Redemption  and repurchase of redeemable and convertible preferred stock of parent |       | (12,563      | )          | —                     |       | —                            |       | —           |       | (12,563          | )          |
| Dividends  paid on redeemable and convertible preferred stock of parent            |       | (8,201       | )          | —                     |       | —                            |       | —           |       | (8,201           | )          |
| Deferred  financing fees                                                           |       | (15,968      | )          | —                     |       | —                            |       | —           |       | (15,968          | )          |
| Cash flows  (used in) provided by financing activities                             |       | 228,080      |       | (9,320                     | )          | 314                               |       | —           |       | 219,074          |       |
| Effect of  exchange rate changes in cash                                           |       | —       |       | 9                          |       | (39                               | )          | —           |       | (30              | )          |
| Net  (decrease) increase in cash and cash equivalents                              |       | 5,447        |       | 2,135                      |       | 574                               |       | —           |       | 8,156            |       |
| Cash and  cash equivalents, beginning of period                                    |       | 14           |       | 3,394                      |       | 566                               |       | —           |       | 3,974            |       |
| Cash and  cash equivalents, end of period                                          |       | $            | 5,461      |                       | $          | 5,529                             |       | $                | 1,140      |             | $          | — |   | $ | 12,130 |   |

 

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**ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTSOF OPERATIONS**

 

*This Quarterly Report on Form 10-Qincludes “forward-looking statements” within the meaning of Section 27A ofthe Securities Act of 1933, as amended, and Section 21E of the SecuritiesExchange Act of 1934, as amended. All statements other than statements ofhistorical facts included in this Form 10-Q, including, withoutlimitation, certain statements under “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations”, may constitute forward-lookingstatements. In some cases you can identify these “forward-looking statements”by words like “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “believes,”“estimates,” “predicts,” “potential” or “continue” or the negative of thosewords and other comparable words. These forward-looking statements involverisks and uncertainties. Our actual results could differ materially from thoseindicated in these statements as a result of certain factors as more fullydiscussed under the heading “Risk Factors” contained in our annual report on Form 10-Kfiled on March 15, 2005 with the Securities and Exchange Commission (File No. 333-118675)for the Company’s fiscal year ended December 31, 2004. The followingdiscussion and analysis should be read in conjunction with the unauditedcondensed consolidated financial statements and notes thereto included herein.**We undertake no obligation toupdate publicly or publicly revise any forward-looking statement, whether as aresult of new information, future events or otherwise.*

 

On May 4,2005, the Company changed its name from Medical Device Manufacturing, Inc.to Accellent Corp.  Unless the contextindicates otherwise, all references in this quarterly report to “Accellent,”the “Company,” “we,” “our,” or “us” mean Accellent Corp. and itssubsidiaries.  We are a wholly ownedsubsidiary of Accellent Inc., a Maryland corporation, which we refer to hereinas “Accellent Inc.” or “our parent.”

 

**Overview**

 

We believe we are the largest provider ofoutsourced precision manufacturing and engineering services in our targetmarkets of the medical device industry. We offer our customers design and engineering, precision component manufacturing,device assembly and supply chain management services. We have extensiveresources focused on providing our customers reliable, high quality,cost-efficient, integrated outsourced solutions. We often become the solesupplier of manufacturing and engineering services for the products we provideto our customers.

 

We primarily focus on the leading companiesin three large and growing markets within the medical device industry:cardiovascular, endoscopy, and orthopaedics. Our customers include many of theleading medical device companies, including Abbott Laboratories, BostonScientific, Guidant, Johnson & Johnson, Medtronic, Smith &Nephew, St. Jude Medical, Stryker, Tyco International and Zimmer. During 2004,our top 10 customers accounted for approximately 55% of net sales with two customerseach accounting for greater than 10% of net sales.  During the first half of 2005, our top 10customers accounted for approximately 60% of net sales with two customers eachaccounting for greater than 10% of net sales. Although we expect net sales from our largest customers to continue toconstitute a significant portion of our net sales in the future, BostonScientific has informed us that it intends to transfer a number of productscurrently assembled by us to its own assembly operation.  Based on preliminary estimates and ourexperience to date with this customer, we expect net sales from BostonScientific to decrease by approximately $38 million, with the substantialmajority of the net sales decrease taking place in 2006.  While we believe that the transferredbusiness can be replaced with new business from existing and potential newcustomers to offset the loss, there is no assurance that we will replace suchbusiness and the loss will not adversely affect our operating results in 2006and thereafter. While net sales are aggregated by us to the ultimate parent ofa customer, we typically generate diversified revenue streams within theselarge customers across separate divisions and multiple products.

 

We primarily recognize product net sales uponshipment, when title passes to the customer or, if products are shipped onconsignment to a particular customer, when the customer uses the product. Forservices, we recognize net sales at the time the services are rendered.  We primarily generate our net salesdomestically.  In 2004, approximately 85%of our net sales were sold to customers located in the U.S.  Since a substantial majority of the leadingmedical device companies are located in the U.S., we expect our net sales toU.S.-based companies to remain a high percentage of our net sales in thefuture.

 

Our operations are based on purchase ordersthat typically provide for 30 to 90 days delivery from the time thepurchase order is received, but which can provide for delivery within30 days or up to 180 days, depending on the product and the customer’sability to forecast requirements.

 

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Cost of goods sold includes raw materials,labor and other manufacturing costs associated with the products we sell. Someproducts incorporate precious metals, such as gold, silver and platinum.Changes in prices for those commodities are generally passed through to ourcustomers.

 

Selling, general and administrative expensesinclude salaries, sales commissions, and other selling and administrativecosts.

 

Amortization of intangible assets isprimarily related to our acquisitions of G&D, Inc. d/b/a Star Guide,Noble-Met, Ltd., UTI Pennsylvania, American Technical Molding, Inc.,Venusa, Ltd. and Venusa de Mexico, S.A. de C.V. (together with Venusa, Ltd., “Venusa”)and MedSource. Interest expense is primarily related to indebtedness incurredto finance our acquisitions.

 

We havealigned our management by the three medical device market segments which weserve.  As a result of this alignment, wehave three operating segments: endoscopy, cardiology and orthopaedics.  We have determined that all of our operatingsegments meet the aggregation criteria of paragraph 17 of SFAS No. 131,and are treated as one reportable segment.

 

In connection with the MedSource acquisition,we identified $17.3 million of costs associated with eliminating duplicatepositions and plant consolidations, which is comprised of $9.7 million inseverance payments and $7.6 million in lease termination and othercontract termination costs.  Severancepayments relate to approximately 510 employees in manufacturing, selling andadministration and are expected to be paid by the end of fiscal year 2007. Allother costs are expected to be paid by 2018. The costs of these plant consolidations were reflected in the purchaseprice of MedSource in accordance with the FASB Emerging Issues Task Force (“EITF”)No. 95-3, *Recognition of Liabilities in Connectionwith a Purchase Business Combination.*  These costs include estimates to closefacilities and consolidate manufacturing capacity, and are subject to changebased on the actual costs incurred to close these facilities.  Changes to these estimates could increase ordecrease the amount of the purchase price allocated to goodwill in the nearterm.  During the first six months offiscal year 2005, we decreased the estimated liability for the MedSourcefacilities consolidation by $4.2 million, resulting in a decrease to the purchaseprice allocation to goodwill in the same amount.

 

The following table summarizes the recordedaccruals and activity related to the restructuring (in thousands):

 
| ** **                                                                             | ** ** | **Employee costs** | ** ** | **Other costs** | ** ** | **Total** | ** ** |
|----------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------|------------|-----------|------------|
| Balance as  of December 31, 2004                                                  |       | $                       | 7,764      |            | $          | 9,913     |       | $ | 17,677 |   |
| Adjustment  to planned plant closure and severance costs for the MedSource integration |       | (1,829                  | )          | (2,328          | )          | (4,157    | )          |
| Restructuring  and integration charges incurred                                        |       | 887                     |       | 1,753           |       | 2,640     |       |
| Paid  year-to-date                                                                     |       | (2,657                  | )          | (1,894          | )          | (4,551    | )          |
| Balance June 30,  2005                                                            |       | $                       | 4,165      |            | $          | 7,444     |       | $ | 11,609 |   |

 

**Results of Operations**

 

The following table sets forth percentagesderived from the consolidated statements of operations for the three and sixmonths ended June 30, 2005 and 2004, presented as a percentage of netsales.

 
| ** **                                    | ** ** | **Three months ended  June 30,** | ** ** | **Six months ended  June 30,** | ** ** |
|-----------------------------------------------|------------|---------------------------------------|------------|-------------------------------------|------------|
| ** **                                    | ** ** | **2005**                              | ** ** | **2004**                            | ** ** | **2005** | ** ** | **2004** | ** ** |
| STATEMENT OF  OPERATIONS DATA:                |       |                                  |       |                                |       |   |   |   |   |
| Net Sales                                     |       | 100.0                                 | %          | 100.0                               | %          | 100.0 | % | 100.0 | % |
| Cost of  Sales                                |       | 67.6                                  |       | 69.8                                |       | 69.0 |   | 69.2 |   |
| Gross Profit                                  |       | 32.4                                  |       | 30.2                                |       | 31.0 |   | 30.8 |   |
| Selling,  General and Administrative Expenses |       | 13.8                                  |       | 14.4                                |       | 13.9 |   | 14.8 |   |
| Research and  Development Expenses            |       | 0.6                                   |       | 1.0                                 |       | 0.6 |   | 1.1 |   |
| Restructuring  and Other Charges              |       | 1.6                                   |       | —                              |       | 1.2 |   | — |   |
| Amortization  of Intangibles                  |       | 1.3                                   |       | 2.0                                 |       | 1.4 |   | 2.2 |   |
| Income from  Operations                       |       | 15.1                                  |       | 12.8                                |       | 13.9 |   | 12.7 |   |

 

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**Three Months Ended June 30, 2005Compared to Three Months Ended June 30, 2004**

 

*Net Sales*

 

Net sales for the second quarter of 2005 were$114.7 million, an increase of $54.4 million or 90% compared to net salesof $60.3 million for the second quarter of 2004. Higher net sales was due tothe acquisition of MedSource, which increased net sales by $43.9 million, and a$10.5 million increase primarily due to higher shipments as we were awarded newproducts and increases in unit shipments on existing products to customers thatserve the endoscopic and cardiovascular markets.  These increases were partially offset by ourfacility rationalization program, which included the closing or sale of selectfacilities, which resulted in a reduction in net sales attributable to formerMedSource facilities of $5.9 million for the second quarter of 2005.  Three customers, Johnson & Johnson,Boston Scientific and Medtronic each accounted for greater than 10% of netsales for the second quarter of 2005. One customer, Boston Scientific, accounted for greater than 10% of netsales for the second quarter of 2004.

 

*Gross Profit*

 

Gross profit for the second quarter of 2005was $37.2 million as compared to $18.2 million for the second quarterof 2004.  The $19.0 million increase ingross profit was primarily due to the MedSource acquisition and unit volumeincreases.

 

Gross margin was 32.4% of net sales for thesecond quarter of 2005 as compared to 30.2% of net sales for the second quarterof 2004.  The increase in gross marginsis due to increased sales, which lead to improved leverage of our fixed cost ofsales and cost reduction efforts.  MedSourcegross margins have historically been lower than gross margins attained by usbefore the acquisition.  The lowerMedSource gross margins negatively impacted our gross margins in the secondquarter of 2005 by $1.9 million, or 1.7%.

 

*Selling, General and Administration Expenses*

 

Selling, general and administrative expenses,or SG&A, were $15.8 million for the second quarter of 2005 compared to $8.7million for the second quarter of 2004. The increase in SG&A costs wereprimarily due to the acquisition of MedSource and a stock-based compensationcharge of $746,000 for the second quarter of 2005 to increase our liability forphantom stock plans due to the increase in value of our parent’s common stock.

 

SG&A expenses were 13.8% of net sales forthe second quarter of 2005 versus 14.4% of net sales for the second quarter of2004. The lower 2005 percentage was driven by sales growth, which lead toimproved leverage of our fixed SG&A costs.

 

In July 2005, the Board of Directors ofour parent approved the grant of 616,562 shares of restricted stock of ourparent to certain members our management. Each shares vests 100% on the four year anniversary from the date ofgrant.  We expect to record compensationexpense of $7.6 million over the vesting period of the restricted shares, or 48months, resulting in a quarterly compensation charge to SG&A expense of$474,000 starting in July 2005. Also in July 2005, the Board of Directors of our parent approvedthe grant of 281,152 stock options to certain members of our management atoption prices that are below the fair market value of the underlying commonstock.  We expect to record compensationexpense of $1.2 million over the vesting period of the stock options, or 60months, resulting in a quarterly compensation charge to SG&A of $58,000starting in July 2005.

 

*Research and Development Expenses*

 

Research and development expenses, orR&D,  for the second quarter of 2005were $0.8 million or 0.6% of net sales, compared to $0.6 million or1.0% of net sales for the second quarter of 2004.  The lower 2005 percentage was driven by salesgrowth, which lead to improved leverage of our fixed R&D costs.

 

*Restructuring and Other Charges*

 

We recognized $1.8 million of restructuringcharges and acquisition integration costs during the second quarter of fiscalyear 2005, including $0.6 million of severance costs and $1.0 million of otherexit costs including costs to move production processes from five facilitiesthat are in the process of being closed to our other productionfacilities.  In addition, we incurred$0.2 million of costs for the integration of MedSource.

 

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*Amortization*

 

Amortization was $1.5 million for thesecond quarter of 2005 compared to $1.2 million for the second quarter of 2004.The higher amortization was primarily due to the acquisition of MedSource.

 

*Interest Expense, net*

 

Interest expense, net was $7.8 millionfor the second quarter of 2005 compared to $8.3 million for the second quarterof 2004.  The decrease is primarily duethe refinancing of our old senior secured credit facility and various seniorsubordinated indebtedness during the second quarter of fiscal year 2004 whichresulted in $4.5 million of accelerated amortization of debt discounts anddeferred financing costs.  This decreasewas partially offset by higher interest expense due to the increased debtincurred to acquire MedSource.

 

*Other expense*

 

Other expense was $0.2 million for the secondquarter of 2005 compared to $3.3 million for the second quarter of 2004.  The decrease is primarily due to debtprepayment penalties of $3.3 million incurred during the second quarter of2004.

 

*Income Tax Expense*

 

Income tax expense for the second quarter of2005 was $3.5 million, or 37.1% of pre-tax net income, and includes $2.2million in charges for non-cash deferred income taxes, including $1.7 millionfor tax benefits acquired from MedSource which have been credited to goodwilland not benefited in the statement of operations and $0.5 million of chargesfor the different book and tax treatment of goodwill.  The remaining $1.3 million of income taxexpense for the second quarter of 2005 includes $1.2 million for certain stateand foreign income taxes and $0.1 million for domestic federal income taxexpense.  We expect to offset most of our2005 domestic federal income taxes with net operating loss carryforwards.  For the second quarter of fiscal year 2004,income tax expense was $0.5 million on a pre-tax net loss of $3.9 million, andas was comprised primarily of certain state and foreign income tax expense.

 

**Six Months Ended June 30, 2005 Comparedto Six Months Ended June 30, 2004**

 

*Net Sales*

 

Net sales for the first half of 2005 were$223.6 million, an increase of $111.5 million or 99% compared to net salesof $112.1 million for the first half of 2004. Higher net sales was due to theacquisition of MedSource, which increased net sales by $89.8 million, and a$21.7 million increase primarily due to higher shipments as we were awarded newproducts and increases in unit shipments on existing products to customers thatserve the endoscopic and cardiovascular markets.  These increases were partially offset by ourfacility rationalization program, which included the closing or sale of selectfacilities, resulting in a reduction in net sales attributable to formerMedSource facilities of $8.4 million for the first half of 2005.  Two customers, Johnson & Johnson andBoston Scientific each accounted for greater than 10% of net sales for thefirst half of 2005 and 2004.

 

*Gross Profit*

 

Gross profit for the first half of 2005 was$69.2 million compared to $34.5 million for the first half of2004.  The $34.7 million increase ingross profit was primarily due to the MedSource acquisition and unit volumeincreases.

 

Gross margin was 31.0% of net sales for thefirst half of 2005 compared to 30.8% of net sales for the first half of2004.  The increase in gross margins isdue to increased sales, which lead to improved leverage of our fixed cost ofsales and cost reduction efforts.  MedSourcegross margins have historically been lower than gross margins attained by usbefore the acquisition.  The lowerMedSource gross margins negatively impacted our gross margins in the first halfof 2005 by $6.3 million, or 2.8%.

 

*Selling, General and Administration Expenses*

 

Selling, general and administrative expenses,or SG&A, were $31.0 million for the first half of 2005 compared to $16.6million for the first half of 2004. The increase in SG&A costs wereprimarily due to the acquisition of MedSource and a stock-

 

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based compensation charge of $746,000 during the second quarter of 2005to increase our liability for phantom stock plans due to the increase in valueof our parent’s common stock.

 

SG&A expenses were 13.9% of net sales forthe first half of 2005 versus 14.8% of net sales for the first half of 2004.The lower 2005 percentage was driven by sales growth, which lead toimproved leverage of our fixed SG&A costs.

 

*Research and Development Expenses*

 

Research and development expenses, orR&D, for the first half of 2005 were $1.4 million or 0.6% of netsales, compared to $1.2 million or 1.1% of net sales for the first half of2004.  The lower 2005 percentage wasdriven by sales growth, which lead to improved leverage of our fixed R&Dcosts.

 

*Restructuring and Other Charges*

 

We recognized $2.6 million of restructuringcharges and acquisition integration costs during the first half of 2005,including $0.9 million of severance costs and $1.4 million of other exit costsincluding costs to move production processes from five facilities that are inthe process of being closed to our other production facilities.  In addition, we incurred $0.3 million ofcosts for the integration of MedSource.

 

*Amortization*

 

Amortization was $3.1 million for thefirst half of 2005 compared to $2.5 million for the first half of 2004. Thehigher amortization was primarily due to the acquisition of MedSource.

 

*Interest Expense, net*

 

Interest expense, net was $15.8 millionfor the first half of 2005 compared to $12.0 million for the first half of2004.  The increased was due to increaseddebt incurred to acquire MedSource.  Thisincrease was partially offset by $4.5 million of accelerated amortization ofdebt discounts and deferred financing costs incurred during the first half of2004 due to the refinancing of our old senior secured credit facility andvarious senior subordinated indebtedness.

 

*Other expense*

 

Other expense was $0.1 million for the firsthalf of 2005 compared to $3.3 million for the first half of 2004.  The decrease is primarily due to debtprepayment penalties of $3.3 million incurred during the first half of 2004.

 

*Income Tax Expense*

 

Income tax expense for the first half of 2005was $6.1 million, or 40.3% of pre-tax net income.  The effective rate is higher than thestatutory rate primarily due to $3.9 million in charges for non-cash deferredincome taxes, including $2.9 million for tax benefits acquired from MedSourcewhich have been credited to goodwill and not benefited in the statement ofoperations and $1.0 million of charges for the different book and tax treatmentof goodwill.  The remaining $2.2 millionof income tax expense for the first half of 2005 includes $2.1 million forcertain state and foreign income taxes and $0.1 million for domestic federalincome tax expense.  For the first halfof fiscal year 2004, income tax expense was $1.1 million on a pre-tax net lossof $1.0 million, and as was comprised primarily of certain state and foreignincome tax expense.

 

**Liquidity and Capital Resources**

 

Our principal sources of liquidity are cashprovided by operations and borrowings under our senior secured credit facility,entered into in conjunction with our June 30, 2004 acquisition ofMedSource, which include a five-year undrawn $40.0 million revolvingcredit facility and a six-year $194.0 million term facility.  Additionally, we may borrow up to $40.0million in additional term loans, with the approval of participatinglenders.  Our senior secured creditfacility is described in greater detail under Part II, Item 7 “Management’sDiscussion and Analysis of Financial Condition and Results of Operations –Liquidity and Capital Resources” in our Annual Report on Form 10-K for thefiscal year ended December 31, 2004. We amended our senior secured credit facility on March 25, 2005,which decreased the interest rates charged on the term loans, increased theamount of potential additional term loans from $40.0 million to $50.0 millionand allowed increased flexibility in,

 

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and funds for, acquisitions. Additional term loans require the approval of participatinglenders.  For a further discussion of theamendment to our senior secured credit facility, see Note 6 – “Short-term andlong-term debt.”  Our principal uses ofcash will be to meet debt service requirements, fund working capitalrequirements and finance capital expenditures and acquisitions. At June 30,2005, we had $6.2 million of letters of credit outstanding that reduced bysuch amount the amounts available under our revolving credit facility.

 

During the first half of 2005, cash providedby operating activities was $12.0 million compared to $5.1 million for thefirst half of 2004. The increase in cash provided by operations is primarilydue to increased profitability as a result of the acquisition of MedSource andincreased demand for our products.  Theincrease in profitability has been partially offset by increases in workingcapital for inventory and accounts receivable due to higher sales, paymentsrelated to our restructuring programs, and payments of annual incentivecompensation awards during the first quarter of fiscal 2005.

 

During the first half of 2005, cash used ininvesting activities totaled $11.1 million compared to $216.0 millionfor the first half of 2004.  The decreasein cash used in investing activities is attributable to the acquisition ofMedSource, which used $203.6 million of cash during the first half of 2004, andan earn-out payment relating to our Venusa acquisition, which used $9.6 millionof cash during the first half of 2004. These costs were partially offset by the final Venusa earn-out paymentof $2.2 million during the first half of 2005, and increased capitalexpenditures of $4.7 million during the first half of 2005 due to theacquisition of MedSource and increased demand for our products.

 

 Duringthe first half of 2005, cash used in financing activities was $1.8 million andconsisted of $1.0 million of scheduled debt payments for our senior securedcredit facility and $0.7 million of deferred financing fees incurred inconnection with the amendment of our senior secured credit facility in March 2005.  Cash provided by financing activities was$219.1 million for the first half of 2004 and relate primarily to the followingfinancing transactions, which took place in conjunction with our June 30,2004 acquisition of MedSource:

 

•                  Theissuance of $369.0 million of indebtedness consisting of a$194.0 million six-year term facility and $175.0 million of 10%senior subordinated notes due July 15, 2012.  We incurred $17.1 million of fees related tothe new debt.

 

•                  Therepayment of all previously outstanding debt, which included our creditfacility of $83.5 million, our senior subordinated notes of$21.5 million and our parent’s senior notes of $38.3 million.

 

•                  Therepayment of all MedSource debt and capital leases totaling $36.1 million.

 

•                  Thepayment by our parent of $22.2 million of dividends.

 

•                  Therepurchase by our parent of $18.8 million of its Class C RedeemablePreferred Stock.

 

•                  Theissuance by our parent of 7,568,980 shares of its Class A-8 5% ConvertiblePreferred stock for approximately $88.0 million, net of $1.8 millionof fees.

 

We anticipate that we will spendapproximately $15.0 million on capital expenditures for the remainder of2005. Our senior secured credit facility contains restrictions on our abilityto make capital expenditures. Based on current estimates, our managementbelieves that the amount of capital expenditures permitted to be made under oursenior secured credit facility for the remainder of 2005 will be adequate togrow our business according to our business strategy and to maintain ourcontinuing operations.

 

Our ability to make payments on ourindebtedness and to fund planned capital expenditures and necessary workingcapital will depend on our ability to generate cash in the future. This, to acertain extent, is subject to general economic, financial, competitive,legislative, regulatory and other factors that are beyond our control. Forexample, Boston Scientific has informed us that it intends to transfer a numberof products currently assembled by us to its own assembly operation. Based onour current level of operations, we believe our cash flow from operations andavailable borrowings under our senior secured credit facility will be adequateto meet our liquidity requirements for the next 12 months and theforeseeable future. No assurance can be given, however, that this will be thecase.

 

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**Off-Balance Sheet Arrangements**

 

We do not have any “off-balance sheetarrangements” (as such term is defined in Item 303 of Regulation S-K) thatare reasonably likely to have a current or future effect on our financialcondition, changes in financial condition, revenues or expenses, results ofoperations, liquidity, capital expenditures or capital resources.

 

**Contractual Obligations and Commitments**

 

The following table sets forth our long-termcontractual obligations as of June 30, 2005 (in thousands):

 
| ** **                       | ** ** | **Payment due by period** | ** ** |
|----------------------------------|------------|---------------------------|------------|
| ** **                       | ** ** | **Total**                 | ** ** | **Less than  1 year** | ** ** | **1-3 years** | ** ** | **3-5 years** | ** ** | **More than  5 years** | ** ** |
| Senior  Secured Credit Facility  |       | $                         | 192,060    |   | $ | 1,941 |   | $ | 3,880 |   | $ | 186,239 |   | $ | — |   |
| Notes                            |       | 175,000                   |       | — |   | — |   | — |   | 175,000 |   |
| Capital  Leases                  |       | 9                         |       | 9 |   | — |   | — |   | — |   |
| Operating  Leases (1)            |       | 42,267                    |       | 5,535 |   | 9,350 |   | 7,816 |   | 19,566 |   |
| Purchase  Commitments            |       | 26,218                    |       | 26,218 |   | — |   | — |   | — |   |
| Other  long-term obligations (2) |       | 15,635                    |       | 250 |   | 1,535 |   | 213 |   | 13,637 |   |
| Total                            |       | $                         | 451,189    |   | $ | 33,953 |   | $ | 14,765 |   | $ | 194,268 |   | $ | 208,203 |   |

 

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(1)                                  Accruedfuture rental obligations of $6.8 million included in other long-termliabilities on our consolidated balance sheet as of June 30, 2005 areincluded in our operating leases in the table of contractual obligations.

 

(2)                                  Otherlong-term obligations include environmental remediation obligations of$4.7 million, accrued severance benefits of $1.3 million, accruedcompensation and pension benefits of $5.2 million and deferred income taxes of$4.4 million.

 

**Critical Accounting Policies**

 

Our unaudited consolidated financialstatements have been prepared in accordance with accounting principlesgenerally accepted in the United States for interim financial statements. Thepreparation of financial statements in conformity with generally acceptedaccounting principles requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and disclosure ofcontingent assets and liabilities at the date of the financial statements andthe reported amounts of revenues and expenses during the reporting period. Webase our estimates on historical experience, current conditions and variousother assumptions that are believed to be reasonable under the circumstances.Estimates and assumptions are reviewed on an ongoing basis and the effects ofrevisions are reflected in the unaudited consolidated financial statements inthe period they are determined to be necessary. Actual results could differmaterially from those estimates under different assumptions or conditions. Webelieve the following critical accounting policies impact our judgments andestimates used in the preparation of our consolidated financial statements.

 

*Revenue Recognition.*  The amount of product revenue recognized in agiven period is impacted by our judgments made in establishing our reserve forpotential future product returns. We provide a reserve for our estimate offuture returns against revenue in the period the revenue is recorded. Ourestimate of future returns is based on such factors as historical return dataand current economic condition of our customer base. The amount of revenue werecognize will be directly impacted by our estimates made to establish thereserve for potential future product returns. Our provision for sales returns was $1.1 million and $0.8 millionat June 30, 2005 and December 31, 2004, respectively.

 

*Allowance forDoubtful Accounts.* We estimate the collectibility of our accounts receivable and therelated amount of bad debts that may be incurred in the future. The allowancefor doubtful accounts results from an analysis of specific customer accounts,historical experience, credit ratings and current economic trends. Based onthis analysis, we provide allowances for specific accounts where collectibilityis not reasonably assured.

 

*Provision forInventory Valuation.* Inventory purchases and commitments are based upon future demandforecasts. Excess and obsolete inventory are valued at their net realizablevalue, which may be zero. We periodically experience variances

 

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between the amount of inventory purchased and contractually committedto and our demand forecasts, resulting in excess and obsolete inventoryvaluation charges.

 

*Valuation ofGoodwill.* Goodwill is the excess of the purchase price over the fair value ofidentifiable net assets acquired in business combinations. In accordance withSFAS No. 142, goodwill is assigned to the reporting unit expected tobenefit from the synergies of the combination. We have assigned our goodwill tothree reporting units. Goodwill for each reporting unit is subject to an annualimpairment test, or more often if impairment indicators arise, using afair-value-based approach. In assessing the fair value of goodwill, we makeprojections regarding future cash flow and other estimates, and may utilizethird party appraisal services. If these projections or other estimates for oneor all of these reporting units change, we may be required to record animpairment charge.

 

*Valuation ofLong-lived Assets.* Long-lived assets are comprised of property, plant and equipment andintangible assets with finite lives. We assess the impairment of long-livedassets whenever events or changes in circumstances indicate that the carryingvalue may not be recoverable through projected undiscounted cash flows expectedto be generated by the asset. When we determine that the carrying value ofintangible assets and fixed assets may not be recoverable, we measureimpairment by the amount by which the carrying value of the asset exceeds therelated fair value. Estimated fair value is generally based on projections offuture cash flows and other estimates, and guidance from third party appraisalservices.

 

*Self Insurance Reserves.*  We accrue for costs to provide self insuredbenefits under our workers’ compensation and employee health benefitsprograms.  With the assistance of thirdparty workers’ compensation experts, we determine the accrual for workers’compensation losses based on estimated costs to resolve each claim.  We accrue for self insured health benefitsbased on historical claims experience. We maintain insurance coverage to prevent financial losses fromcatastrophic workers’ compensation or employee health benefit claims.  Our financial position or results ofoperations could be impacted in a fiscal quarter due to a material increase inclaims.  Our accruals for self insuredworkers compensation and employee health benefits at June 30, 2005 and December 31,2004 were $3.9 million and $3.3 million, respectively.

 

*EnvironmentalReserves.*  Weaccrue for environmental remediation costs when it is probable that a liabilityhas been incurred and a reasonable estimate of the liability can be made. Ourremediation cost estimates are based on the facts known at the current timeincluding consultation with a third party environmental specialist and externallegal counsel. Changes in environmental laws, improvements in remediationtechnology and discovery of additional information concerning known or newenvironmental matters could affect our operating results.

 

*Pension and OtherEmployee Benefits.* Certain assumptions are used in the calculation of the actuarialvaluation of our defined benefit pension plans. These assumptions include theweighted average discount rate, rates of increase in compensation levels andexpected long-term rates of return on assets. If actual results are lessfavorable than those projected by management, additional expense may berequired.

 

*Income Taxes.*  We estimate our income taxes in each of thejurisdictions in which we operate. This process involves estimating our actualcurrent tax exposure together with assessing temporary differences resultingfrom differing treatment of items, such as goodwill amortization, for tax andaccounting purposes. These differences result in deferred tax assets andliabilities, which are included within our consolidated balance sheet. We thenassess the likelihood that our deferred tax assets will be recovered fromfuture taxable income and to the extent we believe that recovery is not likely,we establish a valuation allowance. To the extent we establish a valuationallowance or increase this allowance in a period, we increase or decrease ourincome tax provision in our consolidated statement of operations. If any of ourestimates of our prior period taxable income or loss prove to be incorrect,material differences could impact the amount and timing of income tax benefitsor payments for any period.

 

**New Accounting Pronouncements**

 

In November 2004, the FASB issued SFAS No. 151,“Inventory Costs, an amendment of ARB No. 43, Chapter 4.” SFAS No. 151amends Accounting Research Bulletin (“ARB”) No. 43, Chapter 4, toclarify that abnormal amounts of idle facility expense, freight, handling costsand wasted materials (spoilage) should be recognized as current-period charges.In addition, SFAS No. 151 requires that allocation of fixed productionoverhead to inventory be based on the normal capacity of the productionfacilities. SFAS No. 151 is effective for inventory costs incurred duringfiscal years beginning after June 15, 2005.  We are currently assessing the impact thatSFAS No. 151 will have on our results of operations, financial position orcash flows.

 

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On December 16, 2004, the FASB issued SFAS No. 123(Revised 2004), “Share-Based Payment.”  SFAS 123R requires that compensationcost related to share-based payment transactions be recognized in the financialstatements. Share-based payment transactions within the scope of SFAS 123Rinclude stock options, restricted stock plans, performance-based awards, stockappreciation rights, and employee share purchase plans. The provisions of SFAS123R are effective for our first annual period that begins after December 31,2005. Accordingly, we will implement the revised standard in the first quarterof fiscal year 2006. Currently, we account for share-based payment transactionsunder the provisions of APB 25, which does not necessarily require therecognition of compensation cost in the financial statements.  We are assessing the implications of thisrevised standard, which may materially impact our results of operations in thefirst quarter of fiscal year 2006 and thereafter.

 

**ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

***Market Risk***

 

We are subject to market risk associated withchange in interest rates and foreign currency exchange rates.

 

***Interest Rate Risk***

 

We are subject to market risk associated withchange in the London Interbank Offered Rate (LIBOR) and the Federal Funds Ratepublished by the Federal Reserve Bank of New York in connection with our seniorsecured credit facility. Based on the outstanding balance at June 30,2005, a hypothetical 10% change in rates under the senior secured creditfacility would result in a change to our annual interest expense ofapproximately $1.1 million.

 

***Foreign CurrencyRisk***

 

We operate several facilities in foreigncountries. At June 30, 2005, approximately $6.8 million of long-livedassets were located in foreign countries. Our principal currency exposuresrelate to the Euro, British pound and Mexican pesos. We consider the marketrisk to be low, as the majority of transactions at our European locations aredenominated in the Euro or British pound, and our exposure to date in theMexican peso has not been significant.

 

**ITEM 4.  CONTROLS AND PROCEDURES**

 

*Evaluation ofDisclosure Controls and Procedures. *Wemaintain disclosure controls and procedures that are designed to ensure thatinformation required to be disclosed by us in the reports that we file orsubmit to the Securities and Exchange Commission, or SEC, under the SecuritiesExchange Act of 1934, as amended (the “Exchange Act”), is recorded, processed,summarized and reported within the time periods specified by the SEC’s rules andforms, and that information is accumulated and communicated to our management,including our principal executive officer and principal financial officer, asappropriate to allow timely decisions regarding required disclosure.  Based on our management’s evaluation (with theparticipation of our principal executive officer and principal financialofficer), as of the end of the period covered by this report, our principalexecutive officer and principal financial officer have concluded that ourdisclosure controls and procedures (as defined in Rules 13a-15(e) and15d-15(e) under the Exchange Act ) are effective.

 

*Changes in Internal Control over Financial Reporting.*There wasno change in our internal control over financial reporting (as defined in Rules 13a-15(f) and15d-15(f) under the Exchange Act) during our second fiscal quarter thathas materially affected, or is reasonably likely to materially affect, ourinternal control over financial reporting.

 

Under thedirect supervision of senior management, the Company is currently undergoing acomprehensive effort to ensure compliance with the new regulations under Section 404of the Sarbanes-Oxley Act of 2002 that will be effective with respect to us forour fiscal years ending on and after December 31, 2006. Our effortincludes identification and documentation of internal controls in our keybusiness processes, as well as formalization of the Company’s overall controlenvironment. We are currently in the process of documenting and evaluatingthese internal controls.

 

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**PART II.  OTHER INFORMATION**

 

**ITEM6.  EXHIBITS**

 
| **Exhibit  Number** | ** ** | **Description  of Exhibits**                                                                                                                                                                                                                                                                                         |
|---------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1                 |       | Articles of  Incorporation of Accellent Corp., as amended                                                                                                                                                                                                                                                            |
| 10.1                |       | Fourth  Amendment to Management Agreement dated as of June 9, 2005, between  Accellent, Inc. and KRG Capital Partners, L.L.C.                                                                                                                                                                              |
| 10.2                |       | First  Amendment to Letter Agreement dated as of June 9, 2005, between  Accellent, Inc. and DLJ Merchant Banking III Inc.                                                                                                                                                                                  |
| 10.3                |       | Form of Restricted Stock Agreement for use under the Accellent  Inc. 2000 Stock Option and Incentive Plan (incorporated by reference to  exhibit 10.1 to Accellent Corp.’s Current Report on Form 8-K (Commission  File No. 333-118675) filed on June 14, 2005)                             |
| 10.4                |       | Amended and Restated Accellent Inc. 2000 Stock Option and Incentive  Plan (incorporated by reference to exhibit 10.1 to Accellent Corp.’s Current  Report on Form 8-K (Commission File No. 333-118675) filed on July 21,  2005)                                                                  |
| 10.5                |       | Form of Incentive Stock Option Agreement for use under the  Amended and Restated Accellent Inc. 2000 Stock Option and Incentive Plan  (incorporated by reference to exhibit 10.2 to Accellent Corp.’s Current  Report on Form 8-K (Commission File No. 333-118675) filed on July 21,  2005) |
| 31.1                |       | Rule 13a-14(a) Certification  of Chief Executive Officer                                                                                                                                                                                                                                                   |
| 31.2                |       | Rule 13a-14(a) Certification  of Chief Financial Officer                                                                                                                                                                                                                                                   |
| 32.1                |       | Section 1350  Certification of Chief Executive Officer                                                                                                                                                                                                                                                          |
| 32.2                |       | Section 1350  Certification of Chief Financial Officer                                                                                                                                                                                                                                                          |

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized. 

 
|                | Accellent Corp. |
|---------------------|-----------------|
|                |            |
| August 9, 2005 | By:             | /s/ Ron Sparks |   |
|                |            | Ron Sparks |
| * *            | * *        | *President and**Chief Executive Officer* |
| * *            | * *        | * * |
|                | Accellent Corp. |
|                |            |
| August 9, 2005 | By:             | /s/ Stewart A. Fisher |   |
|                |            | Stewart A. Fisher |
| * *            | * *        | *Chief Financial Officer, Vice President, Treasurer  and Secretary* |

 

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**EXHIBIT INDEX**

 
| **Exhibit  Number** | ** ** | **Description  of Exhibits**                                                                                                                                                                                                                                                                                         |
|---------------------|------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1                 |       | Articles of  Incorporation of Accellent Corp., as amended                                                                                                                                                                                                                                                            |
| 10.1                |       | Fourth  Amendment to Management Agreement dated as of June 9, 2005, between  Accellent, Inc. and KRG Capital Partners, L.L.C.                                                                                                                                                                              |
| 10.2                |       | First  Amendment to Letter Agreement dated as of June 9, 2005, between  Accellent, Inc. and DLJ Merchant Banking III Inc.                                                                                                                                                                                  |
| 10.3                |       | Form of Restricted Stock Agreement for use under the Accellent  Inc. 2000 Stock Option and Incentive Plan (incorporated by reference to  exhibit 10.1 to Accellent Corp.’s Current Report on Form 8-K (Commission  File No. 333-118675) filed on June 14, 2005)                             |
| 10.4                |       | Amended and Restated Accellent Inc. 2000 Stock Option and Incentive  Plan (incorporated by reference to exhibit 10.1 to Accellent Corp.’s Current  Report on Form 8-K (Commission File No. 333-118675) filed on July 21,  2005)                                                                  |
| 10.5                |       | Form of Incentive Stock Option Agreement for use under the  Amended and Restated Accellent Inc. 2000 Stock Option and Incentive Plan  (incorporated by reference to exhibit 10.2 to Accellent Corp.’s Current  Report on Form 8-K (Commission File No. 333-118675) filed on July 21,  2005) |
| 31.1                |       | Rule 13a-14(a) Certification  of Chief Executive Officer                                                                                                                                                                                                                                                   |
| 31.2                |       | Rule 13a-14(a) Certification  of Chief Financial Officer                                                                                                                                                                                                                                                   |
| 32.1                |       | Section 1350  Certification of Chief Executive Officer                                                                                                                                                                                                                                                          |
| 32.2                |       | Section 1350  Certification of Chief Financial Officer                                                                                                                                                                                                                                                          |

 

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