The Cooper Companies, Inc.
COOPER COMPANIES INC (Form: 10-Q, Received: 09/10/2007 06:03:08)
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


FORM 10-Q

 


 

x Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For Quarterly Period Ended July 31, 2007

 

¨ 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 1-8597

 


The Cooper Companies, Inc.

(Exact name of registrant as specified in its charter)

 


 

Delaware   94-2657368

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

6140 Stoneridge Mall Road, Suite 590, Pleasanton, CA 94588

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code (925) 460-3600

 


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   x     No   ¨

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

Large accelerated filer   x     Accelerated filer   ¨     Non-accelerated filer   ¨

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

Indicate the number of shares outstanding of each of issuer’s classes of common stock, as of the latest practicable date.

 

Common Stock, $.10 par value

 

44,800,966 Shares

Class   Outstanding at August 31, 2007

 



Table of Contents

THE COOPER COMPANIES, INC. AND SUBSIDIARIES

INDEX

 

               Page No.
PART I.    FINANCIAL INFORMATION   
    Item 1.    Financial Statements   
      Consolidated Statements of Income – Three and Nine Months Ended July 31, 2007 and 2006    3
      Consolidated Balance Sheets – July 31, 2007 and October 31, 2006    4
      Consolidated Condensed Statements of Cash Flows - Nine Months Ended July 31, 2007 and 2006    5
      Consolidated Condensed Statements of Comprehensive Income - Three and Nine Months Ended July 31, 2007 and 2006    6
      Notes to Consolidated Condensed Financial Statements    7
    Item 2.    Management’s Discussion and Analysis of Financial Condition and Results of Operations    37
    Item 3.    Quantitative and Qualitative Disclosure About Market Risk    57
    Item 4.    Controls and Procedures    57
PART II.    OTHER INFORMATION   
    Item 1.    Legal Proceedings    58
    Item 1A.    Risk Factors    61
    Item 5.    Other Information    61
    Item 6.    Exhibits    63

     Signature

   64

     Index of Exhibits

   65

 

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Consolidated Statements of Income

(In thousands, except for earnings per share)

(Unaudited)

 

    

Three Months Ended

July 31,

  

Nine Months Ended

July 31,

 
     2007    2006    2007    2006  

Net sales

   $ 251,862    $ 225,798    $ 696,817    $ 642,934  

Cost of sales

     105,938      88,037      294,526      244,649  
                             

Gross profit

     145,924      137,761      402,291      398,285  

Selling, general and administrative expense

     104,521      90,039      302,977      263,085  

Research and development expense

     11,513      6,264      30,581      26,110  

Restructuring costs

     2,072      5,628      6,779      7,834  

Amortization of intangibles

     4,160      3,530      12,003      10,762  
                             

Operating income

     23,658      32,300      49,951      90,494  

Interest expense

     11,085      8,534      31,795      28,834  

Other income (expense), net

     512      523      1,340      (1,655 )
                             

Income before income taxes

     13,085      24,289      19,496      60,005  

Provision for income taxes

     4,905      3,312      6,495      7,373  
                             

Net income

     8,180      20,977      13,001      52,632  

Add interest charge applicable to convertible debt, net of tax

     523      522      —        1,567  
                             

Income for calculating diluted earnings per share

   $ 8,703    $ 21,499    $ 13,001    $ 54,199  
                             

Earnings per share:

           

Basic

   $ 0.18    $ 0.47    $ 0.29    $ 1.18  
                             

Diluted

   $ 0.18    $ 0.45    $ 0.29    $ 1.14  
                             

Number of shares used to compute earnings per share:

           

Basic

     44,778      44,531      44,664      44,516  
                             

Diluted

     47,785      47,482      45,082      47,614  
                             

See accompanying notes.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

(In thousands)

(Unaudited)

 

    

July 31,

2007

    October 31,
2006
 
ASSETS     

Current assets:

    

Cash and cash equivalents

   $ 8,061     $ 8,224  

Trade accounts receivable, net of allowance for doubtful accounts of $5,818 at July 31, 2007 and $5,523 at October 31, 2006

     164,332       146,584  

Inventories, net

     265,381       236,512  

Deferred tax assets

     22,200       19,659  

Prepaid expense and other current assets

     51,123       45,972  
                

Total current assets

     511,097       456,951  
                

Property, plant and equipment, at cost

     756,263       637,428  

Less: accumulated depreciation and amortization

     177,546       141,071  
                
     578,717       496,357  
                

Goodwill

     1,255,936       1,217,084  

Other intangibles, net

     150,086       147,160  

Deferred tax assets

     23,322       21,479  

Other assets

     21,907       13,570  
                
   $ 2,541,065     $ 2,352,601  
                
LIABILITIES AND STOCKHOLDERS’ EQUITY     

Current liabilities:

    

Short-term debt

   $ 53,706     $ 23,516  

Current portion of long-term debt

     —         37,850  

Accounts payable

     59,531       66,080  

Employee compensation and benefits

     30,643       29,755  

Accrued acquisition costs

     20,553       36,901  

Accrued income taxes

     36,864       28,534  

Accrued interest

     16,803       8,192  

Other current liabilities

     66,322       45,802  
                

Total current liabilities

     284,422       276,630  
                

Long-term debt

     807,580       681,286  

Deferred tax liability

     11,504       9,494  

Accrued pension liability and other

     2,197       6,682  
                

Total liabilities

     1,105,703       974,092  
                

Commitments and Contingencies (see Note 13)

    

Stockholders’ equity:

    

Preferred stock, 10 cents par value, shares authorized: 1,000; zero shares issued or outstanding

     —         —    

Common stock, 10 cents par value, shares authorized: 70,000; issued 45,184 at July 31, 2007 and 44,966 at October 31, 2006

     4,518       4,497  

Additional paid-in capital

     1,016,630       993,713  

Accumulated other comprehensive income

     61,788       38,711  

Retained earnings

     358,320       348,000  

Treasury stock at cost: 384 shares at July 31, 2007 and 418 shares at October 31, 2006

     (5,894 )     (6,412 )
                

Stockholders’ equity

     1,435,362       1,378,509  
                
   $ 2,541,065     $ 2,352,601  
                

See accompanying notes.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Consolidated Condensed Statements of Cash Flows

(In thousands)

(Unaudited)

 

    

Nine Months Ended

July 31,

 
     2007     2006  

Cash flows from operating activities:

    

Net income

   $ 13,001     $ 52,632  

Depreciation and amortization

     55,651       45,020  

Decrease (increase) in operating capital

     11,783       (24,338 )

Other non-cash items

     15,427       41,545  
                

Net cash provided by operating activities

     95,862       114,859  
                

Cash flows from investing activities:

    

Purchases of property, plant and equipment

     (128,688 )     (124,534 )

Acquisitions of businesses, net of cash acquired

     (77,636 )     (63,051 )
                

Net cash used in investing activities

     (206,324 )     (187,585 )
                

Cash flows from financing activities:

    

Net proceeds of short-term debt

     28,012       1,224  

Repayments of long-term debt

     (1,005,364 )     (678,978 )

Proceeds from long-term debt

     1,093,700       731,750  

Debt acquisition costs

     (11,496 )     (625 )

Dividends on common stock

     (2,681 )     (2,671 )

Excess tax benefit from share-based compensation arrangements

     176       1,170  

Proceeds from exercise of stock options

     7,578       2,531  
                

Net cash provided by financing activities

     109,925       54,401  

Effect of exchange rate changes on cash and cash equivalents

     374       223  
                

Net decrease in cash and cash equivalents

     (163 )     (18,102 )

Cash and cash equivalents—beginning of period

     8,224       30,826  
                

Cash and cash equivalents—end of period

   $ 8,061     $ 12,724  
                

See accompanying notes.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Consolidated Condensed Statements of Comprehensive Income

(In thousands)

(Unaudited)

 

    

Three Months Ended

July 31,

   

Nine Months Ended

July 31,

     2007     2006     2007     2006

Net income

   $ 8,180     $ 20,977     $ 13,001     $ 52,632

Other comprehensive income:

        

Foreign currency translation adjustment

     6,937       5,013       26,812       17,366

Change in value of derivative instruments, net of tax

     (2,908 )     (113 )     (3,735 )     988

Minimum pension liability adjustment, net of tax

     —         —         —         197
                              

Other comprehensive income

     4,029       4,900       23,077       18,551
                              

Comprehensive income

   $ 12,209     $ 25,877     $ 36,078     $ 71,183
                              

See accompanying notes.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements

(Unaudited)

Note 1. General

The Cooper Companies, Inc. (Cooper or the Company) markets, develops and manufactures healthcare products through its two business units:

 

 

CooperVision (CVI) markets, develops and manufactures a broad range of contact lenses for the worldwide vision care market. Its leading products are disposable and planned replacement lenses.

 

 

CooperSurgical (CSI) markets, develops and manufactures medical devices, diagnostic products and surgical instruments and accessories used primarily by gynecologists and obstetricians.

During interim periods, we follow the accounting policies described in our Annual Report on Form 10-K for the fiscal year ended October 31, 2006. Please refer to this when reviewing this Quarterly Report on Form 10-Q. Certain prior period amounts have been reclassified to conform to the current period’s presentation. Readers should not assume that the results reported here either indicate or guarantee future performance.

The unaudited consolidated condensed financial statements presented in this report contain all adjustments necessary to present fairly Cooper’s consolidated financial position at July 31, 2007 and October 31, 2006, the consolidated results of its operations for the three and nine months ended July 31, 2007 and 2006 and its cash flows for the nine months ended July 31, 2007 and 2006. Most of these adjustments are normal and recurring. However, certain adjustments associated with recent acquisitions and the related financial arrangements are of an unusual nature.

We use derivatives to reduce market risks associated with changes in foreign exchange and interest rates. We do not use derivatives for trading or speculative purposes. We believe that the counterparties with which we enter into forward exchange contracts and interest rate swap agreements are financially sound and that the credit risk of these contracts is negligible.

Estimates and Critical Accounting Policies

Management estimates and judgments are an integral part of financial statements prepared in accordance with U.S. generally accepted accounting principles (GAAP). We believe that the critical accounting policies described in this section address the more significant estimates required of management when preparing our consolidated financial statements in accordance with GAAP. We consider an accounting estimate critical if changes in the estimate may have a material impact on our financial condition or results of operations. We believe that the accounting estimates employed are appropriate and resulting balances are reasonable; however, actual results could differ from the original estimates, requiring adjustment to these balances in future periods.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

 

Revenue recognition – We recognize revenue when it is realized or realizable and earned, based on terms of sale with the customer, where persuasive evidence of an agreement exists, delivery has occurred, the seller’s price is fixed and determinable and collectibility is reasonably assured. For contact lenses as well as CSI medical devices, diagnostic products and surgical instruments and accessories, this primarily occurs upon product shipment, when risk of ownership transfers to our customers. We believe our revenue recognition policies are appropriate in all circumstances and that our policies are reflective of our customer arrangements. We record, based on historical statistics, estimated reductions to revenue for customer incentive programs offered including cash discounts, promotional and advertising allowances, volume discounts, contractual pricing allowances, rebates and specifically established customer product return programs. While estimates are involved, historically, most of these programs have not been major factors in our business since a high percentage of our revenue is from direct sales to doctors.

 

 

Allowance for doubtful accounts – Our reported balance of accounts receivable, net of the allowance for doubtful accounts, represents our estimate of the amount that ultimately will be realized in cash. We review the adequacy of our allowance for doubtful accounts on an ongoing basis, using historical payment trends and the age of the receivables and knowledge of our individual customers. When our analyses indicate, we increase or decrease our allowance accordingly. However, if the financial condition of our customers were to deteriorate, additional allowances may be required. While estimates are involved, bad debts historically have not been a significant factor given the diversity of our customer base, well established historical payment patterns and the fact that patients require satisfaction of healthcare needs in both strong and weak economies.

 

 

Net realizable value of inventory – In assessing the value of inventories, we must make estimates and judgments regarding aging of inventories and other relevant issues potentially affecting the saleable condition of products and estimated prices at which those products will sell. On an ongoing basis, we review the carrying value of our inventory, measuring number of months on hand and other indications of salability, and reduce the value of inventory if there are indications that the carrying value is greater than market. At the point of the loss recognition, a new, lower-cost basis for that inventory is established, and subsequent changes in facts and circumstances do not result in the restoration or increase in that newly established cost basis. While estimates are involved, historically, obsolescence has not been a significant factor due to long product dating and lengthy product life cycles. We target to keep, on average, about seven months of inventory on hand to maintain high customer service levels given the complexity of our specialty lens product portfolio.

 

 

Valuation of goodwill – We account for goodwill and evaluate our goodwill balances and test them for impairment in accordance with the provisions of Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets , (SFAS 142). The SFAS 142 goodwill impairment test is a two-step process. Initially, we compare the book value of net assets to the fair value of each reporting unit that has goodwill assigned to it. If the fair value of a reporting unit is determined to be less than the book value, a second step is performed to compute the amount of the impairment. When available and as appropriate, we use comparative market multiples to corroborate fair value results. A reporting unit is the level of reporting at which goodwill is tested for impairment.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Our reporting units are the same as our business segments – CVI and CSI – reflecting the way that we manage our business. We test goodwill for impairment annually during the third fiscal quarter and when an event occurs or circumstances change such that it is reasonably possible that impairment may exist. We performed an impairment test in our third fiscal quarter 2007, and our analysis indicated that we had no impairment of goodwill. The valuation of each of our reporting units was determined using discounted cash flows, an income valuation approach.

 

 

Business combinations – We routinely consummate business combinations. We allocate the purchase price of acquisitions based on our estimates and judgments of the fair value of net assets purchased, acquisition costs incurred and intangibles other than goodwill. On individually significant acquisitions, we utilize independent valuation experts to provide a basis in order to refine the purchase price allocation, if appropriate. Results of operations for acquired companies are included in our consolidated results of operations from the date of acquisition.

 

 

Income taxes – The Company accounts for income taxes under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and for tax losses and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized.

As part of the process of preparing our consolidated financial statements, we must estimate our income tax expense for each of the jurisdictions in which we operate. This process requires significant management judgments and involves estimating our current tax exposures in each jurisdiction including the impact, if any, of additional taxes resulting from tax examinations as well as judging the recoverability of deferred tax assets. To the extent recovery of deferred tax assets is not likely based on our estimation of future taxable income in each jurisdiction, a valuation allowance is established. Tax exposures can involve complex issues and may require an extended period to resolve. Frequent changes in tax laws in each jurisdiction complicate future estimates. To determine the quarterly tax rate, we are required to estimate full-year income and the related income tax expense in each jurisdiction. Changes in the geographic mix or estimated level of annual pre-tax income can affect the overall effective tax rate, and such changes could be material.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

 

Share-based compensation – Effective November 1, 2005, we adopted Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment (SFAS 123R) as interpreted by SEC Staff Accounting Bulletin No. 107, using the modified prospective transition method. Periods prior to adoption have not been restated. See Note 10. Stock Plans in our Annual Report on Form 10-K for the fiscal year ended October 31, 2006, for a further description of the impact of the adoption of SFAS 123R and the Company’s share-based compensation plans.

Under the fair value recognition provisions of SFAS 123R, share-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the vesting period. Determining the fair value of share-based awards at the grant date requires judgment, including estimating Cooper’s stock price volatility, employee stock option exercise behaviors and employee option forfeiture rates.

The expected life of the share-based awards is based on the observed and expected time to post-vesting forfeiture and/or exercise. Groups of employees that have similar historical exercise behavior are considered separately for valuation purposes. The expected volatility is based on implied volatility from publicly-traded options, historical volatility on the Company’s stock at the date of grant, historical implied volatility of the Company’s publicly-traded options and other factors. The risk-free interest rate is based on the continuous rates provided by the U.S. Treasury with a term equal to the expected life of the award. The dividend yield is based on the projected annual dividend payment per share, divided by the stock price at the date of grant.

As share-based compensation expense recognized in the Consolidated Statement of Income is based on awards ultimately expected to vest, the amount of expense has been reduced for estimated forfeitures. SFAS 123R requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Forfeitures are estimated based on historical experience.

If factors change and the Company employs different assumptions in the application of SFAS 123R, the compensation expense that it records in future periods may differ significantly from what it has recorded in the current period.

New Accounting Pronouncements

In September 2006, the SEC staff issued Staff Accounting Bulletin (SAB) No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements (SAB 108). In SAB 108, the SEC staff established an approach that requires quantification of financial statement misstatements based on the effects of the misstatements on each of the Company’s financial statements and the related financial statement disclosures. SAB 108 permits public companies to initially apply its provisions either by (i) restating prior financial statements or (ii) recording the cumulative effect as adjustments to the carrying values of assets and liabilities with an offsetting adjustment recorded to the opening balance of retained earnings. The Company is required to adopt SAB

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

108 by the end of fiscal 2007. The Company has not completed its analysis but does not expect adoption to have a significant impact on the Company’s results of operations or financial condition.

In September 2006, the Financial Accounting Standards Board (FASB) issued SFAS No. 157, Fair Value Measurements (SFAS 157). SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. This statement is effective for financial statements issued for fiscal years beginning after November 15, 2007. The Company is currently evaluating the impact SFAS 157 will have on its consolidated financial statements.

In September 2006, the FASB issued SFAS No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans — an amendment of FASB Statements No. 87, 88, 106 and 132(R) (SFAS 158). SFAS 158 requires an employer to recognize the overfunded or underfunded status of a defined benefit postretirement plan as an asset or liability in its statement of financial position and to recognize changes in that funded status in the year in which the changes occur through comprehensive income. SFAS 158 also requires an employer to measure the funded status of a plan as of the date of its year-end statement of financial position, with limited exceptions. This statement is effective for financial statements as of the end of fiscal years ending after December 15, 2006. The Company is currently evaluating the impact SFAS 158 will have on its consolidated financial statements.

In July 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes (FIN 48) . FIN 48 applies to all tax positions related to income taxes subject to Statement SFAS No. 109, Accounting for Income Taxes (SFAS 109). Under FIN 48, a company would recognize the benefit from a tax position only if it is more-likely-than-not that the position would be sustained upon audit based solely on the technical merits of the tax position. FIN 48 clarifies how a company would measure the income tax benefits from the tax positions that are recognized, provides guidance as to the timing of the derecognition of previously recognized tax benefits and describes the methods for classifying and disclosing the liabilities within the financial statements for any unrecognized tax benefits. FIN 48 also addresses when a company should record interest and penalties related to tax positions and how the interest and penalties may be classified within the income statement and presented in the balance sheet. FIN 48 is effective for fiscal years beginning after December 15, 2006. For the Company, FIN 48 will be effective for our 2008 fiscal year. Differences between the amounts recognized prior to and after the adoption of FIN 48 would be accounted for as a cumulative effect adjustment to the beginning balance of retained earnings. The Company is currently evaluating FIN 48 and its possible impacts on the Company’s financial statements. Upon adoption, there is a possibility that the cumulative effect would result in a charge or benefit to the beginning balance of retained earnings, increases or decreases in future effective tax rates, and/or increases in future effective tax rate volatility.

In February 2007, FASB Issued SFAS No. 159, Establishing the Fair Value Option for Financial Assets and Liabilities (SFAS 159). The Financial Accounting Standards Board has issued SFAS 159 to permit all entities to choose to elect, at specified election dates, to measure

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

eligible financial instruments at fair value. An entity shall report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date, and recognize upfront costs and fees related to those items in earnings as incurred and not deferred. SFAS 159 applies to fiscal years beginning after November 15, 2007, or our 2009 fiscal year, with early adoption permitted for an entity that has also elected to apply the provisions of SFAS 157, Fair Value Measurements . An entity is prohibited from retrospectively applying SFAS 159, unless it chooses early adoption. SFAS 159 also applies to eligible items existing at November 15, 2007 (or early adoption date). The Company has not completed its analysis but does not expect the adoption of SFAS 159 to have a material effect on the Company’s financial condition.

Note 2. Acquisitions

Acquisition of Wallach Surgical Devices, Inc. (Wallach): On February 22, 2007, CSI acquired all of the outstanding shares of Wallach. Wallach’s products consist of various diagnostic and therapeutic medical instruments primarily for in-office use in women’s healthcare and other specialty instruments relating to dermatology, ophthalmology, anesthesiology, dentistry and veterinary medicine.

We paid $20.0 million in cash for Wallach and have ascribed $14.7 million to goodwill, $1.2 million to working capital (including acquisition costs of $2.1 million), $6.5 million to other intangible assets with a weighted average estimated useful life of 5 years, $0.2 million to property, plant and equipment and $2.6 million to deferred tax liability.

Lone Star Medical Products, Inc. (Lone Star): On November 2, 2006, Cooper acquired all of the outstanding shares of Lone Star, a manufacturer of medical devices that improve the management of the surgical site, most notably the Lone Star Retractor System , which places a retraction ring around the surgical incision providing greater exposure of the surgical field.

We paid $27.2 million in cash for Lone Star and have ascribed $19.2 million to goodwill, negative $0.4 million to working capital (including acquisition costs of $2.6 million), $7.6 million to other intangible assets with a weighted average estimated useful life of 7 years, $4.3 million to property, plant and equipment and $1.3 million to deferred tax liability, and we assumed $2.2 million of long-term debt. The debt was repaid shortly after closing.

Note 3. Acquisition and Restructuring Costs

When acquisitions are recorded, we accrue for the estimated direct costs in accordance with applicable accounting guidance including Emerging Issues Task Force (EITF) Issue No. 95-3, Recognition of Liabilities in Connection with a Purchase Business Combination (EITF 95-3), of severance and plant/office closure costs of the acquired business. Management with the appropriate level of authority have completed, or in the cases of Wallach and Lone Star are in the process of developing, their assessment of exit activities of the acquired companies and have substantially completed their plans. In addition, we also accrue for costs directly associated with acquisitions, including legal, consulting, deferred payments and due diligence.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

There were no adjustments of accrued acquisition costs included in the determination of net income for the reported periods.

Below is a summary of activity related to accrued acquisition costs for the nine months ended July 31, 2007.

 

Description

  

Balance

October 31, 2006

   Additions    Payments   

Balance

July 31, 2007

     (In thousands)

Plant shutdown

   $ 4,813    $ 1,265    $ 1,482    $ 4,596

Severance

     10,473      1,691      3,512      8,652

Contingent consideration

     12,252      —        12,252      —  

Legal and consulting

     5,705      1,330      1,530      5,505

Preacquisition liabilities

     768      —        768      —  

Other

     2,890      586      1,676      1,800
                           
   $ 36,901    $ 4,872    $ 21,220    $ 20,553
                           

In connection with the Ocular Sciences Inc. (Ocular) acquisition, we are progressing through our integration plan that is designed to optimize operational synergies of the combined companies. These activities include integrating duplicate facilities and expanding utilization of preferred manufacturing and distribution practices. Integration activities began in January 2005 and are expected to continue through mid calendar year 2008.

We estimate that the total restructuring costs under this integration plan, exclusive of accrued acquisition related costs, will be approximately $45 – $50 million, of which approximately $25 - $30 million is cash related, and will be reported as cost of sales or restructuring costs in our Consolidated Statements of Income. In the three and nine month periods, we reported $0.9 million and $9.4 million in cost of sales and $2.1 million and $6.8 million in restructuring costs, respectively. The following table summarizes the restructuring costs incurred under this integration plan through July 31, 2007.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

    

Plant

Shutdown

   Severance   

Asset

Impairments

   Other    Total
     (In millions)

Restructuring costs incurred:

              

Through October 31, 2006

   $ 2.6    $ 4.4    $ 3.4    $ 9.4    $ 19.8

For the nine-month period ended July 31, 2007

     2.7      3.1      6.3      4.1      16.2
                                  
   $ 5.3    $ 7.5    $ 9.7    $ 13.5    $ 36.0
                                  

Restructuring costs reported in our Consolidated Statements of Income also include costs related to less significant restructuring activities within our consolidated organization.

Note 4. Inventories, Net

 

    

July 31,

2007

   October 31,
2006
     (In thousands)

Raw materials

   $ 36,591    $ 31,368

Work-in-process

     15,375      19,774

Finished goods

     213,415      185,370
             
   $ 265,381    $ 236,512
             

Inventories are stated at the lower of average cost or market. Cost is computed using standard cost that approximates actual cost, on a first-in, first-out basis.

Note 5. Intangible Assets

Goodwill

 

     CVI     CSI    Total
     (In thousands)

Balance as of November 1, 2005

   $ 1,047,538     $ 121,511    $ 1,169,049

Net (reductions) additions during the year ended October 31, 2006

     (2,339 )     48,204      45,865

Other adjustments*

     2,170       —        2,170
                     

Balance as of October 31, 2006

   $ 1,047,369     $ 169,715    $ 1,217,084

Net additions during the nine-month period ended July 31, 2007

     811       34,675      35,486

Other adjustments*

     3,366       —        3,366
                     

Balance as of July 31, 2007

   $ 1,051,546     $ 204,390    $ 1,255,936
                     

* Primarily translation differences in goodwill denominated in foreign currency.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Other Intangible Assets

 

     As of July 31, 2007    As of October 31, 2006
    

Gross Carrying

Amount

  

Accumulated

Amortization

& Translation

  

Gross Carrying

Amount

  

Accumulated

Amortization

& Translation

     (In thousands)

Trademarks

   $ 2,907    $ 428    $ 1,807    $ 231

Technology

     89,687      25,811      88,950      19,739

Shelf space and market share

     86,386      13,929      73,486      9,007

License and distribution rights and other

     17,294      6,020      17,070      5,176
                           
     196,274    $ 46,188      181,313    $ 34,153
                   

Less accumulated amortization and translation

     46,188         34,153   
                   

Other intangible assets, net

   $ 150,086       $ 147,160   
                   

We estimate that amortization expense will be about $16.2 million per year in the five-year period ending October 31, 2011.

During the first and third fiscal quarters of 2007, payments of $4.2 million and $3 million, respectively, related to a license agreement to distribute gynecological medical devices were written-off as acquired in-process research and development, as the products are pending Food and Drug Administration approval.

Note 6. Debt

 

    

July 31,

2007

   October 31,
2006
     (In thousands)

Short-term:

     

Overdraft and other credit facilities

   $ 53,706    $ 23,516

Current portion of long-term debt

     —        37,850
             
   $ 53,706    $ 61,366
             

Long-term:

     

Convertible senior debentures, net of discount of $2,288 and $ 2,396

   $ 112,712    $ 112,604

Former credit facility

     —        605,300

Revolver

     344,500      —  

Senior notes

     350,000      —  

Other

     368      1,232
             
     807,580      719,136

Less current portion

     —        37,850
             
   $ 807,580    $ 681,286
             

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Credit Facility: On January 31, 2007, Cooper refinanced its existing $750 million syndicated bank credit facility (former credit facility), which consisted of a $250 million term loan and a $500 million revolving credit facility, with a new $650 million syndicated Senior Unsecured Revolving Line of Credit (Revolver) and $350 million aggregate principal amount of 7.125% of Senior Notes, described below. The refinancing extended the maturity and provided additional borrowing flexibility along with lower overall pricing relative to the prior agreement. In addition, the Company has the ability from time to time to increase the size of the Revolver by up to an additional $250 million. KeyBank led the Revolver refinancing, which resulted in a number of the banks retaining or increasing their participation in the agreement. The Revolver matures on January 31, 2012.

Interest rates for the Revolver are based on the London Interbank Offered Rate (LIBOR) plus additional basis points determined by certain ratios of debt to pro forma earnings before interest, taxes, depreciation and amortization (EBITDA), as defined in the credit agreement. These range from 75 to 150 basis points. As of July 31, 2007, the additional basis points were 125.

The Revolver:

 

 

Requires that the ratio of Consolidated Pro Forma EBITDA to Consolidated Interest Expense (as defined, “Interest Coverage Ratio”) be at least 3.0 to 1.0 at all times.

 

 

Requires that the ratio of Consolidated Funded Indebtedness to Consolidated Pro Forma EBITDA (as defined, “Total Leverage Ratio”) be no higher than 4.00 to 1.00 from January 31, 2007 through October 31, 2009, and 3.75 to 1.00 thereafter.

At July 31, 2007, the Company’s Interest Coverage Ratio was 6.15 to 1.00 and the Total Leverage Ratio was 3.47 to 1.00.

In the first fiscal quarter, the Company wrote off about $0.9 million of debt issuance costs in interest expense as a result of extinguishing the term loan. The remaining $1.7 million of existing debt issuance costs and the $10.4 million of costs incurred to refinance the Revolver and Notes are carried in other assets and amortized to interest expense over the life of the credit facility.

At July 31, 2007, we had $305.3 million available under the Revolver:

 

(In millions)

      

Amount of Revolver

   $ 650.0  

Outstanding loans

     (344.7 )*
        

Available

   $ 305.3  
        

* Includes $0.2 million in letters of credit

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Senior Notes : On January 31, 2007, the Company issued $350 million aggregate principal amount of 7.125% Senior Notes (the Notes) due February 15, 2015. The Notes were initially offered in a private placement to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933 and were subsequently exchanged for a like principal amount of Notes having identical terms that were registered with the Securities and Exchange Commission pursuant to a registration statement declared effective June 19, 2007. The Notes pay interest semi-annually on February 15 and August 15 of each year, beginning August 15, 2007. We may redeem some or all of the Notes at any time prior to February 15, 2011, at a price equal to 100% of the principal amount of the Notes redeemed plus accrued and unpaid interest to the redemption date and a make-whole premium. We may redeem some or all of the Notes at any time on or after February 15, 2011, at the redemption prices (expressed as percentages of principal amounts) set forth below, plus accrued and unpaid interest to the redemption date and additional interest (if we fail to comply with certain obligations under the registration rights agreement that we entered in connection with the Notes (Additional Interest)), if any, on the Notes redeemed to the applicable redemption date, if redeemed during the twelve-month period beginning on February 15 of the years indicated below:

 

Year

   Percent  

2011

   103.56 %

2012

   101.78 %

2013 and thereafter

   100.00 %

In addition, prior to February 15, 2010, we may redeem up to 35% of the Notes at a price equal to 107.13% of the principal amount of the Notes redeemed plus accrued and unpaid interest to the redemption date and Additional Interest, if any, on the Notes redeemed to the applicable redemption date, from the proceeds of certain equity offerings.

Net proceeds from the issuance totaled approximately $342.6 million.

Under the indenture governing the Notes, our ability to incur indebtedness and pay distributions is subject to restrictions and the satisfaction of various conditions. In addition, the indenture imposes restrictions on certain other customary matters, such as limitations on certain investments, transactions with affiliates, the incurrence of liens, sale and leaseback transactions, certain asset sales and mergers.

The Notes are our senior unsecured obligations and rank equally with all of our existing and future senior unsecured obligations and senior to our subordinated indebtedness. The Notes are effectively subordinated to our existing and future secured indebtedness to the extent of the assets securing that indebtedness. On the issue date, certain of our direct and indirect subsidiaries entered into unconditional guarantees of the Notes that are unsecured. These guarantees rank equally with all existing and future unsecured senior obligations of the guarantors and are effectively subordinated to existing and future secured debt of the guarantors to the extent of the assets securing that indebtedness. The Notes are structurally subordinated to indebtedness and other liabilities, including payables, of our non-guarantor subsidiaries.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Canadian Credit Facility: On April 30, 2007, the Company entered into a $10 million Canadian dollar credit facility supported by a continuing and unconditional guaranty. Interest expense is calculated on outstanding balances based on an applicable base rate plus a fixed spread. At July 31, 2007, $6.7 million of the facility was utilized. The weighted average interest rate on the outstanding balances at July 31, 2007, was 6.0%.

European Credit Facilities: On November 1, 2006, the Company entered into a $45 million European credit facility supported by a continuing and unconditional guaranty, which replaced our previous European overdraft facility. The Company will pay all forms of indebtedness in the currency in which it is denominated for those certain subsidiaries. Interest expense is calculated on all outstanding balances based on an applicable base rate for each country plus a fixed spread common across all subsidiaries covered under the guaranty. At July 31, 2007, $21 million of the facility was utilized. The weighted average interest rate on the outstanding balances was 4.93%.

In addition to the $45 million European Credit Facilities, the Company has two non-guaranteed Italian overdraft facilities totaling approximately $7 million. At July 31, 2007, $0.1 million of these two facilities was utilized. The weighted average interest rate on the outstanding balances was 3.91%.

Asian Pacific Credit Facilities: On February 22, 2006, the Company entered into a $15 million Yen-denominated credit facility in Japan supported by a continuing and unconditional guaranty. The Company will pay to the bank all forms of indebtedness in Yen upon demand by the bank. Interest expense is calculated on the outstanding balance based on the EuroYen rate plus a fixed spread. At July 31, 2007, $14.0 million of the facility was utilized. The weighted average interest rate on the outstanding balances was 1.34%.

During the three months ended April 30, 2007, the Company entered into an additional $13 million overdraft facility that included Japan and certain of our Asian Pacific subsidiaries. This overdraft facility is supported by a continuing and unconditional guaranty. The Company will pay all forms of indebtedness in the currency in which it is denominated for those certain subsidiaries. Interest expense is calculated on all outstanding balances based on an applicable base rate for each country plus a fixed spread common across all subsidiaries covered under the guaranty. At July 31, 2007, $6.1 million of the facility was utilized. The interest rate on the outstanding balances was 1.94%.

Other Short-term Debt: At July 31, 2007, the Company had $5.8 million of other short-term debt primarily in the United States.

Note 7. Derivative Instruments

We operate multiple foreign subsidiaries that manufacture and/or sell our products worldwide. As a result, our earnings, cash flows and financial position are exposed to foreign currency risk from foreign currency denominated receivables and payables, sales transactions, capital

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

expenditures and net investment in certain foreign operations. Our policy is to minimize transaction, remeasurement and specified economic exposures with derivative instruments including forward contracts. The gains and losses on foreign exchange forward contracts are intended to at least partially offset the transaction gains and losses recognized in earnings. We do not enter into foreign exchange forward contracts for trading or speculative purposes. Under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities (SFAS 133), all derivatives are recorded on the balance sheet at fair value. Changes in the fair value of derivatives that do not qualify, or are not effective as cash flow hedges, must be recognized currently in earnings.

Cash Flow Hedging

In November 2006, the Company entered into approximately $400 million of foreign currency forward contracts with maturities of up to thirteen months to reduce foreign currency fluctuations related to forecasted foreign currency denominated purchases and sales of product. The derivatives are accounted for as cash flow hedges under SFAS 133 and are expected to be effective throughout the life of the hedges.

Interest Rate Swaps

To meet certain management and business objectives, the Company entered into four new interest rate swaps on May 3, 2007. These new interest rate swaps, totaling $250 million, serve to fix the floating rate debt under the Revolver for terms between 30 and 48 months with fixed rates between 4.94% to 4.96%.

On May 3, 2007, Cooper terminated two $125 million floating-to-fixed interest rate swaps that were set to mature on February 7, 2008. The Company received a total of $3.2 million from the counterparties as a result of these swap terminations and used the proceeds to reduce our outstanding debt. The Company realized a gain of approximately $2.4 million that will be amortized from other comprehensive income (OCI) to interest expense over the original life of the interest rate swaps.

Effectiveness testing of the hedge relationship and measurement to quantify ineffectiveness is performed at the end of each fiscal quarter using the hypothetical derivative method. The interest rate swaps have been and are expected to remain highly effective for the life of the hedges. As of July 31, 2007, the fair value of the outstanding swaps, approximately $0.5 million, was recorded as an asset and the effective offset is recorded in OCI in our Consolidated Balance Sheet. During the nine months ended July 31, 2007, approximately $1.1 million of effective gains were amortized from OCI to interest expense. Effective amounts are amortized to interest expense as the related hedged expense is incurred. As of July 31, 2007, we estimated that approximately $2.1 million will be amortized during fiscal year 2007. During the nine months ended July 31, 2007, approximately $0.2 million of ineffective gains were reclassified from OCI to interest expense.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

On January 31, 2007, Cooper refinanced its existing $750 million syndicated bank credit facility, with a $650 million syndicated Senior Unsecured Revolving Line of Credit (Revolver) and $350 million aggregate principal amount of 7.125% Senior Notes. As part of this new debt structure, the Company terminated an interest rate swap with a notional value of $125 million on January 30, 2007. This interest rate swap was set to mature on February 7, 2009. The Company settled the interest rate swap and received $1.1 million from the respective counterparty. As a result of the termination of this interest rate swap, the Company realized a gain of approximately $1 million. The Company will amortize this gain from OCI to interest expense over the original life of the interest rate swap.

Note 8. Earnings Per Share

 

     Three Months Ended
July 31,
   Nine Months Ended
July 31,
     2007    2006    2007    2006
     (In thousands, except for per share amounts)

Net income

   $ 8,180    $ 20,977    $ 13,001    $ 52,632

Add interest charge applicable to convertible debt, net of tax

     523      522      —        1,567
                           

Income for calculating diluted earnings per share

   $ 8,703    $ 21,499    $ 13,001    $ 54,199
                           

Basic:

           

Weighted average common shares

     44,778      44,531      44,664      44,516
                           

Basic earnings per common share

   $ 0.18    $ 0.47    $ 0.29    $ 1.18
                           

Diluted:

           

Weighted average common shares

     44,778      44,531      44,664      44,516

Effect of dilutive stock options

     417      361      418      508

Shares applicable to convertible debt

     2,590      2,590      —        2,590
                           

Diluted weighted average common shares

     47,785      47,482      45,082      47,614
                           

Diluted earnings per common share

   $ 0.18    $ 0.45    $ 0.29    $ 1.14
                           

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

The following table sets forth stock options to purchase Cooper’s common stock and common shares applicable to convertible debt that are not included in the diluted net income per share calculation because to do so would be anti-dilutive for the periods presented:

 

    

Three Months Ended

July 31,

  

Nine Months Ended

July 31,

     2007    2006    2007    2006

Stock options to purchase common stock

     3,159,533      2,128,383      3,187,533      2,088,383
                           

Exercise prices

   $ 53.52-$80.51    $ 47.42-$80.51    $ 52.40-$80.51    $ 53.52-$80.51
                           

Number of common shares applicable to convertible debt

     —        —        2,590,090      —  
                           

Note 9. Share-Based Compensation Plans

The Company has two share-based compensation plans, which include stock options and restricted stock awards. The 2007 Long-Term Incentive Plan, as amended (2007 LTIP) and the 2006 Long-Term Incentive Plan for Non-Employee Directors (2006 Directors Plan) are the only plans with stock awards currently available for grant as of July 31, 2007. The 2007 LTIP has replaced the Second Amended and Restated 2001 Long-Term Incentive Plan (2001 LTIP), which expired in December 2006 by its terms. The 2006 Directors Plan has replaced the 1996 Long-Term Incentive Plan for Non-Employee Directors (1996 Directors Plan), which expired in November 2005 by its terms.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Share-Based Compensation

Compensation cost associated with share-based awards recognized in fiscal 2007 and fiscal 2006 includes: 1) amortization related to the remaining unvested portion of all stock option awards granted prior to November 1, 2005, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123 and 2) amortization related to all stock option awards granted on or subsequent to November 1, 2005, based on the grant date fair value estimated in accordance with the provisions of SFAS 123R. The compensation and related income tax benefit recognized in the Company’s consolidated financial statements for stock options and restricted stock awards were as follows:

 

     Three Months Ended
July 31,
    Nine Months Ended
July 31,
     2007    2006     2007    2006
     (In millions)

Selling, general and administrative expense

   $ 3.4    $ 2.5     $ 12.8    $ 10.4

Cost of sales

     0.5      0.2       1.1      0.4

Research and development expense

     0.2      0.1       0.6      0.3

Restructuring costs

     —        —         0.8      —  

Capitalized in inventory

     0.5      (0.1 )     1.5      0.5
                            

Total compensation expense

   $ 4.6    $ 2.7     $ 16.8    $ 11.6
                            

Related income tax benefit

   $ 0.9    $ 0.5     $ 4.0    $ 2.6
                            

Cash received from options exercised under all share-based payment arrangements for the three and nine months ended July 31, 2007, was $2.7 million and $7.6 million, respectively. Cash received from options exercised under all share-based payment arrangements for the three and nine months ended July 31, 2006, was $31,000 and $2.5 million, respectively.

Details regarding the valuation and accounting for stock options follow.

The fair value of each share-based award granted after the adoption of SFAS 123R is estimated on the date of grant using the Black-Scholes option valuation model and fair value assumptions. The expected life of the awards is based on the observed and expected time to post-vesting forfeiture and/or exercise. Groups of employees that have similar historical exercise behavior are considered separately for valuation purposes. The expected volatility is based on implied volatility from publicly-traded options on the Company’s stock at the date of grant, historical implied volatility of the Company’s publicly-traded options, historical volatility and other factors. The risk-free interest rate is based on the continuous rates provided by the U.S. Treasury with a term equal to the expected life of the option. The dividend yield is based on the projected annual dividend payment per share, divided by the stock price at the date of grant.

The fair value of each option award granted during the three and nine months ended July 31, 2007 and 2006 was estimated on the date of grant using the Black-Scholes option valuation model and weighted-average assumptions in the following table.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

     Three Months Ended
July 31,
   

Nine Months Ended

July 31,

 
     2007     2006     2007     2006  

Expected life

   2.8 yrs.     4.42 yrs.     2.71 to 5.16 yrs.     3.56 to 5.16 yrs.  

Expected volatility

   30.4 %   30.2 %   29.3% to 30.4 %   29.5% to 30.8 %

Risk-free interest rate

   4.73 %   4.38 %   4.47% to 4.83 %   4.37% to 4.52 %

Dividend yield

   0.09 %   0.09 %   0.09% to 0.117 %   0.09 %

The status of the Company’s stock option plans at July 31, 2007, is summarized below:

 

    

Number of

Shares

   

Weighted-
Average

Exercise Price

Per Share

  

Weighted-
Average

Remaining

Contractual

Term

(in Years)

  

Aggregate

Intrinsic

Value

Outstanding at October 31, 2006

   4,988,468     $ 52.73      

Granted

   167,400     $ 56.68      

Exercised

   (244,168 )   $ 30.97      

Forfeited or expired

   (83,250 )   $ 66.98      
              

Outstanding at July 31, 2007

   4,828,450     $ 53.72    6.02    $ —  
              

Vested and exercisable at July 31, 2007

   2,067,734     $ 41.11    5.56    $ 19,571,141
              

The weighted-average fair value of each option granted during the three and nine months ended July 31, 2007, estimated as of the grant date using the Black-Scholes option pricing model, for the 2007 LTIP was $12.76 and $12.01, respectively. For the 2001 LTIP and for the Directors Plans, there were no options granted during the three months ended July 31, 2007. The weighted-average fair value of each option granted during the nine months ended July 31, 2007, estimated as of the grant date using the Black-Scholes option pricing model, for the 2001 LTIP and Directors Plans was $10.61 and $20.36, respectively. The total intrinsic value of options exercised during the three months and nine months ended July 31, 2007 was $1.3 million and $4.6 million, respectively. The expected requisite service periods for options granted in both the three and nine months ended July 31, 2007, for employees was 33 months. Directors’ options and restricted stock grants are expensed on the date of grant as the 2006 Directors Plan does not contain a substantive future requisite service period.

Stock awards outstanding under the Company’s current plans have been granted at prices which are either equal to or above the market value of the stock on the date of grant. Options granted under the 2007 LTIP and the 2001 LTIP generally vest over three and one-half to five years based on market and service conditions and expire no later than ten years after the grant date. Options granted under the 2006 Directors Plan and the 1996 Directors Plan generally vest in five years or upon achievement of a market condition and expire no later than ten years after

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

the grant date. Effective November 1, 2005, the Company generally recognizes compensation expense ratably over the vesting period, except for the directors, as they are expensed on the date of grant. As of July 31, 2007, there was $28.8 million of total unrecognized compensation cost related to nonvested options, which is expected to be recognized over a remaining weighted-average vesting period of 2.98 years.

Note 10. Income Taxes

Cooper’s effective tax rate (ETR) (provision for income taxes divided by pretax income) for the nine months ended July 31, 2007 was 33.3 percent. Accounting principles generally accepted in the United States of America (GAAP) require that the projected fiscal year ETR, plus any discrete items, be included in the year-to-date results. The ETR used to record the provision for income taxes for the nine-month period ended July 31, 2006, was 12.3 percent. The increase in the 2007 ETR reflects certain expenses associated with the Ocular integration plan impacting jurisdictions with lower tax rates and changes in the geographic mix of annual pretax income.

Note 11. Employee Benefits

Cooper’s Retirement Income Plan (Plan) covers substantially all full-time United States employees. Cooper’s contributions are designed to fund normal cost on a current basis and to fund over 30 years the estimated prior service cost of benefit improvements (5 years for annual gains and losses). The unit credit actuarial cost method is used to determine the annual cost. Cooper pays the entire cost of the Plan and funds such costs as they accrue. Virtually all of the assets of the Plan are comprised of equity and fixed income funds.

Cooper’s results of operations for the three and nine months ended July 31, 2007 and 2006 reflect the following pension costs.

 

     Three Months Ended
July 31,
    Nine Months Ended
July 31,
 
     2007     2006     2007     2006  
   (In thousands)  

Components of net periodic pension cost:

        

Service cost

   $ 714     $ 761     $ 2,143     $ 2,262  

Interest cost

     453       398       1,359       1,184  

Expected returns on assets

     (458 )     (420 )     (1,374 )     (1,261 )

Amortization of prior service cost

     7       7       22       21  

Amortization of transition obligation

     7       7       20       21  

Recognized net actuarial loss

     43       109       128       334  
                                

Net periodic pension cost

   $ 766     $ 862     $ 2,298     $ 2,561  
                                

The Company contributed $4.5 million to its pension plan during the fiscal third quarter of 2007.

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Note 12. Cash Dividends

We paid a semiannual dividend of approximately $1.3 million or 3 cents per share on January 5, 2007, to stockholders of record on December 15, 2006. We paid another semiannual dividend of approximately $1.3 million or 3 cents per share on July 5, 2007, to stockholders of record on June 13, 2007.

Note 13. Contingencies

Legal Proceedings

The Company is from time to time involved in various litigation and legal matters arising in the normal course of its business operations. By describing any particular matter, the Company does not intend to imply that it or its legal advisors have concluded or believe that the outcome of any of those particular matters is or is not likely to have a material adverse impact upon the Company’s consolidated financial position, cash flows or results of operations.

On February 15, 2006, Alvin L. Levine filed a putative securities class action lawsuit in the United States District Court for the Central District of California, Case No. SACV-06-169 CJC, against the Company, A. Thomas Bender, its Chairman of the Board, President and Chief Executive Officer and a director, Robert S. Weiss, its Executive Vice President, Chief Operating Officer and a director, and John D. Fruth, a director. Two similar putative class action lawsuits were also filed in the United States District Court for the Central District of California, Case Nos. SACV-06-306 CJC and SACV-06-331 CJC. On May 19, 2006, the Court consolidated all three actions under the heading In re Cooper Companies, Inc. Securities Litigation and selected a lead plaintiff and lead counsel pursuant to the provisions of the Private Securities Litigation Reform Act of 1995, 15 U.S.C. § 78u-4.

The lead plaintiff filed a consolidated complaint on July 31, 2006. The consolidated complaint was filed on behalf of all purchasers of the Company’s securities between July 28, 2004, and December 12, 2005, including persons who received Company securities in exchange for their shares of Ocular in the January 2005 merger pursuant to which the Company acquired Ocular. In addition to the Company, Messrs. Bender, Weiss, and Fruth, the consolidated complaint names as defendants several of the Company’s other current officers and directors and one former officer. On July 13, 2007, the Court granted Cooper’s motion to dismiss the consolidated complaint and granted the lead plaintiff leave to amend to attempt to state a valid claim.

On August 9, 2007, the lead plaintiff filed an amended consolidated complaint. As before, the amended consolidated complaint was filed on behalf of all purchasers of the Company’s securities between July 28, 2004, and December 12, 2005, including persons who received Company securities in exchange for their shares of Ocular in the January 2005 merger pursuant to which the Company acquired Ocular. In addition to the Company, the amended consolidated complaint names as defendants Messrs. Bender, Weiss, Fruth, Steven M. Neil, the Company’s Executive Vice President and Chief Financial Officer, and Gregory A. Fryling, CooperVision’s former President and Chief Operating Officer.

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

The amended consolidated complaint purports to allege violations of Sections 10(b) and 20(a) of the Securities and Exchange Act of 1934 by, among other things, contending that the defendants made misstatements concerning the Biomedics product line, sales force integration following the merger with Ocular, the impact of silicone hydrogel lenses and financial projections. The amended consolidated complaint also alleges that the Company improperly accounted for assets acquired in the Ocular merger by improperly allocating $100 million of acquired customer relationships and manufacturing technology to goodwill (which is not amortized against earnings) instead of to intangible assets other than goodwill (which are amortized against earnings), that the Company lacked appropriate internal controls and issued false and misleading Sarbanes-Oxley Act certifications.

On September 5, 2007, the Company and the individual defendants moved to dismiss the amended consolidated complaint. The Company intends to vigorously defend this matter.

On March 17, 2006, Eben Brice filed a purported shareholder derivative complaint in the United States District Court for the Central District of California, Case No. 8:06-CV-00300-CJC-RNB, against several current and former officers and directors of the Company. The Company is named as a “nominal defendant.” Following the filing of the first purported shareholder derivative lawsuit, three similar purported shareholder derivative suits were filed in the United States District Court for the Central District of California. All four actions have been consolidated under the heading In re Cooper Companies, Inc. Derivative Litigation, and the Court selected a lead plaintiff and lead counsel.

On September 11, 2006, plaintiffs filed a consolidated amended complaint. The complaint purports to allege causes of action for breach of fiduciary duty, insider trading, breach of contract, and unjust enrichment, and largely repeats the allegations in the class action securities case, described above. The Company and the individual defendants have yet to respond to the consolidated amended complaint. By court order, the response date has been deferred until resolution of motions to dismiss filed in the putative securities class action matter.

In addition to the derivative action pending in federal court, three similar purported shareholder actions were filed in the Superior Court for the State of California for the County of Alameda. These actions have been consolidated under the heading In re Cooper Companies, Inc. Shareholder Derivative Litigation, Case No. RG06260748. A consolidated amended complaint was filed on September 18, 2006. On November 29, 2006, the Superior Court for the County of Alameda entered an order staying the action pending the resolution of the federal derivative action.

Both the state and federal derivative action are derivative in nature and do not seek damages from the Company.

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

On October 5, 2004, Bausch & Lomb Incorporated (Bausch & Lomb) filed a lawsuit against Ocular Sciences, Inc. in the U.S. District Court for the Western District of New York alleging that its Biomedics toric soft contact lens and its private label equivalents infringe Bausch & Lomb’s U.S. Patent No. 6,113,236 relating to toric contact lenses having optimized thickness profiles. The complaint seeks an award of damages, including multiple damages, attorneys’ fees and costs and an injunction preventing the alleged infringement. The parties have filed claim construction briefs for the court to consider for its Markman order, and fact discovery substantially concluded during the first quarter of fiscal 2006. No trail date has been set. Based on our review of the complaint and the patent, as well as other relevant information obtained in discovery, we believe this lawsuit is without merit and plan to continue to pursue a vigorous defense.

United States Tax Court Litigation: On September 29, 2004, the Internal Revenue Service (IRS) issued Notices of Deficiency (Notices) to Ocular Sciences, Inc. (Ocular) in connection with its audit of Ocular’s income tax returns for the years 1999, 2000 and 2001. The Notices primarily pertain to transfer pricing issues and an alternative adjustment under the anti-deferral provisions of Subpart F of the Internal Revenue Code and asserts that $44.8 million of additional taxes is owed for these years, plus unspecified interest and approximately $12.7 million in related penalties.

After a lengthy process of discovery and negotiation involving the Tax Court and the IRS Appeals Office, a settlement was reached with the IRS and a final Tax Court decision was entered on April 18, 2007, for a settlement amount of $3.5 million plus interest. The liability was previously fully reserved and paid on June 27, 2007.

The Company continues to be subject to the examination of Ocular’s income tax returns by the IRS and other fiscal authorities, and we cannot assure that the outcomes from these examinations will not have a material adverse effect on the Company’s operating results and financial condition. Moreover, the Company’s future effective tax rates could be adversely affected by earnings being higher than anticipated in countries where it has higher statutory rates or lower than expected in countries where it has lower statutory rates, by changes in the valuation of deferred tax assets or liabilities or by changes in tax laws or interpretations thereof.

On April 10, 2006, CVI filed a lawsuit against CIBA Vision (CIBA) in the United States District Court for the Eastern District of Texas alleging that CIBA is infringing United States Patent Nos. 6,431,706, 6,923,538, 6,467,903, 6,857,740 and 6,971,746 by, among other things, making, using, selling and offering to sell its O2Optix line of contact lenses. On June 5, 2006, CIBA filed an answer denying infringement and asserting certain affirmative defenses. On July 16, 2007, the Court issued a Markman order construing certain claim terms of the patents. The Court has set a trial date of January 8, 2008.

On April 11, 2006, CVI filed a lawsuit against CIBA in the United States District Court for the District of Delaware seeking a judicial declaration that CVI’s Biofinity line of silicone hydrogel contact lenses does not infringe any valid and enforceable claims of United States Patent Nos. 5,760,100, 5,776,999, 5,789,461, 5,849,811, 5,965,631 and 6,951,894. On July 5, 2006, CIBA

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

answered the complaint by denying the allegation that CVI’s Biofinity line of silicone hydrogel contact lenses does not infringe any valid and enforceable claims of the foregoing patents. The answer also asks the Court for permission to interpose a counterclaim for infringement in the future if, after examination of the lenses, CIBA believes they infringe the foregoing patents, which counterclaim would seek both damages and injunctive relief. The Court has set a trial date of October 6, 2008.

On November 21, 2006, CVI filed a lawsuit against CIBA in the United States District Court for the Eastern District of Texas alleging that CIBA is infringing United States Patent Nos. 7,134,753 and 7,133,174 by, among other things, making, using, selling and offering to sell its O2Optix toric line of contact lenses. On December 11, 2006, CIBA filed an answer denying infringement and asserting certain affirmative defenses. On July 16, 2007, the Court issued a Markman order construing certain claim terms of the patents. The Court has set a trial date of January 8, 2008.

Note 14. Financial Information for Guarantor and Non-Guarantor Subsidiaries

On January 31, 2007, the Company issued $350 million aggregate principal amount of 7.125% Senior Notes due 2015 (the Senior Notes, see Note 6). The Senior Notes are guaranteed by certain of our direct and indirect subsidiaries. The Senior Notes are our general unsecured obligations; senior in right of payment to all of our existing and any future subordinated indebtedness; pari passu in right of payment with all of our existing and any future unsecured indebtedness that is not by its terms expressly subordinated to the Senior Notes; effectively junior in right of payment to our existing and future secured indebtedness to the extent of the value of the collateral securing that indebtedness; unconditionally guaranteed by all of our existing and future domestic subsidiaries, other than any excluded domestic subsidiaries; and structurally subordinated to indebtedness of our subsidiaries that are not subsidiary guarantors.

Presented below are the Consolidating Condensed Statements of Income for the three and nine months ended July 31, 2007 and 2006, the Consolidating Condensed Balance Sheets as of July 31, 2007 and October 31, 2006 and the Consolidating Condensed Statements of Cash Flows for the nine months ended July 31, 2007 and 2006 for The Cooper Companies, Inc. (Parent Company), the guarantor subsidiaries (Guarantor Subsidiaries) and the subsidiaries that are not guarantors (Non-Guarantor Subsidiaries):

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Consolidating Condensed Statements of Income

 

    

Parent

Company

   

Guarantor

Subsidiaries

   

Non-Guarantor

Subsidiaries

   

Consolidating

Entries

   

Consolidated

Total

     (In thousands)
Three Months Ended July 31, 2007           

Net sales

   $ —       $ 122,160     $ 170,438     $ (40,736 )   $ 251,862

Cost of sales

     —         56,277       105,421       (55,760 )     105,938
                                      

Gross profit

     —         65,883       65,017       15,024       145,924
                                      

Operating expenses

     7,502       55,603       59,543       (382 )     122,266
                                      

Operating income (loss)

     (7,502 )     10,280       5,474       15,406       23,658

Interest expense

     11,085       —         —         —         11,085

Other income (expense), net

     12,289       (8,172 )     (3,605 )     —         512
                                      

Income (loss) before income taxes

     (6,298 )     2,108       1,869       15,406       13,085

Provision for (benefit from) income taxes

     (1,584 )     (576 )     7,065       —         4,905
                                      

Net income (loss)

   $ (4,714 )   $ 2,684     $ (5,196 )   $ 15,406     $ 8,180
                                      
    

Parent

Company

   

Guarantor

Subsidiaries

   

Non-Guarantor

Subsidiaries

   

Consolidating

Entries

   

Consolidated

Total

     (In thousands)
Nine Months Ended July 31, 2007           

Net sales

   $ —       $ 343,998     $ 404,786     $ (51,967 )   $ 696,817

Cost of sales

     —         155,008       206,025       (66,507 )     294,526
                                      

Gross profit

     —         188,990       198,761       14,540       402,291
                                      

Operating expenses

     24,942       158,416       170,099       (1,117 )     352,340
                                      

Operating income (loss)

     (24,942 )     30,574       28,662       15,657       49,951

Interest expense

     31,795       —         —         —         31,795

Other income (expense), net

     37,443       (24,055 )     (12,048 )     —         1,340
                                      

Income (loss) before income taxes

     (19,294 )     6,519       16,614       15,657       19,496

Provision for (benefit from) income taxes

     (7,902 )     2,126       12,271       —         6,495
                                      

Net income (loss)

   $ (11,392 )   $ 4,393     $ 4,343     $ 15,657     $ 13,001
                                      

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Consolidating Condensed Statements of Income

 

    

Parent

Company

   

Guarantor

Subsidiaries

   

Non-Guarantor

Subsidiaries

   

Consolidating

Entries

   

Consolidated

Total

 
     (In thousands)  
Three Months Ended July 31, 2006           

Net sales

   $ —       $ 122,573     $ 141,852     $ (38,627 )   $ 225,798  

Cost of sales

     —         66,373       57,038       (35,374 )     88,037  
                                        

Gross profit

     —         56,200       84,814       (3,253 )     137,761  
                                        

Operating expenses

     6,346       46,830       52,969       (684 )     105,461  
                                        

Operating income (loss)

     (6,346 )     9,370       31,845       (2,569 )     32,300  

Interest expense

     8,534       —         —         —         8,534  

Other income (expense), net

     4,897       173       (4,547 )     —         523  
                                        

Income (loss) before income taxes

     (9,983 )     9,543       27,298       (2,569 )     24,289  

Provision for (benefit from) income taxes

     (5,086 )     1,682       6,716       —         3,312  
                                        

Net income (loss)

   $ (4,897 )   $ 7,861     $ 20,582     $ (2,569 )   $ 20,977  
                                        
    

Parent

Company

   

Guarantor

Subsidiaries

   

Non-Guarantor

Subsidiaries

   

Consolidating

Entries

   

Consolidated

Total

 
     (In thousands)  
Nine Months Ended July 31, 2006           

Net sales

   $ —       $ 359,144     $ 415,061     $ (131,271 )   $ 642,934  

Cost of sales

     —         186,802       179,222       (121,375 )     244,649  
                                        

Gross profit

     —         172,342       235,839       (9,896 )     398,285  
                                        

Operating expenses

     22,114       143,740       144,171       (2,234 )     307,791  
                                        

Operating income (loss)

     (22,114 )     28,602       91,668       (7,662 )     90,494  

Interest expense

     28,834       —         —         —         28,834  

Other income (expense), net

     23,830       (10,079 )     (15,406 )     —         (1,655 )
                                        

Income (loss) before income taxes

     (27,118 )     18,523       76,262       (7,662 )     60,005  

Provision for (benefit from) income taxes

     (19,492 )     19,772       7,093       —         7,373  
                                        

Net income (loss)

   $ (7,626 )   $ (1,249 )   $ 69,169     $ (7,662 )   $ 52,632  
                                        

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Consolidating Condensed Balance Sheets

 

    

Parent

Company

   

Guarantor

Subsidiaries

   

Non-Guarantor

Subsidiaries

  

Consolidating

Entries

   

Consolidated

Total

     (In thousands)
July 31, 2007            

ASSETS

           

Current assets:

           

Cash and cash equivalents

   $ —       $ 351     $ 7,710    $ —       $ 8,061

Trade receivables, net

     —         69,519       94,813      —         164,332

Marketable securities

     —         —         —        —         —  

Inventories, net

     —         84,442       224,739      (43,800 )     265,381

Deferred tax asset

     1,444       16,398       4,358      —         22,200

Other current assets

     2,840       15,123       33,160      —         51,123
                                     

Total current assets

     4,284       185,833       364,780      (43,800 )     511,097
                                     

Property, plant and equipment, net

     760       88,775       489,182      —         578,717

Goodwill

     116       668,034       587,786      —         1,255,936

Other intangibles, net

     407       90,623       59,056      —         150,086

Deferred tax asset

     63,291       (42,073 )     2,104      —         23,322

Other assets

     1,486,705       2,052       8,211      (1,475,061 )     21,907
                                     
   $ 1,555,563     $ 993,244     $ 1,511,119    $ (1,518,861 )   $ 2,541,065
                                     

LIABILITIES AND STOCKHOLDERS’ EQUITY

           

Current liabilities:

           

Short-term debt

   $ 3,835     $ 260     $ 49,611    $ —       $ 53,706

Other current liabilities

     39,358       65,089       126,269      —         230,716
                                     

Total current liabilities

     43,193       65,349       175,880      —         284,422
                                     

Long-term debt

     807,212       —         368      —         807,580

Deferred tax liability

     —         1       11,503      —         11,504

Intercompany and other liabilities

     (327,420 )     (152,893 )     482,510      —         2,197
                                     

Total liabilities

     522,985       (87,543 )     670,261      —         1,105,703
                                     

Stockholders’ equity

     1,032,578       1,080,787       840,858      (1,518,861 )     1,435,362
                                     
   $ 1,555,563     $ 993,244     $ 1,511,119    $ (1,518,861 )   $ 2,541,065
                                     

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Consolidating Condensed Balance Sheets

 

    

Parent

Company

   

Guarantor

Subsidiaries

   

Non-Guarantor

Subsidiaries

  

Consolidating

Entries

   

Consolidated

Total

     (In thousands)
October 31, 2006            

ASSETS

           

Current assets:

           

Cash and cash equivalents

   $ 401     $ (307 )   $ 8,130    $ —       $ 8,224

Trade receivables, net

     —         66,149       80,435      —         146,584

Inventories, net

     —         107,814       187,598      (58,900 )     236,512

Deferred tax asset

     (240 )     16,063       3,836      —         19,659

Other current assets

     2,438       14,549       29,827      (842 )     45,972
                                     

Total current assets

     2,599       204,268       309,826      (59,742 )     456,951
                                     

Property, plant and equipment, net

     417       80,278       415,662      —         496,357

Goodwill

     —         632,952       584,132      —         1,217,084

Other intangibles, net

     407       84,048       62,705      —         147,160

Deferred tax asset

     19,781       —         1,698      —         21,479

Other assets

     1,482,633       4,250       1,748      (1,475,061 )     13,570
                                     
   $ 1,505,837     $ 1,005,796     $ 1,375,771    $ (1,534,803 )   $ 2,352,601
                                     

LIABILITIES AND STOCKHOLDERS’ EQUITY

           

Current liabilities:

           

Short-term debt

   $ 37,500     $ 714     $ 23,152    $ —       $ 61,366

Other current liabilities

     24,257       78,884       112,123      —         215,264
                                     

Total current liabilities

     61,757       79,598       135,275      —         276,630
                                     

Long-term debt

     680,404       500       382      —         681,286

Deferred tax liability

     (37,962 )     37,962       9,494      —         9,494

Intercompany and other liabilities

     (238,113 )     (180,777 )     425,572      —         6,682
                                     

Total liabilities

     466,086       (62,717 )     570,723      —         974,092
                                     

Stockholders’ equity

     1,039,751       1,068,513       805,048      (1,534,803 )     1,378,509
                                     
   $ 1,505,837     $ 1,005,796     $ 1,375,771    $ (1,534,803 )   $ 2,352,601
                                     

 

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Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Consolidating Condensed Statements of Cash Flows

 

    

Parent

Company

   

Guarantor

Subsidiaries

   

Non-Guarantor

Subsidiaries

   

Consolidating

Entries

  

Consolidated

Total

 
     (In thousands)  
Nine Months Ended July 31, 2007            

Cash flows from operating activities:

           

Net cash provided by (used in) operating activities

   $ (853 )   $ 63,688     $ 33,027     $ —      $ 95,862  
                                       

Cash flows from investing activities:

           

Purchase of property, plant and equipment

     (169 )     (17,279 )     (111,240 )     —        (128,688 )

Acquisitions of businesses, net of cash acquired

     (470 )     (71,231 )     (5,935 )     —        (77,636 )
                                       

Net cash used in investing activities

     (639 )     (88,510 )     (117,175 )     —        (206,324 )
                                       

Cash flows from financing activities:

           

Net proceeds (repayments) of short-term debt

     3,837       (2,354 )     26,529       —        28,012  

Intercompany proceeds (repayments)

     (85,523 )     28,614       56,909       —        —    

Net proceeds (repayments) of long-term debt

     89,200       (780 )     (84 )     —        88,336  

Debt acquisition costs

     (11,496 )     —         —         —        (11,496 )

Dividends on common stock

     (2,681 )     —         —         —        (2,681 )

Excess tax benefit from share-based compensation arrangements

     176       —         —         —        176  

Proceeds from exercise of stock options

     7,578       —         —         —        7,578  
                                       

Net cash provided by financing activities

     1,091       25,480       83,354       —        109,925  
                                       

Effect of exchange rate changes on cash and cash equivalents

     —         —         374       —        374  
                                       

Net increase (decrease) in cash and cash equivalents

     (401 )     658       (420 )     —        (163 )

Cash and cash equivalents at the beginning of the period

     401       (307 )     8,130       —        8,224  
                                       

Cash and cash equivalents at the end of the period

   $ —       $ 351     $ 7,710     $ —      $ 8,061  
                                       

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Consolidating Condensed Statements of Cash Flows

 

    

Parent

Company

   

Guarantor

Subsidiaries

   

Non-Guarantor

Subsidiaries

   

Consolidating

Entries

   

Consolidated

Total

 
     (In thousands)  

Nine Months Ended July 31, 2006

          

Cash flows from operating activities:

          

Net cash provided by operating activities

   $ 16,700     $ 24,324     $ 73,250     $ 585     $ 114,859  
                                        

Cash flows from investing activities:

          

Purchase of property, plant and equipment

     (317 )     (27,623 )     (96,594 )     —         (124,534 )

Acquisitions of businesses, net of cash acquired

     (2,482 )     (52,492 )     (8,077 )     —         (63,051 )
                                        

Net cash used in investing activities

     (2,799 )     (80,115 )     (104,671 )     —         (187,585 )
                                        

Cash flows from financing activities:

          

Net proceeds (repayments) of short-term debt

     —         (1,246 )     2,470       —         1,224  

Intercompany proceeds (repayments)

     (78,885 )     57,828       21,642       (585 )     —    

Net proceeds (repayments) of long-term debt

     53,050       (225 )     (53 )     —         52,772  

Debt acquisition costs

     (625 )     —         —         —         (625 )

Dividends on common stock

     (2,671 )     —         —         —         (2,671 )

Excess tax benefit from share-based compensation arrangements

     1,170       —         —         —         1,170  

Proceeds from exercise of stock options

     2,531       —         —         —         2,531  
                                        

Net cash provided by (used in) financing activities

     (25,430 )     56,357       24,059       (585 )     54,401  
                                        

Effect of exchange rate changes on cash and cash equivalents

     —           223         223  
                                        

Net increase (decrease) in cash and cash equivalents

     (11,529 )     566       (7,139 )     —         (18,102 )

Cash and cash equivalents at the beginning of the period

     13,262       (814 )     18,378         30,826  
                                        

Cash and cash equivalents at the end of the period

   $ 1,733     $ (248 )   $ 11,239     $ —       $ 12,724  
                                        

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Continued

(Unaudited)

 

Note 15. Business Segment Information

Cooper uses operating income, as presented in our financial reports, as the primary measure of segment profitability. We do not allocate costs from corporate functions to the segments’ operating income. Items below operating income are not considered when measuring the profitability of a segment. We use the same accounting policies to generate segment results as we do for our consolidated results.

Identifiable assets are those used in continuing operations except cash and cash equivalents, which we include as corporate assets. Long-lived assets are property, plant and equipment.

Segment information:

 

     Three Months Ended
July 31,
    Nine Months Ended
July 31,
 
     2007     2006     2007     2006  
     (In thousands)  

Net sales to external customers:

        

CVI

   $ 212,010     $ 194,189     $ 583,791     $ 551,483  

CSI

     39,852       31,609       113,026       91,451  
                                
   $ 251,862     $ 225,798     $ 696,817     $ 642,934  
                                

Operating income:

        

CVI

   $ 27,811     $ 33,052     $ 63,346     $ 103,858  

CSI

     3,349       5,594       11,547       8,750  

Corporate

     (7,502 )     (6,346 )     (24,942 )     (22,114 )
                                

Total operating income

     23,658       32,300       49,951       90,494  

Interest expense

     11,085       8,534       31,795       28,834  

Other income (expense), net

     512       523       1,340       (1,655 )
                                

Income before income taxes

   $ 13,085     $ 24,289     $ 19,496     $ 60,005  
                                

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Notes to Consolidated Condensed Financial Statements, Concluded

(Unaudited)

 

              

July 31,

2007

   October 31,
2006
               (In thousands)

Identifiable assets:

           

CVI

         $ 2,167,142    $ 2,049,557

CSI

           310,694      248,382

Corporate

           63,229      54,662
                   

Total

         $ 2,541,065    $ 2,352,601
                   

Geographic information:

 

           
    

Three Months Ended

July 31,

  

Nine Months Ended

July 31,

     2007    2006    2007    2006
     (In thousands)

Net sales to external customers by country of domicile:

           

United States

   $ 121,032    $ 110,454    $ 339,591    $ 322,793

Europe

     82,321      74,006      223,821      198,805

Rest of world

     48,509      41,338      133,405      121,336
                           

Total

   $ 251,862    $ 225,798    $ 696,817    $ 642,934
                           
              

July 31,

2007

   October 31,
2006
               (In thousands)

Long-lived assets by country of domicile:

           

United States

         $ 237,296    $ 217,749

Europe

           333,323      270,789

Rest of world

           8,098      7,819
                   

Total

         $ 578,717    $ 496,357
                   

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations

Forward-Looking Statements: This Quarterly Report on Form 10-Q contains “forward-looking statements” as defined by the Private Securities Litigation Reform Act of 1995. These include statements relating to plans, prospects, goals, strategies, future actions, events or performance and other statements which are other than statements of historical fact. In addition, all statements regarding anticipated growth in our revenue, anticipated market conditions, planned product launches and expected results of operations and integration of any acquisition (including the Ocular business) are forward-looking. To identify these statements look for words like “believes,” “expects,” “may,” “will,” “should,” “could,” “seeks,” “intends,” “plans,” “estimates” or “anticipates” and similar words or phrases. Forward-looking statements necessarily depend on assumptions, data or methods that may be incorrect or imprecise and are subject to risks and uncertainties. Among the factors that could cause our actual results and future actions to differ materially from those described in forward-looking statements are:

 

   

Failures to launch, or significant delays in introducing, new products, or limitations on sales following introduction due to manufacturing constraints or poor market acceptance.

 

   

Failures to receive or delays in receiving U.S. or foreign regulatory approvals for products.

 

   

Compliance costs and potential liability in connection with U.S. and foreign healthcare regulations, including product recalls, and potential losses resulting from sales of counterfeit and other infringing products.

 

   

The success of research and development activities and other start-up projects.

 

   

New competitors, product innovations or technologies.

 

   

Failure to develop new manufacturing processes, or delays in implementation of such processes.

 

   

A major disruption in the operations of our manufacturing or distribution facilities, due to technological problems, natural disasters or other causes.

 

   

Disruptions in supplies of raw materials, particularly components used to manufacture our silicone hydrogel lenses.

 

   

Legal costs, insurance expenses, settlement costs and the risk of an adverse decision or settlement related to claims involving product liability or patent protection (including risks with respect to the ultimate validity and enforceability of the Company’s patent applications and patents and the possible infringement of the intellectual property of others).

 

   

The impact of acquisitions and divestitures on revenues, earnings and margins, including the impact of the Lone Star and Wallach acquisitions on CSI and the Company, any failure by the Company to successfully integrate acquired businesses into CVI and CSI, any failure to continue to realize anticipated benefits from the Company’s cost-cutting measures and risks inherent in accounting assumptions made regarding the acquisitions.

 

   

Changes in business, political and economic conditions, including the adverse effects of natural disasters on patients, practitioners and product distribution.

 

   

Interest rate and foreign currency exchange rate fluctuations.

 

   

Changes in U.S. and foreign government regulation of the retail optical industry and of the healthcare industry generally.

 

   

Dilution to earnings per share from acquisitions or issuing stock.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations, Continued

 

   

Changes in tax laws or their interpretation and changes in effective tax rates, including by reason of changes in the Company’s geographic profit mix.

 

   

Changes in the Company’s expected utilization of recognized net operating loss carry forwards.

 

   

The requirement to provide for a significant liability or to write off a significant asset, including impaired goodwill.

 

   

Changes in accounting principles or estimates.

 

   

Disruptions or delays related to implementation of information technology systems covering the Company’s businesses, or other events which could result in Management having to report a material weakness in the effectiveness of the Company’s internal control over financial reporting in its 2007 Annual Report on Form 10-K.

 

   

Environmental risks including significant environmental cleanup costs above those already accrued.

 

   

Other events described in our Securities and Exchange Commission filings, including the “Business” and “Risk Factors” sections in the Company’s Annual Report on Form 10-K for the fiscal year ended October 31, 2006, as such Risk Factors may be updated in quarterly filings.

We caution investors that forward-looking statements reflect our analysis only on their stated date. We disclaim any intent to update them except as required by law.

Results of Operations

In this section we discuss the results of our operations for the third fiscal quarter of 2007 and compare them with the same period of fiscal 2006. We discuss our cash flows and current financial condition under “Capital Resources and Liquidity.”

Third Quarter Highlights:

 

 

Sales of $251.9 million, up 12%, 9% in constant currency.

 

 

Gross margin 58% of revenue including $13.2 million of costs associated with new product introductions and Ocular integration activities.

 

 

Operating income down 27% to $23.7 million.

 

 

Diluted earnings per share at 18 cents, down from 45 cents.

 

 

Results include $4.1 million of stock option expenses, $9.9 million of production start up costs, $3.0 million of acquired in-process research and development, $12.4 million of integration costs including $3.7 million of distribution rationalization costs, and $2.3 million of intellectual property and securities litigation costs.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations, Continued

 

Nine-Month Highlights:

 

 

Sales of $696.8 million, up 8%, 6% in constant currency.

 

 

Gross margin 58% of revenue.

 

 

Operating income down 45% to $50.0 million.

 

 

Diluted earnings per share at 29 cents down from $1.14.

 

 

Results include $15.3 million of stock option expense, $22.5 million of production start up costs, $34.2 million of integration costs including $11.1 million of distribution rationalization costs, $5.7 million of litigation expenses related to intellectual property and securities litigation, and a $7.2 million charge for acquired in-process research and development. Our results also include a $0.9 million write-off of debt issuance costs.

Outlook

We are in the process of developing and launching a number of new contact lens products that we believe will result in Cooper continuing to have a broad and competitive product line. New products planned for introduction over the next two years include lenses utilizing silicone hydrogel materials and new lens designs, including multifocal lenses. Contact lenses utilizing silicone hydrogel materials have grown significantly, and this material has become a major product material in the industry. The Company has launched one silicone hydrogel lens design with sales in Europe and Australia and commenced rolling out the product in the United States in July 2007. While initial customer reaction from this lens has been favorable, our future growth may be limited by several critical factors relating to silicone hydrogel materials. We face normal challenges associated with manufacturing a new material on a new manufacturing platform and are incurring additional manufacturing costs as we attempt to ramp up silicone hydrogel volumes and improve efficiencies. We are also engaged in litigation with regard to our silicone hydrogel product and certain lens design patents. We believe that our ability to succeed with silicone hydrogel products will be an important factor affecting future levels of sales growth and profitability.

Our operating results reflect the progression through our integration plan that is designed to optimize operational synergies of our acquisition of Ocular. Integration activities began in January 2005 and are expected to continue through mid calendar year 2008 and include integrating duplicate facilities and expanding utilization of preferred manufacturing and distribution practices. Our geographic mix of income has changed during 2007, and certain expenses associated with the integration plan have impacted jurisdictions with lower tax rates. As a result, our effective tax rate has increased correspondingly.

Regarding capital resources, we believe that cash and cash equivalents on hand of $8.1 million plus cash from operating activities and existing credit facilities will fund future operations, capital expenditures, cash dividends and smaller acquisitions. We expect capital expenditures in fiscal 2007 of approximately $160 million, primarily to expand manufacturing capacity, consolidate distribution centers and for information technology.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations, Continued

 

Selected Statistical Information – Percentage of Sales and Growth

 

    

Percent of Sales

Three Months Ended

July 31,

   

Percent of Sales

Nine Months Ended

July 31,

 
     2007     2006    

%

Growth

    2007     2006    

%

Growth

 

Net sales

   100 %   100 %   12 %   100 %   100 %   8 %

Cost of sales

   42 %   39 %   20 %   42 %   38 %   20 %
                            

Gross profit

   58 %   61 %   6 %   58 %   62 %   1 %

Selling, general and administrative expense

   41 %   40 %   16 %   43 %   41 %   15 %

Research and development expense

   5 %   3 %   84 %   5 %   4 %   17 %

Restructuring costs

   1 %   2 %   (63 )%   1 %   1 %   (13 )%

Amortization of intangibles

   2 %   2 %   18 %   2 %   2 %   12 %
                            

Operating income

   9 %   14 %   (27 )%   7 %   14 %   (45 )%
                            

Net Sales: Cooper’s two business units, CooperVision and CooperSurgical, generate all its revenue:

 

 

CVI markets, develops and manufacturers a broad range of contact lenses for the worldwide vision care market.

 

 

CSI markets, develops and manufacturers medical devices, diagnostic products and surgical instruments and accessories used primarily by gynecologists and obstetricians.

Our consolidated net sales grew $26.1 million or 12% in the three-month period and $53.9 million or 8% in the nine-month period:

 

    

Three Months Ended

July 31,

   

Nine Months Ended

July 31,

 
     2007    2006    Growth     2007    2006    Growth  
     ($ in millions)  

CVI

   $ 212.0    $ 194.2    9 %   $ 583.8    $ 551.5    6 %

CSI

     39.9      31.6    26 %     113.0      91.4    24 %
                                
   $ 251.9    $ 225.8    12 %   $ 696.8    $ 642.9    8 %
                                

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations, Continued

 

CVI Net Sales by Market:

 

    

Three Months Ended

July 31,

   

Nine Months Ended

July 31,

 
     2007    2006    Growth     2007    2006    Growth  
     ($ in millions)  

Geographic Segment

                

Americas

   $ 94.0    $ 91.8    2 %   $ 262.2    $ 268.6    (2 )%

Europe

     83.2      74.9    11 %     226.0      202.6    12 %

Asia Pacific

     34.8      27.5    27 %     95.6      80.3    19 %
                                

Total

   $ 212.0    $ 194.2    9 %   $ 583.8    $ 551.5    6 %
                                

CVI’s worldwide net sales grew 9% and 6% in the three- and nine-month periods, 7% and 3% in constant currency. Americas sales grew 2% and declined 2% in the three- and nine-month periods, up 2% and down 3% in constant currency, primarily due to market gains of multifocal and daily disposable lenses offset by the continued market shift in favor of silicone hydrogel products. European sales grew 11% and 12% in the three- and nine-month periods, 4% and 3% in constant currency, driven by significant increases in sales of disposable toric and disposable sphere products. Sales to the Asia Pacific region grew 27% and 19% in the three- and nine-month periods, up 29% and 19% in constant currency, primarily due to significant sales growth of single-use and other sphere products.

CVI Net Sales: Practitioner and patient preferences in the worldwide contact lens market continue to change. The major shifts are from:

 

 

Conventional lenses replaced annually to disposable and frequently replaced lenses. Disposable lenses are designed for either daily, two-week or monthly replacement; frequently replaced lenses are designed for replacement after one to three months.

 

 

Commodity lenses to specialty lenses including toric, multifocal and cosmetic lenses.

 

 

Commodity spherical lenses to value-added spherical lenses such as continuous wear lenses and lenses to alleviate dry eye symptoms as well as lenses with aspherical optical properties or higher oxygen permeable lenses such as silicone hydrogels.

These shifts generally favor CVI’s core product lines of specialty lenses, phosphorylcholine ( PC) Technology brand spherical lenses, silicone hydrogel spherical lenses and single-use spherical lenses, 71% of CVI’s worldwide business. Additionally, it is important that CVI develop a range of silicone hydrogel products. CVI has launched one silicone hydrogel lens design with sales in Europe and Australia and commenced rolling out the product in the United States in July 2007 and is in the process of expanding its manufacturing capacity to grow sales. CVI anticipates launching a second silicone hydrogel spherical lens in mid-2008 and commence marketing a silicone hydrogel toric lens at the end of 2008.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations, Continued

 

Definitions: Contact lens revenue includes sales of conventional, disposable, long-term extended wear lenses and single-use spherical lenses, some of which are aspherically designed, and specialty lenses—toric lenses, cosmetic lenses and multifocal lenses.

 

 

Aspheric lenses correct for near- and farsightedness and have additional optical properties that help improve visual acuity in low light conditions and can correct low levels of astigmatism and low levels of presbyopia, an age-related vision defect.

 

 

Toric lens designs correct astigmatism by adding the additional optical properties of cylinder and axis, which correct for irregularities in the shape of the cornea.

 

 

Cosmetic lenses are opaque and color enhancing lenses that alter the natural appearance of the eye.

 

 

Multifocal lens designs correct presbyopia.

 

 

Proclear lenses, manufactured using proprietary phosphorylcholine (PC) technology, help enhance tissue/device compatibility and offer improved lens comfort.

Net sales for the quarter grew 9% over the third quarter of fiscal 2006, with single-use spheres up 32%, at $31.4 million, all disposable spheres up 9% and total spheres up 8%. Disposable toric sales grew 14%, disposable multifocal sales were up 31% and total toric sales grew 10%. CVI’s line of specialty lenses grew 13% during the quarter. Cosmetic lenses grew 21%, and older conventional lens products declined 9%. Proclear products continued global market share gains as Proclear toric sales increased 45% to $14.5 million, Proclear spheres, including Biomedics XC and Proclear 1 Day , increased 14% to $26.9 million and Proclear multifocal lenses, including Biomedics XC , increased 52% to $9.0 million.

CVI’s sales growth is driven primarily through increases in the volume of lenses sold as the market continues to move to more frequent replacement. While unit growth and product mix have influenced CVI’s sales growth, average realized prices by product have not materially influenced sales growth.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations, Continued

 

CSI Net Sales: CSI’s net sales increased 26% and 24% to $39.9 million and $113.0 million in the three- and nine-month periods, respectively. CSI’s organic sales grew about 8% over last year’s third quarter. Sales of products marketed directly to hospitals grew 56% and now represent 27% of CSI’s sales. Women’s healthcare products used primarily by obstetricians and gynecologists generate more than 94% of CSI’s sales. The balance are sales of medical devices outside of women’s healthcare which CSI does not actively market. CSI’s acquisitions during the nine-month period did not significantly affect Cooper’s results of operations. While unit growth and product mix have influenced organic revenue growth, average realized prices by product have not materially influenced organic revenue growth.

Cost of Sales/Gross Profit: Gross profit as a percentage of net sales (margin) was:

 

    

Margin

Three Months Ended

July 31,

   

Margin

Nine Months Ended

July 31,

 
     2007     2006     2007     2006  

CVI

   58 %   61 %   57 %   63 %

CSI

   59 %   59 %   59 %   58 %

Consolidated

   58 %   61 %   58 %   62 %

CVI’s margin was 58% and 57% for the three-month and nine-month periods of fiscal 2007 compared with 61% and 63% in both periods last year, as a result of manufacturing inefficiencies related to new products and integration activities, changing product mix and unfavorable foreign currency that flowed through cost of sales. The changing product mix included a shift to lower margin sphere products, including single-use spheres that represented 13.9% of lens sales in the current period compared to 11.6% in the first nine months of fiscal 2006. CVI’s fiscal 2007 cost of sales includes stock option expense, production start-up costs for our new silicone hydrogel products and the write off of manufacturing assets associated with Ocular integration activities. These costs amounted to $13.6 million or 6% of sales in the three-month period, and $34.3 million or 6% of sales in the nine-month period. For 2006, cost of sales included stock option expense, integration costs, production start up costs for our new silicone hydrogel products and profits and losses associated with product lines being phased out, which were about 3% of sales in the three-month period and 1% of sales in the nine-month period. Manufacturing inefficiencies associated with the ramp up of new products and plant realignment activities are expected to continue throughout the remainder of the year and significantly reduce in 2008.

CSI’s margin was 59% in both the three- and nine-month periods ended July 31, 2007, compared with 59% and 58% in the same periods of fiscal year 2006. Gross margin reflects continuing efficiencies associated with recent acquisitions.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations, Continued

 

Selling, General and Administrative (SGA) Expense:

 

     Three Months Ended July 31,     Nine Months Ended July 31,  
     2007   

% Net

Sales

    2006    % Net
Sales
   

% Incr.

(Decr.)

    2007   

% Net

Sales

    2006    % Net
Sales
   

% Incr.

(Decr.)

 
     ($ in millions)  

CVI

   $ 82.1    39 %   $ 72.0    37 %   14 %   $ 236.0    40 %   $ 207.8    38 %   14 %

CSI

     14.9    37 %     11.7    37 %   28 %     42.0    37 %     33.2    36 %   27 %

Headquarters

     7.5    —         6.3    —       18 %     25.0    —         22.1    —       13 %
                                        
   $ 104.5    41 %   $ 90.0    40 %   16 %   $ 303.0    43 %   $ 263.1    41 %   15 %
                                        

In the third quarter of fiscal 2007, consolidated SGA increased 16%, and as a percentage of net sales increased to 41% from 40% in the prior year for the three-month period and increased to 43% from 41% for the nine-month period. The increase in SGA is primarily due to costs supporting increased sales levels as well as integration costs, including the rationalization of distribution centers, lenses used in marketing programs, which increased to $6.4 million from $2.4 million in the third quarter of fiscal 2006, and intellectual property and securities litigation costs of $2.3 million that increased from $600 thousand in the prior period. We expect litigation expenses related to intellectual property matters and the securities litigation to continue to be significant in 2007 and 2008. Corporate headquarters’ expenses increased 18% to $7.5 million and 13% to $25.0 million in the three- and nine-month periods of fiscal 2007. The corporate expenses include share-based compensation expense of $1.3 million and $7.3 million in the three- and nine-month periods of 2007 compared to $1.0 million and $6.1 million in the three- and nine-month periods of fiscal 2006.

Research and Development Expense: CVI’s research and development expenditures were $7.2 million up 34% and $19.8 million up 22% for the three-month and nine-month periods of 2007. CVI’s research and development activities include programs to develop disposable silicone hydrogel products, product lines utilizing PC Technology and expansion of single-use product lines.

CSI’s research and development expenditures for the three-month and nine-month periods of 2007 were $4.3 million up 382% and $10.7 million up 8%. Before charges for acquired in-process research and development of $4.2 million and $3.0 million in the first and third quarters of fiscal 2007, respectively, and $7.5 million in the second quarter of fiscal 2006, research and development expenses for the three-month and nine-month periods of 2007 increased 45% and 49%, respectively. CSI’s research and development activities include the upgrade and redesign of many CSI osteoporosis, in-vitro fertilization, incontinence and assisted reproductive technology products and other obstetrical and gynecological product development activities.

 

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

and Results of Operations, Continued

 

Operating Income: Operating income decreased by $8.6 million or 27% and $40.5 million or 45% for the three- and nine-month periods, respectively:

 

     Three Months Ended July 31,     Nine Months Ended July 31,  
     2007     % Net
Sales
    2006     % Net
Sales
    % Incr.
(Decr.)
    2007     % Net
Sales
    2006     % Net
Sales
    % Incr.
(Decr.)
 
     ($ in millions)  

CVI

   $ 27.8     13 %   $ 33.0     17 %   (16 )%   $ 63.3     11 %   $ 103.9     19 %   (39 )%

CSI

     3.3     8 %     5.6     18 %   (40 )%     11.5     10 %     8.7     10 %   32 %

Headquarters

     (7.4 )   —         (6.3 )   —       (18 )%     (24.8 )   —         (22.1 )   —       (13 )%
                                            
   $ 23.7     9 %   $ 32.3     14 %   (27 )%   $ 50.0     7 %   $ 90.5     14 %   (45 )%
                                            

Interest Expense: Interest expense increased by $2.6 million or 30% and increased by $3.0 million or 10% in the three-month and nine-month periods, respectively, primarily reflecting cash used for capital expenditures and CSI acquisitions. In the first nine months of 2007 and 2006, we wrote off debt issuance costs related to extinguished credit agreements of $0.9 million and $4.1 million, respectively.

Other Income (Expense), Net :

 

    

Three Months Ended

July 31,

  

Nine Months Ended

July 31,

 
     2007     2006    2007     2006  
     (In millions)  

Interest income

   $ 0.1     $ 0.1    $ 0.4     $ 0.3  

Foreign exchange gain (loss)

     0.6       0.1      1.4       (1.6 )

Other

     (0.2 )     0.3      (0.5 )     (0.4 )
                               
   $ 0.5     $ 0.5    $ 1.3     $ (1.7 )
                               

Provision for Income Taxes: We recorded tax expense of $6.5 million in the first nine months of fiscal 2007 compared to $7.4 million in the first nine months of fiscal 2006. The effective tax rate (ETR) for the first nine months of fiscal 2007 (provision for taxes divided by income before taxes) was approximately 33.3 percent compared to approximately 12.3 percent for the first nine months of fiscal 2006. Our geographic mix of income has changed during 2007, and certain expenses associated with the integration plan have impacted jurisdictions with lower tax rates. As a result, our ETR has increased correspondingly.

 

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

and Results of Operations, Continued

 

Share-Based Compensation Plans : Compensation cost associated with share-based awards recognized in fiscal 2007 and fiscal 2006 includes: 1) amortization related to the remaining unvested portion of all stock option awards granted prior to November 1, 2005, based on the grant date fair value estimated in accordance with the original provisions of SFAS 123 and 2) amortization related to all stock option awards granted on or subsequent to November 1, 2005, based on the grant date fair value estimated in accordance with the provisions of SFAS 123R. The compensation and related income tax benefit recognized in the Company’s consolidated financial statements for stock options and restricted stock awards were as follows:

 

    

Three Months Ended

July 31,

   

Nine Months Ended

July 31,

     2007    2006     2007    2006
     (In millions)

Selling, general and administrative expenses

   $ 3.4    $ 2.5     $ 12.8    $ 10.4

Cost of products sold

     0.5      0.2       1.1      0.4

Research and development expense

     0.2      0.1       0.6      0.3

Restructuring costs

     —        —         0.8      —  

Capitalized in inventory

     0.5      (0.1 )     1.5      0.5
                            

Total compensation expense

   $ 4.6    $ 2.7     $ 16.8    $ 11.6
                            

Related income tax benefit

   $ 0.9    $ 0.5     $ 4.0    $ 2.6
                            

Cash received from options exercised under all share-based payment arrangements for the three and nine months ended July 31, 2007, was $2.7 million and $7.6 million, respectively. Cash received from options exercised under all share-based payment arrangements for the three and nine months ended July 31, 2006, was $31 thousand and $2.5 million, respectively.

The Company continues to estimate the fair value of each option award on the date of grant using the Black-Scholes option valuation model. Groups of employees that have similar historical exercise behavior are considered separately for valuation purposes. Previously, under SFAS No. 123, the Company did not utilize separate employee groupings in the determination of option values. The Company now estimates option forfeitures based on historical data for each employee grouping and adjusts the rate to expected forfeitures periodically. The adjustment of the forfeiture rate will result in a cumulative catch-up adjustment in the period the forfeiture estimate is changed.

 

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

and Results of Operations, Continued

 

Capital Resources and Liquidity

Third Quarter Highlights:

 

 

Operating cash flow $47.4 million vs. $38.5 million in the third quarter of fiscal 2006.

 

 

Cash payments for acquisitions totaled $8.8 million vs. $1.8 million in the third quarter of fiscal 2006.

 

 

Expenditures for purchases of property, plant and equipment (PP&E) $38.6 million vs. $41.1 million in the third quarter of 2006.

Nine-Month Highlights:

 

 

Operating cash flow $95.9 million vs. $114.9 million in the first nine months of 2006.

 

 

Cash payments for acquisitions totaled $77.6 million vs. $63.1 million in the first nine months of 2006.

 

 

Expenditures for purchases of PP&E $128.7 million vs. $124.5 million in the first nine months of 2006.

Comparative Statistics ($ in millions ):

 

     July 31, 2007     October 31, 2006  

Cash and cash equivalents

   $ 8.1     $ 8.2  

Total assets

   $ 2,541.1     $ 2,352.6  

Working capital

   $ 226.7     $ 180.3  

Total debt

   $ 861.3     $ 742.7  

Stockholders’ equity

   $ 1,435.4     $ 1,378.5  

Ratio of debt to equity

     0.60:1       0.54:1  

Debt as a percentage of total capitalization

     38 %     35 %

Operating cash flow—twelve months ended

   $ 131.5     $ 150.5  

Operating Cash Flow: Cash flow provided by operating activities totaled $95.9 million in the first nine months of fiscal 2007 and $131.5 million over the twelve-month period ended July 31, 2007. In the first nine months of fiscal 2007, operating cash flow decreased as we have utilized cash to build inventory in support of new product launches, for costs associated with our Ocular integration plan and for the reduction of accounts payable.

Working capital increased $46.4 million in the first nine months of fiscal 2007 due to increases of $17.7 million in receivables, $28.9 million in inventory, $5.2 million in prepaids and other assets, $2.5 million in deferred tax assets and decreases of $7.7 million in short-term debt. This activity was partially offset as cash decreased $0.2 million and accrued liabilities and accounts payable increased $15.5 million. The significant increase in working capital is primarily due to the refinancing of Cooper’s credit facility, which reduced the current portion of debt, along with building inventory in anticipation of new product launches, distribution center consolidations and increasing sales levels. In addition, the acquisitions of Lone Star and Wallach increased net working capital and were funded with long-term debt.

 

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

and Results of Operations, Continued

 

At the end of the first nine months of fiscal 2007, Cooper’s inventory months on hand (MOH) decreased slightly to 7.5 compared to 7.7 in last year’s third quarter, as we continue to build inventory in support of new product launches and distribution center consolidations. Also, our days sales outstanding (DSO) decreased to 59 from 61 days in last year’s third quarter. Based on our experience and knowledge of our customers and our analysis of inventoried products and product levels, we believe that our accounts receivable and inventories are recoverable.

Investing Cash Flow: The cash outflow of $206.3 million from investing activities was driven by payments of $77.6 million for acquisitions and capital expenditures of $128.7 million, used primarily to expand manufacturing capacity, consolidate distribution centers and continue the rollout of new information systems.

Financing Cash Flow: The cash inflow of $109.9 million from financing activities was driven by net proceeds from long-term debt of $88.3 million, net proceeds from short-term debt of $28 million and $7.6 million from the exercise of stock options, partially offset by payment of debt acquisition costs of $11.5 million and dividends on our common stock of $2.7 million paid in the first nine months of 2007.

Estimates and Critical Accounting Policies

Management estimates and judgments are an integral part of financial statements prepared in accordance with U.S. generally accepted accounting principles (GAAP). We believe that the critical accounting policies described in this section address the more significant estimates required of management when preparing our consolidated financial statements in accordance with GAAP. We consider an accounting estimate critical if changes in the estimate may have a material impact on our financial condition or results of operations. We believe that the accounting estimates employed are appropriate and resulting balances are reasonable; however, actual results could differ from the original estimates, requiring adjustment to these balances in future periods.

 

 

Revenue recognition – We recognize revenue when it is realized or realizable and earned, based on terms of sale with the customer, where persuasive evidence of an agreement exists, delivery has occurred, the seller’s price is fixed and determinable and collectibility is reasonably assured. For contact lenses as well as CSI medical devices, diagnostic products and surgical instruments and accessories, this primarily occurs upon product shipment, when risk of ownership transfers to our customers. We believe our revenue recognition policies are appropriate in all circumstances and that our policies are reflective of our customer arrangements. We record, based on historical statistics, estimated reductions to revenue for customer incentive programs offered including cash discounts, promotional and advertising allowances, volume discounts, contractual pricing allowances, rebates and specifically established customer product return programs. While estimates are involved, historically, most of these programs have not been major factors in our business since a high percentage of our revenue is from direct sales to doctors.

 

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

and Results of Operations, Continued

 

 

Allowance for doubtful accounts – Our reported balance of accounts receivable, net of the allowance for doubtful accounts, represents our estimate of the amount that ultimately will be realized in cash. We review the adequacy of our allowance for doubtful accounts on an ongoing basis, using historical payment trends and the age of the receivables and knowledge of our individual customers. When our analyses indicate, we increase or decrease our allowance accordingly. However, if the financial condition of our customers were to deteriorate, additional allowances may be required. While estimates are involved, bad debts historically have not been a significant factor given the diversity of our customer base, well established historical payment patterns and the fact that patients require satisfaction of healthcare needs in both strong and weak economies.

 

 

Net realizable value of inventory – In assessing the value of inventories, we must make estimates and judgments regarding aging of inventories and other relevant issues potentially affecting the saleable condition of products and estimated prices at which those products will sell. On an ongoing basis, we review the carrying value of our inventory, measuring number of months on hand and other indications of salability, and reduce the value of inventory if there are indications that the carrying value is greater than market. At the point of the loss recognition, a new, lower-cost basis for that inventory is established, and subsequent changes in facts and circumstances do not result in the restoration or increase in that newly established cost basis. While estimates are involved, historically, obsolescence has not been a significant factor due to long product dating and lengthy product life cycles. We target to keep, on average, about seven months of inventory on hand to maintain high customer service levels given the complexity of our specialty lens product portfolio.

 

 

Valuation of goodwill – We account for goodwill and evaluate our goodwill balances and test them for impairment in accordance with the provisions of Statement of Financial Accounting Standards No. 142, Goodwill and Other Intangible Assets , (SFAS 142). The SFAS 142 goodwill impairment test is a two-step process. Initially, we compare the book value of net assets to the fair value of each reporting unit that has goodwill assigned to it. If the fair value of a reporting unit is determined to be less than the book value, a second step is performed to compute the amount of the impairment. When available and as appropriate, we use comparative market multiples to corroborate fair value results. A reporting unit is the level of reporting at which goodwill is tested for impairment.

Our reporting units are the same as our business segments – CVI and CSI – reflecting the way that we manage our business. We test goodwill for impairment annually during the third fiscal quarter and when an event occurs or circumstances change such that it is reasonably possible that impairment may exist. We performed an impairment test in our third fiscal quarter 2007, and our analysis indicated that we had no impairment of goodwill. The valuation of each of our reporting units was determined using discounted cash flows, an income valuation approach.

 

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

and Results of Operations, Continued

 

 

Business combinations – We routinely consummate business combinations. We allocate the purchase price of acquisitions based on our estimates and judgments of the fair value of net assets purchased, acquisition costs incurred and intangibles other than goodwill. On individually significant acquisitions, we utilize independent valuation experts to provide a basis in order to refine the purchase price allocation, if appropriate. Results of operations for acquired companies are included in our consolidated results of operations from the date of acquisition.

 

 

Income taxes – The Company accounts for income taxes under the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and for tax losses and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized.

As part of the process of preparing our consolidated financial statements, we must estimate our income tax expense for each of the jurisdictions in which we operate. This process requires significant management judgments and involves estimating our current tax exposures in each jurisdiction including the impact, if any, of additional taxes resulting from tax examinations as well as judging the recoverability of deferred tax assets. To the extent recovery of deferred tax assets is not likely based on our estimation of future taxable income in each jurisdiction, a valuation allowance is established. Tax exposures can involve complex issues and may require an extended period to resolve. Frequent changes in tax laws in each jurisdiction complicate future estimates. To determine the quarterly tax rate, we are required to estimate full-year income and the related income tax expense in each jurisdiction. Changes in the geographic mix or estimated level of annual pre-tax income can affect the overall effective tax rate, and such changes could be material.

 

 

Share-based compensation – Effective November 1, 2005, we adopted Statement of Financial Accounting Standards No. 123 (revised 2004), Share-Based Payment (SFAS 123R) as interpreted by SEC Staff Accounting Bulletin No. 107, using the modified prospective transition method. Periods prior to adoption have not been restated. See Note 10. Stock Plans in our Annual Report on Form 10-K for the fiscal year ended October 31, 2006, for a further description of the impact of the adoption of SFAS 123R and the Company’s share-based compensation plans.

 

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

and Results of Operations, Continued

 

Under the fair value recognition provisions of SFAS 123R, share-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as expense over the vesting period. Determining the fair value of share-based awards at the grant date requires judgment, including estimating Cooper’s stock price volatility, employee stock option exercise behaviors and employee option forfeiture rates.

The expected life of the share-based awards is based on the observed and expected time to post-vesting forfeiture and/or exercise. Groups of employees that have similar historical exercise behavior are considered separately for valuation purposes. The expected volatility is based on implied volatility from publicly-traded options, historical volatility on the Company’s stock at the date of grant, historical implied volatility of the Company’s publicly-traded options and other factors. The risk-free interest rate is based on the continuous rates provided by the U.S. Treasury with a term equal to the expected life of the award. The dividend yield is based on the projected annual dividend payment per share, divided by the stock price at the date of grant.

As share-based compensation expense recognized in the Consolidated Statement of Income is based on awards ultimately expected to vest, the amount of expense has been reduced for estimated forfeitures. SFAS 123R requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. Forfeitures are estimated based on historical experience.

If factors change and the Company employs different assumptions in the application of SFAS 123R, the compensation expense that it records in future periods may differ significantly from what it has recorded in the current period.

New Accounting Pronouncements

In September 2006, the SEC staff issued Staff Accounting Bulletin (SAB) No. 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements (SAB 108). In SAB 108, the SEC staff established an approach that requires quantification of financial statement misstatements based on the effects of the misstatements on each of the Company’s financial statements and the related financial statement disclosures. SAB 108 permits public companies to initially apply its provisions either by (i) restating prior financial statements or (ii) recording the cumulative effect as adjustments to the carrying values of assets and liabilities with an offsetting adjustment recorded to the opening balance of retained earnings. The Company is required to adopt SAB 108 by the end of fiscal 2007. The Company has not completed its analysis but does not expect adoption to have a significant impact on the Company’s results of operations or financial condition.

 

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

and Results of Operations, Continued

 

In September 2006, the Financial Accounting Standards Board (FASB) issued SFAS No. 157, Fair Value Measurements (SFAS 157). SFAS 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. This statement is effective for financial statements issued for fiscal years beginning after November 15, 2007. The Company is currently evaluating the impact SFAS 157 will have on its consolidated financial statements.

In September 2006, the FASB issued SFAS No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans — an amendment of FASB Statements No. 87, 88, 106 and 132(R) (SFAS 158). SFAS 158 requires an employer to recognize the overfunded or underfunded status of a defined benefit postretirement plan as an asset or liability in its statement of financial position and to recognize changes in that funded status in the year in which the changes occur through comprehensive income. SFAS 158 also requires an employer to measure the funded status of a plan as of the date of its year-end statement of financial position, with limited exceptions. This statement is effective for financial statements as of the end of fiscal years ending after December 15, 2006. The Company is currently evaluating the impact SFAS 158 will have on its consolidated financial statements.

In July 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in Income Taxes (FIN 48) . FIN 48 applies to all tax positions related to income taxes subject to Statement SFAS No. 109, Accounting for Income Taxes (SFAS 109). Under FIN 48, a company would recognize the benefit from a tax position only if it is more-likely-than-not that the position would be sustained upon audit based solely on the technical merits of the tax position. FIN 48 clarifies how a company would measure the income tax benefits from the tax positions that are recognized, provides guidance as to the timing of the derecognition of previously recognized tax benefits and describes the methods for classifying and disclosing the liabilities within the financial statements for any unrecognized tax benefits. FIN 48 also addresses when a company should record interest and penalties related to tax positions and how the interest and penalties may be classified within the income statement and presented in the balance sheet. FIN 48 is effective for fiscal years beginning after December 15, 2006. For the Company, FIN 48 will be effective for our 2008 fiscal year. Differences between the amounts recognized prior to and after the adoption of FIN 48 would be accounted for as a cumulative effect adjustment to the beginning balance of retained earnings. The Company is currently evaluating FIN 48 and its possible impacts on the Company’s financial statements. Upon adoption, there is a possibility that the cumulative effect would result in a charge or benefit to the beginning balance of retained earnings, increases or decreases in future effective tax rates, and/or increases in future effective tax rate volatility.

In February 2007, FASB Issued SFAS No. 159, Establishing the Fair Value Option for Financial Assets and Liabilities (SFAS 159). The Financial Accounting Standards Board has issued SFAS 159 to permit all entities to choose to elect, at specified election dates, to measure eligible financial instruments at fair value. An entity shall report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date, and recognize upfront costs and fees related to those items in earnings as incurred and not deferred. SFAS 159 applies to fiscal years beginning after November 15, 2007, or our 2009

 

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

and Results of Operations, Continued

 

fiscal year, with early adoption permitted for an entity that has also elected to apply the provisions of SFAS 157, Fair Value Measurements . An entity is prohibited from retrospectively applying SFAS 159, unless it chooses early adoption. SFAS 159 also applies to eligible items existing at November 15, 2007 (or early adoption date). The Company has not completed its analysis but does not expect the adoption of SFAS 159 to have a material effect on the Company’s financial condition.

Risk Management

We are exposed to risks caused by changes in foreign exchange, principally our pound sterling and euro denominated debt and receivables, and from operations in foreign currencies. We have taken steps to minimize our balance sheet exposure. We are also exposed to risks associated with changes in interest rates, as the interest rate on our Revolver under our new credit facility varies with the London Interbank Offered Rate. The significant increase in debt following the acquisition of Ocular has significantly increased the risk associated with changes in interest rates. We have decreased this interest rate risk by hedging approximately $250 million of variable rate debt effectively converting it to fixed rate debt for periods of up to one year.

Credit Facility

On January 31, 2007, Cooper refinanced its existing $750 million syndicated bank credit facility (former credit facility), with a new $650 million syndicated Senior Unsecured Revolving Line of Credit (Revolver) and $350 million aggregate principal amount of 7.125% of Senior Notes, described below. The refinancing extended the maturity and provided additional borrowing flexibility along with lower overall pricing relative to the prior agreement. In addition, the Company has the ability from time to time to increase the size of the Revolver by up to an additional $250 million. KeyBank led the Revolver refinancing, which resulted in a number of the banks retaining or increasing their participation in the agreement. The Revolver matures on January 31, 2012.

Interest rates for the Revolver are based on the London Interbank Offered Rate (LIBOR) plus additional basis points determined by certain ratios of debt to pro forma earnings before interest, taxes, depreciation and amortization (EBITDA), as defined in the credit agreement. These range from 75 to 150 basis points. As of July 31, 2007, the additional basis points were 125.

The Revolver:

 

 

Requires that the ratio of Consolidated Pro Forma EBITDA to Consolidated Interest Expense (as defined, “Interest Coverage Ratio”) be at least 3.0 to 1.0 at all times.

 

 

Requires that the ratio of Consolidated Funded Indebtedness to Consolidated Pro Forma EBITDA (as defined, “Total Leverage Ratio”) be no higher than 4.00 to 1.00 from January 31, 2007 through October 31, 2009, and 3.75 to 1.00 thereafter.

 

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

and Results of Operations, Continued

 

At July 31, 2007, the Company’s Interest Coverage Ratio was 6.15 to 1.00 and the Total Leverage Ratio was 3.47 to 1.00.

In the first fiscal quarter, the Company wrote off about $0.9 million of debt issuance costs in interest expense as a result of extinguishing the term loan. The remaining $1.7 million of existing debt issuance costs and the $10.4 million of costs incurred to refinance the Revolver and Notes are carried in other assets and amortized to interest expense over the life of the credit facility.

Senior Notes

On January 31, 2007, the Company issued $350 million aggregate principal amount of 7.125% Senior Notes (the Notes) due February 15, 2015. The Notes were initially offered in a private placement to qualified institutional buyers pursuant to Rule 144A under the Securities Act of 1933 and were subsequently exchanged for a like principal amount of Notes having identical terms that were registered with the Securities and Exchange Commission pursuant to a registration statement declared effective June 19, 2007. The Notes pay interest semi-annually on February 15 and August 15 of each year, beginning August 15, 2007. We may redeem some or all of the Notes at any time prior to February 15, 2011, at a price equal to 100% of the principal amount of the Notes redeemed plus accrued and unpaid interest to the redemption date and a make-whole premium. We may redeem some or all of the Notes at any time on or after February 15, 2011, at the redemption prices (expressed as percentages of principal amounts) set forth below, plus accrued and unpaid interest to the redemption date and additional interest (if we fail to comply with certain obligations under the registration rights agreement that we entered in connection with the Notes (Additional Interest)), if any, on the Notes redeemed to the applicable redemption date, if redeemed during the twelve-month period beginning on February 15 of the years indicated below:

 

Year

   Percent  

2011

   103.56 %

2012

   101.78 %

2013 and thereafter

   100.00 %

In addition, prior to February 15, 2010, we may redeem up to 35% of the Notes at a price equal to 107.13% of the principal amount of the Notes redeemed plus accrued and unpaid interest to the redemption date and Additional Interest, if any, on the Notes redeemed to the applicable redemption date, from the proceeds of certain equity offerings.

Net proceeds from the issuance totaled approximately $342.6 million.

Under the indenture governing the Notes, our ability to incur indebtedness and pay distributions is subject to restrictions and the satisfaction of various conditions. In addition, the indenture imposes restrictions on certain other customary matters, such as limitations on certain investments, transactions with affiliates, the incurrence of liens, sale and leaseback transactions, certain asset sales and mergers.

 

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

and Results of Operations, Continued

 

The Notes are our senior unsecured obligations and rank equally with all of our existing and future senior unsecured obligations and senior to our subordinated indebtedness. The Notes are effectively subordinated to our existing and future secured indebtedness to the extent of the assets securing that indebtedness. On the issue date, certain of our direct and indirect subsidiaries entered into unconditional guarantees of the Notes that are unsecured. These guarantees rank equally with all existing and future unsecured senior obligations of the guarantors and are effectively subordinated to existing and future secured debt of the guarantors to the extent of the assets securing that indebtedness. The Notes are structurally subordinated to indebtedness and other liabilities, including payables, of our non-guarantor subsidiaries.

The changes to our contractual obligations and expected maturity dates, including the new Revolver and Notes are incorporated in the following tables:

Payments Due by Fiscal Period

 

     2007    2008 & 2009    2010 & 2011    2012 & Beyond
     ($ in millions)

Long-term debt

   $ —      $ —      $ —      $ 809.9

Interest payments on long-term debt

     50.7      101.4      101.4      83.5

Operating leases

     23.1      34.6      27.2      45.7
                           
   $ 73.8    $ 136.0    $ 128.6    $ 939.1
                           

Expected Maturity Date

 

Fiscal Year

   2007     2008     2009     2010     2011     Thereafter     Total   

Fair

Value

     ($ in millions)

Long-term debt:

                 

Fixed interest rate

   $ —       $ —       $ —       $ —       $ —       $ 465.0     $ 465.0    $ 494.4

Average interest rate

               6.0 %     

Variable interest rate

   $ —       $ —       $ —       $ —       $ —       $ 344.9     $ 344.9    $ 344.9

Average interest rate

     4.3 %     4.6 %     4.6 %     5.2 %     6.6 %     4.4 %     

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

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

and Results of Operations, Concluded

 

Trademarks

Proclear ® , Biofinity ® and Biomedics ® are registered trademarks of The Cooper Companies, Inc., its affiliates and/or subsidiaries and are italicized in this report. PC Technology™, Biomedics XC™, Proclear 1 Day™ and Lone Star Retractor System™ are trademarks of The Cooper Companies, Inc., its affiliates and/or subsidiaries and are italicized in this report.

 

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THE COOPER COMPANIES, INC. AND SUBSIDIARIES

Item 3. Quantitative and Qualitative Disclosure About Market Risk

See “Risk Management” under Capital Resources and Liquidity in Item 2 of this report.

Item 4. Controls and Procedures

The Company has established and currently maintains disclosure controls and procedures designed to ensure that material information required to be disclosed in its reports filed under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified by the Securities and Exchange Commission and that any material information relating to the Company is recorded, processed, summarized and reported to its principal officers to allow timely decisions regarding required disclosures. In designing and evaluating the disclosure controls and procedures, management recognizes that controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving desired control objectives. In reaching a reasonable level of assurance, management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

In conjunction with the close of each fiscal quarter, the Company conducts a review and evaluation, under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures. The Company’s Chief Executive Officer and Chief Financial Officer, based upon their evaluation as of July 31, 2007, the end of the fiscal quarter covered in this report, concluded that the Company’s disclosure controls and procedures were effective at the reasonable assurance level.

As of July 31, 2007, there has been no change in the Company’s internal control over financial reporting during the Company’s most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Comp