Analogic Corporation
ANALOGIC CORP (Form: 10-K, Received: 09/27/2016 16:01:38)
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

 

Form 10-K

 

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

For the fiscal year ended July 31, 2016

OR

 

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

For the transition period from             to            

Commission File Number 0-6715

 

 

Analogic Corporation

(Exact name of registrant as specified in its charter)

 

Massachusetts   04-2454372
(State or other jurisdiction of   (I.R.S. Employer
incorporation or organization)   Identification No.)
8 Centennial Drive, Peabody, Massachusetts   01960
(Address of principal executive offices)   (Zip Code)

(978) 326-4000

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class

 

Name of Each Exchange on Which Registered

Common Stock, $0.05 par value   NASDAQ Global Select Market

Securities registered pursuant to Section 12(g) of the Act:

None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes   þ     No   ¨

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes   ¨     No   þ

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

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes   þ     No   ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.   þ

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

 

Large accelerated filer   þ

   Accelerated filer   ¨

Non-accelerated filer   ¨ (Do not check if a smaller reporting company)

   Smaller reporting company   ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.)    Yes   ¨     No   þ

The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant at January 31, 2016 was approximately $895,480,000. As of September 20, 2016, there were 12,401,682 shares of common stock outstanding.

DOCUMENTS INCORPORATED BY REFERENCE:

Portions of the registrant’s definitive proxy statement, which will be issued in connection with the 2016 Annual Meeting of Stockholders, are incorporated by reference in Part III of this Annual Report on Form 10-K.

 

 

 


Table of Contents

TABLE OF CONTENTS

 

     Page No.  

PART I

  

Item 1. Business

     2   

Item 1A. Risk Factors

     13   

Item 1B. Unresolved Staff Comments

     23   

Item 2. Properties

     23   

Item 3. Legal Proceedings

     23   

Item 4. Mine Safety Disclosures

     24   

               Executive Officers of the Registrant

     24   

PART II

  

Item  5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

     26   

Item 6. Selected Consolidated Financial Data

     28   

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

     29   

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

     48   

Item 8. Consolidated Financial Statements and Supplementary Data

     49   

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

     49   

Item 9A. Controls and Procedures

     49   

Item 9B. Other Information

     50   

PART III

  

Item 10. Directors, Executive Officers and Corporate Governance

     51   

Item 11. Executive Compensation

     51   

Item  12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

     51   

Item 13. Certain Relationships and Related Transactions, and Director Independence

     51   

Item 14. Principal Accountant Fees and Services

     51   

PART IV

  

Item 15. Exhibits and Financial Statement Schedules

     52   

SIGNATURES

     53   

CONSOLIDATED FINANCIAL STATEMENTS

     57   

INDEX TO EXHIBITS

     105   

 

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PART I

 

Item 1. Business

Throughout this Annual Report on Form 10-K, unless the context states otherwise, the words “we,” “us,” “our” and “Analogic” refer to Analogic Corporation and all of its subsidiaries taken as a whole, and “our board of directors” refers to the board of directors of Analogic Corporation.

Description of Business

Analogic Corporation (NASDAQ:ALOG) designs, manufactures, and commercializes innovative real-time guidance, diagnostic imaging and threat detection technologies to advance the practice of medicine and save lives. We operate and report along three business segments: Medical Imaging, Ultrasound and Security and Detection. Our Medical Imaging segment provides critical enabling medical imaging systems and subsystems for computed tomography, or CT, magnetic resonance imaging, or MRI and high-resolution digital mammography. We sell our Medical Imaging products primarily through longstanding relationships with well-known multinational medical original equipment manufacturers, or OEMs, and new entrants in emerging markets. Our Ultrasound business provides real-time ultrasound procedure guidance systems for the urology, surgery and point of care markets. We sell our ultrasound products, under the BK Ultrasound brand, through our direct sales force in North America and Europe, as well as through a network of distributors to clinical practitioners throughout the world. Our Security and Detection segment designs and manufactures automated threat detection systems for aviation baggage inspection applications utilizing advanced medical CT technology and systems used for DNA analysis for law enforcement and government agencies. We sell our aviation threat detection and DNA systems through multinational partners. We were incorporated in the Commonwealth of Massachusetts in November 1967 and are headquartered in Peabody, Massachusetts.

Refer to Note 16 to the notes to Consolidated Financial Statements included in this Annual Report on Form 10-K as well as Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations for financial information regarding our segments. The following chart shows net revenue by segment in millions for fiscal years 2016, 2015 and 2014, respectively:

 

 

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Medical Imaging

Our Medical Imaging segment, which accounted for approximately 57% of our net revenue in fiscal year 2016, consists primarily of systems and sub-systems for medical imaging that are sold globally to OEM producers of CT, MRI, and digital mammography systems. Our products are designed and manufactured to achieve high reliability resulting in the lowest overall cost of ownership for our customers.

 

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Computed Tomography

Analogic has been at the forefront of developments in computed tomography equipment technology from the introduction of the first single slice CT systems in the early 1970s to today’s multi-slice volumetric scanners. We are an industry leader in the development and sale of CT detector systems, data acquisition systems, or DAS, data management systems, or DMS, and fully integrated CT systems that drive the image processing in OEM CT imaging scanners sold around the world.

Our CT product portfolio consists primarily of the following:

 

  1) Detector Subsystems – These subsystems convert the x-ray energy in a CT machine to analog signals for further processing in the DAS. The detectors use state-of-the-art scintillator materials and photodiodes coupled with advanced semiconductor technology to process these highly precise signals. These signals are then fed to a computer through a DAS for image reconstruction.

 

  2) DAS – These subsystems are used to process the signals created by the detectors and feed them as a digital stream to a reconstruction computer to create high resolution images. The DAS is designed with many multi-channel circuit boards that process the analog signals from the detectors and convert them into digital signals through an array of analog to digital, or A/D converters.

 

  3) DMS – This is the most critical sub-system of the CT system and consists of both the detector array and the DAS in one package. This system provides our OEM customers a higher level of integration that allows for lower cost and faster time to market.

 

  4) Full Integrated CT Systems – The components of the CT system (detectors, DAS, x-ray tube and power supplies) are mounted on a rotating ring assembly called a gantry. The ring enables the components of the CT systems to rotate around the patient at speeds up to 300 revolutions per minute for high resolution imaging. We provide full integrated gantries with image and iterative reconstruction algorithms to our OEM customers as another level of integration to facilitate a smoother and faster time to market and improve manufacturing efficiency. Our Low Dose Imaging Software, or LISA, is available in our integrated CT systems to provide high quality imaging capability at up to 40% lower x-ray dose as compared with conventional image reconstruction. Low dose imaging in medical diagnostics is used to prevent damage to healthy tissue. Our designs also include non-contact power, data transfer and other innovative capabilities that provide high reliability, lower total cost of ownership and dose reduction/modulation. We have sold over 130 full CT gantries to a major Chinese OEM manufacturer for the local China market.

 

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Full Integrated CT Gantry

 

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The detector, DAS and DMS products we sell are used in a wide range of CT systems, from dual slice count to the most advanced multi-slice (at least 256 slices) systems, enabling advanced diagnostics such as cardiac imaging. Our CT products are designed to allow our customers to remain at the forefront of this rapidly advancing field. By leveraging our experience in integrating CT components and technology, we have also developed higher-level integrated systems for the radiotherapy market primarily used for image guided radiation treatment of cancerous tumors.

Magnetic Resonance Imaging

For OEM producers of MRI equipment, we supply two key enabling sub-systems: gradient amplifiers and radio frequency, or RF amplifiers. We have developed a wide range of amplifier solutions for our customers ranging from low-magnetic-field systems (under 0.3 Tesla) to ultra-high-magnetic-field systems (> 7.0 Tesla). Our ability to provide very high power levels with fast response, low noise and industry-leading reliability enables our OEM customers to deliver innovative technologies such as new, wide-bore (i.e. larger opening) MRI scanners addressing growing requirements related to obesity and patient comfort.

Our MRI product portfolio consists primarily of the following:

 

  1) Gradient Amplifiers – These high power systems are used to drive a set of coils located inside the MRI system and around the patient. The coils energize the atomic structure of a patients’ anatomy in order to create tissue and structure images. Gradient amplifiers must be designed at specific power levels for different MRI field strengths ranging from under 0.3 Tesla to 7.0 Tesla and higher.

 

  2) RF Amplifiers – These power systems are used to control another set of the coils within the MRI system that are used to read-back the signals from the anatomy generated by the gradient coils. These signals are then processed in a reconstruction computer to create images. The RF amplifiers must have a very high signal-to-noise ratio to produce the cleanest images.

 

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RF Amplifier

Digital Mammography

Our digital mammography products consist primarily of digital mammography selenium based detector plates, sold directly to OEM customers for breast cancer screening and diagnostic applications in mammography. These detector plates are used by OEMs in mammography systems to convert x-ray signals into high resolution 2-D and 3-D images of breast tissue to aid in the detection of breast cancer. Our detector plates for mammography applications are sold to medical OEMs for use in products worldwide. Our digital mammography product portfolio consists of the following:

 

  1) Large field of view (FOV) detector (AXS-2430 and AXS-ScreenPlus) – Our large field of view detector plate, based on selenium technology, is used primarily for European and U.S. markets. The plate and power supply is designed to be easily adapted to many types of mammography systems. This detector plate is also compatible with systems that can perform tomosynthesis, which creates 3-D images through a series of exposures to more accurately detect lesions in the breast.

 

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  2) Small field of view (FOV) detector (AXS-1824) – Our small field of view detector plate uses the same selenium-based technology as the AXS-2430 detector and is manufactured primarily for the Asian markets.

 

 

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Other Products

Within our Medical Imaging segment, we also design and manufacture servo and stepper (motion control) devices, which we supply to OEM customers for use in computer-controlled automation systems primarily in the semiconductor and laboratory automation markets.

Competition

We are subject to competition based upon product design, performance, pricing, quality and service. We believe that our innovative engineering and product reliability have been important factors in our historical growth.

In our Medical Imaging segment, systems and subsystems are customized for the needs of our customers. In many cases, due to the limited number of companies with technology comparable to ours, we consider selection by our OEM customers for the design and manufacture of these products and our other medical products to be due more to the “make-or-buy” decision of the individual OEM customers than a function of other competitors in the field.

Marketing and Distribution

Our Medical Imaging segment directly sells to OEM customers, both domestically and abroad, primarily through our headquarters in the U.S. We also sell products through our subsidiaries in Canada, China, and the U.S.

Seasonal Aspect of Business

There are no material seasonal elements to our Medical Imaging segment, although holidays and plant closings in the summer, particularly in Europe, tend to decrease the procurement activities of certain customers during the first quarter of our fiscal year.

Ultrasound

Our Ultrasound segment designs and manufactures medical ultrasound systems, principally for applications in procedure guidance.

Our BK Ultrasound brand products are primarily sold to clinical end-users in urology, surgery, point-of-care and general imaging applications and accounted for approximately 32% of our net revenue in fiscal year 2016. Our ultrasound systems use acoustic waves to generate real-time images of the body’s internal anatomy that are

 

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used for interventional and medical diagnostic procedures, including guiding surgical procedures and guiding prostate cancer treatment employing procedures such as brachytherapy.

Our product portfolio under the BK Ultrasound brand name consists of four families: Flexfocus, BK, Sonix and Sonic Window ultrasound systems used primarily for guiding procedures in urology, surgery, regional anesthesia and point of care (POC).

In 2015 we introduced the high end bk3000 and the bk5000, which are based on our innovative TriCore technology, that expands the portfolio of existing Flexfocus systems with high-end entries. The TriCore technology allows for high definition imaging by processing three times more information compared with traditional systems. The bk3000 is primarily used for high-end urology and general imaging applications while the bk5000 is a premium system used for guiding surgical procedures.

In early 2016 we introduced the bk3500 as an advanced ultrasound solution for point of care (POC) applications such as for the emergency department and anesthesiology. The bk3500 combines high resolution imaging and workflow with a streamlined touchscreen interface, that was originally used in our Sonix product lines. The system has four probe connectors, an integrated bar code reader and a streamlined touchscreen that guides the user through the procedure.

In mid-2014, we signed an agreement with a new technology partner to expand into the radiology and OB/GYN market. As part of this agreement, we manufacture an advanced ultrasound platform using our partner’s brand and sell through their established sales channel. The growth into the general imaging market combined with our existing presence in the urology, surgery and POC markets increases our total market opportunity to over $4 billion.

 

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Ultrasound Product Portfolio

 

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Our Sonic Window ® is a handheld ultrasound device for visualizing vasculature for kidney dialysis cannulation and fistula assessment, as well as guiding peripheral intravenous access, or PIV. This ultra-compact device provides direct visualization of structures beneath the skin. Unlike existing portable devices on the market today, the Sonic Window handheld is self-contained and does not require a cart or stand to operate. We began commercialization and received first orders for the dialysis market in the second quarter of 2016 from a domestic dialysis center.

 

 

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Sonic Window ® – Handheld Ultrasound System

In the middle of fiscal 2016, we entered the veterinary telemedicine market through the acquisition of Oncura Partners. Oncura provides for veterinary medicine BK ultrasound systems with the remote capabilities for (1) assisting the practitioner to deliver diagnostic scans, (2) trouble shooting operator or system performance and (3) delivering diagnoses by board certified radiologists. We see this technology as having benefits for our presence in the human telemedicine market.

We also design and manufacture advanced ultrasound transducers sold to OEM customers within our Ultrasound segment. Using our advanced acoustic design and manufacturing capability, we provide a variety of transducers to OEMs for both diagnostic and procedure driven applications such as cardiology, radiology, OB/GYN, surgery and interventional radiology.

Competition

We are subject to competition based upon product design, performance, pricing, quality and service. We believe that our innovative engineering and product reliability have been important factors in our historical growth. While we try to maintain competitive pricing on those products that are directly comparable to products manufactured by others, in many instances, our products conform to more precise specifications and carry a higher price than similar products manufactured by others.

The Ultrasound segment participates in markets primarily focused in urology, surgery, anesthesia and other point-of-care markets. We compete in these markets based on image quality, ease of use, mobility, reliability and flexibility with a robust portfolio of specialized ultrasound transducers. Our competitors are companies and business units of large medical device companies, such as General Electric Corporation, or GE and Koninklijke Philips Electronics N.V., or Philips, that primarily focus on the conventional ultrasound markets, as well as smaller business units of large multi-national companies, such as Hitachi Medical Corporation and Fujifilm that sell under brands such as Aloka and SonoSite in our target markets. We also compete against newer global market entrants such as Mindray Medical International Limited, or Mindray.

Marketing and Distribution

Our Ultrasound segment globally distributes its products to end users both through a direct sales force and through a network of independent sales representatives and distributors located around the world. Our direct sales force, located in the U.S., Canada, Germany, Belgium, United Kingdom, Italy, and Scandinavia, accounted for approximately 58% of our Ultrasound revenue in fiscal year 2016, generated from product sales, service and application support. Our remaining Ultrasound revenue was generated through a network of generally non-exclusive, independent distributors in more than 60 other countries and sales of transducers to OEM customers both domestically and abroad.

 

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Our global marketing department is responsible for defining future products, uncovering unmet needs and validating value propositions based on customer insights. Management of key opinion leaders and global reference sites is supervised by a team of clinical scientists and product applications specialists. Our global marketing communications team is responsible for protecting and expanding the BK Ultrasound brand on all relevant customer touchpoints.

Seasonal Aspect of Business

Customer purchases in our Ultrasound segment have historically been higher in the second and fourth quarters of our fiscal year due in part to the timing of customer budgeting cycles.

Security and Detection

Utilizing our advanced CT technology, the Security and Detection segment, which accounted for approximately 11% of our net revenue in fiscal year 2016, designs and manufactures airport baggage screening systems and subsystems. The airport screening systems generate 3-D images of objects contained within baggage and utilize highly sophisticated algorithms to provide threat analysis of materials contained within the bags. We also design and manufacture DNA analysis systems.

Our certified checked baggage screening systems and subsystems are sold through our OEM customers L-3 Communications Security and Detection Systems, or L-3 and Smiths Detection, or Smiths, to the Transportation Security Agency in the U.S. airports and to international airport authorities and foreign governments for installation at airports around the world.

We sell the following checked baggage systems through L-3.

 

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1)       eXaminer ® XLB (High Speed) – The XLB was the first certified explosives detection system, or EDS specifically optimized for high speed screening of checked baggage. Capable of scanning up to 1,200 bags per hour, the XLB keeps bags continuously moving through a meter-wide tunnel. Combining high-resolution helical CT with dual-energy imaging, the XLB offers superior detection capabilities and advanced 3-D imaging.

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2)       eXaminer 3DX (Medium Speed) – Our CT technology is utilized in the 3DX, a medium speed EDS that scans up to 550 bags per hour in-line and up to 330 bags in standalone configuration. The enhanced speed 3DX-ES scans up to 750 bags per hour in the in-line configuration. Both systems are designed to provide high levels of reliability and low false-alarm rates. With over 1,200 systems installed since 2003, the 3DX is one of most widely used checked baggage systems in the U.S.

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3)       eXaminer SX (Reduced Size) – The SX is a lower-cost, reduced size EDS designed for small and medium-sized airports. Able to scan up to 360 bags per hour in-line and up to 300 bags per hour in standalone configuration, the SX offers customers a reduced footprint system with high resolution 3-D imaging and low false-alarm rates.

eXaminer ® is a registered trademark of L-3.

 

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The Smiths Detection HI-SCAN 10080 XCT, which incorporates Analogic CT technology, is capable of screening up to 1,800 bags per hour in its approved configuration with a belt speed of 0.5 meters per second. The system offers a large one meter wide tunnel that meets the requirements of high speed in-line baggage handling systems and allows rapid, efficient scanning of larger items. The system is well positioned for international sales as the market converts to CT level detection for checked baggage.

 

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Smiths Detection HI-SCAN 10080 XCT

Our COBRA checkpoint CT system is the first system to achieve European Civil Aviation Conference Type-D and D+ Standard-2 approval. The COBRA successfully met Standard-2 in Type-D operations, where liquids, aerosols and gels (LAGs) remain inside passenger carry-on bags, and Type D+ operations, where LAGs and complex electronics, such as laptops, remain inside passenger carry-on bags. The COBRA checkpoint CT system has also been approved by the United Kingdom’s Department for Transport as an Advanced Cabin Baggage X-ray system.

 

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COBRA Check-Point CT System

 

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Other Products

Within our Security and Detection segment, we also design and manufacture Rapid DNA Analysis systems. These systems, which we supply to our OEM customer, are designed to rapidly analyze multiple human DNA samples to provide “DNA fingerprints.” The analysis process yields results in less than ninety minutes, a significant improvement over conventional technologies. Unlike conventional techniques, which require highly trained personnel working in a laboratory setting, our systems are designed for non-technical users with minimal training in a variety of environments. These systems have potential application in fields that benefit from the rapid identification of individuals, including law enforcement, defense, and immigration.

 

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Rapid DNA Analysis System

Competition

We are subject to competition based upon product design, performance, pricing, quality and service. We believe that our innovative engineering and product reliability have been important factors in our historical growth.

In our Security and Detection segment, competition in baggage scanning is limited due to the high barriers of entry resulting from the cost of developing the capability to design and manufacture CT technology. Due to the degree of customization required and the limited number of companies with technology comparable to ours, we consider selection by our OEM customers to be due more to the “make-or-buy” decision of our customers than a function of other competitors in the field.

Principal entrants in the aviation baggage scanning market include L-3, Smiths Detection, Morpho Detection (formerly GE’s security business) and Rapiscan (a division of OSI systems).

Marketing and Distribution

Our Security and Detection segment sells its checked baggage systems and subsystems and its DNA analysis system to our OEM customers. We offer our checkpoint solutions to customers in the U.S. and internationally. Our Security and Detection segment conducts its sales and marketing activities primarily through our headquarters in the U.S.

Seasonal Aspect of Business

There are no material seasonal elements to our Security and Detection segment, although holidays and plant closings in the summer, particularly in Europe, tend to decrease the procurement activities of certain customers during the first quarter of our fiscal year.

 

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Material Customers

We had three customers during fiscal year 2016 and four customers during fiscal years 2015 and 2014, as set forth in the table below, which accounted for 10% or more of our net revenue.

 

     For the Year ended July 31,  
         2016             2015             2014      

Koninklijke Philips Electronics N.V., or Philips

     13     14     16

Siemens AG

     12     11     11

Toshiba Corporation, or Toshiba

     11     11     12

L-3 Communications Corporation, or L-3

     *        13     11

 

Note (*): Total net revenue was less than 10% in this fiscal year.

Philips’, Toshiba’s, and Siemens’ revenues were primarily in the Medical Imaging segment and L-3’s revenue was in the Security and Detection segment.

Our ten largest customers as a group accounted for 61%, 64% and 66% of our net revenue for fiscal years 2016, 2015 and 2014, respectively.

The following table summarizes the net accounts receivable due from our customers with net accounts receivable balances greater than or equal to 10% of our total net accounts receivable balance:

 

     As of     As of  
     July 31,     July 31,  
         2016             2015      

L-3

     17     17

Philips

     15     16

Our OEM business involves large customers whose placement of large orders can vary based on timing. Our backlog, which consists of cancellable and non-cancellable orders primarily shippable within twelve months, was $148.7 million and $128.5 million as of July 31, 2016 and 2015, respectively. The increase in backlog was primarily due to timing of customer orders in our Security and Detection segment and our Medical Imaging segment, partially offset by decreased orders in OEM probes within our Ultrasound segment.

Government Contracts

We do a significant amount of business with agencies of the U.S. Federal Government through our Security and Detection segment, either directly or as a subcontractor. Our contracts with government agencies, and the government contracts of other parties under which we serve as a subcontractor, are subject to termination at the election of the government agency. While none of our government contracts or subcontracts provide for renegotiation of profits at the election of the government, it is possible that the government agency could request, and that we could under certain circumstances agree to, the renegotiation of the payments provided for under such contracts. However, we have not in the past renegotiated significant payment terms under our government contracts or subcontracts.

Sources of Raw Materials and Components

In general, our products are composed of internally-designed electronic and mechanical elements, including proprietary integrated circuits, printed circuit boards, detectors, power supplies, and displays manufactured by us and others in accordance with our specifications. We order raw materials and components to complete our customers’ orders, and some of these raw materials and components are ordered from sole-source suppliers. We believe that most items procured from third-party suppliers are available from more than one source. However, if

 

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a given component ceases to be available, it might become necessary for us to modify a product design to adapt to a substitute component, or to purchase new tooling to enable a new supplier to manufacture the component, either of which could result in additional expense and/or delay in product sales. Also, from time to time the availability of certain electronic components has been disrupted. Accordingly, we carry a safety stock of raw materials and components in an effort to ensure our ability to make timely delivery to our customers.

Intellectual Property

We rely on a combination of patent, trade secret, copyright and trademark laws, as well as contractual agreements, to safeguard our products, technologies, and processes. We hold patents of varying duration in the U.S. and in various foreign jurisdictions, which cover technologies that we have developed. We regularly file U.S. patent applications and, where appropriate, foreign patent applications. As of July 31, 2016, we hold approximately 348 patent families, including pending and issued patents, in various jurisdictions. In seeking to limit access to sensitive information, we routinely enter into confidentiality and assignment of invention agreements with each of our employees, and confidentiality agreements with our key customers and vendors.

We believe that, while the legal protections afforded by the intellectual property laws are an important factor in our ability to compete, our future prospects also depend on the continuing level of excellence and creativity of our engineers in developing products that satisfy customer needs, and the marketing skills and managerial competence of our personnel in selling those products. Moreover, we believe that market positioning and rapid market entry are important to the success of our products. Our management believes that the loss of any individual patent would not have a material effect on our competitive position.

Research and Development

Research and development, or R&D is a significant element of our business. We maintain a constant and comprehensive R&D program directed toward the creation of new products, the improvement and refinement of our present products, and the expansion of their applications. Certain R&D projects are funded by our customers, typically OEM customers, and such funding is generally treated as engineering revenue, with the associated costs classified as engineering cost of sales. The costs of internally-funded R&D efforts are included within operating expenses.

We evaluate developing technologies in areas where we have technological or marketing expertise for possible investment or acquisition. We intend to continue to invest in R&D and focus our internal and external investments in fields that we believe will offer the greatest potential for near and long-term growth. We are committed to investing in products that have a demonstrable clinical impact and value to the healthcare system and through which we can benefit from our core competencies and global infrastructure.

The cost of customer-funded R&D, which is classified as engineering cost of sales, amounted to:

 

     For the Year ended July 31,  
(in millions)        2016              2015              2014      

Customer-funded R&D

   $ 5.2       $ 7.8       $ 6.9   

The cost of internally-funded R&D included in operating expenses amounted to:

 

     For the Year ended July 31,  
(in millions)        2016              2015              2014      

Internally-funded R&D

   $ 67.1       $ 68.5       $ 73.8   

 

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Environment

Our manufacturing facilities are subject to numerous environmental laws and regulations, particularly with respect to industrial waste and emissions. Compliance with these laws and regulations have not had a material impact on our capital expenditures, earnings, or competitive position.

Employees

As of July 31, 2016, we employed 1,577 employees. A limited number of employees at our Denmark facility are covered by a works council. We consider our relations with our employees to be generally good.

Financial Information about Foreign and Domestic Operations and Export Revenue

Revenues are attributed to countries based on the location of our customers. For OEM sales, our customer’s location may differ from the location of where the ultimate completed systems are sold by the OEM into the market.

 

     For the Year ended July 31,  
(in millions)        2016                    2015                    2014             

Net Revenue

               

Domestic

   $ 192.3         38   $ 215.3         40   $ 183.8         36

Foreign

     316.5         62     325.0         60     333.7         64
  

 

 

      

 

 

      

 

 

    

Total net revenue

   $ 508.8         $ 540.3         $ 517.5      
  

 

 

      

 

 

      

 

 

    

Refer to Note 16 to the notes to Consolidated Financial Statements included in this Annual Report on Form 10-K for financial information regarding our domestic and foreign revenue and long lived assets.

Available Information

Our website address is www.analogic.com . The information on our website is not incorporated by reference into this document and should not be considered to be a part of this document. Our website address is included in this document as an inactive textual reference only.

We make available free of charge through our website our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, Annual Form SD and amendments to the reports as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the Securities and Exchange Commission, or the SEC.

 

Item 1A. Risk Factors

This Annual Report on Form 10-K contains statements, which, to the extent that they are not a recitation of historical facts, constitute “forward-looking statements” pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. In some cases these forward-looking statements can be identified by the use of words such as “may,” “could,” “should,” “would,” “expect,” “project,” “predict,” “potential” or the negative of these words or comparable words. Investors are cautioned that all forward-looking statements, including without limitation, statements about product development, market and industry trends, strategic initiatives, regulatory approvals, sales, profits, expenses, price trends, R&D expenses and trends, and capital expenditures, involve risk and uncertainties, and actual events and results may differ materially from those indicated in any forward-looking statement as a result of a number of important factors, including those discussed below and elsewhere in this Form 10-K.

 

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In addition, any forward-looking statements represent management’s views only as of the date of this Annual Report on Form 10-K was filed with the SEC and should not be relied upon as representing management’s views as of any subsequent date. While management may elect to update forward-looking statements at some point in the future, it specifically disclaims any obligation to do so, even if its views change, except as required by law.

You should carefully consider the risks described below before making an investment decision with respect to our common stock. Additional risks not presently known to us, or that we currently deem immaterial, may also impair our business. Any of these could have a material and negative effect on our business, financial condition, or results of operations.

Because a significant portion of our revenue currently comes from a small number of customers, any decrease in revenue from these customers could harm our operating results.

We depend on a small number of customers for a large portion of our business, and changes in our customers’ orders could have a significant impact on our operating results. If a major customer significantly reduces the amount of business it does with us, there would be an adverse impact on our operating results.

We had three customers during fiscal year 2016 and four customers during fiscal years 2015 and 2014, which accounted for 10% or more of our net revenue.

Our ten largest customers as a group accounted for 61%, 64%, and 66% of our net revenue for fiscal years 2016, 2015, and 2014, respectively.

Although we seek to broaden our customer base, we will continue to depend on sales to a relatively small number of major customers. Because it often takes significant time to replace lost business, it is likely that our operating results would be adversely affected if one or more of our major customers were to cancel, delay, or reduce significant orders in the future. Our customer agreements typically permit the customer to discontinue future purchases after timely notice.

In addition, we generate significant accounts receivable in connection with the products we sell and the services we provide to our major customers. Although our major customers are large corporations, if one or more of our customers were to become insolvent or otherwise be unable to pay for our products and services, our operating results and financial condition could be adversely affected.

Competition from existing or new companies in the Medical Imaging and Security and Detection industries could cause us to experience downward pressure on prices, fewer customer orders, reduced margins, loss of new business opportunities, and the loss of market share.

We operate in highly competitive industries. We are subject to competition based on product design, performance, pricing, quality, and service offerings, and we believe our innovative engineering and product reliability have been important factors in our historical growth. While we try to maintain competitive pricing on those products which are comparable to products manufactured by others, in many instances our products conform to more precise specifications and may carry a higher price than analogous products manufactured by others. In addition, the trend of consolidation in the medical device industry and among our customers could result in greater competition and pricing pressures.

Our competitors include divisions of larger, more diversified organizations as well as specialized companies. Some of them have greater resources and larger staffs than we have. A number of our existing and potential OEM customers have the ability to design and manufacture internally the products that we manufacture for them. We face competition from the R&D groups and manufacturing operations of our existing and potential customers, who continually compare the benefits of internal research, product development, and manufacturing with the costs and benefits of outsourcing.

 

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We depend on our suppliers, some of which are the sole-source for certain components, and our production could be substantially curtailed if these suppliers were not able to meet our demands and alternative sources were not available.

We order raw materials and components to complete our customers’ orders, and some of these raw materials and components are ordered from sole-source suppliers. Although we work with our customers and suppliers to minimize the impact of shortages in raw materials and components, we sometimes experience short-term adverse effects due to price fluctuations and delayed shipments. In the past, there have been industry-wide shortages of electronics components. If a significant shortage of raw materials or components were to occur, we might have to delay shipments or pay premium pricing, which could adversely affect our operating results. In some cases, supply shortages of particular components could substantially curtail our production of products using these components. We are not always able to pass on price increases to our customers. Accordingly, some raw material and component price increases could adversely affect our operating results. We also depend on a small number of suppliers to provide many of the other raw materials and components that we use in our business. Some of these suppliers are affiliated with customers or competitors, and others are small companies. If we were unable to continue to purchase these raw materials and components from our suppliers, our operating results could be adversely affected. Because many of our costs are fixed, our margins depend on the volume of output at our facilities, and a reduction in volume could adversely affect our margins.

We rely on successful performance by and relationships with suppliers. This reliance could have a material adverse effect on our results of operations and financial condition.

We have formed arrangements with suppliers for various services and components. We have formed these arrangements because it is commercially more efficient to outsource these services and purchase these components than it would be for us to perform these services or manufacture these components, which in some cases require, among other things, a high degree of technical skill and advanced equipment that is not practical or cost-effective for us to develop or acquire. As a result, if one of our suppliers were to experience quality problems, capacity constraints, decreased yields, or delivery delays, or were to raise prices significantly, we could face product liability claims, product shortages, decreased revenues or lost customers, which could adversely affect our operating results.

If we were to be left with excess inventory, our operating results could be adversely affected.

Because of long lead times and specialized product designs, in certain cases we purchase components and manufacture products in anticipation of customer orders based on customer forecasts. For a variety of reasons, such as decreased end-user demand for our products, inadequate or inaccurate forecasts, or other issues that might impact production planning, our customers might not purchase all the products that we have manufactured or for which we have purchased components. In any such event, we would attempt to recoup material and manufacturing costs by means such as returning components to our vendors, disposing of excess inventory through other channels, or requiring our OEM customers to purchase or otherwise compensate us for such excess inventory. Some of our significant customer agreements do not give us the ability to require our OEM customers to do this. To the extent that we were unsuccessful in recouping our material and manufacturing costs, our gross margin and operating results could be adversely affected. Moreover, carrying excess inventory would reduce the working capital we have available to continue to operate and grow our business.

Uncertainties and adverse trends affecting our industry or any of our major customers could adversely affect our operating results.

Our business operates primarily within three business segments: Medical Imaging, Ultrasound, and Security and Detection. The Medical and Security and Detection equipment markets in which our segments operate are subject to changes in technology, pricing, and profit margins and have been historically subject to cyclical downturns characterized by diminished product demand, rapid declines in average selling prices, and production

 

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over-capacity. In addition, changes in government policy and regulations relating to the purchase or use of medical and security-related capital equipment could also affect our sales. Our customers’ markets are also subject to economic cycles and are likely to experience periodic contractions. The economic conditions affecting our industry in general or any of our major customers in particular, might adversely affect our operating results.

In Security and Detection, our OEM customers’ purchasing dynamics are generally affected by the level of government funding, the expansion and/or upgrade of airport terminals, the timing of government tenders and fluctuations in airline passenger volume.

Our customers’ or our delay in obtaining or inability to obtain any necessary U.S. or foreign regulatory clearances or approvals for products could have a material adverse effect on our business.

Our products in the Medical Imaging and Ultrasound segments are finished medical devices or are components used by our customers in the production of finished medical devices that are subject to a high level of regulatory oversight. A delay in obtaining or inability to obtain any necessary U.S. or foreign regulatory clearances or approvals for products could have a material adverse effect on our business. The process of obtaining clearances and approvals can be costly and time-consuming. There is a further risk that any approvals or clearances, once obtained, might be withdrawn or modified. Medical devices cannot be marketed in the U.S. without clearance from the U.S. Food and Drug Administration, or FDA. Medical devices sold in the U.S. must also be manufactured in compliance with FDA rules and regulations, which regulate the design, manufacturing, packaging, storage, and installation of medical devices. Moreover, medical devices are required to comply with FDA regulations relating to investigational research and labeling. States may also regulate the manufacturing, sale, and use of medical devices. Medical devices are also subject to approval and regulation by foreign regulatory and safety agencies. Our products must also meet the requirements of these governments and agencies for approval and distribution. As with the U.S., foreign governments or agencies can withdraw or modify their approvals.

Our business strategy includes the pursuit of acquisitions or business combinations, which, if consummated, could be difficult to integrate, disrupt our business, dilute stockholder value, or divert management attention.

As part of our business strategy, we may seek attractive acquisitions and other business combinations. Acquisitions are typically accompanied by a number of risks, including the difficulty of integrating the operations and personnel of the acquired companies, the potential disruption of our ongoing business and distraction of management, expenses related to the acquisition, and potential unknown or underestimated liabilities associated with acquired businesses. If we do not successfully complete acquisitions, we could incur substantial expenses and devote significant management time and resources without generating any benefit to us. In addition, substantial portions of our available cash might be utilized as consideration for these acquisitions.

Our annual and quarterly operating results are subject to fluctuations, which could affect the market price of our common stock.

Our annual and quarterly results could vary significantly depending on various factors, many of which are beyond our control, and may not meet the expectations of securities analysts or investors. If this occurs, the price of our common stock could decline. These factors include:

 

   

variations in the timing and volume of customer orders;

 

   

introduction and market acceptance of our customers’ or our own new products;

 

   

changes in demand for our customers’ or our own existing products;

 

   

the timing of our expenditures in anticipation of future orders;

 

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effectiveness in managing our manufacturing processes;

 

   

changes in competitive and economic conditions generally in our or our customers’ markets;

 

   

changes in the cost or availability of components or skilled labor;

 

   

changes in our effective tax rate;

 

   

fluctuations in manufacturing yields;

 

   

foreign currency and commodity price exposures;

 

   

investor and analyst perceptions of events affecting us, our competitors, and/or our industry;

 

   

changes in laws or regulatory requirements affecting the health care or aviation security industries or our products; and

 

   

changes in contingent consideration valuation.

A delay in anticipated sales beyond the end of a particular quarter could have a significant effect on our operating results for that quarter. In addition, most of our operating expenses do not vary directly with net revenue and are difficult to adjust in the short term. As a result, if revenue for a particular quarter was below our expectations, we could not proportionately reduce operating expenses for that quarter. Hence, the revenue shortfall could have a disproportionate adverse effect on our operating results for that quarter.

Loss of key personnel could hurt our business because of their industry experience and their technological expertise.

We operate in a highly competitive industry and depend on the services of our key senior executives and our technological experts. The loss of the services of one or several of our key personnel or an inability to attract, train, and retain qualified and skilled personnel, specifically engineering and operations personnel, could result in the loss of customers or otherwise inhibit our ability to operate and grow our business successfully.

If we fail to effectively manage our growth or, alternatively, our spending during economic downturns, our business could be disrupted, which could harm our operating results.

Our ability to offer our products and implement our business plan in evolving markets successfully requires an effective planning and management process. We must effectively manage our spending and operations to ensure our competitive position during economic downturns, and must preserve our future opportunities when the economy improves. A failure to manage our spending and operations effectively could disrupt our business and harm our operating results. A growth in sales, combined with the challenges of managing geographically dispersed operations, can place a significant strain on our management systems and resources, and growth in future operations could continue to place such a strain. The failure to manage our growth effectively could disrupt our business and harm our operating results.

If we are unable to maintain our expertise in research and development, manufacturing processes, and marketing new products, we might not be able to compete successfully.

We believe that our future success depends upon our ability to provide research and development, provide manufacturing services that meet the changing needs of our customers, and market new products. Technological changes may adversely impact orders and sales of our existing products, or make them less desirable or even obsolete. This requires that we successfully anticipate and respond to technological changes in design and manufacturing processes in a cost-effective and timely manner. As a result, we continually evaluate the advantages and feasibility of new product designs and manufacturing processes. We may not be able to develop and introduce new and improved products in a timely or efficient manner. New and improved products, if developed, may not achieve price and profitability targets or market acceptance. Commercialization of new products may prove challenging, and we may be required to invest more time and money than expected to introduce these products into the market successfully.

 

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Major terrorist attacks and threats have increased financial expectations that may not materialize.

Major terrorist attacks and threats have created increased interest in our security and detection systems. However, the level of demand for our products is not predictable and may vary over time. We do not know what solutions will continue to be adopted by the U.S. Department of Homeland Security as a result of terrorism and whether our products will continue to be a part of the solutions. Additionally, should our products be considered as a part of future security solutions, it is unclear what the level of purchases may be and how quickly funding to purchase our products may be made available. These factors could adversely impact us and create unpredictability in our revenues and operating results.

We are exposed to risks associated with international operations and markets.

We source and manufacture certain components and systems outside the U.S., we market and sell products in international markets, and we have established offices and subsidiaries in Europe, Canada, and Asia. Our foreign revenue accounted for 62%, 60%, and 64% of our total net revenue for fiscal years 2016, 2015, and 2014, respectively. There are inherent risks in transacting business internationally, including:

 

   

changes in applicable laws and regulatory requirements;

 

   

export and import restrictions;

 

   

export controls relating to technology;

 

   

trade agreements, tariffs, and other trade barriers;

 

   

intellectual property laws that offer less protection for our proprietary rights;

 

   

difficulties in staffing and managing foreign operations;

 

   

problems in collecting accounts receivable and longer payment cycles;

 

   

political instability and changes in the international political environment;

 

   

fluctuations in currency exchange rates;

 

   

difficulties in managing employee relations, including differences in employment practices and works councils;

 

   

difficulties in maintaining uniform standards, controls, procedures and policies across our global operations, including inventory management and financial consolidation;

 

   

expatriation controls; and

 

   

potential adverse tax consequences.

There is significant uncertainty about the stability of global currency, credit and financial markets. These economic uncertainties affect businesses such as ours in a number of ways, making it difficult to accurately forecast and plan our future business activities. Various macroeconomic factors such as sudden adverse changes to foreign exchange rates, unemployment rates, availability of credit, strength or weakness of real estate markets and other such factors may cause our customers to cancel, decrease or delay their existing or future orders for our products. We are unable to predict the impact of this instability and if economic conditions worsen, our business and results of operations could be materially and adversely affected.

We must comply with the U.S. Foreign Corrupt Practices Act and antitrust, competition and similar laws in other jurisdictions and our failure to do so could lead to substantial liability. We could also face investigations by one or more government agencies that could be costly to respond to and divert the attention of key personnel from our business operations. An adverse outcome from any such investigation could subject us to fines or other penalties, which could adversely affect our business, financial condition and results of operations.

Any one or more of these factors may have a material adverse effect on our future international activities and, consequently, on our business and results of operations.

 

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There are risks associated with our operations in China.

We conduct certain manufacturing operations at, and are transitioning additional manufacturing operations to, our facility in Shanghai, China in order to reduce costs and streamline our manufacturing operations. There are administrative, legal, and governmental risks to operating in China that could result in increased operating expenses or could hamper us in the development of our operations in China. The risks from operating in China that could increase our operating expenses and adversely affect our operating results, financial condition and ability to deliver our products and grow our business include, without limitation:

 

   

difficulties in staffing and managing foreign operations, particularly in attracting and retaining personnel qualified to design, sell, test and support our products;

 

   

difficulties in managing employee relations;

 

   

material changes in the value of the Chinese Yuan, or CNY;

 

   

difficulties in coordinating our operations in China with those in the U.S., Canada, and Europe;

 

   

difficulties in enforcing contracts in China;

 

   

difficulties in protecting intellectual property;

 

   

diversion of management attention;

 

   

imposition of burdensome governmental regulations;

 

   

difficulties in maintaining uniform standards, controls, procedures and policies across our global operations, including inventory management and financial consolidation;

 

   

regional political and economic instability, which could have an adverse impact on foreign exchange rates in Asia and impair our ability to conduct our business in China; and

 

   

inadequacy of the local infrastructure to support our operations.

Our operations are vulnerable to interruption or loss due to natural disasters, epidemics, terrorist acts and other events beyond our control, which would adversely affect our business.

Although we perform manufacturing in multiple locations, we generally do not have redundant manufacturing capabilities in place for any particular product or component. As a result, we depend on our current facilities for the continued operation of our business. A natural disaster, pandemic, terrorist act, act of war, or other natural or manmade disaster affecting any of our facilities could significantly disrupt our operations, or delay or prevent product manufacturing and shipment for the time required to repair, rebuild, or replace our manufacturing facilities. This delay could be lengthy and we could incur significant expenses to repair or replace the facilities. Any similar natural or manmade disaster that affects a key supplier or customer could lead to a similar disruption in our business.

Our business could be harmed if we are unable to protect our intellectual property or if we become subject to intellectual property infringement claims.

We rely on a combination of trade secrets, patents, trademarks, copyrights and confidentiality procedures to protect our technology. Despite our efforts, the steps we have taken to protect our technology may be inadequate. Existing trade secret, patent, trademark and copyright laws offer only limited protection. Our patents could be invalidated or circumvented. In addition, others may develop substantially equivalent or superseding proprietary technology, or competitors may offer similar competing products, thereby substantially reducing the value of our proprietary rights. The laws of some foreign countries in which our products are or may be manufactured or sold may not protect our products or intellectual property rights to the same extent as do the laws of the U.S. The steps we have taken to protect our intellectual property may not be adequate to prevent misappropriation of our technology. Our inability to protect our intellectual property could have a negative impact on our operations and financial results.

 

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We may also become subject to claims that we infringe the intellectual property rights of others in the future. We cannot ensure that, if made, these claims will not be successful. Any claim of infringement could cause us to incur substantial costs defending against the claim even if the claim is invalid, and could distract management from other business. Any judgment against us could require substantial payment in damages and could also include an injunction or other court order that could prevent us from offering certain products.

We rely significantly on information technology and any failure, inadequacy, interruption or security lapse of that technology could harm our ability to operate our business effectively.

We rely extensively on information technology systems to interact with our employees and our customers and to run our business effectively. These interactions include ordering and managing materials from suppliers, converting materials to finished products, shipping product to customers, processing transactions, summarizing and reporting results of operations, complying with regulatory, legal and tax requirements, and other processes necessary to manage our business. Our systems could become damaged or cease to function properly due to any number of causes, including issues caused by ongoing projects to improve our information technology systems and the delivery of services, failures of third-party service providers, catastrophic events, power outages, and security breaches. Any failure or malfunctioning of our information technology systems, errors or misuse by system users, or inadequacy of the systems in addressing the needs of our operations, could disrupt our ability to timely and accurately manufacture and ship products, which could have a material adverse effect on our business, financial condition and results of operations. Any such failure, errors, misuse or inadequacy could also disrupt our ability to timely and accurately process, report and evaluate key operations metrics and key components of our results of operations, financial position and cash flows. Any such disruptions would likely divert our management and key employees’ attention away from other business matters. Any disruptions or difficulties that may occur in connection with our information technology systems could also adversely affect our ability to complete important business processes such as the evaluation of our internal control over financial reporting and attestation activities.

We face attempts by others to gain unauthorized access to our information technology systems and have been subject to information security breaches caused by illegal hacking, none of which, in the aggregate, have materially impacted our operations and financial condition to date. We may be subject to additional information security breaches caused by illegal hacking, computer viruses, or acts of vandalism or terrorism. We have implemented procedures to mitigate these risks. We monitor our data, information technology and personnel usage of our systems to reduce these risks and continue to do so on an ongoing basis for any current or potential threats; however, our security measures or those of our third-party service providers may not detect or prevent such breaches and, in some instances we, our customers, and the users of our products might be unaware of an incident or its magnitude and effect. These threats are constantly evolving, thereby increasing the difficulty of successfully defending against them or implementing adequate preventative measures. Any such compromise to our information security could result in an interruption in our operations, the unauthorized publication of our confidential business or proprietary information, the unauthorized release of customer, vendor, or employee data, the violation of privacy or other laws, and the exposure to litigation, any of which could harm our business and operating results.

If our security and detection systems fail to detect weapons, explosives or other devices that are used to commit a terrorist act, we could be exposed to product liability and related claims for which we may not have adequate insurance coverage.

Our business exposes us to potential product liability risks that are inherent in the development, manufacturing, sale and service of security and detection systems. Our customers use our security and inspection systems to help them detect items that could be used in performing terrorist acts or other crimes. The training, reliability and competence of the customers’ operators are crucial to the detection of suspicious items. In addition, our security and detection systems are not designed to work under all circumstances or may otherwise fail to detect a threat. We test the reliability of our security and detection systems during both their development

 

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and manufacturing phases. We also perform such tests if we are requested to perform installation, warranty or post-warranty servicing. However, our security and detection systems are advanced mechanical and electronic devices and therefore can malfunction.

As a result of the September 11, 2001, and 1993 World Trade Center terrorist attacks, and the potential for future attacks, product liability insurance coverage for such threats is extremely difficult and costly to obtain. It is possible, subject to the applicability of the Support Anti-terrorism by Fostering Effective Technologies Act of 2002, or SAFETY Act, that if we were found liable following a major act of terrorism, our insurance might not fully cover the claims for damages.

The SAFETY Act is a Federal law in the U.S. enacted to provide certain legal liability protections for providers of certain anti-terrorism technologies. If applicable to claims against Analogic, the SAFETY Act could mitigate some of this risk.

Our Security and Detection segment depends in part on purchases of products and services by the U.S. Federal Government and its agencies, which purchases may be only partially funded, and are subject to potential termination and reductions and delays in government spending.

As an indirect subcontractor or team member with prime contractors and in other cases directly to the U.S. Federal Government and its agencies, our security and detection systems are included in many different domestic programs. Over the lifetime of a program, the award of many different individual contracts and subcontracts could impact our products’ requirements. The funding of U.S. Federal Government programs are subject to Congressional appropriations. Although multiple-year contracts may be planned in connection with major procurements, Congress generally appropriates funds only on a single fiscal year basis. Consequently, programs are often only partially funded initially, and additional funds are committed only as Congress makes further appropriations and prime contracts receive such funding. The reduction or delay in funding or termination of a government program in which we are involved could result in a loss of or delay in receiving anticipated future revenues attributable to that program and contracts or orders received. The U.S. Federal Government could reduce or terminate a prime contract under which we are a subcontractor or team member irrespective of the quality of our products or services. The termination of a program or reduction in, or failure to commit additional funds to, a program in which we are involved could negatively impact our revenue and have a material adverse effect on our financial condition and results of operations.

Changes in laws affecting the health care industry could adversely affect our business, operations and financial condition.

In recent years, the healthcare industry has undergone significant changes driven by various efforts to reduce costs, including increased levels of managed care, cuts in Medicare, consolidation of healthcare distribution companies and collective purchasing arrangements by office-based healthcare practitioners. In addition, numerous governments have undertaken efforts to control healthcare costs through legislation and regulation. In the U.S. in March 2010, President Obama signed into law health care reform legislation in the form of the Patient Protection and Affordable Care Act, or PPACA. The PPACA could meaningfully change the way healthcare is developed, marketed and delivered, and may materially impact numerous aspects of our business, results of operations, and financial conditions. The implementation of health care reform and medical cost containment measures in the U.S. and in foreign countries in which we operate could:

 

   

limit the use of our products and adversely affect the use of new therapies for which our products may be targeted;

 

   

reduce reimbursement available to our customers for using our products; and

 

   

decrease the price we might establish for our products and products that we may develop, which would result in lower product revenues to us.

 

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In addition, because we operate in a highly regulated industry, other governmental actions may adversely affect our business, operations and financial condition, including:

 

   

changes in FDA and foreign regulations that may require additional safety monitoring, labeling changes, restrictions on product distribution or use, or other measures after the introduction of our products to market, which could increase our costs of doing business, or otherwise adversely affect the market for our products;

 

   

new laws, regulations and judicial decisions affecting pricing or marketing practices; and

 

   

changes in the tax laws relating to our operations.

Impact of transactions involving our Danish subsidiary BK Medical ApS (“BK Medical”) and certain of its distributors with respect to which we have raised questions as to compliance with law.

As initially disclosed in our Annual Report on Form 10-K for the fiscal year ended July 31, 2011, we identified certain transactions involving our Danish subsidiary BK Medical ApS, or BK Medical, and certain of its foreign distributors, with respect to which we raised questions concerning compliance with law, including Danish law and the U.S. Foreign Corrupt Practices Act, and our business policies. These have included transactions in which the distributors paid BK Medical amounts in excess of amounts owed and BK Medical transferred the excess amounts, at the direction of the distributors, to third parties identified by the distributors. We have terminated the employment of certain BK Medical employees and also terminated our relationships with the BK Medical distributors that were involved in the transactions. We have concluded that the identified transactions have been properly accounted for in our reported financial statements in all material respects. However, we were unable to ascertain with certainty the ultimate beneficiaries or the purpose of these transfers.

We voluntarily disclosed this matter to the Danish Government, the U.S. Department of Justice, or DOJ, and the SEC, and cooperated with inquiries by the Danish Government, the DOJ and the SEC to reach a resolution of this matter in the fiscal year ended July 31, 2016. On June 22, 2016, we issued a press release announcing that we had reached agreements with the SEC, the DOJ and the Danish Government to resolve the matters we had voluntarily disclosed. As a result of these resolutions, we paid a total of $14.9 million in disgorgement, interest and penalties. We do not expect any further inquiries related to this matter.

We incurred inquiry-related costs of approximately $0.4 million, $1.4 million, and $1.4 million in our fiscal years ended July 31, 2016, 2015, and 2014, respectively, in connection with this matter.

Compliance or the failure to comply with current and future environmental regulations could cause us significant expense.

We are subject to various environmental regulations. From time to time new regulations are enacted, and it is difficult to anticipate how such regulations will be implemented and enforced. We continue to evaluate the necessary steps for compliance with environmental regulations as they are enacted. These regulations include, for example, the Registration, Evaluation, Authorization and Restriction of Chemical substances, or REACH, the Restriction on the Use of Certain Hazardous Substances in Electrical and Electronic Equipment Directive, or RoHS and the Waste Electrical and Electronic Equipment Directive, or WEEE enacted in the European Union which regulate the use of certain hazardous substances in, and require the collection, reuse and recycling of waste from, certain products we manufacture. This and similar legislation that has been or is in the process of being enacted in Japan, China, Korea and various states of the U.S. may require us to redesign our products to ensure compliance with the applicable standards, for example by requiring the use of different types of materials. These redesigns or alternative materials may detrimentally impact the performance of our products, add greater testing lead-times for product introductions or have other similar effects. We believe we comply with all such legislation

 

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where our products are sold and we will continue to monitor these laws and the regulations being adopted under them to determine our responsibilities. In addition, we are monitoring legislation relating to the reduction of carbon emissions from industrial operations to determine whether we may be required to incur any material, additional material costs, or expenses associated with our operations. Our failure to comply with any of the foregoing regulatory requirements could result in our being directly or indirectly liable for costs, fines or penalties and third-party claims, and could jeopardize our ability to conduct business in the U.S. and foreign countries.

 

Item 1B. Unresolved Staff Comments

None.

 

Item 2. Properties

As of July 31, 2016, we owned or leased the primary facilities described below:

 

Location

  Approximate Sq. Ft.    

Principal Use(s)

  Principal
Segment(s)

Peabody, MA (1)

    Owned        514,000      Executive and administrative offices, manufacturing, R&D, customer service, and sales   All segments

Shanghai, China (2)

    Owned        145,000      Administrative offices, manufacturing, customer service, and sales   Medical Imaging
and Ultrasound

Herlev, Denmark (3)

    Owned        135,000      Administrative offices, R&D, customer service, and sales   Ultrasound

State College, PA

    Owned        66,000      Administrative offices, manufacturing, R&D, customer service, and sales   Ultrasound

Montreal, Canada

    Leased        54,000      Administrative offices, manufacturing, R&D, customer service, and sales   Medical Imaging

Canton, MA

    Leased        33,000      R&D, customer service, and sales   Medical Imaging

Vancouver, Canada (4)

    Leased        31,000      Administrative offices, manufacturing, R&D, customer service, and sales   Ultrasound

 

(1) We own approximately 60 acres of land at this location, which can accommodate future expansion as required.
(2) Our Shanghai, China facility, built on leased land, opened in April 2012.
(3) We are not currently utilizing all the space of this facility. We have leased a portion of this facility and are currently in process of exploring various uses for the unused space.
(4) This property was assumed as part of the acquisition of Ultrasonix Medical Corporation, which we refer to as Ultrasonix, acquired in March 2013.

We lease a number of other smaller facilities in the U.S. and locations such as, the United Kingdom, Germany, Italy, Sweden and Belgium.

We believe that our existing facilities are generally adequate to meet our current needs, and that suitable additional or substitute space will be available on commercially reasonable terms when needed. Refer to Note 12 to the Consolidated Financial Statements included in this report for further information concerning certain leases.

 

Item 3. Legal Proceedings

For a discussion of legal matters as of July 31, 2016, please read Note 11 to the notes to our Consolidated Financial Statements included in this Annual Report on Form 10-K, which is incorporated into this item by reference.

 

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Item 4. Mine Safety Disclosure

None.

Executive Officers of the Registrant

Our current executive officers are:

 

Name

  Age    

Position

  Date Since Office
Has Been Held
 

James W. Green

    58      President and Chief Executive Officer     2007   

Mark Frost

    53      Senior Vice President, Chief Financial Officer and Treasurer     2015   

Shalabh Chandra

    51      Senior Vice President and General Manager, Ultrasound Business     2015   

John J. Fry

    54      Senior Vice President, General Counsel, and Secretary     2007   

Mervat Faltas

    64      Senior Vice President and General Manager Medical Imaging Business     2010   

James P. Ryan

    46      Senior Vice President and General Manager, Security Systems, Medical Imaging Technologies and Global Operations     2015   

Our executive officers are elected annually by our board of directors and hold office until their successors are chosen and qualified, subject to earlier removal by the board of directors.

There are no arrangements or understandings between any of our executive officers and any other person(s) pursuant to which such executive officer was selected as an officer.

James W. Green is our President and Chief Executive Officer. Mr. Green joined us in 2007. From 2005 to 2007, Mr. Green was Regional Vice President, California Division, of Quest Diagnostics Incorporated, a leading provider of diagnostic testing, information, and services. Before joining Quest, Mr. Green served as Senior Vice President & General Manager of Computed Tomography for Philips Medical Systems, a global leader in the business of developing, manufacturing, marketing, and servicing medical computed tomography systems.

Mark Frost is our Senior Vice President, Chief Financial Officer and Treasurer. He joined us in 2015. From 2012 to 2015, Mr. Frost was executive vice president and chief financial officer for AngioDynamics, a leading provider of medical, surgical, and diagnostic devices used for vascular access and the treatment of peripheral vascular disease, and for use in oncology and surgical settings. Prior to that, he served as senior vice president of administration and chief financial officer of Albany Molecular Research Incorporated, a global provider of contract research and manufacturing services to biotech and pharmaceutical companies. Before joining AMRI in 2004, Mark held various financial roles at Smith+Nephew and General Electric, both domestically and internationally.

Shalabh Chandra is our Senior Vice President and General Manager Ultrasound, and has served in this capacity since August 2015. Mr. Chandra joined us in 2010 as Senior Vice President and General Manager, Analogic Asia. Prior to joining Analogic, Mr. Chandra held a number of key leadership roles over a 15-year career at Philips Healthcare, including general manager of Philips’ MR Patient Monitoring Group, Program Director for Value CT, and Director of CT Clinical Science.

John J. Fry is our Senior Vice President, General Counsel, and Secretary. He joined us in November 2007. From April 2005 until joining us, Mr. Fry was a principal of the law firm Driggs, Hogg, & Fry Co., L.P.A. (formerly Driggs, Lucas, Brubaker & Hogg Co., L.P.A.), where his practice focused primarily on technology and intellectual property law. From August 1995 to April 2005, he held various legal positions at Philips Medical Systems (formerly Marconi Medical Systems and Picker International), including Senior Corporate Counsel and Intellectual Property Manager and counsel to Philips’ computed tomography business.

 

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Mervat Faltas is our Senior Vice President and General Manager, Medical Imaging, and has served in this capacity since May 2010. She joined ANRAD Corporation, our Canadian subsidiary now known as Analogic Canada Corporation, in July 2005 as Vice President of Operations and was named President of ANRAD in January 2006. From May 2000 until June 2005, Mrs. Faltas served in various capacities at ITF Optical Technologies, a Montreal-based provider of fiber optic components for terrestrial and undersea communication networks, including President and CEO. From 1990 to 2000, Mrs. Faltas held various positions at PerkinElmer Corporation, including General Manager of PerkinElmer’s Montreal operation.

James P. Ryan is our Senior Vice President and General Manager, Security Systems, Medical Imaging Technologies and Global Operations and has served in this capacity since February 2016. From August 2015 until February 2016 Mr. Ryan served as our Senior Vice President and General Manager, Global Operations, and from 2008 until August 2015 served as our Senior Vice President, Global Operations. Mr. Ryan joined us in December 2008, as our Vice President of Global Operations. From 2000 until joining us, Mr. Ryan was a Principal in the Strategy Practice, focusing in the Healthcare and Consumer industries, for Booz & Company, a leading global management consulting firm. Prior to Booz & Co, he worked for Ingersoll-Rand in both advanced engineering and manufacturing capacities.

 

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PART II

 

Item 5. Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Our common stock trades on the NASDAQ Global Select Market under the symbol: ALOG. The following table sets forth the high and low sales prices per share of our common stock, as reported by the NASDAQ Global Select Market, for each quarterly period indicated in the table below:

 

Fiscal Year

   High      Low  

2016

     

First Quarter

   $ 88.52       $ 76.69   

Second Quarter

     90.70         71.74   

Third Quarter

     81.29         68.71   

Fourth Quarter

     86.55         77.26   

2015

     

First Quarter

   $ 73.93       $ 63.28   

Second Quarter

     88.94         70.88   

Third Quarter

     92.31         80.62   

Fourth Quarter

     88.01         75.47   

As of August 31, 2016, there were approximately 558 holders of record of our common stock. Because many of the shares are held by brokers and other institutions on behalf of stockholders, we are unable to estimate the total number of individual stockholders represented by these holders of record. Our board of directors declared cash dividends of $0.10 per share for each of the quarters of fiscal years 2016 and 2015. We intend to pay a regular quarterly cash dividend subject to, among other things, our results of operations, cash balances, future cash requirements, financial condition, and other factors that our board of directors may deem relevant. Our policy is to retain sufficient earnings to provide funds for the operation and expansion of our business.

The following table contains information about our purchases of our equity securities during the three months ended July 31, 2016.

 

Period

   Total Number
of Shares
Purchased (1)
     Average Price Paid
per Share (1)
     Total Number of
Shares Purchased
as Part of Publicly
Announced  Plans or
Programs (1)(2)
     Approximate Dollar Value
of Shares that May Yet
Be Purchased  Under the
Plans or Programs (000’s)
 

5/1/2016-5/31/2016

     15,040       $ 80.11         15,040       $ 16,705   

6/1/2016-6/30/2016

     7,440       $ 83.57         7,440         16,083   

7/1/2016-7/31/2016

     976       $ 79.33         12,113         16,006   
  

 

 

       

 

 

    

Total

     23,456       $ 81.18         34,593      
  

 

 

       

 

 

    

 

(1) During the fourth quarter of fiscal year 2016, we repurchased 23,456 shares of our common stock in open-market transactions for $1.9 million at an average purchase price of $81.18 per share. These shares were purchased under the repurchase program for up to $30.0 million of our common stock authorized by our board of directors that was publicly announced on June 2, 2014. The repurchase program does not have a fixed expiration date.
(2) Includes 11,137 shares of our common stock surrendered by employees in order to meet tax withholding obligations in connection with the vesting of restricted stock in July 2016. For purposes of determining the number of shares to be surrendered by employees to meet tax withholding obligations, the price per share deemed to be paid was the closing price of our common stock on the NASDAQ Global Select Market on the vesting date.

 

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Comparison of Five-Year Cumulative Total Returns

The graph below compares the cumulative total stockholder return on our common stock with the cumulative total return of the Center for Research in Security Prices of the University of Chicago, or CRSP, Total Return Index for the NASDAQ Stock Market (US Companies), the Russell 2000 Index, and the CRSP Total Return Index for all NASDAQ stocks with SIC Codes related to our business in the areas of measuring instruments, photo goods, medical goods, optical goods, and timepieces. The graph assumes $100 invested on July 31, 2011, in our common stock and $100 invested at that time in each of the indexes. The comparison assumes that all dividends are reinvested.

 

LOGO

The stock price performance included in this graph is not necessarily indicative of future stock price performance.

 

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Item 6. Selected Consolidated Financial Data

The following selected consolidated financial data are derived from our audited Consolidated Financial Statements and the notes thereto and should be read in connection with, and are qualified in their entirety by, our audited Consolidated Financial Statements and the notes thereto and other financial information included elsewhere in this Annual Report on Form 10-K.

 

     Years Ended July 31,  
(In millions, except share and per share data)    2016      2015      2014      2013      2012  

Total net revenue

   $ 508.8       $ 540.3       $ 517.5       $ 550.4       $ 516.6   

Total cost of sales

     280.7         310.8         297.8         333.7         323.4   

Gross profit

     228.1         229.5         219.7         216.7         193.2   

Income from operations (A)

     25.2         40.6         29.1         45.4         40.0   

Net income (B)

   $ 12.1       $ 33.5       $ 34.5       $ 31.1       $ 43.1   
                                              

Basic net income per share

   $ 0.98       $ 2.70       $ 2.78       $ 2.54       $ 3.51   
                                              

Diluted net income per share

   $ 0.96       $ 2.66       $ 2.72       $ 2.48       $ 3.42   

Cash dividends declared per common share

   $ 0.40       $ 0.40       $ 0.40       $ 0.40       $ 0.40   

Weighted average shares outstanding (000’s):

              

Basic

     12,402         12,407         12,404         12,247         12,265   

Diluted

     12,615         12,606         12,667         12,569         12,576   

Cash, cash equivalents and marketable securities

   $ 118.7       $ 123.8       $ 114.5       $ 113.0       $ 187.0   

Working Capital (C)

     310.3         316.8         280.0         262.7         300.1   

Total assets (C)

     632.9         624.6         611.6         587.8         558.0   

Long-term liabilities (C)

     23.3         13.4         14.5         10.5         11.7   

Stockholders’ equity

     531.2         531.4         512.6         486.4         446.3   

 

(A) In fiscal year 2016, we recorded acquisition-related expenses of approximately $0.4 million associated with the acquisition of Oncura. There were restructuring charges in fiscal year 2016 of $9.6 million. During fiscal year 2016, we also recorded a $10.1 million charge in connection with the investigation related to our Danish Subsidiary BK Medical.

In fiscal year 2015, we recorded acquisition-related expenses of approximately $0.1 million associated with the acquisition of Pathfinder. There were no restructuring charges in fiscal year 2015. During fiscal year 2015, we also recorded a $1.0 million charge in connection with the investigation related to our Danish Subsidiary BK Medical.

In fiscal year 2014, we recorded acquisition-related expenses of approximately $8.7 million associated with the acquisition of Ultrasonix, which includes $7.8 million of amortization of acquired intangibles. During fiscal year 2014, we also recorded pre-tax restructuring charges of $2.9 million under the fiscal year 2014 restructuring plan primarily for severance and personnel related costs for 48 involuntarily terminated employees and $0.6 million in relation to the fiscal year 2013 restructuring plan primarily for facility exit costs, all of which were recognized in our Consolidated Statement of Operations under restructuring.

In fiscal year 2013, we recorded $5.6 million of acquisition-related expenses associated with the acquisition of Ultrasonix which includes $3.9 million of amortization of acquired intangibles. During fiscal year 2013, we also recorded pre-tax restructuring charges of $3.5 million primarily for severance and personnel related costs for 115 involuntarily terminated employees and facility exit costs, all of which were recognized in our Consolidated Statement of Operations under restructuring.

In fiscal year 2012 there were no restructuring charges.

 

(B)

In fiscal year 2016, we recorded certain discrete tax provisions totaling $1.2 million consisting primarily of a $1.5 million increase in uncertain tax benefits associated with an increase in uncertain tax positions primarily associated with the BK Medical matter, offset in part by a $0.4 million benefit associated with the

 

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extension of the federal R&D tax credit, and a $0.3 million reduction in uncertain tax positions primarily associated with the expiration of the statute of limitations, along with $0.3 million provision on other items.

During fiscal year 2016, we also recorded a $3.2 million interest charge in connection with the investigation related to our Danish Subsidiary BK Medical.

In fiscal year 2015, we recorded certain discrete tax benefits totaling $2.9 million consisting primarily of a $3.4 million reduction in uncertain tax positions primarily associated with the expiration of the statute of limitations, a $0.8 million benefit associated with the extension of the federal R&D tax credit, a $0.3 million provision on reduction of domestic production deduction due to filing of NOL carryback claim, along with $1.0 million provision on other items. During fiscal year 2015, we also recorded a $0.6 million interest charge in connection with the investigation related to our Danish Subsidiary BK Medical.

In fiscal year 2014, we recorded certain discrete tax benefits totaling $8.8 million associated with a change in classification of our Canadian operations. Further discrete tax benefits recognized amounted to $3.8 million, of which $1.1 million related to reversal and remeasurement of reserves as a result of a favorable IRS tax audit and $2.7 million associated with a US tax benefit for historical currency losses incurred as a result of operating offshore in a non-functional currency. We also recorded a loss on investments in PocketSonics of $0.5 million resulting from the acquisition of PocketSonics on September 20, 2013.

In fiscal year 2012, we recorded a gain on the sale of other investments on a pre-tax basis of $2.5 million related to the sale of our remaining 25% equity interest in a China-based affiliate. In addition, during fiscal year 2012, we received a refund of $12.0 million as a result of the completion of an U.S. Internal Revenue Service, or IRS, audit of U.S. Federal income tax returns for the fiscal years ended July 31, 2003, 2005 and 2008. The refund was largely the result of Federal research and experimentation credits that carryover from the fiscal years 1991 through 2000 into the audited returns. We recorded a tax benefit for this refund, including the related interest, in the Consolidated Statement of Operations of $10.0 million in fiscal year 2012. Related to the refund and interest were contingent professional fees of $2.7 million that were recorded in general and administrative expenses in the Consolidated Statement of Operations in fiscal year 2012. In connection with the conclusion of the IRS audit, we recorded a benefit from the reversal and re-measurement of related tax reserves of $2.3 million in the Consolidated Statement of Operations in fiscal year 2012.

 

(C) In fiscal year 2016, we retrospectively adopted ASU No. 2015-17, “Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes.” Please refer to Note 1, Recent Accounting Pronouncements, and Note 15, Income taxes for additional information. The effects of the accounting change on working capital, total assets, and long-term liabilities were revised to reflect the change on the Consolidated Balance Sheets as of July 31, 2015, 2014, 2013 and 2012, respectively.

 

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion provides an analysis of our financial condition and results of operations and should be read in conjunction with the audited Consolidated Financial Statements and notes thereto included elsewhere in this Annual Report on Form 10-K. The discussion contains statements, which, to the extent that they are not a recitation of historical facts, constitute “forward-looking statements” pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. All statements, other than statements of historical fact, including statements about product development, market and industry trends, strategic initiatives, regulatory approvals, sales, profits, expenses, price trends, R&D expenses and trends, and capital expenditures, we make in this document or in any document incorporated by reference are forward-looking. Without limiting the foregoing, the words “believes,” “anticipates,” “plans,” “expects,” “seeks,” “estimates,” and similar expressions are intended to identify forward looking statements. Such forward-looking statements involve known and unknown risks, uncertainties, and other factors, which may cause our actual results, performance, or achievements to differ from the projected results. Refer to “Risk Factors” in Item 1A for a discussion of the primary risks and uncertainties known to us at this time.

 

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In addition, any forward-looking statements represent management’s views only as of the date of this Annual Report on Form 10-K was filed with the SEC and should not be relied upon as representing management’s views as of any subsequent date. While management may elect to update forward-looking statements at some point in the future, it specifically disclaims any obligation to do so, even if its views change, except as required by law.

We report our financial condition and results of operations on a fiscal year basis ending July 31. The three months ended July 31, 2016 and 2015 represent the fourth quarters of fiscal years 2016 and 2015, respectively.

Our Management’s Discussion and Analysis is presented in seven sections as follows:

 

   

Business Overview

 

   

Fiscal Year 2016 Financial Highlights

 

   

Results of Operations

 

   

Liquidity and Capital Resources

 

   

Impact of Investigation Regarding our Danish Subsidiary

 

   

Recent Accounting Pronouncements

 

   

Critical Accounting Policies

Business Overview

Analogic Corporation designs, manufactures, and commercializes innovative real-time guidance, diagnostic imaging and threat detection technologies to advance the practice of medicine and save lives. We design, manufacture and sell advanced medical imaging, ultrasound and security systems and subsystems to original equipment manufacturers, or OEMs, and end users primarily for the healthcare and airport security markets.

Our business is strategically aligned into three segments: Medical Imaging, Ultrasound, and Security and Detection. Our business segments are described as follows:

 

   

Medical Imaging primarily includes systems and subsystems for CT and MRI medical imaging equipment as well as state-of-the-art, selenium-based detectors for screening of breast cancer and other diagnostic applications in mammography.

 

   

Ultrasound includes ultrasound systems and transducers primarily used in the urology, surgery, and point-of-care markets.

 

   

Security and Detection includes advanced threat detection CT systems utilizing our expertise in advanced medical imaging technology, primarily used in the checked baggage screening at airports worldwide.

The following table sets forth the percentage of total net revenue by reporting segment for fiscal years 2016, 2015 and 2014.

 

     For the Year ended July 31,  
         2016             2015             2014      

Medical Imaging

     57     54     57

Ultrasound

     32     31     30

Security and Detection

     11     15     13
                          

Total revenue

     100     100     100
                          

 

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Fiscal Year 2016 Financial Highlights

The following table is a summary of our financial results for the fiscal years ended July 31, 2016 and 2015. This summary is not a substitute for the detail provided in the following pages or the audited Consolidated Financial Statements and notes that appear elsewhere in this document.

 

     For the Year ended July 31,     Percentage
Change
 
(in millions, except per share amounts and percentages)            2016                     2015            

Total net revenues

   $ 508.8      $ 540.3        -6

Gross profit

   $ 228.1      $ 229.5        -1

Gross margin

     44.8     42.5  

Income from operations

   $ 25.2      $ 40.6        -38

Operating margin

     5.0     7.5  

Net income

   $ 12.1      $ 33.5        -64

Diluted net income per share

   $ 0.96      $ 2.66        -64

During fiscal year 2016 our total net revenue decreased by 6% as compared to the prior year primarily due to decrease in sales in our Security and Detection segments driven by reductions in High Speed shipments, lower Medium Speed shipments, and reductions in sales of Rapid DNA Analysis Systems.

Gross profit decreased by 1% as a result of lower revenues, and gross margin increased by 2.3 points in fiscal year 2016 compared to the prior year due to favorable pricing, product mix and cost reductions in both the Medical Imaging and Security and Detection segments.

Income from operations decreased by 38% and operating margin decreased by 2.5 points in fiscal year 2016 from the prior year due primarily to lower revenues, an approximate $10.0 million increase in restructuring expenses and a $9.1 million increase in expenses related to the BK Medical matter (please refer to Note 11, Commitments, guarantees and contingencies ).

Results of Operations

Fiscal Year 2016 Compared to Fiscal Year 2015

Net Revenue

Product Revenue

Product revenue for fiscal year 2016 as compared with fiscal year 2015 is summarized in the table below.

 

     For the Year ended July 31,      Percentage
Change
 
(in millions except percentages)        2016              2015         

Medical Imaging

   $ 285.8       $ 288.6         -1

Ultrasound

     160.8         163.6         -2

Security and Detection

     56.1         79.0         -29
            

Total product revenue

   $ 502.7       $ 531.2         -5
            

Medical Imaging

During fiscal year 2016, our Medical Imaging product revenue decreased by 1% versus the prior comparable period mainly due to lower CT and MR as a result of mix.

Ultrasound

During fiscal year 2016, our Ultrasound product revenue decreased by 2% versus the prior year comparable period, with a 7% increase in Ultrasound direct being offset by a 42% decrease in customer demand of OEM probes.

 

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Security and Detection

During fiscal year 2016, our Security and Detection product revenue decreased by 29% versus the prior year comparable period primarily driven by reductions in High Speed shipments, lower Medium Speed shipments, and reductions in sales of Rapid DNA Analysis Systems.

Engineering Revenue

Engineering revenue for fiscal year 2016 as compared with fiscal year 2015 is summarized in the table below.

 

     For the Year ended July 31,      Percentage
Change
 
(in millions except percentages)            2016                      2015             

Medical Imaging

   $ 3.4       $ 4.0         -15

Ultrasound

     2.4         2.6         -8

Security and Detection

     0.3         2.5         -88
                            

Total engineering revenue

   $ 6.1       $ 9.1         -33
            

Our business model includes customer-funded engineering projects that integrate our core technologies within our customer’s product portfolios. These projects vary substantially from period to period in terms of resource requirements, type, size, length of project, and profitability.

The change in engineering revenue for the fiscal year 2016 versus the prior year comparable period was primarily due to timing of work done on customer-funded engineering projects in all three of our reported segments.

Gross Margin

Product Gross Margin

Product gross margin for fiscal year 2016, as compared with fiscal year 2015, is summarized in the table below.

 

     For the Year ended July 31,     Percentage
Change
 
(in millions except percentages)            2016                     2015            

Product gross profit

   $ 227.1      $ 228.2        0

Product gross margin

     45.2     43.0  

Gross margin during fiscal year 2016 increased by 2.2 points in fiscal year 2016 compared to the prior year primarily as a result of favorable pricing and product mix in both our Medical Imaging and Security and Detection segments as well as due to ongoing cost control efforts.

Engineering Gross Margin

Engineering gross margin for fiscal year 2016, as compared with fiscal year 2015, is summarized in the table below.

 

     For the Year ended July 31,     Percentage
Change
 
(in millions except percentages)        2016             2015        

Engineering gross profit

   $ 0.9      $ 1.3        -31

Engineering gross margin

     15.5     14.2  

The decrease in the engineering gross profit and increase in the engineering gross margin in fiscal year 2016 versus the prior year comparable period was due to our lower engineering revenue, and due to the mix of engineering projects.

 

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Operating Expenses

Operating expenses are summarized as follows:

 

     For the Year ended July 31,     Percentage
Change
    Percentage of Net Revenue  
(in millions except percentages)        2016              2015                   2016                     2015          

Research and product development

   $ 67.1       $ 68.5        -2.0     13.2     12.7

Selling and marketing

     65.3         63.5        2.8     12.8     11.8

General and administrative

     60.8         57.3        6.1     11.9     10.5

Restructuring

     9.6         (0.4     -2500.0     1.9     -0.1
   

Total operating expenses

   $ 202.8       $ 188.9        7.4     39.8     35.0
   

Operating expenses for the fiscal year 2016 increased by 7.4% versus the prior year comparable period.

Research and product development expenses decreased by 2.0% during fiscal year 2016 versus the prior year comparable period primarily due to lower compensation-related costs.

Selling and marketing expenses increased by 2.8% during fiscal year 2016 versus the prior year comparable period due primarily to additional costs -related to the acquisition of Oncura.

General and administrative expenses increased by 6.1% during fiscal year 2016 versus the prior year comparable period primarily due to a $10.1 million charge in fiscal year 2016 related to the BK Medical matter (please refer to Note 11, Commitments, guarantees and contingencies ) , partially offset by lower compensation-related costs.

Restructuring expenses increased by approximately $10 million during fiscal year 2016 versus the prior years comparable period due to the execution of Fiscal Year 2016 Restructuring Plan (please refer to Note 4, Restructuring charges ).

Other (Expense) Income, Net

 

     For the Year ended July 31,  
(in millions)            2016                      2015          

Interest income, net

   $ 0.2       $ 0.1   

Other, net

     (5.1      0.3   
                   

Total other (expense) income, net

   $ (4.9    $ 0.4   
                   

Total other expenses increased by $5.3 million in fiscal year 2016 versus the prior year comparable period primarily due to an increase of $2.6 million interest charge in connection with the BK Medical matter (See “Impact of Investigation Regarding our Danish Subsidiary” section below), and foreign currency translation losses increased by $2.3 million.

Provision for Income Taxes

The following table presents the provision for income taxes and our effective tax rate for the fiscal years ended July 31, 2016 and 2015:

 

     For the Year ended July 31,  
(in millions except percentages)        2016             2015      

Provision for income taxes

   $ 8.2      $ 7.6   

Effective tax rate

     40     18

 

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Our effective income tax rate is based upon the composition of the income in different countries, and adjustments, if any, in the applicable quarterly periods for tax consequences, benefits, resolutions of tax audits, other tax contingencies or other discrete items.

Our effective tax rate for fiscal year 2016 is higher than the statutory rate of 35%, primarily due to certain discrete tax provisions totaling $1.2 million. The discrete tax provision for fiscal year 2016 consists primarily of a $1.5 million increase in uncertain tax positions primarily associated with the BK Medical matter, offset by a $0.4 million benefit associated with the extension of the federal R&D tax credit, a $0.3 million reduction in uncertain tax positions primarily associated with the expiration of statute of limitations, along with $0.3 million provision on other items.

Our effective tax rate for fiscal year 2015 is lower than the statutory rate of 35%, primarily due to lower foreign tax rates and tax credits in the U.S. and Canada. The tax provision for fiscal year 2015 includes certain discrete tax benefits totaling $2.9 million. The discrete tax benefit for fiscal year 2015 consists primarily of a $3.4 million reduction in uncertain tax positions primarily associated with the expiration of statute of limitations, a $0.8 million benefit associated with the extension of the federal R&D tax credit, a $0.3 million provision on reduction of domestic production deduction due to filing of NOL carryback claim, along with $1.0 million provision on other items.

Net Income and Diluted Net Income Per Share

Net income and diluted net income per share from operations for fiscal years 2016 and 2015 were as follows:

 

     For the Year ended July 31,  
(in millions except percentages)        2016             2015      

Net income

   $ 12.1      $ 33.5   

% of net revenue

     2.4     6.2

Diluted net income per share from operations

   $ 0.96      $ 2.66   

Fiscal Year 2015 Compared to Fiscal Year 2014

Net Revenue

Product Revenue

Product revenue for fiscal year 2015 as compared with fiscal year 2014 is summarized in the table below.

 

     Years Ended July 31      Percentage
Change
 
(in millions except percentages)        2015              2014         

Product Revenue:

        

Medical Imaging

   $ 288.6       $ 291.3         -1

Ultrasound

     163.6         152.3         7

Security and Detection

     79.0         65.9         20

 

    

Total product revenue

   $ 531.2       $ 509.5         4

 

    

Medical Imaging

During fiscal year 2015, our Medical Imaging product revenue decreased $2.7 million versus the prior comparable period due to a reduction in MRI revenues being partially offset by higher CT revenues.

 

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Ultrasound

During fiscal year 2015, our Ultrasound product revenue increased $11.3 million versus the prior year comparable period due to continued growth in direct sales in North America. Additionally, we have successfully introduced and shipped early production units of TriCore™ based flagship bk3000™ systems.

Security and Detection

During fiscal year 2015, our Security and Detection product revenue increased $13 million versus the prior year comparable period primarily driven by sales growth of high-speed threat detection systems.

Engineering revenue for fiscal year 2015 as compared with fiscal year 2014 is summarized in the table below.

 

     Years Ended July 31      Percentage
Change
 
(in millions except percentages)        2015              2014         

Engineering Revenue:

        

Medical Imaging

   $ 4.0       $ 4.3         -7

Ultrasound

     2.6         0.2         1200

Security and Detection

     2.5         3.5         -29

 

 

Total engineering revenue

   $ 9.1       $ 8.0         14

 

 

Our business model includes customer-funded engineering projects that integrate our core technologies within our customer’s product portfolios. These projects vary substantially from period to period in terms of resource requirements, type, size, length of project, and profitability.

Medical Imaging

The $0.3 million decrease in engineering revenue for fiscal year 2015 versus the prior year comparable periods was due primarily to the timing of customer-funded engineering projects.

Ultrasound

The $2.4 million increase in engineering revenue for fiscal year 2015 versus the prior comparable periods was driven by private label development that is expected to begin shipments in fiscal 2016.

Security and Detection

The $1.0 million decrease in engineering revenue for the fiscal year 2015 versus the prior year comparable periods was due primarily to the timing of customer-funded engineering projects.

Gross Margin

Product Gross Margin

Product gross margin for fiscal year 2015, as compared with fiscal year 2014, is summarized in the table below.

 

     Years Ended July 31     Percentage
Change
 
(in millions except percentages)        2015             2014        

Product gross profit

   $ 228.2      $ 218.6        4

Product gross margin

     43.0     42.9  

 

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Gross margin during fiscal year 2015 was flat versus prior year comparable period, reflective of changes in product mix, and more efficient manufacturing operations, partially offset by impact of unfavorable foreign currency.

Engineering Gross Margin

Engineering gross margin for fiscal year 2015, as compared with fiscal year 2014, is summarized in the table below.

 

     Years Ended July 31     Percentage
Change
 
(in millions except percentages)        2015             2014        

Engineering gross profit

   $ 1.3      $ 1.1        18

Engineering gross margin

     14.2     13.8  

Engineering gross profit was relatively flat in fiscal year 2015 versus the prior year comparable period.

Operating Expenses

Operating expenses are summarized as follows:

 

     Years Ended July 31      Percentage
Change
    Percentage of Net revenue  
(in millions except percentages)          2015                 2014                    2015                 2014        

Operating Expenses:

           

Research and product development

   $ 68.5      $ 73.8         -7.2     12.7     14.3

Selling and marketing

     63.5        59.2         7.3     11.8     11.4

General and administrative

     57.3        54.1         5.9     10.5     10.4

Restructuring

     (0.4     3.5         -111.4     -0.1     0.7
                                           

Total operating expenses

   $ 188.9      $ 190.6         -0.9     35.0     36.8
                                           

Operating expenses for the fiscal year 2015 decreased $1.7 million, or 0.9% versus the prior year comparable period.

Research and product development expenses decreased $5.4 million during fiscal year 2015 versus the prior year comparable period due to cost reduction actions and specifically a reduction in headcount, which resulted in a decrease of $5.3 million in expenses.

Selling and marketing expenses increased $4.3 million during fiscal year 2015 versus the prior year comparable period due primarily to increased incentive compensation of $3.4 million, an increase in costs associated with the introduction of new products of $1.5 million offset by staffing changes.

General and administrative expenses increased by $3.1 million during fiscal year 2015 versus the prior year comparable period which is driven by higher incentive compensation costs accrued based on our fiscal year 2015 performance as well as a $1.0 million charge for a settlement proposal with the SEC, related to our Danish Subsidiary BK Medical.

Fiscal Year 2014 Restructuring Plan – During the fourth quarter of fiscal year 2014, we incurred pre-tax charges of $2.9 million, primarily relating to severance and personnel related costs for 48 involuntarily terminated employees associated with restructuring activities, including optimization of our operations in Peabody, Massachusetts, which are recognized in our Consolidated Statement of Operations under restructuring. The $2.9 million charge was recorded in the operating results of our Medical Imaging, Ultrasound, and Security and Detection segments, with charges of $1.9 million, $0.5 million and $0.5 million, respectively. During fiscal year 2015, we had adjustments of $(0.4) million to restructuring with respect to the fiscal year 2014 restructuring. Of the total adjustments of $(0.4) million, $(0.2) million, $(0.1) million, and $(0.1) million was included in the operating results of our Medical Imaging, Ultrasound and Security and Detection segments, respectively.

 

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Fiscal Year 2013 Restructuring Plan – During fiscal year 2014, we incurred an additional $0.6 million restructuring and related charges with respect to the fiscal year 2013 restructuring plan related to facility exit costs. Of the total pre-tax charges of $0.6 million, we incurred $(0.2) million, $0.9 million, and $(0.1) million included in the operating results of our Medical Imaging, Ultrasound and Security and Detection segments, respectively. During fiscal year 2015, we adjusted restructuring by $(0.1) which was included in operating results.

Restructuring and related charges, including actions associated with acquisitions, by segment are as follows:

 

     For the Year ended July 31,  
(in millions)          2015                  2014        

Medical Imaging

   $ (0.2    $ 1.7   

Ultrasound

     (0.1      1.4   

Security and Detection

     (0.1      0.4   
                   

Restructuring and related charges

   $ (0.4    $ 3.5   
                   

Other (Expense) Income, Net

 

     Years Ended July 31  
(in millions)          2015                  2014        

Interest income, net

   $ 0.1       $ 0.3   

(Loss) on Sale of Investments

     —           (0.5

Net Other

     0.3         0.1   
                   

Total other income (expense), net

   $ 0.4       $ (0.1
                   

Total other expenses, net during fiscal year 2015 was primarily comprised of interest income, net, of $0.1 million, and a $0.6 million interest charge for a settlement proposal with the SEC, related to our Danish Subsidiary BK Medical (See “Impact of Investigation Regarding our Danish Subsidiary” section below), netted by foreign translation gains of $0.7 million.

Total other expenses, net during fiscal year 2014 predominantly comprised of interest income, net of $0.3 million and the recognition of a $0.5 million loss related to our 10% pre-acquisition equity interest in PocketSonics recognized upon the completion of the acquisition of the remaining equity in PocketSonics in September 2013. Please refer to Note 3. Business Combinations to our Consolidated Financial Statements included in this report for further information about this acquisition.

Provision for Income Taxes

The following table presents the provision for income taxes and our effective tax rate for the fiscal years ended July 31, 2015 and 2014:

 

     Years Ended July 31  
(in millions except percentages)          2015                 2014        

Provision for (benefit from) income taxes

   $ 7.6      $ (5.4

Effective tax rate

     18     -19

Our effective income tax rate is based upon the composition of the income in different countries, and adjustments, if any, in the applicable quarterly periods for tax consequences, benefits, resolutions of tax audits, other tax contingencies or other discrete items.

 

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Our effective tax rate before discrete items for fiscal year 2015 is lower than the statutory rate of 35%, primarily due to lower foreign tax rates and tax credits in the U.S. and Canada. The tax provision for fiscal year 2015 includes certain discrete tax benefits totaling $2.9 million. The discrete tax benefit for fiscal year 2015 consists primarily of a $3.4 million reduction in uncertain tax positions primarily associated with the expiration of statute of limitations, a $0.8 million benefit associated with the extension of the federal R&D tax credit, a $0.3 million provision on reduction of domestic production deduction due to filing of NOL carryback claim, along with $1.0 million provision on other items.

Our effective tax rate before discrete items for fiscal year 2014 is lower than the statutory rate of 35%, primarily due to lower foreign tax rates and tax credits in the U.S. and Canada. The tax provision for fiscal year 2014 includes certain discrete tax benefits totaling $12.9 million. The discrete tax benefit for fiscal year 2014 consists primarily of a reduction in a net deferred tax liability of $8.8 million associated with a change in classification of our Canadian operations, a $2.7 million benefit associated with a U.S. deduction for historical currency losses incurred as a result of operating offshore in a non-functional currency, and a $1 million reduction in uncertain tax positions primarily associated with federal tax credits for research and development, or R&D credits, following the conclusion of an Internal Revenue Service, or IRS, review for fiscal year 2009, along with $0.4 million of other items.

Net Income and Diluted Net Income Per Share

Net income and diluted net income per share from operations for fiscal years 2015 and 2014 were as follows:

 

     Years Ended July 31  
(in millions except percentages)        2015             2014      

Net Income

   $ 33.5      $ 34.5   

% of net revenue

     6.2     6.7

Diluted net income per share from operations

   $ 2.66      $ 2.72   

The decrease in net income for fiscal year 2015 versus the prior year was due to net tax benefits from certain discrete tax items recorded in fiscal year 2014 totaling $12.9 million, partially offset by $2.9 million in discrete tax benefits taken in fiscal year 2015.

Liquidity and Capital Resources

Key liquidity and capital resources information is summarized in the table below.

 

(in millions)    As of July 31, 2016      As of July 31, 2015      Percentage
Change
 

Cash and cash equivalents (A)

   $ 118.7       $ 123.8         -4

Working capital

   $ 310.3       $ 316.8         -2

 

(A) Includes approximately $45.3 million and $37.8 million of cash and cash equivalents held outside the U.S. as of July 31, 2016 and 2015, respectively.

As of July 31, 2016, we had cash and cash equivalents of $118.7 million, a $5.1 million decrease from July 31, 2015, as we generated $33 million in cash from operations and $4.7 million from the issuance of stock. This was offset by $13.7 million paid for the repurchase of common stock, $13.1 million paid for additions to property and equipment, $8.4 million net cash paid for the purchase of Oncura, $5.0 million cash payment to shareholders for dividends, and $2.7 million for the shares repurchased for taxes for vested employee restricted stock grants.

 

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The decrease in working capital from July 31, 2015 to July 31, 2016 was primarily attributable to a decrease in income tax receivable of $9.6 million, a decrease in accounts receivable of $6.9 million, a decrease in cash of $5.1 million, an increase in accrued restructuring charges of $4.7 million, and an increase in contingent consideration of $4.5 million, partially offset by an increase in inventory of $12.8 million, a decrease in accrued employee compensation and benefits by $4.7 million, a decrease in accrued income tax of $2.5 million, a decrease in accounts payable of $1.9 million, an increase in other current assets of $1.0 million, and a decrease in other current liabilities of $0.8 million.

Cash and cash equivalents at July 31, 2016 and July 31, 2015 primarily consisted of demand deposits at highly rated banks and financial institutions. We periodically review our investment portfolio to determine if any investments are impaired due to changes in credit risk or other potential valuation concerns. We believe that our cash equivalents were appropriately valued at July 31, 2016 and July 31, 2015 and we are not aware of any market events that would impact their valuation. This could change in the future should new developments arise in the credit markets.

The carrying amounts reflected in the Consolidated Balance Sheets of cash and cash equivalents, trade receivables, and trade payables approximate fair value at July 31, 2016, due to the short-term maturities of these instruments.

We have revolving credit facilities of up to $101 million available for direct borrowings. We did not have any borrowings outstanding under these credit facilities as of July 31, 2016 and 2015. For further details surrounding the revolving credit facilities, please refer to the Commitments, Contractual Obligations and Off-Balance Sheet Arrangements section.

Cash Flows

The following table summarizes our sources and uses of cash over the periods indicated:

 

     For the Year ended July 31,     Percentage
Change
 
(in millions, except percentages)    2016     2015     2014    

Net cash provided by operating activities

   $ 33.0      $ 38.7      $ 47.9        -15

Net cash used in investing activities

     (21.4     (11.0     (28.5     95

Net cash used in financing activities

     (16.8     (12.8     (18.2     31

Effect of exchange rate changes on cash

     0.1        (5.7     0.3        -102
                                  

Net (decrease) increase in cash and cash equivalents

   $ (5.1   $ 9.2      $ 1.5        -155
                                  

Operating activities

Net cash provided by operating activities decreased by $5.7 million for the year ended July 31, 2016 versus the prior year comparable period, primarily due to a decrease from cash generated from earnings, partially offset by the collection of accounts receivable. The cash flows provided by operating activities during the year ended July 31, 2016 reflects our net income of $12.1 million, $23.0 million related to depreciation and amortization, $8.9 million related to share-based compensation, and $6.6 million related to the accrued income taxes and income taxes receivable. This was partially offset by a net increase of $17.4 million in inventory related to non-cash write down of demo equipment to net realizable value, non-cash provision for excess and obsolescence inventory and a net change in operating inventory, primarily related to the transition of products from our Peabody, Massachusetts location to our existing facility in Shanghai, China.

The cash flows provided by operating activities during fiscal year 2015 primarily reflects our net income of $33.5 million, $23.3 million related to depreciation and amortization, and $10.9 million related to share-based compensation expense. This was partially offset by an increase in accounts receivable of $16.1 million which is consistent with increased revenues, and an increase in inventory of $14.7 million related to new product development.

 

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The cash flows provided by operating activities during fiscal year 2014 primarily reflects our net income of $34.5 million, $22.1 million related to depreciation and amortization, and $6.6 million related to decrease in accounts receivable. This was partially offset by an increase in inventory of $12.3 million as we consolidate our manufacturing operations following the acquisition of Ultrasonix and support new product launches.

Investing activities

The net cash used in investing activities during the year ended July 31, 2016 was driven by purchase of property, plant and equipment of $13.1 million as well as the acquisition of Oncura for an $8.4 million net cash payment. Our capital expenditures are primarily related to infrastructure and manufacturing equipment investments.

The net cash used for investing activities during the year ended July 31, 2015 was primarily driven by purchases of property, plant and equipment of $10.0 million as well as the acquisition of Pathfinder, net of cash acquired, of $1.6 million. Our capital expenditures are primarily related to infrastructure and test equipment investments.

The net cash used for investing activities during the year ended July 31, 2014 was primarily driven by the acquisition of PocketSonics, net of cash acquired, of $10.6 million as well as purchases of property, plant and equipment of $17.5 million. Our capital expenditures are primarily related to infrastructure and test equipment investments to support our growth, but were lower as compared to the previous fiscal year due to the completion of infrastructure investments associated with our facilities in State College, Pennsylvania.

Financing activities

The net cash used in financing activities during the year ended July 31, 2016 primarily reflected $13.7 million used to repurchase common stock, $5.0 million of dividends paid to stockholders and $2.7 million used for shares surrendered for taxes paid related to vested employee restricted stock. This was partially offset by proceeds from the issuance of common stock amounting to $4.7 million, associated with stock option exercises.

The net cash used in financing activities during the year ended July 31, 2015 primarily reflected $13.9 million used to repurchase common stock, $5.1 million of dividends paid to stockholders and $2.8 million used for shares surrendered for taxes paid related to vested employee restricted stock. This was partially offset by proceeds from the issuance of common stock amounting to $7.9 million associated with share-based compensation.

The net cash used in financing activities during the year ended July 31, 2014 primarily reflected $15.0 million used to repurchase common stock, $7.7 million used for shares surrendered for taxes paid related to vested employee restricted stock and $5.0 million of dividends paid to stockholders. This was partially offset by proceeds from the issuance of common stock amounting to $5.4 million associated with share-based compensation.

We believe that our balances of cash and cash equivalents and cash flows expected to be generated by future operating activities will be sufficient to meet our cash requirements for at least the next 12 months.

Commitments, Contractual Obligations and Off-Balance Sheet Arrangements

Our contractual obligations at July 31, 2016, and the effect such obligations are expected to have on liquidity and cash flows in future periods are as follows:

 

(in millions)    Total      2017      2018      2019      2020      2021      Thereafter  

Operating leases

   $ 6.5       $ 2.4       $ 1.8       $ 1.2       $ 0.9       $ 0.1       $ 0.1   

Purchase obligations

     23.9         23.9         —           —           —           —           —     

Pension

     4.4         0.3         0.4         0.4         0.4         0.4         2.5   

Contingent consideration

     12.2         4.5         3.0         2.4         2.3         
                                                                

Total contractual obligations

   $ 47.0       $ 31.1       $ 5.2       $ 4.0       $ 3.6       $ 0.5       $ 2.6   
                                                                

 

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Restructuring

During fiscal year 2016, fiscal year 2014 and fiscal year 2013, we announced restricting plans and incurred restructuring charges for improving our operational effectiveness to better leverage core competencies across the business. For a more detailed description of our restructuring efforts, including our plan to consolidate facilities, please refer to Note 4 to the Consolidated Financial Statements included in this report.

Financing arrangements

On November 23, 2015, we entered into a five-year revolving credit agreement, or Credit Agreement, with the financial institutions identified therein as lenders, which included JPMorgan Chase Bank, N.A., TD Bank, N.A., Wells Fargo Bank, N.A., HSBC Bank, N.A., and People’s United Bank, N.A. The Credit Agreement provides $100.0 million in available credit and expires on November 23, 2020, when all outstanding borrowings must be paid in full. The credit facility does not require amortization of principal and may be reduced before maturity in whole or in part at our option without penalty. Upon entry into the Credit Agreement, we terminated without penalty a $100.0 million five-year, revolving credit agreement entered into on October 11, 2011 and previously paid in full in accordance with its terms.

Borrowings under the Credit Agreement may be used for general corporate purposes, including permitted acquisitions. The amount of available credit can be increased under specified circumstances up to $200.0 million in aggregate. We are the sole borrower under the Credit Agreement. The obligations under the credit facility are required to be guaranteed by our material domestic subsidiaries as designated by us from time to time or as required under the Credit Agreement. There are no pledges of the capital stock or assets of our international subsidiaries.

Interest rates on borrowings outstanding under the credit facility range from 1.25% to 1.75% above the LIBOR rate, or, at our option range from 0.00% to 1.00% above a defined base rate, the amount in each case varying based upon our leverage ratio. A quarterly commitment fee ranging from 0.20% to 0.35% per annum is applicable on the undrawn portion of the credit facility, based upon our leverage ratio.

The Credit Agreement limits our and our subsidiaries’ ability to, among other things: incur additional indebtedness; incur liens or guarantee obligations; pay dividends or make other distributions; make investments; dispose of assets; and engage in transactions with affiliates except on an arms-length basis. In addition, the Credit Agreement requires us to maintain the following financial ratios:

 

   

A leverage ratio, defined as consolidated funded indebtedness to consolidated trailing four quarters earnings before interest, taxes, depreciation and amortization, or EBITDA, with the adjustments as stipulated in the Credit Agreement, of no greater than 2.75:1.00 (with a temporary step-up in the event of certain acquisitions); and

 

   

An interest coverage ratio, defined as the ratio of consolidated trailing four quarters adjusted EBITDA to consolidated interest charges of no less than 3.00:1.00 at any time.

As of July 31, 2016, our leverage ratio was 0.004:1.00 and our interest coverage ratio was not applicable as we had no attributable interest expense. As of July 31, 2016, we were in full compliance with all financial and operating covenants contained in the Credit Agreement.

Any failure to comply with the financial or operating covenants of the credit facility would prevent us from being able to borrow and would also constitute a default, permitting the lenders to, among other things, accelerate repayment of outstanding borrowings, including all accrued interest and fees, and to terminate the credit facility. A change in control, as defined in the Credit Agreement, would also constitute an event of default, permitting the lenders to accelerate repayment and terminate the Credit Agreement.

In connection with entering into the Credit Agreement, we incurred approximately $0.5 million of transaction costs, which are being amortized over the five-year life of the credit facility.

 

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As of July 31, 2016 and 2015, we had approximately $1.2 in other revolving credit facilities with banks available for direct borrowings.

We did not have any borrowing outstanding under any of our credit facilities at July 31, 2016 and 2015, respectively.

Contingent Consideration

In connection with the acquisition of Oncura, as of July 31, 2016, we recorded a contingent consideration obligation of $10.2 million. This obligation is payable upon the achievement of certain revenue and gross margin targets over a four year period starting on May 1, 2016. There is no limit on the earnout that can be paid out. In connection with the acquisition of PocketSonics, as of July 31, 2016, we recorded a contingent consideration obligation of $2.0 million. The contingent earn-out payments to the sellers of PocketSonics would be payable upon commercial launch and achievement of volume sales target as defined in the asset purchase agreement. Please refer to Note 3. Business Combinations for more information.

Tax related obligations

We have $6.2 million of unrecognized tax benefits for uncertain tax positions and $0.4 million of related accrued interest and penalties. We are unable to reasonably estimate the amount and period in which these liabilities might be paid. As such, the liability is excluded from the commitments and contingencies table. Note 15 to our Consolidated Financial Statements included in this Annual Report on Form 10-K provides additional information regarding matters relating to income taxes, including unrecognized tax benefits.

Asset retirement obligations

The ultimate cost of restoring our leased facilities is difficult to predict given uncertainties regarding the extent of the required restoration and the interpretation of applicable laws and regulations. Based upon our experience, current information and applicable laws, we believe that it is probable that we will incur costs, including asset retirement obligations, of approximately $1.1 million as of July 31, 2016, which is included in “Other liabilities” in our Consolidated Balance Sheet. All accruals have been recorded without giving effect to any possible future insurance proceeds.

Legal claims

We are subject to litigation, claims, investigations and audits arising from time to time in the ordinary course of our business. Although legal proceedings are inherently unpredictable, we believe that we have valid defenses with respect to those matters currently pending against us and intend to defend ourselves vigorously. The outcome of these matters, individually and in the aggregate, is not expected to have a material impact on our cash flows, results of operations, or financial position. We record losses when estimable and probable in accordance with U.S. GAAP.

Impact of Investigation Regarding our Danish Subsidiary

As initially disclosed in our Annual Report on Form 10-K for the fiscal year ended July 31, 2011, we identified certain transactions involving our Danish subsidiary BK Medical ApS, or BK Medical, and certain of its foreign distributors, with respect to which we raised questions concerning compliance with law, including Danish law and the U.S. Foreign Corrupt Practices Act, and our business policies. These have included transactions in which the distributors paid BK Medical amounts in excess of amounts owed and BK Medical transferred the excess amounts, at the direction of the distributors, to third parties identified by the distributors. We have terminated the employment of certain BK Medical employees and also terminated our relationships with the BK Medical distributors that were involved in the transactions. We have concluded that the identified

 

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transactions have been properly accounted for in our reported financial statements in all material respects. However, we were unable to ascertain with certainty the ultimate beneficiaries or the purpose of these transfers.

We voluntarily disclosed this matter to the Danish Government, the U.S. Department of Justice, or DOJ, and the SEC, and cooperated with inquiries by the Danish Government, the DOJ and the SEC to reach a resolution of this matter in the fiscal year ended July 31, 2016. On June 22, 2016, we issued a press release announcing that we had reached agreements with the SEC, the DOJ and the Danish Government to resolve the matters we had voluntarily disclosed. As a result of these resolutions, we paid a total of $14.9 million in disgorgement, interest and penalties. We do not expect any further inquiries related to this matter. In the second quarter of fiscal 2016, we accrued a charge of $13.3 million, of which $10.1 million was classified as general and administrative expense and $3.2 million was classified as other expense, net in our Consolidated Statements of Operations, in connection with these matters. This is in addition to a $1.6 million charge that we accrued in the fourth quarter of fiscal 2015, of which $1.0 million was classified as general and administrative expense and $0.6 million was classified as other expense, net in our Consolidated Statements of Operations. We incurred inquiry-related costs of approximately $0.4 million, $1.4 million, and $1.4 million in our fiscal years ended July 31, 2016, 2015, and 2014 respectively, in connection with this matter.

Recent Accounting Pronouncements

Recently adopted

Classification of deferred taxes

In November 2015, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2015-17, “Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes.” The standard requires that deferred tax assets and liabilities be classified as noncurrent on the balance sheet rather than being separated into current and noncurrent. ASU 2015-17 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. Early adoption is permitted and the standard may be applied either retrospectively or on a prospective basis to all deferred tax assets and liabilities. We elected early adoption of ASU 2015-17 during our second quarter of fiscal year 2016 on a retrospective basis. Accordingly, we reclassified the current deferred taxes to noncurrent on our July 31, 2015 Consolidated Balance Sheets, which decreased refundable and deferred income taxes by $8.0 million, increased noncurrent deferred tax assets by $4.6 million and decreased noncurrent deferred tax liabilities by $3.4 million.

Consolidation

In February 2015, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2015-02, “Consolidation (Topic 810): Amendments to the Consolidation Analysis.” ASU 2015-02 amended the process that a reporting entity must perform to determine whether it should consolidate certain types of legal entities. ASU 2015-02 is effective for annual and interim periods beginning after December 15, 2015. Early adoption is permitted. The update would be effective for us beginning on August 1, 2016. We elected early adoption of ASU 2015-02 during our first quarter of fiscal year ending July 31, 2016. The adoption of this update did not have a material impact on our consolidated financial statements.

Not yet effective

Improvements to employee share-based payment accounting

In March 2016, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2016-09, “Improvements to Employee Share-Based Payment Accounting,” which amends ASC 718, “Stock Based Compensation.” The amendments require that all excess tax benefits be recorded as an income tax benefit or expense in the income statement and be classified as an operating activity in the statement of cash flows. Entities may also elect to estimate the amount of forfeitures or recognize them as they occur. The amendments are effective for fiscal years, and interim periods within those years, beginning after December 15,

 

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2016. The standard will be effective for us in the first quarter of our fiscal year ending July 31, 2018 and early adoption is permitted. We are currently evaluating the impact of the adoption of this update on our consolidated financial statements.

Leases

In February 2016, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2016-02, “Leases (Topic 842)”. The standard requires lessees to recognize assets and liabilities for most leases on the balance sheet. For income statement purposes, the standard requires leases to be classified as either operating or finance. The standard is effective for annual and interim periods beginning after December 15, 2018. Early adoption is permitted. The standard will be effective for us in the first quarter of our fiscal year ending July 31, 2020. Adoption requires application of the new guidance for all periods presented. We are currently evaluating the impact of the adoption of this standard on our consolidated financial statements.

Cloud computing arrangements

In April 2015, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2015-05, “Intangibles - Goodwill and Other—Internal-Use Software (Subtopic 350-40).” The amendments provide guidance as to whether a cloud computing arrangement (e.g., software as a service, platform as a service, infrastructure as a service, and other similar hosting arrangements) includes a software license and, based on that determination, how to account for such arrangements. The amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2015 and may be applied on either a prospective or retrospective basis. The provisions will be effective for us in the first quarter of our fiscal year ending July 31, 2017. Early adoption is not permitted. We do not expect the adoption of these provisions to have a material impact on our consolidated financial statements.

Disclosure of uncertainties about an entity’s ability to continue as a going concern

In August 2014, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2014-15 , “Presentation of Financial Statements — Going Concern (Subtopic 205-40) Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern”. The standard requires management to evaluate an entity’s ability to continue as a going concern within one year of the date of issuance of the entity’s financial statements. The amendments are effective for the annual period ending after December 15, 2016, and for annual periods and interim periods thereafter and should be applied on a prospective basis. Early adoption is permitted. The provisions will be effective for us in the first quarter of our fiscal year ending July 31, 2017. We do not expect the adoption of these provisions to have a material impact on our consolidated financial statements.

Revenue from contracts with customers

In May 2014, the Financial Accounting Standards Board, or FASB issued an update which provides guidance for revenue recognition. This update affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets. This update will supersede existing revenue recognition requirements and most industry-specific guidance. This update also supersedes some cost guidance, including revenue recognition guidance for construction-type and production-type contracts. The update’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies will need to use more judgment and make more estimates than under today’s guidance. These may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. This update should be applied either on a retrospective or modified retrospective basis. This update will be effective for us in the first quarter of our fiscal year ending July 31, 2018. In April 2015, the FASB issued a proposal to defer the effective date of the new revenue standard

 

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for public entities by one year. Therefore, this update would be effective for us in the first quarter of our fiscal year ending July 31, 2019. The proposal would also permit entities to early adopt, but only as of the original effective date (i.e. one year earlier). We are currently evaluating the impact of the adoption of this update on our consolidated financial statements.

Critical Accounting Policies

Management’s discussion and analysis of our financial condition and results of operations are based on our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. Our most critical accounting policies, and the estimates involved in their application, have a significant impact on the preparation of these Consolidated Financial Statements. These policies involve significant estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expense, and related disclosures of contingent assets and liabilities. We continue to evaluate our estimates and judgments on an on-going basis. By their nature, the policies discussed below require management to make its most difficult and subjective estimates and judgments, often on matters that are inherently uncertain. Our estimates and judgments are based on our historical experience, terms of existing contracts, our observance of trends in the industry, information provided by our customers, and information available from other outside sources, as appropriate.

For a complete discussion of our significant accounting policies, refer to Note 1, Summary of business operations and significant accounting policies , to Consolidated Financial Statements, included in Item 15, Exhibits and Financial Statements Schedule, of this Annual Report on Form 10-K. We believe the following accounting policies require management to make the most difficult estimates and judgments in the preparation of our Consolidated Financial Statements and accordingly are critical to an understanding of our financial statements.

Revenue Recognition

We provide engineering services to some of our customers on a contractual basis and recognize revenue using the percentage of completion method. We estimate the progress towards completion on contracts with a fixed-fee arrangement on a monthly basis utilizing costs incurred to date as a percentage of total estimated costs at completion of the project or on a milestone basis based on contractual terms, as appropriate. When total cost estimates exceed revenues, we accrue for the estimated losses immediately.

Our revenue recognition accounting methodology for engineering services with a fixed fee arrangement involves uncertainties because it requires management to make estimates of our total estimated costs at completion of projects. The timing of when revenue, profits, and loss reserves are recognized may fluctuate if changes to the estimates of costs at completion of projects are needed.

Allocation of Consideration in Multiple Element Revenue Arrangements

We allocate arrangement consideration to each deliverable in an arrangement based on its relative selling price. We determine selling price using vendor specific objective evidence, or VSOE, if it exists, and otherwise third party evidence, or TPE. If neither VSOE nor TPE of selling price exists for a unit of accounting, we use our best estimated selling price, or BESP. We generally expect that we will not be able to establish TPE due to the nature of the markets in which we compete, and, as such, we typically will determine selling price using VSOE or if not available, BESP. If we are unable to establish selling price using VSOE or TPE, and the order was received or materially modified after July 31, 2009, we use BESP in the allocation of arrangement consideration. The objective of BESP is to determine the price at which we would transact if the product or service were sold by us on a standalone basis.

Our determination of BESP involves a weighting of several factors based on the specific facts and circumstances of the arrangement. Specifically, we will consider the cost to produce the deliverable, the anticipated margin on that deliverable, the selling price and profit margin for similar parts, our ongoing

 

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pricing strategy and policies (as evident in the price list as established and updated on a regular basis), the value of any enhancements that have been built into the deliverable and the characteristics of the varying markets in which the deliverable is sold.

Inventory

We value our inventory at the lower of the cost of the inventory or market in a manner that approximates the first-in first-out method. Management assesses the recoverability of inventory based on types and levels of inventory held, product life cycles, and changes in technology. A variety of methodologies are used to determine the amount of inventory write-downs necessary to adjust excess and obsolete inventory. Write-downs are based on the age of the inventory, lower of cost or market, along with significant management judgments concerning future demands for the inventory and technological obsolescence. If actual demand for our products is less than our estimates, or we experience a higher incidence of inventory obsolescence because of rapidly changing technology and customer requirements, additional write-downs for existing inventories might be recorded in future periods. Once recorded, inventory adjustments are not subsequently reversed until the inventory is used or disposed of.

Product is held by the sales force in the field both for sales and demonstration purposes. We classify and value such product based on the manner in which it is used by the sales force. Prior to fiscal 2016, demonstration inventory was amortized on a straight line basis over a four year period to approximate net realizable value. Beginning in fiscal 2016, based on our ability and intent to sell such inventory at a normal profit margin, the Company no longer amortized demonstration inventory during the first year it was placed in the field. The Company implemented this policy prospectively in fiscal 2016 based on changes in how the demonstration inventory is being utilized in the field. To the extent that demonstration inventory is unsold after a period of a year, it is reclassified to fixed assets and amortized over its estimated remaining useful life of 36 months. Amortization of demonstration inventory is recorded in sales and marketing expense.

Our inventory write-downs involve uncertainties because the calculation requires management to make assumptions and to apply judgment regarding inventory aging, forecasted customer demand, and technological obsolescence.

Share-based compensation

We have share-based compensation plans, which include stock options, restricted stock awards, and an employee stock purchase plan. We estimate the fair value of stock options using the Black-Scholes valuation model and the fair value of our restricted stock awards, which include shares of restricted stock and restricted stock units, based on the quoted market price of our common stock or the use of a Monte-Carlo Simulation Model.

We recognize the associated share-based compensation expense for time-based awards on a straight-line basis over the vesting periods of the awards, net of estimated forfeitures. Forfeiture rates are estimated based on historical pre-vesting forfeitures and are updated on the vesting dates to reflect actual forfeitures. The amount of share-based compensation expense for performance-based unvested restricted stock awards that is recognized on a straight-line basis over the performance period is based upon the number of shares that management ultimately expects to vest.

For performance-based awards with an earnings per share related target, management evaluates the probability of meeting the performance criteria at each balance sheet date and related compensation cost is amortized over the performance period on a straight-line basis because such awards vest only at the end of the measurement period. Changes to the probability assessment and the estimate of shares expected to vest will result in adjustments to the related share-based compensation expense that will be recorded in the period of the change. If the performance is not achieved, no compensation cost is recognized and any previously recognized compensation cost is reversed. For performance-based awards with a market condition related target, related compensation cost is amortized over the performance period on a straight-line basis, net of estimated forfeitures, regardless of whether the awards are ultimately earned.

 

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Option-pricing models and generally accepted valuation techniques to value restricted stock awards with market conditions require management to make assumptions and to apply judgment to determine the fair value of our awards. These assumptions and judgments include estimating the future volatility of our stock price, expected dividend yield, future employee turnover rates and future employee stock option exercise behaviors. Performance-based non-vested restricted stock awards require management to make assumptions regarding the likelihood of achieving future company financial targets or personal performance goals. Changes in these assumptions can materially affect the fair value estimate and the amount of compensation expense we recognize.

Warranty Reserves

We estimate the costs of product warranties based on specific warranty claims, historical data, and engineering estimates, where applicable. Our warranty reserve involves uncertainties because the calculation requires management to make assumptions based on specific warranty claims, historical data, and engineering estimates, where applicable.

Business Combinations

We account for acquired businesses using the acquisition method of accounting, which requires that assets acquired and liabilities assumed be recognized at their estimated fair values as of the acquisition date. Transaction costs related to the acquisition are expensed as incurred. Any excess of the consideration transferred over the fair values of the identifiable net assets acquired is recorded as goodwill. Any excess of the fair value of assets acquired over the purchase price is recorded as a bargain purchase gain in Other income (expense), net in the Consolidated Statements of Operations. This methodology involves uncertainties because it requires management to make assumptions and to apply judgment to estimate the fair value of acquired assets, including intangible assets, and liabilities. Management estimates the fair value of assets and liabilities based upon widely accepted valuation techniques, including discounted cash flows and market multiple analyses. Furthermore, the fair value of contingent consideration recorded as part of an acquisition is determined through a valuation model that incorporates probability adjusted assumptions related to achieving the related milestones and the likelihood of us making the contingent payments. Unanticipated events or circumstances may occur which could affect the accuracy of our fair value estimates, including assumptions regarding industry economic factors and business strategies.

Impairment of Goodwill and Indefinite-lived Intangible Assets

We evaluate goodwill and indefinite-lived intangible assets for impairment annually and whenever events or changes in circumstances indicate the carrying value of the goodwill or other intangible assets may not be recoverable. We conduct our impairment evaluation by performing valuation analyses, which consider both the market approach and income approach for goodwill and the relief from royalty approach for the indefinite-lived intangible assets. Under the market approach, the fair value of the reporting unit is based on trading and acquisition multiples. Under the income approach, the fair value of the reporting unit is based on the present value of estimated future cash flows. Under the relief from royalty approach, the fair value of the indefinite-lived intangible asset is based on after tax royalty rate and discount rate applied to future forecasted sales. In the second quarter of fiscal year 2016, we completed our annual impairment testing of goodwill and indefinite-lived intangible assets using the methodologies described herein, and determined there was no impairment.

The valuation analyses described above involve uncertainties because they require management to make assumptions and to apply judgment to estimate industry economic factors and the profitability of future business strategies. It is our policy to conduct impairment testing based on our current business strategy in light of present industry and economic conditions, as well as our future expectations.

 

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Income Tax Contingencies

We file income tax returns in all jurisdictions in which we operate. We record a liability for any position when we cannot establish conclusively that the benefits related to these positions are more likely than not to be realized. We change this position when more information is available, e.g., as a result of audits or other conclusive resolution of the issue with the relevant taxing authority. Our income tax returns, like those of most companies, are periodically audited by domestic and foreign tax authorities. These audits include questions regarding our tax filing positions, including the timing and amount of deductions and the allocation of income among various tax jurisdictions. At any one time, multiple tax years are subject to audit by the various tax authorities. In evaluating the exposures associated with our various tax filing positions, we record a liability for exposures subject to a minimum threshold of more likely than not before any benefit is recognized. A number of years may elapse before a particular matter, for which we have established a liability, is audited and fully resolved or clarified. We adjust our liability for unrecognized tax benefits and income tax provision in the period in which an uncertain tax position is effectively settled, the statute of limitations expires for the relevant taxing authority to examine the tax position or when more information becomes available.

Our liability for unrecognized tax benefits involves uncertainties because management is required to make assumptions and to apply judgment to estimate the exposures associated with our various filing positions.

Deferred Tax Valuation Allowances

We are required to estimate our income taxes in each of the jurisdictions within which we operate. This process involves assessing temporary differences resulting from different treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within the balance sheet. We must then assess the likelihood that the deferred tax assets will be recovered from future taxable income and, to the extent it is more likely than not that some portion or all of the deferred tax assets will not be realized, a valuation allowance must be established.

Our effective income tax rate is affected by changes in tax law, the tax jurisdiction of new business ventures, the level of earnings and where they came from, and the results of tax audits. Our deferred tax valuation allowances involve uncertainties because the calculations require management to make assumptions based on historical data, future book income, and tax-planning strategies.

 

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Certain of our foreign operations enter into transactions in currencies other than their functional currency, primarily the U.S. dollar and the Euro. We also have foreign currency exposure arising from the translation of our net equity investment in our foreign operations to U.S. dollars. We generally view our investments in foreign operations with functional currencies other than the U.S. dollar as long-term. The currencies to which we are exposed are the British pound, Canadian dollar, Chinese yuan, Danish kroner, Euro, and Japanese yen. A 10% depreciation in the July 31, 2016 functional currencies, relative to the U.S. dollar, would result in an increase in stockholders’ equity of approximately $0.1 million. A 10% depreciation in the July 31, 2015 functional currencies, relative to the U.S. dollar, would result in a reduction of stockholders’ equity of approximately $0.1 million.

We enter into forward contracts to hedge our foreign currency exposure in the Canadian dollar. These contracts have been designated as cash flow hedges, and the unrealized loss, net of tax, on these contracts is reported in within accumulated other comprehensive income (loss). Liability and asset derivatives designated as hedging instruments are presented in other assets and other liabilities, respectively, on our consolidated balance sheet. Realized (gains) losses on the cash flow hedges are recognized in income in the period when the payment of expenses is recognized. During fiscal years 2016 and 2015, we recorded approximately $0.7 million of and

 

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$0.5 million of realized losses included in cost of revenues and operating expenses in our Consolidated Statements of Operations. As of July 31, 2016, we have forward contracts outstanding with notional amounts totaling $23.9 million in Canadian dollars. As of July 31, 2015, we had forward contracts outstanding with notional amounts totaling $12.6 million in Canadian dollar.

We place our cash and cash equivalents in high quality financial instruments and, by policy, limit the amount of credit exposure to any one financial institution. Our cash includes cash equivalents, which we consider to be investments purchased with original maturities of three months or less. Total net interest income for fiscal years 2016 and 2015 was $0.2 million and $0.1 million, respectively. A 10% change in interest income or interest rate would not have a material impact on the fair value of our portfolio or on future earnings.

 

Item 8. Consolidated Financial Statements and Supplementary Data

The financial statements and supplementary data are listed under Part IV, Item 15 in this Annual Report on Form 10-K and are included at the end of this Annual Report on Form 10-K.

 

Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

None.

 

Item 9A. Controls and Procedures

Disclosure Controls and Procedures

Our management, with the participation of our chief executive officer and chief financial officer, evaluated the effectiveness of our disclosure controls and procedures as of July 31, 2016. The term “disclosure controls and procedures”, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by it in the reports that it files or submits under the Exchange Act is recorded, processed, summarized, and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to its management, including its principal executive officer and principal financial officer, as appropriate, to allow timely decisions to be made regarding required disclosure. It should be noted that any system of controls and procedures, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system are met and that management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Based on the evaluation of our disclosure controls and procedures as of July 31, 2016, our chief executive officer and chief financial officer concluded that, as of such date, our disclosure controls and procedures were effective at the reasonable assurance level.

Management’s Annual Report on Internal Control over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act). A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with

 

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authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the interim or annual Consolidated Financial Statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Our management, with the participation of our chief executive officer and chief financial officer, conducted an evaluation of the effectiveness of our internal control over financial reporting as of July 31, 2016, based on the framework in Internal Control—Integrated Framework  issued by the Committee of Sponsoring Organizations of the Treadway Commission, or COSO, in 2013. The Company’s assessment did not include an assessment of the internal controls over financial reporting of Oncura Partners Diagnostics, LLC, or Oncura, acquired on January 8, 2016, which is included in our fiscal 2016 consolidated financial statements and which constituted $5.5 million of revenues for this period from acquisition to July 31, 2016. Based on this assessment, our management concluded that, as of July 31, 2016, our internal control over financial reporting was effective based on those criteria.

The effectiveness of our internal control over financial reporting as of July 31, 2016 has been audited by Ernst & Young LLP, an independent registered public accounting firm, as stated in their report which appears herein.

Changes in Internal Control Over Financial Reporting

We acquired Oncura on January 8, 2016. We are in the process of integrating the acquired operations into our overall internal control over financial reporting process and have extended our oversight and monitoring processes that support our internal control over financial reporting to include the acquired operations.

There were no changes to our internal control over financial reporting during the fourth quarter ended July 31, 2016 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

Item 9B. Other Information

None.

 

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PART III

 

Item 10. Directors, Executive Officers and Corporate Governance

We will file with the SEC a definitive proxy statement for our 2017 Annual Meeting of Stockholders not later than 120 days after the close of fiscal year 2016, or Proxy Statement. Certain information required by this item is incorporated herein by reference to the Proxy Statement under the captions “Proposal 1 – Election of Directors”, “Corporate Governance” and “Section 16(a) Beneficial Ownership Reporting Compliance”. Also refer to “Executive Officers of the Registrant” in Part I of this Annual Report on Form 10-K.

We have a code of ethics that applies to all of our employees and directors. This code (available on our website) satisfies the requirements set forth in Item 406 of Regulation S-K and applies to all relevant persons set forth therein. We intend to disclose on our website at www.analogic.com amendments to, and, if applicable, waivers of, our code of ethics.

 

Item 11. Executive Compensation

The information required by this item is incorporated herein by reference to the Proxy Statement under the captions “Executive Compensation”, “Director Compensation”, “Compensation Committee Interlocks and Insider Participation” and “Compensation Committee Report”.

 

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information required by this item is incorporated herein by reference to the Proxy Statement under the captions “Security Ownership of Certain Beneficial Owners, Directors, and Management” and “Securities Authorized for Issuance Under Equity Compensation Plans”.

 

Item 13. Certain Relationships and Related Transactions, and Director Independence

The information required by this item is incorporated herein by reference to the Proxy Statement under the captions “Corporate Governance” and “Certain Relationships and Related Transactions”.

 

Item 14. Principal Accountant Fees and Services

The information required by this item is incorporated herein by reference to the Proxy Statement under the caption “Independent Registered Public Accounting Firm’s Fees”.

 

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PART IV

 

Item 15. Exhibits and Financial Statement Schedules

 

                 Page
Number
 

(a)

        
     1.       Consolidated Financial Statements   
      Report of Independent Registered Public Accounting Firms      54   
      Consolidated Balance Sheets at July 31, 2016 and 2015      57   
      Consolidated Statements of Operations for the years ended July 31, 2016, 2015 and 2014      58   
     

Consolidated Statements of Comprehensive Income for the years ended July 31, 2016, 2015 and 2014

     59   
     

Consolidated Statements of Changes in Stockholders’ Equity for the years ended July 31, 2016, 2015 and 2014

     60   
      Consolidated Statements of Cash Flows for the years ended July 31, 2016, 2015 and 2014      61   
      Notes to Consolidated Financial Statements      62   
     2.       Financial Statement Schedule II – Valuation and Qualifying Accounts      104   
      Other schedules have been omitted because they are not required, not applicable, or the required information is furnished in the Consolidated Statements or notes hereto   

(b) The Index to Exhibits immediately following our Financial Statements and Financial Statement Schedule II is incorporated herein by reference.

 

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

    ANALOGIC CORPORATION
    By   / S /    J AMES W. G REEN        
Date: September 27, 2016      

James W. Green

President and Chief Executive Officer

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

 

Name

  

Title

 

Date

/ S /    J AMES W. G REEN      

James W. Green

  

President and Chief Executive Officer (Principal Executive Officer) and

Director

  September 27, 2016

/ S /    M ARK T. F ROST      

Mark T. Frost

  

Senior Vice President, Chief Financial Officer, and Treasurer (Principal Financial Officer)

  September 27, 2016

/ S /    B ERNARD C. B AILEY      

Bernard C. Bailey

  

Chairman of the Board

  September 27, 2016

/ S /    J EFFREY P. B LACK      

Jeffrey P. Black

  

Director

  September 27, 2016

/ S /    J AMES J. J UDGE      

James J. Judge

  

Director

  September 27, 2016

/ S /    M ICHAEL T. M ODIC      

Michael T. Modic

  

Director

  September 27, 2016

/ S /    S TEPHEN A. O DLAND      

Stephen A. Odland

  

Director

  September 27, 2016

/ S /    F RED B. P ARKS      

Fred B. Parks

  

Director

  September 27, 2016

 

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Report of Independent Registered Public Accounting Firm

The Board of Directors and Shareholders of Analogic Corporation

We have audited the accompanying consolidated balance sheets of Analogic Corporation as of July 31, 2016 and 2015, and the related consolidated statements of operations, comprehensive income, changes in stockholders’ equity and cash flows for each of the two years in the period ended July 31, 2016. Our audit also included the financial statement schedules listed in the Index at Item 15(a). These financial statements and schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Analogic Corporation at July 31, 2016 and 2015, and the consolidated results of its operations and its cash flows for each of the two years in the period ended July 31, 2016, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Analogic Corporation’s internal control over financial reporting as of July 31, 2016, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated September 27, 2016 expressed an unqualified opinion thereon.

/s/ Ernst & Young LLP

Boston, Massachusetts

September 27, 2016

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Shareholders of Analogic Corporation

We have audited Analogic Corporation’s internal control over financial reporting as of July 31, 2016, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). Analogic Corporation’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on Analogic Corporation’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

As indicated in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting, management’s assessment of and conclusion on the effectiveness of internal control over financial reporting did not include the internal controls of Oncura Partners Diagnostics, LLC, which is included in the 2016 consolidated financial statements of Analogic Corporation and constituted 4% and 1% of total and net assets, respectively, as of July 31, 2016 and 1% and 1% of revenues and net income, respectively, for the year then ended. Our audit of internal control over financial reporting of Analogic Corporation also did not include an evaluation of the internal control over financial reporting of Oncura Partners Diagnostics, LLC.

In our opinion, Analogic Corporation maintained, in all material respects, effective internal control over financial reporting as of July 31, 2016, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Analogic Corporation as of July 31, 2016 and 2015, and the related consolidated statements of operations, comprehensive income, changes in stockholders’ equity and cash flows for each of the two years in the period ended July 31, 2016 of Analogic Corporation and our report dated September 27, 2016 expressed unqualified opinion thereon.

/s/ Ernst & Young LLP

Boston, Massachusetts

September 27, 2016

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of Analogic Corporation

In our opinion, the accompanying consolidated statements of operations, of comprehensive income, of changes in stockholders’ equity and of cash flows for the year ended July 31, 2014 present fairly, in all material respects, the results of operations and cash flows of Analogic Corporation and its subsidiaries for the year ended July 31, 2014, in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule for the year ended July 31, 2014 presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. These financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audit. We conducted our audit of these statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

/s/ PricewaterhouseCoopers LLP

Boston, Massachusetts

September 26, 2014

 

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ANALOGIC CORPORATION

CONSOLIDATED BALANCE SHEETS

(In thousands, except share and per share data)

 

     July 31,
2016
    July 31,
2015
 
Assets     

Current assets:

    

Cash and cash equivalents

   $ 118,697      $ 123,800   

Accounts receivable, net of allowance for doubtful accounts of $1,070 and $1,220 as of July 31, 2016 and July 31, 2015, respectively

     112,412        119,301   

Inventory

     145,513        132,712   

Income tax receivable

     3,004        12,634   

Prepaid expenses and other current assets

     9,178        8,131   
                  

Total current assets

     388,804        396,578   
                  

Property, plant, and equipment, net

     107,790        106,299   

Intangible assets, net

     45,194        49,499   

Goodwill

     73,915        57,450   

Deferred income taxes

     10,671        9,904   

Other assets

     6,523        4,849   
                  

Total assets

   $ 632,897      $ 624,579   
                  
Liabilities and Stockholders’ Equity     

Current liabilities:

    

Accounts payable

   $ 28,575      $ 30,493   

Accrued employee compensation and benefits

     18,108        22,830   

Accrued income tax

     1,610        4,100   

Accrued warranty

     6,296        6,571   

Accrued restructuring charges

     5,248        580   

Deferred revenue

     5,359        5,200   

Customer deposits

     3,476        3,991   

Contingent consideration

     4,534        —     

Other current liabilities

     5,261        6,029   
                  

Total current liabilities

     78,467        79,794   
                  

Long-term liabilities:

    

Accrued income taxes, net of current portion

     2,174        2,531   

Contingent consideration, net of current portion

     7,705        2,000   

Other long-term liabilities

     13,374        8,844   
                  

Total long-term liabilities

     23,253        13,375   
                  

Guarantees, commitments and contingencies (Notes 11 and 12)

    

Stockholders’ equity:

    

Common stock, $0.05 par value; 30,000,000 shares authorized and 12,396,765 shares issued and outstanding as of July 31, 2016; 30,000,000 shares authorized and 12,434,017 shares issued and outstanding as of July 31, 2015

     619        621   

Capital in excess of par value

     149,005        140,538   

Retained earnings

     390,013        394,757   

Accumulated other comprehensive loss

     (8,460     (4,506
                  

Total stockholders’ equity

     531,177        531,410   
                  

Total liabilities and stockholders’ equity

   $ 632,897      $ 624,579   
                  

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

 

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ANALOGIC CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

 

     For the Year ended July 31,  
     2016     2015     2014  

Net revenue:

      

Product

   $ 502,752      $ 531,161      $ 509,527   

Engineering

     6,096        9,130        8,021   
                          

Total net revenue

     508,848        540,291        517,548   
                          

Cost of sales:

      

Product

     275,632        302,974        290,951   

Engineering

     5,151        7,830        6,894   
                          

Total cost of sales

     280,783        310,804        297,845   
                          

Gross profit

     228,065        229,487        219,703   
                          

Operating expenses:

      

Research and product development

     67,119        68,462        73,828   

Selling and marketing

     65,266        63,489        59,157   

General and administrative

     60,826        57,291        54,147   

Restructuring

     9,641        (354     3,483   
                          

Total operating expenses

     202,852        188,888        190,615   
                          

Income from operations

     25,213        40,599        29,088   
                          

Other income (expense):

      

Interest income, net

     208        73        253   

(Loss) on sale of other investments

     —          —          (484

Other (expense) income, net

     (5,105     361        181   
                          

Total other (expense) income, net

     (4,897     434        (50
                          

Income before income taxes

     20,316        41,033        29,038   

Provision for (benefit from) income taxes

     8,189        7,552        (5,442
                          

Net income

   $ 12,127      $ 33,481      $ 34,480   
                          

Net income per common share:

      

Basic

   $ 0.98      $ 2.70      $ 2.78   

Diluted

   $ 0.96      $ 2.66      $ 2.72   

Weighted average shares outstanding:

      

Basic

     12,402        12,407        12,404   

Diluted

     12,615        12,606        12,667   

Dividends declared and paid per share

   $ 0.40      $ 0.40      $ 0.40   

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

 

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ANALOGIC CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands)

 

     For the Year ended July 31,  
     2016     2015     2014  

Net income

   $ 12,127      $ 33,481      $ 34,480   

Other comprehensive income (loss), net of tax:

      

Foreign currency translation adjustment, net of tax

     (2,293     (12,564     (114

Unrecognized (loss) gain on pension benefits, net of tax

     (1,848     630        (1,332

Unrealized gain (loss) on foreign currency forward contracts, net of tax

     187        (377     103   
                          

Total other comprehensive loss, net of tax

     (3,954     (12,311     (1,343
                          

Total comprehensive income

   $ 8,173      $ 21,170      $ 33,137   
                          

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

 

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ANALOGIC CORPORATION

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

Years Ended July 31, 2016, 2015, and 2014

(In thousands, except share data)

 

     Common Stock     Capital in  Excess
of Par Value
    Retained
Earnings
    Accumulated Other
Comprehensive

Income
    Total
Stockholders’

Equity
 
     Shares     Amount          

Balance, July 31, 2013

     12,235,416      $ 612      $ 114,381      $ 362,255      $ 9,148      $ 486,396   
                                                  

Shares issued for:

            

Stock options exercised

     81,538        4        4,881        —          —          4,885   

Stock grants and vesting of restricted stock units, net of shares retained for taxes

     233,799        12        (7,634     —          —          (7,622

Stock purchase plan

     7,283        —          491        —          —          491   

Share-based compensation expense

     —          —          11,457        —          —          11,457   

Tax benefit from share-based compensation

     —          —          3,824        —          —          3,824   

Repurchase of common stock

     (185,044     (9     (1,721     (13,229     —          (14,959

Dividends declared ($0.40 per share)

     —          —          —          (5,029     —          (5,029

Net income for the year

     —          —          —          34,480        —          34,480   

Other comprehensive income, net of tax

     —          —          —          —          (1,343     (1,343
                                                  

Balance, July 31, 2014

     12,372,992        619        125,679        378,477        7,805        512,580   
                                                  

Shares issued for:

            

Stock options exercised

     135,444        7        7,267        —          —          7,274   

Stock grants and vesting of restricted stock units, net of shares retained for taxes

     92,743        5        (2,835     —          —          (2,830

Stock purchase plan

     9,449        (1     618        —          —          617   

Share-based compensation expense

     —          —          10,836        —          —          10,836   

Tax benefit from share-based compensation

     —          —          764        —          —          764   

Repurchase of common stock

     (176,611     (9     (1,791     (12,072     —          (13,872

Dividends declared ($0.40 per share)

     —          —          —          (5,129     —          (5,129

Net income for the year

     —          —          —          33,481        —          33,481   

Other comprehensive income, net of tax

     —          —          —          —          (12,311     (12,311
                                                  

Balance, July 31, 2015

     12,434,017        621        140,538        394,757        (4,506     531,410   
                                                  

Shares issued for:

            

Stock options exercised

     61,384        3        4,171        —          —          4,174   

Stock grants and vesting of restricted stock units, net of shares retained for taxes

     65,087        3        (2,727     —          —          (2,724

Stock purchase plan

     8,176        1        549        —          —          550   

Share-based compensation expense

     —          —          8,739        —          —          8,739   

Tax deficiency from share-based compensation

     —          —          (324     —          —          (324

Repurchase of common stock

     (171,899     (9     (1,941     (11,748     —          (13,698

Dividends declared ($0.40 per share)

     —          —          —          (5,123     —          (5,123

Net income for the year

     —          —          —          12,127        —          12,127   

Other comprehensive income, net of tax

     —          —          —          —          (3,954     (3,954
                                                  

Balance, July 31, 2016

     12,396,765      $ 619      $ 149,005      $ 390,013      $ (8,460   $ 531,177   
                                                  

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

 

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ANALOGIC CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

 

     For the Year ended July 31,  
     2016     2015     2014  

CASH FLOWS FROM OPERATING ACTIVITIES:

      

Net income

   $ 12,127      $ 33,481      $ 34,480   

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

      

(Benefit from) provision for deferred income taxes

     (457     4,404        (5,412

Depreciation and amortization

     22,952        23,307        22,057   

Share-based compensation expense

     8,864        10,938        11,512   

Write down of demo equipment to net realizable value

     2,914        2,646        2,357   

Provision for excess and obsolescence inventory

     1,354        2,391        1,561   

Excess tax benefit from share-based compensation

     (395     (1,134     (3,982

Change in fair value of contingent consideration

     141        (62     125   

Provision for doubtful accounts, net of recovery

     (151     420        203   

Loss on sale of other investments

     —          —          484   

Loss (gain) on sale of property, plant and equipment

     110        (115     17   

Net changes in operating assets and liabilities, exclusive of acquisition-related assets and liabilities:

      

Accounts receivable

     6,073        (16,050     6,633   

Inventory

     (21,624     (14,714     (12,347

Prepaid expenses and other assets

     (2,275     (387     2,525   

Accounts payable

     (2,233     (7,281     3,222   

Accrued liabilities

     (1,367     4,755        (9,100

Deferred revenue

     (126     (5,433     1,533   

Customer deposits

     (516     965        (213

Accrued income taxes and income taxes receivable

     6,832        (1,895     (8,769

Other liabilities

     764        2,474        1,045   
                          

NET CASH PROVIDED BY OPERATING ACTIVITIES

     32,987        38,710        47,931   
                          

CASH FLOWS FROM INVESTING ACTIVITIES:

      

Additions to property, plant, and equipment

     (13,121     (9,954     (17,517

Acquisition of businesses, net of cash acquired

     (8,424     (1,600     (10,561

Purchases of marketable securities in Rabbi Trust under the Non-qualified Deferred Compensation Plan

     —          —          (715

Proceeds from the sale of property, plant, and equipment

     106        559        260   
                          

NET CASH USED IN INVESTING ACTIVITIES

     (21,439     (10,995     (28,533
                          

CASH FLOWS FROM FINANCING ACTIVITIES:

      

Issuance of stock pursuant to exercise of stock options, employee stock purchase plan, restricted stock plans, and non-employee director stock plan

     4,724        7,893        5,379   

Repurchase of common stock

     (13,698     (13,872     (14,959

Shares repurchased for taxes for vested employee restricted stock grants

     (2,724     (2,832     (7,680

Excess tax benefit from share-based compensation

     395        1,134        3,982   

Dividends paid to shareholders

     (4,964     (5,111     (4,962

Cash paid for financing cost

     (500     —          —     

NET CASH USED IN FINANCING ACTIVITIES

     (16,767     (12,788     (18,240
                          

EFFECT OF EXCHANGE RATE CHANGES ON CASH

     116        (5,667     349   
                          

NET DECREASE INCREASE IN CASH AND CASH EQUIVALENTS

     (5,103     9,260        1,507   

CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD

     123,800        114,540        113,033   
                          

CASH AND CASH EQUIVALENTS, END OF PERIOD

   $ 118,697      $ 123,800      $ 114,540   
                          

Supplemental disclosures of cash flow information:

      

Income taxes paid, net of refunds

   $ (1,494   $ 4,996      $ 8,024   

Fixed asset additions in accounts payable and accrued liabilities

   $ 790      $ 596      $ 705   

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

 

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ANALOGIC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(in millions, except share and per share data)

1. Summary of business operations and significant accounting policies

Throughout this Annual Report on Form 10-K, unless the context states otherwise, the words “we,” “us,” “our” and “Analogic” refer to Analogic Corporation and all of its subsidiaries taken as a whole, and “our board of directors” refers to the board of directors of Analogic Corporation.

Description of Business

Analogic Corporation (NASDAQ:ALOG) designs, manufactures, and commercializes innovative real-time guidance, diagnostic imaging and threat detection technologies to advance the practice of medicine and save lives. We operate and report along three business segments: Medical Imaging, Ultrasound, and Security and Detection. Our Ultrasound segment provides ultrasound guidance systems for the urology and surgery markets and is expanding into point of care areas such as anesthesia and emergency medicine. We sell our ultrasound products through our direct sales force in North America and Europe, as well as through a network of distributors to clinical practitioners throughout the world. Our Medical Imaging segment provides critical enabling medical imaging systems and subsystems for computed tomography, or CT, magnetic resonance imaging, or MRI and high-resolution digital mammography systems. We sell our Medical Imaging products primarily through longstanding relationships with well-known multinational medical OEMs and new entrants in emerging markets. Our Security and Detection segment designs and manufactures automated threat detection systems for aviation baggage inspection applications utilizing advanced CT technology. We sell our security products primarily through multinational OEM partners.

We were incorporated in the Commonwealth of Massachusetts in November 1967 and our headquarters is based in Peabody, Massachusetts.

On September 20, 2013, we acquired PocketSonics, Inc. (PocketSonics). On October 28, 2014, we acquired certain assets and assumed certain liabilities related to the surgical planning and guidance business of Pathfinder. On January 8, 2016, we wholly acquired Oncura Partners Diagnostics, LLC, a privately held provider of remote, real-time ultrasound imaging and teleconsulting services currently focused on the veterinary medicines market. These acquisitions are more fully discussed in Note 3. The financial position, results of operations and cash flows of PocketSonics, Pathfinder and Oncura are included in our Consolidated Financial Statements from the date of acquisition.

Significant accounting policies

(a) Consolidation

Our consolidated financial statements include the accounts of us and our subsidiaries, all of which are wholly owned. All intercompany accounts and transactions have been eliminated in consolidation.

In determining whether we are the primary beneficiary of an entity and therefore required to consolidate, we apply a qualitative approach that determines whether we have both (1) the power to direct the economically significant activities of the entity and (2) the obligation to absorb losses of, or the right to receive benefits from, the entity that could potentially be significant to that entity. We have not been required to consolidate the activity of any entity due to these considerations.

(b) Cash and cash equivalents

We consider all highly liquid investments with an original maturity of three months or less at acquisition date to be cash equivalents.

 

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ANALOGIC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(in millions, except share and per share data)

 

(c) Revenue recognition and accounts receivable

We recognize revenue related to product sales upon shipment provided that title and risk of loss have passed to the customer, there is persuasive evidence of an arrangement, the sales price is fixed or determinable, collection of the related receivable is reasonably assured and customer acceptance criteria, if any, have been successfully demonstrated.

For persuasive evidence of an arrangement, the Company uses contracts or customer purchase orders to determine the existence of an arrangement.

For delivery, the Company’s sales contracts generally provide for the customer to accept title and risk of loss when the product leaves our facilities. When shipping terms or local laws do not allow for passage of title and risk of loss at the shipping point, we defer recognizing revenue until title and risk of loss transfer to the customer. For product sales with acceptance criteria that are not successfully demonstrated upon shipment, revenue is recognized upon customer acceptance, provided all other revenue recognition criteria have been met.

The Company assesses whether the sales price is fixed or determinable at the time of the transaction. Sales prices are documented in the executed sales contract or purchase orders received prior to shipment. The Company’s standard terms do not allow for trial or evaluation periods, rights of return or refund, payments contingent upon the customer obtaining financing or other terms that could impact the customer’s obligation.

The Company assesses whether collection is reasonably assured based on a number of factors, including the customer’s past transaction history and credit worthiness. We grant credit to domestic and foreign original equipment manufacturers, distributors, and end users, and perform ongoing credit evaluations of our customers’ financial condition. We continuously monitor collections and payments from our customers and maintain a provision for estimated credit losses based upon specific customer collection issues that have been identified.

We classify shipping and handling invoiced to customers as revenue and the related costs in cost of sales. Sales and other taxes collected from customers and subsequently remitted to government authorities are recorded as accounts receivable with a corresponding offset recorded to sales taxes payable. These balances are removed from the consolidated balance sheet when the cash is remitted to the tax authority. We include service revenue, related primarily to extended warranty contracts and repairs, in the product revenue line item of our Consolidated Statement of Operations, as it is deemed immaterial for separate classification.

On a limited basis, the Company enters into transactions which involve multiple elements (i.e., products and services such as installation or training). Typically, all products sold to a customer are delivered at the same time. If a partial delivery occurs as authorized by the customer, the Company allocates revenue to the various products based on their vendor-specific objective evidence of fair value, or VSOE, if VSOE exists according to ASC 605-25 as the basis of determining the relative selling price of each element. If VSOE does not exist, the Company may use third party evidence of fair value, or TPE, to determine the relative selling price of each element. If neither VSOE nor TPE exists, the Company may use management’s best estimate of the sales price, or BESP, of each element to determine the relative selling price. The relative selling prices for installations, trainings, and extended warranties are based on established price lists and separate, stand-alone sales of these elements. The Company establishes best estimates within a range of selling prices considering multiple factors including, but not limited to, factors such as size of transaction, pricing strategies and market conditions. The Company believes the use of the BESP allows revenue recognition in a manner consistent with the underlying economics of the transaction. Additionally, from time to time there may be undelivered elements in a multiple element arrangement, such elements generally being training or extended warranty. The Company defers revenue on undelivered elements of an arrangement and recognizes it once all revenue recognition criteria have been met.

 

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ANALOGIC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(in millions, except share and per share data)

 

Maintenance or service revenues are recognized ratably over the term of the contract.

We provide engineering services to some of our customers on a contractual basis and recognize revenue using the percentage of completion method or the completed contract method. We estimate the progress towards completion on contracts with a fixed-fee arrangement on a monthly basis utilizing costs incurred to date as a percentage of total estimated costs at completion of the project or on a milestone basis based on contractual terms, as appropriate. Short-term unbilled receivables are included in accounts receivable in the Consolidated Balance Sheets. Total unbilled receivables at July 31, 2016 and 2015 were $4.0 million and $5.2 million, respectively. There were no long-term unbilled receivables at either July 31, 2016 or 2015. When total cost estimates exceed revenues, we accrue for the estimated losses immediately.

Deferred revenue is primarily comprised of maintenance and other service revenues for which payment has been received and for which services have not yet been performed. In situations where collection of the receivable is not reasonably assured, the inventory is expensed upon shipment and the revenue is recognized as the cash is received. Total deferred revenue at July 31, 2016 and 2015 was $7.2 million and $6.1 million, respectively. At July 31, 2016 and 2015, the long-term portion of deferred revenue of $1.8 million and $0.9 million, respectively, was included in other long-term liabilities.

(d) Use of estimates

The preparation of our consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that may affect the reported amounts of assets, liabilities, equity, revenue and expenses, and related disclosures of contingent assets and liabilities. On an on-going basis, we evaluate our estimates and judgments and methodologies. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable, the results of which forms the basis for making judgments about the carrying value of assets and liabilities. Actual results may differ from those estimates under different assumptions or conditions. Significant estimates for which changes in the near term are considered reasonably possible and that may have a material impact on the financial statements are disclosed in these Notes to the Consolidated Financial Statements.

(e) Inventories

We value our inventory at the lower of the cost of the inventory or market in a manner that approximates the first-in first-out method. Management assesses the recoverability of inventory based on types and levels of inventory held, product life cycles, and changes in technology. A variety of methodologies are used to determine the amount of inventory write-downs necessary to adjust excess and obsolete inventory. Write-downs are based on the age of the inventory, lower of cost or market, along with significant management judgments concerning future demands for the inventory and technological obsolescence. If actual demand for our products is less than our estimates, or we experience a higher incidence of inventory obsolescence because of rapidly changing technology and customer requirements, additional write-downs for existing inventories might be recorded in future periods. Once recorded, inventory adjustments are not subsequently reversed until the inventory is used or disposed of.

Product is held by the sales force in the field both for sales and demonstration purposes. We classify and value such product based on the manner in which it is used by the sales force. Prior to fiscal 2016, demonstration inventory was amortized on a straight line basis over a four year period to approximate its net realizable value. Beginning in fiscal 2016, based on our ability and intent to sell such inventory at a normal profit margin, the

 

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ANALOGIC CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)

(in millions, except share and per share data)

 

Company no longer amortized demonstration inventory during the first year it was placed in the field. The Company implemented this policy prospectively in fiscal 2016 based on changes in how the demonstration inventory is being utilized in the field. To the extent that demonstration inventory is unsold after a period of a year, it is reclassified to fixed assets and amortized over its estimated remaining useful life of 36 months. Amortization of demonstration inventory is recorded in sales and marketing expense.

Our inventory write-downs involve uncertainties because the calculation requires management to make assumptions and to apply judgment regarding inventory aging, forecasted customer demand, and technological obsolescence.

(f) Income taxes

We account for income taxes under the asset and liability method, which requires recognition of deferred tax assets, subject to valuation allowances, and liabilities for the expected future tax consequences of events that have been included in the financial statements or tax returns. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of asset and liabilities for financial reporting and income tax purposes. A valuation allowance is established if it is more likely than not that all or a portion of the net deferred tax assets will not be realized. We do not provide for U.S. Federal income taxes on undistributed earnings of all consolidated foreign subsidiaries as such earnings are considered to be indefinitely reinvested in those operations. For disclosure purposes, calculations of the potential deferred income tax liability on these undistributed earnings is not practicable because such liability, if any, is dependent on circumstances existing if and when remittance occurs.

(g) Concentration of credit risk

Financial instruments that potentially subject us to concentrations of credit risk consist principally of cash and cash equivalents, derivative instruments and accounts receivable. Cash and cash equivalents not required for working capital purposes are placed primarily in short-term bank deposits, money market funds, or demand notes of financial institutions or banks that meet stringent credit rating requirements or are collateralized by securities issued by the U.S. government or government agencies. We grant credit to domestic and foreign original equipment manufacturers, distributors, and end users, and perform ongoing credit evaluations on our customers’ financial condition. We do not require collateral or other security to be furnished by the counterparties to our derivative instruments.

(h) Property, plant, and equipment

Property, plant, and equipment is recorded at cost and depreciated using the straight-line method over their estimated useful lives. Leasehold improvements are amortized over the shorter of their estimated useful lives or the term of the respective leases. Upon retirement or disposal, the cost of the asset disposed of and the related accumulated depreciation are removed from the accounts and any gain or loss is reflected in our Consolidated Statement of Operations. Expenditures for maintenance and repairs are charged to expense when incurred while the costs of significant improvements, which extend the life of the underlying asset, are capitalized.

 

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(in millions, except share and per share data)

 

Property, plant, and equipment consisted of the following:

 

     Estimated Useful Lives
(Years)
     July 31,  
          2016     2015  

(in millions)

       

Property, plant, and equipment:

       

Land and improvements

     15 years for land improvements         7.0        6.9   

Building and improvements

     10 to 35        85.0        83.0   

Leasehold improvements

     lesser of useful life or the lease term         10.1        10.0   

Equipment and software

     3 to 7         142.7        133.7   

Furniture and fixtures

     5         7.6        7.1   

Demonstration Inventory

     3         3.9        —     
                           
      $ 256.3      $ 240.7   
     

 

 

   

 

 

 

Less accumulated depreciation and amortization

        (148.5     (134.4
                           

Total property, plant and equipment

      $ 107.8      $ 106.3   
                           

Land is not depreciated. Total depreciation and amortization of property, plant, and equipment was $15.0 million, $14.1 million, and $14.3 million for fiscal years 2016, 2015, and 2014, respectively. We did not capitalize any interest in fiscal years 2016, 2015 or 2014.

(i) Intangible assets and goodwill

Intangible assets consist of intellectual property, licenses, and certain identifiable intangible assets resulting from business combinations, including trade names, customer relationships, backlog, and developed technology. Intangible assets that have finite lives are amortized using either the straight-line method, or if reliably determinable, based on the pattern in which the economic benefit of the asset is expected to be utilized. Finite-lived intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value of assets may not be recoverable. Recoverability of these assets is measured by comparison of their carrying value to the future undiscounted cash flows the assets are expected to generate over their remaining economic life. If such assets are considered to be impaired, the impairment to be recognized in earnings equals the amount by which the carrying value of the assets exceeds their fair value determined by either a quoted market price, if any, or a value determined by utilizing a discounted cash flow technique. Evaluation of impairment of long-lived assets requires estimates of future operating results that are used in the preparation of the expected future undiscounted cash flows. Actual future operating results and the remaining economic lives of long-lived assets could differ from the estimates used in assessing the recoverability of these assets. These differences could result in impairment charges, which could have a material adverse impact on our results of operations.

An indefinite-lived intangible asset, such as an in-process research and development, or IPR&D, or trade names acquired in business combinations, is tested for impairment annually or more frequently if indicators of impairment are present. We perform our annual review in our second quarter of each fiscal year. An indefinite-lived intangible asset may be considered impaired if we determine that the carrying value exceeds the assets’ fair value. We may first perform a qualitative assessment to determine whether it is necessary to perform the quantitative impairment test or bypass the qualitative assessment and proceed directly to performing the quantitative impairment test. The quantitative impairment test is based on discounted estimated future cash flows. Assessing the impairment of an indefinite-lived intangible asset requires us to make assumptions and judgments regarding the fair value of the asset using the relief from royalty valuation technique, which include management’s estimates of future growth rates and discount rates.

 

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(in millions, except share and per share data)

 

Goodwill is not amortized but is reviewed for impairment annually or more frequently whenever events or changes in circumstances indicate that the carrying value of the reporting unit may exceed its fair value. A reporting unit, for the purpose of the impairment test, is at or below the operating segment level, and constitutes a business for which discrete financial information is available and regularly reviewed by segment management. We perform our annual reviews in our second quarter of each fiscal year. We may first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying value and as a basis for determining whether it is necessary to perform the two-step goodwill impairment test. We may also elect to proceed directly to the two-step impairment test. If an initial qualitative assessment indicates that it is more likely than not that the carrying value of a reporting unit exceeds its estimated fair value, an additional quantitative evaluation is performed under the two-step impairment test. If based on the quantitative evaluation the fair value of the reporting unit is less than its carrying amount, we perform an analysis of the fair value of all assets and liabilities of the reporting unit. If the implied fair value of the reporting unit’s goodwill is determined to be less that its carrying amount, impairment is recognized for the difference.

Assessing the impairment of goodwill requires us to make assumptions and judgments regarding the fair value of our reporting units. We estimate the fair value of our reporting units using a combination of valuation techniques, including discounted cash flows and cash earnings multiples, and compare the values to our estimated overall market capitalization.

(j) Fair value of financial instruments

Our financial instruments consist primarily of cash and cash equivalents, accounts receivable, accounts payable and accrued liabilities, and derivative instruments. The carrying amounts of our financial instruments approximate fair value due to their short-term nature. The fair values of marketable securities and investments in pension and deferred compensation plans, if any, are estimated based on quoted market price for these securities. We did not have any marketable securities at July 31, 2016 and 2015.

(k) Asset retirement obligations

We establish asset retirement obligations (“AROs”) for the present value of estimated future costs to return certain of our facilities to their original condition. The recorded liabilities are accreted to the future value of the estimated restoration costs. The accretion of the liability and the depreciation of the capitalized cost are recognized over the estimated useful lives of the facilities.

(l) Impairment of long-lived assets

We evaluate our long-lived assets whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable or that the useful lives of these assets are no longer appropriate. If indicators of impairment are present with respect to long-lived assets and undiscounted cash flows attributable to such assets are not expected to be sufficient to recover the assets’ carrying amount, additional analysis is performed as appropriate and the carrying value of the long-lived assets is written down to its estimated fair value based on a discounted cash flow analysis or the market value.

(m) Warranty costs

We provide for the estimated cost of standard product warranties at the time products are shipped. Although we engage in extensive product-quality programs and processes, our warranty obligations are affected by product failure rates and service delivery costs incurred to correct product failures. Should actual product failure rates or service delivery costs differ from our estimates (which are based on specific warranty claims, historical data, and

 

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(in millions, except share and per share data)

 

engineering estimates, where applicable), revisions to the estimated warranty liability would be required. Such revisions could adversely affect our operating results. Generally, we warrant that our products will perform in all material respects in accordance with our standard published specifications in effect at the time of delivery of the products to our customer for a period ranging from 12 to 60 months from the date of delivery.

(n) Research and development and capitalized software development costs

Research and development costs are expensed as incurred and include primarily engineering salaries, incentive compensation, including share-based compensation, overhead and materials used in connection with research and product development activities. Research and development costs related to non-recurring engineering projects funded by customers are included within engineering cost of sales if the project is accounted for under the percentage of completion method or under the completed contract method.

Software development costs incurred subsequent to establishing technological feasibility are capitalized. Technological feasibility is demonstrated by the completion of a detailed program design. Capitalized costs are amortized at the higher of (a) straight-line basis over the economic life of the software ranging from 3 to 5 years or (b) the ratio of the product’s current gross revenues to the total of current and expected gross revenues. Unamortized capitalized software costs are $0.5 million and $0.7 million as of July 31, 2016 and 2015, respectively. Amortization expense of capitalized software development costs was $0.2 million, $0.2 million, and $0.0 million in fiscal years 2016, 2015, and 2014, respectively, and is included in product cost of sales.

(o) Derivative instruments and hedging activities

We recognize all derivative instruments as either assets or liabilities at fair value in our consolidated balance sheets. Changes in the fair value of derivatives are recorded each period in current earnings or accumulated other comprehensive income (loss), depending on whether a derivative is designated as part of a hedge transaction. We classify the cash flows from these instruments in the same category as the cash flows from the hedged items. We do not enter into derivative transactions for trading or speculative purposes.

We assess, both at inception and on an ongoing basis, whether the derivatives that are used in hedging transactions are highly effective in offsetting the changes in cash flows or fair values of the hedged items. We also assess hedge ineffectiveness on a quarterly basis and record the gain or loss related to the ineffective portion to current earnings. If we determine that a forecasted transaction is no longer probable of occurring, we discontinue hedge accounting for the affected portion of the hedge instrument, and any related unrealized gain or loss on the contract is recognized in current earnings.

(p) Translation of foreign currencies

The assets and liabilities of our foreign subsidiaries, whose cash flows are primarily in their local currency, have been translated into U.S. dollars using the current exchange rates at each balance sheet date. The operating results of these foreign subsidiaries have been translated at average exchange rates that prevailed during each reporting period. Adjustments resulting from translation of foreign currency financial statements are reflected as a component of accumulated other comprehensive income in the consolidated balance sheet. We had foreign currency translation adjustments of $(2.3) million, $(12.6) million, and $(0.1) million, respectively, included within the Consolidated Statement of Comprehensive Income in fiscal years 2016, 2015 and 2014, respectively.

Exchange gains and losses resulting from foreign currency transactions (transactions denominated in a currency other than that of the entity’s functional currency), excluding intercompany transactions considered to be of a long-term investment nature, are included in the results of operations in the period in which they occur

 

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(in millions, except share and per share data)

 

and are reflected under the caption “Other, net”. We had foreign exchange gains (losses) included within the Consolidated Statement of Operations totaling $(2.7) million, $(0.4) million, and $(0.2) million in fiscal years 2016, 2015 and 2014, respectively.

(q) Advertising

Advertising costs are expensed when incurred, are included in selling and marketing expenses and totaled $0.3 million, $0.4 million and $0.2 million in fiscal years 2016, 2015 and 2014, respectively.

(r) Share-based compensation

We recognize share-based compensation expense for equity instruments exchanged for employee and director services. Share-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the employee’s requisite service period (generally the vesting period of the equity grant), net of estimated forfeitures.

We estimate the fair value of stock options using the Black-Scholes valuation model and the fair value of our restricted stock awards, which include shares of restricted stock and restricted stock units, based on the quoted market price of our common stock or the use of a Monte-Carlo simulation model. For time or service-based awards, we recognize the associated share-based compensation expense on a straight-line basis over the vesting periods of the awards, net of estimated forfeitures. Forfeiture rates are estimated based on historical pre-vesting forfeitures and are updated on the vesting dates to reflect actual forfeitures.

For performance-based awards with an earnings per share related target, we evaluate the probability of meeting the performance criteria at each balance sheet date and if probable, related compensation cost is amortized over the performance period on a straight-line basis because such awards vest only at the end of the measurement period. Changes to the probability assessment and the estimate of shares expected to vest will result in adjustments to the related share-based compensation expense that will be recorded in the period of the change. If the earnings per share related target performance is not achieved, no compensation cost is recognized and any previously recognized compensation cost is reversed. For market-based awards, the compensation cost is amortized over the performance period on a straight-line basis because the awards vest only at the end of the measurement period. The probability of actual shares expected to be earned is considered in the grant date valuation, therefore the expense is not adjusted to reflect the actual units earned.

(s) Business combinations

In accordance with the acquisition method of accounting, the fair values of assets acquired and liabilities assumed are determined and recorded as of the date of the acquisition. Transaction costs related to the acquisition are expensed as incurred. Any excess of the purchase price over the estimated fair value of the net assets acquired is recorded as goodwill. Any excess of the fair value of assets acquired over the purchase price is recorded as a bargain purchase gain in Other income (expense), net in the Consolidated Statements of Operations. This methodology involves uncertainties because it requires management to make assumptions and to apply judgment to estimate the fair value of acquired assets, including intangible assets, and liabilities. Management estimates the fair value of assets and liabilities based upon widely accepted valuation techniques, including discounted cash flows and market multiple analyses. Furthermore, the fair value of contingent consideration recorded as part of an acquisition is determined through a valuation model that incorporates probability adjusted assumptions related to achieving the related milestones and the likelihood of us making the contingent payments. Unanticipated events or circumstances may occur which could affect the accuracy of our fair value estimates, including assumptions regarding industry economic factors and business strategies.

 

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(in millions, except share and per share data)

 

(t) Net income per share

Basic net income per share is computed using the weighted average number of common shares outstanding during the period. Diluted net income per share is computed using the weighted average number of common and dilutive common equivalent shares outstanding during the period. Dilutive common equivalent shares consist of stock options and restricted stock units.

(u) Segment information

We identify a business as an operating segment if: i) it engages in business activities from which it may earn revenues and incur expenses; ii) its operating results are regularly reviewed by our chief operating decision maker who is our chief executive officer, and iii) it has available discrete financial information. We aggregate our operating segments into a reportable segment if the operating segments are determined to have similar economic characteristics and are similar in the nature of products and services, nature of production processes, type or class of customer for their products and services, product or service distribution method and, if applicable, nature of the regulatory environment. We have three reportable segments: Medical Imaging, Ultrasound, and Security and Detection.

(v) Recent accounting pronouncements

Recently adopted

Classification of deferred taxes

In November 2015, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2015-17, “Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes.” The standard requires that deferred tax assets and liabilities be classified as noncurrent on the balance sheet rather than being separated into current and noncurrent. ASU 2015-17 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. Early adoption is permitted and the standard may be applied either retrospectively or on a prospective basis to all deferred tax assets and liabilities. We elected early adoption of ASU 2015-17 during our second quarter of fiscal year 2016 on a retrospective basis. Accordingly, we reclassified the current deferred taxes to noncurrent on our July 31, 2015 Consolidated Balance Sheets, which decreased refundable and deferred income taxes by $8.0 million, increased noncurrent deferred tax assets by $4.6 million and decreased noncurrent deferred tax liabilities by $3.4 million.

Consolidation

In February 2015, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2015-02, “Consolidation (Topic 810): Amendments to the Consolidation Analysis.” ASU 2015-02 amended the process that a reporting entity must perform to determine whether it should consolidate certain types of legal entities. ASU 2015-02 is effective for annual and interim periods beginning after December 15, 2015. Early adoption is permitted. The update would be effective for us beginning on August 1, 2016. We elected early adoption of ASU 2015-02 during our first quarter of fiscal year ending July 31, 2016. The adoption of this update did not have a material impact on our consolidated financial statements.

Not yet effective

Improvements to employee share-based payment accounting

In March 2016, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2016-09, “Improvements to Employee Share-Based Payment Accounting,” which amends ASC 718, “Stock Based Compensation.” The amendments require that all excess tax benefits be recorded as an income tax

 

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benefit or expense in the income statement and be classified as an operating activity in the statement of cash flows. Entities may also elect to estimate the amount of forfeitures or recognize them as they occur. The amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. The standard will be effective for us in the first quarter of our fiscal year ending July 31, 2018 and early adoption is permitted. We are currently evaluating the impact of the adoption of this update on our consolidated financial statements.

Leases

In February 2016, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2016-02, “Leases (Topic 842)”. The standard requires lessees to recognize assets and liabilities for most leases on the balance sheet. For income statement purposes, the standard requires leases to be classified as either operating or finance. The standard is effective for annual and interim periods beginning after December 15, 2018. Early adoption is permitted. The standard will be effective for us in the first quarter of our fiscal year ending July 31, 2020. Adoption requires application of the new guidance for all periods presented. We are currently evaluating the impact of the adoption of this standard on our consolidated financial statements.

Cloud computing arrangements

In April 2015, the Financial Accounting Standards Board, or FASB, issued Accounting Standards Update, or ASU, No. 2015-05, “Intangibles - Goodwill and Other–Internal-Use Software (Subtopic 350-40).” The amendments provide guidance as to whether a cloud computing arrangement (e.g., software as a service, platform as a service, infrastructure as a service, and other similar hosting arrangements) includes a software license and, based on that determination, how to account for such arrangements. The amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2015 and may be applied on either a prospective or retrospective basis. The provisions will be effective for us in the first quarter of our fiscal year ending July 31, 2017. Early adoption is not permitted. We do not expect the adoption of these provisions to have a material impact on our consolidated financial statements.

Disclosure of uncertainties about an entity’s ability to continue as a going concern

In August 2014, the FASB issued ASU No. 2014-15 , “Presentation of Financial Statements — Going Concern (Subtopic 205-40) Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern”. The standard requires management to evaluate an entity’s ability to continue as a going concern within one year of the date of issuance of the entity’s financial statements. The amendments are effective for the annual period ending after December 15, 2016, and for annual periods and interim periods thereafter and should be applied on a prospective basis. Early adoption is permitted. The provisions will be effective for us in the first quarter of our fiscal year ending July 31, 2017. We do not expect the adoption of these provisions to have a material impact on our consolidated financial statements.

Revenue from contracts with customers

In May 2014, the FASB issued an update which provides guidance for revenue recognition. This update affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets. This update will supersede existing revenue recognition requirements and most industry-specific guidance. This update also supersedes some cost guidance, including revenue recognition guidance for construction-type and production-type contracts. The update’s core principle is that a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods or services. In doing so, companies will need to use more judgment and make more estimates than under today’s

 

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(in millions, except share and per share data)

 

guidance. These may include identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. This update should be applied either on a retrospective or modified retrospective basis. This update will be effective for us in the first quarter of our fiscal year ending July 31, 2018. Early adoption is not permitted. In April 2015, the FASB issued a proposal to defer the effective date of the new revenue standard for public entities by one year. Therefore, this update would be effective for us in the first quarter of our fiscal year ending July 31, 2019. The proposal would also permit entities to early adopt, but only as of the original effective date (i.e. one year earlier). We are currently evaluating the impact of the adoption of this update on our consolidated financial statements.

(w) Reclassifications and revisions to prior period financial statements

Certain financial statement items have been reclassified to conform to the current period presentation. We reclassified current deferred taxes to noncurrent due to the effect of adopting ASU 2015-17 and we separately presented current and noncurrent contingent consideration liabilities on our July 31, 2015 Consolidated Balance Sheet to conform to the current period presentation. There was no impact on our Consolidated Statements of Operations as a result of these reclassifications.

2. Share-based compensation expense

On January 29, 2010, our stockholders approved the “2009 Stock Incentive Plan”, or 2009 Plan, which provided for the issuance of up to 1,600,000 shares of common stock. Stockholders approved amendments to the 2009 Plan on January 23, 2012 and January 21, 2014 which increased the number of shares available for issuance under the 2009 Plan to 2,200,000 and 4,453,518, respectively. As of July 31, 2016 the remaining number of shares available for issuance under the 2009 Plan is 2,828,781.

The 2009 Plan includes a number of different types of awards. Non-GAAP EPS performance-based (non-GAAP EPS) awards are performance based restricted stock unit (RSU) awards issued to executive officers and other high level management employees of Analogic. Non-GAAP EPS awards align compensation with the performance of our non-GAAP earnings per share. Total shareholder return performance-based (TSR) awards are performance based RSU awards issued to executive officers and other high level management employees of Analogic. TSR awards align compensation with the performance of Analogic’s stock as compared to the stock performance of its peer group. Time based RSU awards are stock awards issued to Analogic employees and Board Members. Time based RSU’s are not aligned with performance measures and generally vest over a 3 year period of time. Stock options have been granted to executive officers and employees of Analogic to give them the right to purchase stock at a set price when vested.

 

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(in millions, except share and per share data)

 

Share-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the employee’s requisite service period, net of forfeitures. The following table sets forth the stock option and RSU transactions for fiscal year 2016:

 

(Amounts in thousands, except share and

per share data)

  Stock Options Outstanding     Time-Based
Unvested Restricted
RSUs