As Of                Filer                Filing    For·On·As Docs:Size              Issuer               Agent

 3/16/05  Dade Behring Holdings Inc         10-K       12/31/04   10:5.5M                                   Merrill Corp-MD/FA

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 2: EX-10.11    Material Contract                                   HTML     43K 
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PART I

In addition to historical information, this report contains statements relating to future events or our future financial performance. These statements are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and are subject to the Safe Harbor provisions created by statute. Such forward-looking statements include, but are not limited to, statements that relate to our future revenue, product development, investments, demand forecasts, competitiveness, gross margins, operating expense and benefits expected as a result of:

·       the projected growth rates in our industry;

·       the successful execution of our business plan; and

·       the projected continuing demand for our products.

Generally words such as “may,” “will,” “should,” “could,” “anticipate,” “expect,” “intend,” “estimate,” “predict,” “plan,” “potential,” “continue,” and “believe,” or the negative of or other variations on these and other similar expressions identify forward-looking statements. These forward-looking statements are made only as of the date of this report. We do not intend to update or revise the forward-looking statements, whether as a result of new information, future events or otherwise.

Forward-looking statements are based on current expectations and involve risks and uncertainties and our future results could differ significantly from those expressed or implied by our forward-looking statements. These risks and uncertainties include, without limitation:

·       competition;

·       the effect of potential healthcare reform;

·       changes in our business strategy or plans;

·       changes in foreign currency exchange rates;

·       changes in the floating interest rate under the Credit Facility;

·       changes in our policy regarding interest rate and currency movements;

·       the availability and cost of capital and trade credit to fund our business; and

those described elsewhere in this report, including under Item 1. Business, Factors That Could Affect Future Results and Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation.

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ITEM 1. BUSINESS

General

Dade Behring Holdings, Inc. (also referred to as “we”, “us”, “our” and “Dade Behring”) is a leading manufacturer and distributor of diagnostic products and services to clinical laboratories. We serve approximately $12 billion of the $24 billion annual worldwide market for clinical diagnostic products and sell primarily to the central lab, which represents approximately $15 billion of the total market. We manufacture and market a broad offering of diagnostic products and services which include: (1) medical diagnostic instruments, (2) reagents and consumables, and (3) maintenance services. We have a worldwide installed base of approximately 35,100 diagnostic instruments. Our installed base of instruments grew approximately 8.1% in 2004. An increase in the number of instruments placed in customers’ labs can be an indication of future revenue growth potential. Within our served markets, we have a strong position in each of our core businesses, which are chemistry, hemostasis, microbiology and infectious disease diagnostics.

In December 1994, Bain Capital, Inc. and the GS Capital Partners, L.P. and certain of their affiliates formed Dade International, Inc., and acquired certain assets of Baxter Diagnostics from Baxter International Inc. The assets acquired from Baxter International, Inc. included established leadership positions in hemostasis and microbiology, strong routine chemistry/immunoassay market positions, and an extensive sales and service organization, especially in the United States.

In May 1996, we purchased DuPont’s diagnostic business, which had entered into the automated clinical chemistry market in 1968 with the introduction of the first random access automated chemistry analyzer in the world and whose installed base of routine chemistry instruments was and still is one of the largest in the world. This acquisition also provided Dade Behring Holdings, Inc. with world-class manufacturing and product development capabilities, particularly in the areas of software and engineering.

In October 1997, we acquired Behring Diagnostics, the human diagnostic business of Hoechst AG, and created Dade Behring Inc. The Behring business was established in 1904 by Emil von Behring, the recipient of the first Nobel Prize in medicine. This acquisition provided us with complementary products for our hemostasis and routine immunochemistry product lines and significantly broadened the overall product line portfolio by adding leadership positions in plasma protein testing and drugs of abuse testing/therapeutic drug monitoring. Acquisition of the Behring clinical diagnostic business from Hoechst provided expanded capabilities in instrumentation development, specialty assay development and research and extended the geographic scope of our business.

Bankruptcy Proceedings

On August 1, 2002, Dade Behring Holdings, Inc. and certain of its wholly-owned direct and indirect domestic subsidiaries filed voluntary petitions for relief under Chapter 11 of Title 11 of the United States Bankruptcy Code, as amended, with the United States Bankruptcy Court for the Northern District of Illinois. We collectively refer to the companies who were party to the bankruptcy proceedings as the “Debtors.” On August 1, 2002, the Debtors filed their Disclosure Statement and plan of reorganization for their Joint Chapter 11 case (the “Plan of Reorganization”).

The Bankruptcy Court confirmed the Plan of Reorganization on September 18, 2002 and the Plan of Reorganization became effective on October 3, 2002. The Plan of Reorganization allowed the Debtors to emerge from bankruptcy with an improved capital structure. The Debtors were allowed to continue paying their trade debt in the ordinary course of business during the pendency of the Chapter 11 cases. At the time of emergence, the Debtors had sufficient trade credit to finance their continuing operations. On the effective date of the Plan of Reorganization, Dade Behring Inc., our wholly-owned subsidiary, entered into

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new credit facilities. See “Management’s Discussion and Analysis of Financial Condition and Results of Operation—Bankruptcy Proceedings and Credit Facilities” in Part II, Item 7 for further discussions.

Diagnostic Industry—Overview

Clinical diagnostic tests are used to analyze samples of patients’ bodily fluids such as whole blood, blood plasma, serum or urine in a clinical setting. In a single test, a patient sample may be measured to determine the presence, concentration or absence of a particular substance or condition. In some tests, the fluid sample is combined with a dry or liquid chemical reagent, which is then observed or measured to detect physical or chemical changes that have a predetermined correlation to diagnostic information, which enables physicians to diagnose, treat and monitor patients. The most common diagnostic tests are traditional routine clinical chemistry tests that measure substances such as glucose, cholesterol or sodium as part of routine blood checks. Other diagnostic tests measure other bodily functions such as blood clotting ability and cardiac function, or measure the presence of infections or drugs. The wide range and important nature of these tests have established diagnostic testing as an integral part of the managed care environment, providing for accurate and timely patient diagnosis and treatment. Increasingly, diagnostic testing is recognized as making a significant contribution to improving patient care and lowering total patient costs. Diagnostic tests are performed in a number of different settings, including hospitals, reference laboratories, physicians’ offices/ambulatory care centers, criminal justice system specialty labs and homes.

Diagnostic testing systems are composed of instruments, reagents, consumables, service and data management components. Instruments serve to automate repetitive manual tasks, improve test accuracy and speed results reporting. Reagents are biochemical substances that react with the patient sample to produce measurable, objective results. The consumable accessories vary across application segments, but are generally items such as vessels used in generating test results. Reagents and consumables that are exclusive to their related testing systems represent “closed” systems, which generally provide more predictable future revenue to the system supplier. “Open” systems accept reagents and consumables from more than a single manufacturer. Sample handling and preparation devices, as well as data management systems, are becoming increasingly important components of the clinical diagnostic system. These additional system components permit laboratories to achieve cost efficiencies and higher test volumes. Improving productivity is a focus area for many labs given the ongoing cost pressures within the healthcare industry and the growing shortage of qualified labor to work in clinical labs.

The global clinical diagnostics market is estimated at $24 billion annually, with the United States, Western Europe and Japan comprising approximately 49%, 35% and 9%, respectively, of the global market. We primarily serve the clinical laboratory market, which comprises $15 billion of the $24 billion global clinical diagnostics market. We believe that the global clinical diagnostics market will continue to grow due to a number of key favorable industry trends, including:

·       Demographic shifts resulting from the aging of the population and socioeconomic improvements which are expected to increase the overall level of demand for diagnostic testing;

·       Increased focus on lowering total healthcare expenditures that will likely increase demand for diagnostic testing as an effective tool to improve patient outcomes and reduce the costs of misdiagnosis through earlier and more accurate diagnosis and patient monitoring;

·       Emerging markets that will likely provide additional demand as economic growth in these countries lead to increased per capita healthcare expenditures;

·       Technology improvements in new tests, pathogens and markers that will likely result in the increased use of diagnostics to aid in the diagnosis of diseases; and

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·       Increased automation of diagnostic instruments that is expected to lower the overall cost of diagnostic testing and thereby increase accessibility and demand.

Dade Behring—Served Markets

We derive substantially all of our revenues from manufacturing and marketing clinical diagnostics products and services. We are organized functionally and are comprised of three reporting segments: Global Customer Management (“GCM”)—Americas, GCM—International, and Global Operations. GCM—Americas and GCM—International are our sales, marketing, customer training, technical support and field service organizations. Global Operations primarily includes all manufacturing, distribution and research and development activities, and accordingly does not recognize significant revenue. See Notes 3 and 16 to our consolidated financial statements for information related to risks from our operations outside the U.S. and segment and geographic area financial information, respectively. This and the following sections discuss our served markets whose results are reported in the GCM—Americas and GCM—International segments.

Chemistry.   Our Chemistry business consists of four product lines: routine chemistry/immunochemistry, cardiac, plasma proteins and drugs of abuse testing/therapeutic drug monitoring. These product lines contributed approximately $1.0 billion or 64% to our revenue during 2004. The clinical laboratory chemistry/immunochemistry testing segment represents over $10 billion of the total clinical diagnostics market.

Routine Chemistry/Immunochemistry.   Routine chemistry tests measure substances found in large concentrations in patients’ blood, tissue, urine or other bodily fluids. Some of these substances include chemistry tests such as cholesterol, glucose, iron and sodium and their concentration levels provide information on a patient’s basic bodily functions. Routine immunochemistry testing relies on the properties of antibodies and antigens in the immune system as its key detection mechanism. Immunoassays, which are immunochemistry tests, measure relatively low concentrations of these substances found in blood. Historically, analyzers had been developed separately for routine chemistry and immunochemistry testing. Today, high-volume tests in both categories are rapidly being consolidated onto a single system that significantly improves overall laboratory productivity and costs.

On average, hospital laboratories operate approximately three routine chemistry/immunochemistry analyzers. These instruments account for up to 80% of the volume of all diagnostic tests performed in clinical laboratories and are characterized by their high throughput capabilities.

We market and sell routine chemistry/immunochemistry instruments under our Dimension^® brand name. We have consistently been a leader in chemistry/immunochemistry instrument consolidation and automation, beginning with the 1998 introduction of the heterogeneous module for our mid-volume Dimension^® RxL analyzer. In 2001 we introduced the Dimension^® Xpand analyzer, which provides the same testing consolidation capability as the Dimension^® RxL analyzer for smaller labs. The continued consolidation of routine chemistry and immunochemistry testing onto a single analyzer continues to represent a significant growth opportunity for us. We believe that our Dimension^® line of products offers customers a broad test menu, technological efficiencies over competitive systems, and the lowest total-cost solution for performing these two categories of tests since the analyzers have the potential to improve test turnaround times and significantly reduce labor requirements in the laboratory. We are continually enhancing our existing menu of over 95 tests, and we are developing new ones to expand our capabilities in this largest segment of the clinical diagnostics market.

In 2003, we introduced the Dimension^® RxLMax^® analyzer, the most recent version of our mid-volume chemistry/immunochemistry analyzer, which included several significant system improvements. Similarly, at the end of 2004, we introduced our latest low-volume system, the Dimension^® Xpand^® Plus analyzer, which included enhancements similar to our mid-volume instrument.

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In 2002, we introduced the StreamLAB^® workcell, which had the capability to connect up to four Dimension^® systems with onboard pre-analytical capabilities of accessioning, centrifugation and aliquotting. The StreamLAB workcell automates steps that are essential to laboratory processes for producing test results. At the end of 2004, we further enhanced the StreamLAB workcell by providing connectivity for up to six Dimension^® systems and to the Immulite^®  immunoassay systems manufactured by Diagnostics Products Corporation. This workcell provides our customers in high-volume laboratories an integrated single platform solution.

Our approach to workstation consolidation is unique, integrating the immunoassay, or IA, detection capability into the chemistry analyzer itself rather than simply connecting separate chemistry and IA instruments with a common patient sample/test tube handling system. Integration of testing into one analyzer provides greater asset productivity, lower labor costs and faster turnaround times. Our strong reputation for servicing our instruments and our commitment to improving operating efficiency are among the reasons why the Dimension product line remains attractive to clinical laboratories. Staffing and budget concerns in clinical laboratories worldwide suggest that laboratory process integration and instrument consolidation will become even more compelling to our customers over time.

Building on our success in workstation consolidation, we are currently developing a next-generation system for high-volume laboratories named the Dimension Vista™ System. The initial version of the system will serve the high-volume testing segment, which represents nearly half of the $10 billion chemistry/immunochemistry testing market, and the system architecture will provide the basic building blocks for new consolidated instruments designed to serve the mid- and low-volume laboratories. We currently do not have a product offering that specifically serves the high-volume chemistry/immunochemistry market. In addition to targeting further labor efficiencies in the lab, the Dimension Vista™ System will also have the unique capability of consolidating a currently independent testing discipline, nephelometric plasma protein testing, by integrating a nephelometer into the system. We anticipate commercialization of the Dimension Vista™ System in the second half of 2006. See “Factors That Could Affect Future Results” at the end of Item 1 for a discussion of risk factors related to the release of new products.

Cardiac.   Cardiac tests are used for both risk assessment and diagnosis of cardiovascular disease (“CVD”). The cardiac market is one of the highest growth segments of the broader immunochemistry market, growing at approximately 15% annually. We have a leading share in the market for cardiac tests and were one of the first to introduce a widely adopted testing system for the cardiac proteins Troponin I, CK-MB and Myoglobin. In 2004 we introduced the NT-proBNP test for our Dimension^® systems, a rapidly growing cardiac marker used to assist physicians in the diagnosis of congestive heart failure (CHF). The combination of rapid and accurate tests for these CVD markers has allowed for rapid diagnosis of cardiac disease and has enhanced the physician’s ability for triage and diagnosis of chest pain in patients.

We offer a unique combination of platforms for performing cardiac tests. In the central laboratory, the Dimension^® analyzers, BN™II, and BN Prospec^® analyzers offer tests for cardiac risk assessment such as cholesterol, HDL, LDL, apolipoprotein, and high sensitivity CRP. We have led the development of the market for high sensitivity CRP testing for cardiac application. In addition to cardiac risk assessment tests, the Dimension^® analyzers’ menu also includes the four major cardiac disease tests: Troponin I, CK-MB, Myoglobin for cardiac necrosis, and NT-proBNP for helping in the diagnosis of CHF. In the acute care/near patient setting, we offer cardiac testing on our Stratus^® CS Acute Care™ Diagnostic System. This system provides Dade Behring with a unique position in the market, being able to standardize cardiac testing between its laboratory and acute care platforms. It is important to physicians to have the confidence that the results from the acute care platform will clinically match those that come from the laboratory.

Launched in 1998, the Stratus^® CS analyzer represents the industry’s first quantitative, near-patient cardiac instrument. The Stratus^® CS system’s rapid result time of approximately 15 minutes in the acute

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care setting provides physicians with cardiac test results in under the 30-60 minute recommendation of cardiac societies such as American Heart Association, American College of Cardiologists, and European Society of Cardiologists. The analytical performance (sensitivity of <0.03 nanograms per milliliter and precision of <10% coefficient of variation at the 99^th percentile of normal) of the Stratus^® CS Acute Care™ Troponin I test along with its rapid results, offers significant potential cost savings for healthcare providers and improves patient outcomes by identifying acute coronary syndrome (ACS) patients faster and more accurately. Currently, the average cost to rule out myocardial infarction in a patient with chest pain ranges from $1,300 to $5,600. The Stratus^® CS analyzer can achieve a result in approximately 15 minutes at a cost of less than $20 per test, which saves significant time over conventional diagnostic measures, reduces hospital lengths of stay, avoids unnecessary testing and thereby reduces healthcare costs significantly. The Stratus^® CS analyzer menu also includes the Acute Care™ D-dimer test, which has been shown to aid in the diagnosis of pulmonary embolism (PE). PE patients often present the same symptoms as ACS patients. The combination of D-dimer testing with other cardiac testing enables the physician to better differentiate the cause of a patient’s chest pain allowing for proper treatment of the patient. We anticipate adding the NT-proBNP test to the Stratus CS menu in early 2005.

Plasma Protein.   Plasma protein systems test serum, plasma, urine or cerebral spinal fluid to help diagnose diseases, such as coronary heart diseases and rheumatic diseases, as well as to detect disorders, such as tumors, renal failure and malnutrition. Plasma protein tests are conducted on two types of instrument platforms, (1) routine chemistry/immunochemistry analyzers such as our Dimension^® instrument line and (2) dedicated nephelometers such as our BN™II and BN Prospec^® instruments. While a higher proportion of protein tests are run on routine chemistry/immunochemistry systems, the high sensitivity and broad test menu make nephelometers a practical option for customers who need this utility.

We are the market leader in the worldwide nephelometric plasma protein testing. We offer four dedicated plasma protein analyzers:

·       the BN™II analyzer, targeted at high-volume hospital and commercial labs;

·       the BN™100 and BN Prospec^® analyzers, sold to low- and mid-volume labs; and

·       the TurbiTime™ System, a manual instrument sold to low-volume hospitals and private labs.

The BN™II analyzer, released in 1995, continues to be successful in the market because of its high reliability, broad test menu and competitive throughput capabilities. We launched the BN Prospec^® analyzer in 2000. It has also been well received by customers for similar reasons and we have made over 1,000 placements worldwide.

We offer a broad test menu of over 60 assays and applications, which covers a wide spectrum of plasma protein tests. We also offer some key innovative nephelometric assays such as high sensitivity CRP (CardioPhase hs CRP), Cystatin C, enhanced sensitive CSF assays for IgM and IgA and Soluble Transferrin Receptor (sTfR).

In 2004, our high sensitivity CRP (hs CRP) assay was the first to receive FDA clearance for cardiovascular risk assessment and risk stratification claims. When used in conjunction with traditional clinical laboratory evaluation of acute coronary syndromes (ACS), our CardioPhase hs CRP assay may be useful as an independent marker of prognosis for recurrent events in patients with stable coronary disease or ACS.

The use of serum Cystatin C as a marker of glomerular filtration rate (GFR) offers significant advantages over conventional methods for assessing renal functions in patients suspected of having kidney disease. Cystatin values are independent of gender and age. It is also not affected by body mass, infections, diet or drugs. Because of the above, Cystain C is a sensitive and reliable marker for GFR, which can be measured quickly on our BN System platforms.

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The quantification of IgM and IgA proteins aids in the evaluation of patients immune response. Sensitive assays are very important and critical for diagnosis and treatment and we have developed and introduced in 2004 enhanced sensitive Latex assays for IgM and IgA.

Soluble Transferrin Receptor assay is useful in differentiation between iron deficiency anemia and anemia of chronic disease. It is also useful for the assessment of iron status in athletes, during pregnancy, chronic inflammation or in malignant disease and in monitoring of Erythropoetin therapy. Our nephelometric assay has been well received in the market.

Given our long history of leadership in nephelometric protein testing, and our success at introducing and developing markets for critical, protein-based immunoassays such as Myoglobin and Troponin-I, we are aggressively assessing options for connecting our historical strength to the advances that we expect from proteomics research. In addition to stepping up our licensing capabilities, we are evaluating our platform strategy to determine how the BN Prospec^®-class analyzer and next-generation Dimension^® analyzers can be equipped to handle the sensitivity requirements of new markers that are discovered through proteomics research.

Drugs of Abuse Testing (“DAT”)/Therapeutic Drug Monitoring (“TDM”).   Drug tests are used to measure the level of therapeutic drugs or presence of drugs of abuse, usually in either blood or urine. TDM tests assist physicians in ensuring that the level of therapeutic drugs patients receive do not exceed safe ranges in the bloodstream. An example of a TDM application is testing performed on transplant patients to monitor the level of immunosuppressive drugs that they are given. Drugs of abuse tests screen for the presence of illicit substances such as cocaine and marijuana. Because of their range of application, drugs tests are used at a variety of sites, from clinical laboratories to employers’ offices. We are a worldwide market leader in drug testing with a comprehensive menu of tests.

Dade Behring offers drug tests on its Dimension^® analyzers. In 2003, we also began marketing the mid- to high-volume V-Twin™ analyzer for the Syva^® product line, and in 2004 we began marketing the mid-volume Viva™E analyzer. These systems are manufactured by Vital Scientific N.V. and distributed worldwide by us. Both are configured to run our Emit^®-branded drugs of abuse and serum toxicology assays, as well as specimen validity tests. Vital Scientific is developing an easy to use, compact benchtop analyzer dedicated to drug testing, which we expect to begin marketing in late 2005 or early 2006. We also have ready-to-use liquid DAT reagents for a broad range of other commercially available instrument platforms. This makes Syva an attractive choice for DAT assays among open-system reagent providers.

Hemostasis.   Hemostasis testing measures a patient’s ability to form and dissolve blood clots, a critical factor in the stabilization of the cardiovascular system. Hemostasis testing can be segmented into routine screening and specialty tests. Routine hemostasis tests are typically performed before and during surgical procedures. Hemostasis testing is also essential in post-surgical treatments for patients with cardiovascular disorders such as monitoring treatments to “thin” the blood to prevent clotting, and for patients with coagulation disorders such as hemophilia. Specialty tests are performed to further characterize congenital disease states.

With revenue of approximately $277 million during 2004, we continued to maintain a global leadership position in hemostasis testing through our commitment to innovation of new and improved products and services. We offer a broad range of instruments which perform both routine and specialty tests to meet the needs of customers from small hospitals to large reference labs.

The hemostasis product line continues to lead competitors in number of new systems placed, and in overall reagent usage and marketshare. Dade Behring offers its BCS analyzer to high-volume and specialty assay labs, and distributes instruments manufactured by Sysmex Corporation to the high-volume routine assay reference lab market and to mid-volume laboratories, such as community hospitals.

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D-Dimer testing is the most important recent assay advancement in the field of hemostasis testing due to its negative predictive value in ruling out clot formation. Dade Behring’s Advanced D-Dimer Assay (D-Dimer Plus outside U.S.) is an aid in the diagnosis of venous thromboembolic diseases, such as Deep Vein Thrombosis (DVT) and Pulmonary Embolism (PE). Our instrument offering allows labs of all sizes to offer this important assay as part of their coagulation testing menu.

The PFA 100 analyzer is a fully automated system which determines platelet function by mimicking how platelets adhere, aggregate, and form a plug in the presence of an agonist, either collagen ADP or collagen epinephrine. The result is known as closure time, and has utility as an excellent screen for the bleeding disorder von Willebrand’s disease, as well as new cardiac utility in measuring platelets’ functional response to aspirin. We believe this will be a high-growth market as new anti-platelet therapies are developed and introduced.

Market growth is expected to come from a continued growth in the number of surgeries performed as well as from new hemostasis tests, which more accurately measure blood clotting and allow for improved patient treatment. Since hemostasis is a critical component of cardiovascular disease treatment, pharmaceutical companies are currently conducting significant research directed at modulating hemostasis, which could lead to either increased or decreased testing as new pharmaceuticals are introduced.

Microbiology.   We serve the automated and manual Identification/Antibiotic Susceptibility Testing (ID/AST) microbiology market with our MicroScan^® products. Microbiology laboratories use MicroScan^® products to identify infection-causing bacteria such as streptococci and staphylococci, and to determine the minimum concentration of antibiotic such as erythromycin and ampicillin, necessary to inhibit or kill the bacteria. This information is critical to the optimum management of patient therapy. MicroScan revenues were approximately $153 million during 2004, and were derived almost entirely from the automated portion of the ID/AST market. The market for automated ID/AST testing is approximately $400 million within an overall microbiology market of $1.5 billion.

At the core of our product line is a patented dry reagent panel. Available as individual testing components, our combination panels provide both organism identification and the susceptibility information using a broad selection of antibiotics to meet formulary needs and streamlined workflow for operator efficiency.  Our MicroScan WalkAway^® 40SI analyzer and WalkAway^® 96SI analyzer are fully automated systems which utilize a dual technology optic system to process colorimetric and fluorogenic panel types simultaneously. The autoSCAN^®-4 analyzer provides semi-automated processing solutions for low-volume laboratories’ conventional testing needs. All of our analyzers are  supported by our MicroScan Microbiology Systems - LabPro Information Management System and our optional Alert System. Designed by microbiologists, these informatics tools provide customizable functionality to enhance management of test results.

We are a leader in automated ID/AST microbiology market. We have been able to maintain this position by focusing on higher-growth non-U.S. markets and developing improved capabilities for our instrumentation, software and panels in an effort to help laboratories reduce their overall costs. In the United States, we continue to secure business through the promotion of our conventional technology, which utilizes direct susceptibility testing methods and results in optimal detection of emerging antimicrobial resistance.  MicroScan^® systems were the first automated systems to detect both vancomycin-intermediate and vancomycin-resistant Staphylococcus aureus during routine testing, thus demonstrating our leadership in providing highly accurate susceptibility test results. In 2004, we introduced our Synergies plus™  panels, which offer 2 hour organism identification and “read when ready” antibiotic susceptibility test results. This new line of panels and software will provide more rapid test results on those organisms slow to express resistance and enhance patient outcomes, without compromising our reputation for accuracy.

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Continued evolutions in the microbiology testing market have been driven primarily by advances in automation, new antibiotics, the complexity of various microbes, and the increasing resistance of microbes to antibiotics.

Infectious Disease Diagnostics.   Infectious disease diagnostic systems test for the presence of infectious microorganisms. This market consists of bacteriology, parasitology and virology testing, including HIV and hepatitis testing. These tests are used not only to diagnose disease, but also as screening tests in order to insure a safe blood supply.

We have a niche position in infectious disease diagnostics. Infectious disease testing is one of the largest segments of the diagnostics testing market, but accounted for approximately $84 million or 5% of our revenue during 2004. The microtitre plate, or MTP, subsegment, manual and semi-automated, makes up approximately one-third of the immunoassay testing in this segment. MTP is a high-throughput, low cost testing method, ideal for blood banks. In the European MTP segment, our BEP systems are used by more laboratories than any other batch analyzer. In addition, we possess a strong intellectual property position for HIV-O, a variant of HIV recently discovered. Due to the increased prevalence of HIV-O, any future HIV testing platform will need to include HIV-O to offer comprehensive HIV testing capability. We continue to invest in expanded test menu capabilities for our existing instrument line and launched our BEP^®-2000 and Quadriga instruments in 1999 and 2000, respectively, to allow us to better serve the high-volume blood bank market. These instruments have met with positive acceptance in a number of European blood banks.

Sales and Marketing

We have a global customer management organization that employs approximately 2,800 people worldwide. Our global customer management organization includes elements beyond traditional sales representatives and marketing personnel and includes healthcare consultants, clinical quality initiatives managers, field service engineers, national accounts/GPO (group purchasing organization) management, integrated delivery networks (IDN) management, inside sales, clinical application specialists, customer service representatives, technical assistance, customer operations, pricing analysts and field sales and service management.

Our global customer management executives have long tenure both in the clinical diagnostics industry and with Dade Behring. Similarly, the experience profile of our customer contact personnel is generally one of long service in the industry and with Dade Behring. We utilize a generalist sales force approach, but all countries with significant sales of specific products have specialists who are trained to service specific product lines. Because of the sales volume and market penetration of our chemistry/immunochemistry, microbiology, hemostasis, cardiac risk assessment, protein and therapeutic drug products, most sales representatives, specialists and generalists are familiar with the features and benefits of these products.

We use a dedicated health systems sales team in the United States that focuses exclusively on serving the larger hospital networks and reference laboratories, which represent an increasingly important portion of the customer base as healthcare delivery undergoes continued consolidation. Our products are presented to customers through most of the larger group purchasing arrangements serving hospital and reference laboratories. Our health systems sales organization provides overlay support for individual sales representatives.

Our key focus is on providing solutions to the challenges our customers are faced within their laboratories. We have developed both healthcare consulting and clinical quality initiative organizations to

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identify and find ways to provide customized solutions for our customers. Among others, areas we focus on include: workstation consolidation, patient specimen filing and storage, workflow analysis, improved testing and turnaround, and ways to insure integrity in patient information.

We have a long history and strong reputation in the clinical diagnostics industry for delivering among the highest quality customer satisfaction related to our sales and service organization.

Research and Development

We conduct research and development in the United States and in Germany. Research and development activities are grouped into two primary categories across all product segments: instrument platform development and test menu development. As of January 31, 2005, there were approximately 600 employees involved in our research and development efforts worldwide.

Our instrument platform development efforts are focused on the design of new instrumentation and software that brings increased automation and functionality to the clinical laboratory operation. Customers value broad test menus, quick turnaround of patient samples, integration of multiple laboratory functions, automation of non value-added activities, minimal space utilization, ease of use and the opportunity to lower operating costs. Our test menu development efforts seek to improve the efficacy of existing products and to develop new tests that extend our existing product offerings.

Our research and development teams are skilled in a number of engineering and scientific disciplines including focus areas of chemistry/immunochemistry, microbiology, hemostasis, informatics, applying robotics to sample processing and systems engineering. Our products are developed internally using a multifunctional team approach which integrates our internal capabilities of engineering and assay development with regulatory and quality systems, marketing, technical support and manufacturing. Although we continue to develop or license all of our hemostasis reagents and controls, in recent years, new hemostasis instruments have been sourced through an external instrumentation partner using a similar approach.

Research and development expense was $134.0 million in 2004, as compared to $117.5 million in 2003 and $94.1 million in 2002.

Patents, Trademarks and Licenses

We own or have licensed over 2,500 patents in the United States and other countries that relate to our products and businesses and have also developed brand names and trademarks for our products. We own numerous United States and non-U.S. registered trademarks and service marks and have applications for the registration of trademarks and service marks pending around the world. We also own several United States copyright registrations. In addition, we own a wide array of unpatented proprietary technology and know-how. Further, we license certain intellectual property rights from third parties. Our ability to compete effectively depends in part on our ability to maintain the proprietary nature of our owned and licensed intellectual property. In each of our business segments, these patents, patent applications, trademarks, copyrights and licenses are, in the aggregate, of significant importance to our business. However, we believe that no single patent, trademark or copyright (or related group of patents, trademarks or copyrights) is material in relation to our business as a whole.

Competition

The clinical diagnostics industry is highly competitive, however, there are substantial barriers to entry including the necessity for significant sales, service and distribution infrastructure; research and development infrastructure that requires engineering and informatics skills necessary to design and commercialize complex instruments and the life science skills necessary to develop the diagnostic tests; and

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finally the highly regulated environment for our products. We encounter competition from U.S and non-U.S. manufacturers who compete in some or all of the markets we serve. Some of our competitors are large diversified healthcare companies with substantial resources. We believe that in recent years, the key competitive factors for diagnostic testing products have been quality, service, price and ease of use. For automated and consolidated instrument platforms, menu breadth is of increasing importance.

Our competitors include Abbott Laboratories, Bayer AG, Beckman Coulter, Becton Dickinson, bioMerieux, Johnson & Johnson, Roche and Diagnostica Stago.

Regulatory Matters

Most aspects of our business are subject to some degree of government regulation in the countries in which we operate. In addition to regulations intended to ensure product safety and effectiveness, our business is subject to regulation concerned with protecting the environment and occupational health and safety. For some products, and in some countries, government regulation is significant and, in general, there is a trend towards more stringent regulation. Our policy is to comply fully with all regulatory requirements applying to our products and operations. Governmental regulatory actions can result in the recall or seizure of products, suspension or revocation of the authority necessary for production or sale, and other civil, monetary and criminal sanctions.

In the United States, the medical device and clinical diagnostic industries have long been subject to regulation by various federal, state and local agencies, primarily regarding product manufacturing, safety, efficacy and labeling. Government agencies in the United States as well as other countries have expressed concern about costs of health care and in some cases have focused attention on diagnostic test utilization. Regulations in these areas already exist in some countries and may be expanded significantly in the United States and other countries in the future.

We devote significant time, effort and expense to address regulatory requirements applicable to our business. Our quality and regulatory compliance training and well established manufacturing practices have consistently allowed us to successfully introduce and maintain the manufacturing and distribution of instrument and reagent products that satisfy regulatory standards as well as our customers’ requirements for quality.

Although we are unable to predict the extent to which our business may be affected by future regulatory developments, we expect that our own business would not be disproportionately burdened by future regulation. We believe that the integration we have achieved between our engineering and life sciences capabilities and our substantial experience addressing and accommodating regulatory requirements and restrictions on our operations throughout the world will allow us to continue to develop and introduce new and improved products and enable us to compete effectively within this environment.

Raw Materials

We purchase raw materials, which include various biological and chemical products from a variety of suppliers. While some of our principal raw materials are available from multiple sources, for various reasons (e.g., quality assurance, cost effectiveness or regulatory approval requirements), we elect to purchase certain raw materials from sole suppliers. Other raw materials used are not available from multiple sources. In some cases where there are regulatory requirements relating to qualification of suppliers, we may not be able to establish additional or replacement sources on a timely basis. While we work closely with our suppliers to ensure continuity of supply, the termination, reduction or interruption in supply of these sole-sourced raw materials could affect our ability to manufacture and sell certain of our products and to achieve anticipated production and sales levels.

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Employees

As of January 31, 2005, we had approximately 6,000 full-time and part-time employees of which approximately 3,200 were in the United States with the remainder serving at various locations outside of the United States. Our U.S. employees are not represented by collective bargaining groups. We have had no significant difficulty attracting qualified professionals. We consider our relationship with our employees to be very positive.

General and Internet Information

Dade Behring Holdings, Inc. is a corporation organized on September 23, 1994 under the laws of the State of Delaware. Our principal executive offices are located at 1717 Deerfield Road, Deerfield, Illinois 60015-0778 and our telephone number is (847) 267-5300. This annual report on Form 10-K, our quarterly reports on Form 10-Q, and our current reports on Form 8-K, SEC Forms 3, 4 and 5 and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, will be made available free of charge through the Investor Relations section of our Internet website (http://www.dadebehring.com) as soon as practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission.

Executive Officers of Dade Behring Holdings, Inc.

The following is a list of the executive officers of Dade Behring Holdings, Inc. as of January 31, 2005, showing their ages, present positions and offices with Dade Behring and their business experience during the past five or more years.

James W.P. Reid-Anderson, 45, Chairman of the Board, President and Chief Executive Officer

Mr. Reid-Anderson was elected to the Board of Directors in 2000 and was named Chairman of the Board of Directors in October 2002. Mr. Reid Anderson has served as President and Chief Executive Officer since September 2000. Mr. Reid-Anderson joined us in 1996 as Executive Vice President and Chief Financial Officer for Dade Behring Inc. and became Chief Administrative Officer and Chief Financial Officer in September 1997, responsible for all headquarters functions on the merger of Dade and Behring. In April 1999, Mr. Reid-Anderson was promoted to President and Chief Operating Officer. From 1994 to 1996, Mr. Reid-Anderson worked for Wilson Sporting Goods where he served as Chief Operating Officer and Chief Administrative Officer. In addition, Mr. Reid-Anderson had responsibility for their international unit. He also held financial positions of increasing responsibility at Pepsico, Inc., Grand Metropolitan PLC and Mobil Oil Corporation, with roles based in Europe, Asia and North America. Mr. Reid-Anderson is a fellow of the Association of Chartered Certified Accountants and holds a degree with honors from the University of Birmingham in England.

Dominick M. Quinn, 49, Executive Vice President

Mr. Quinn was appointed Executive Vice President of Dade Behring Holdings, Inc. in December 2002. Mr. Quinn is also President, Global Customer Management, of Dade Behring Inc., a position to which he was appointed in January 2002. Mr. Quinn joined us in July 1998 as Dade Behring Inc. Group President, Biology and became President, EMA in March 1999, responsible for all commercial operations within Europe, the Middle East and Africa. In October 2000, he was promoted to President, International, responsible for all commercial operations outside of the U.S. and Canada. Prior to joining us in 1998, Mr. Quinn worked as Global President, Hospital Business, for Mallinckrodt Medical, based in Hennef (Germany), a medical device company. Prior to joining Mallinckrodt Medical in 1982, Mr. Quinn was Controller for Abbott Laboratories’ operations in Ireland. Mr. Quinn earned a Bachelor of Science degree in economics from Cork University in Ireland in 1976. He continued his studies to become a

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Chartered Management Accountant, and was subsequently awarded a fellowship of the Institute of Chartered Management Accountants (F.C.M.A.).

Hiroshi Uchida, 45, Executive Vice President

Mr. Uchida was named Executive Vice President of Dade Behring Holdings, Inc. in December 2002. Mr. Uchida is also President, Global Manufacturing Operations, of Dade Behring Inc., a position to which he was appointed in January 2002. Previously, Mr. Uchida held positions as President of North America, President of Asia and Latin America, President of Asia, and Vice President and General Manager for the Asia-Pacific region for Dade Behring Inc., since joining us in 1997. Before that time Mr. Uchida served as a Director with Arthur D. Little, heading the Asia Pacific health-care practice, and Vice President at Bain Consulting. He holds Ph.D. and M.A. degrees from Harvard University and a B.A. degree from Brown University.

Mark Wolsey-Paige, 43, Executive Vice President

Mr. Wolsey-Paige was named Executive Vice President of Dade Behring Holdings, Inc. in December 2002. Mr. Wolsey-Paige is responsible for the global research and development function and is also responsible for business development, strategic planning and market research. Mr. Wolsey-Paige was part of the team that formed Dade Behring Inc. through the acquisition of the diagnostic business of Baxter International Inc. in 1994. After the duPont Diagnostics acquisition, Mr. Wolsey-Paige was responsible for marketing and new product development of all chemistry product lines, including Dimension^®. In May 2000, Mr. Wolsey-Paige became Senior Vice President, Strategy and Business Development. In December of that year, he also became responsible for legal and corporate research and development. In 2002 Mr. Wolsey-Paige led Dade Behring’s marketing function. Mr. Wolsey-Paige was appointed Senior Vice President, Strategy and Technology for Dade Behring Inc. on January 1, 2003, and now is responsible for research and development, business development and strategic planning. Prior to joining us, Mr. Wolsey-Paige was a consultant at Bain & Company in Boston. Mr. Wolsey-Paige holds a M.B.A. from Harvard University and a B.S.B.A. from Washington University.

John M. Duffey, 44, Senior Vice President and Chief Financial Officer

Mr. Duffey was appointed Senior Vice President and Chief Financial Officer of Dade Behring Holdings, Inc. in September 2001 and is responsible for finance, legal and investor relations. Mr. Duffey joined us in 1995 as Dade Behring Inc. Vice President, Tax. In January 1997, Mr. Duffey was promoted to Corporate Vice President, Financial Services, having responsibility for Shared Services, Tax and Internal Audit. In May 1999, he was promoted to Corporate Vice President and Controller and became Senior Vice President and Controller in January 2001. Prior to joining us in 1995, Mr. Duffey worked for the Chicago office of Price Waterhouse. Mr. Duffey’s thirteen years at Price Waterhouse included a tour-of-duty in the firm’s Washington D.C. National Office in the Accounting Methods Group. Mr. Duffey is a Certified Public Accountant and holds a B.A. in Accounting from Michigan State University.

Factors That Could Affect Future Results

Because of the following factors, as well as other variables affecting our operating results, past financial performance may not be a reliable indicator of future performance, and historical trends should not be used to anticipate results or trends in future periods.

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Our failure to compete with other manufacturers in the highly competitive clinical diagnostics industry, some of which have greater financial resources than we do, could harm our ability to retain existing customers and obtain future business.

The clinical diagnostics industry is highly competitive and we encounter competition from several international manufacturers in both U.S. and non-U.S. markets. Some of our competitors are significantly larger and have greater resources, financial and other, than we do. Moreover, we encounter different competitors in each of our key product lines and we cannot assure you that we will not encounter increased competition in the future that could have a material adverse effect on our business.

Our profit margins and business approach may be adversely affected by potential healthcare reform.

Substantially all of our sales are in the clinical diagnostics industry. Healthcare reform and the growth of managed care organizations have been considerable forces in the diagnostics industry. These forces continue to place constraints on the levels of overall pricing and thus could have a material adverse effect on the profit margins of our products. Such continuing changes in the United States healthcare market could also force us to alter our approach to selling, marketing, distributing and servicing our customer base. In and outside the United States, including Germany and Japan in particular, changes to government reimbursement policies could reduce the funding that healthcare service providers have available for diagnostic product expenditures, which could have a material adverse impact on our sales and /or profit margin.

We make significant investments in research and development, but there is no guarantee that any of these investments will ultimately result in a commercial product that will generate revenues.

Our products require the integration of many component systems and processes including electromechanical, information systems, and biochemical reactions or assays. Each year we expend significant resources in the development of new products that incorporate these systems. For the year ended December 31, 2004, we spent approximately $134 million on research and development expenses. Notwithstanding these investments, we may be unable to successfully design or develop any or all of these components or to integrate them into viable commercial systems. We might also encounter substantial delays in getting products to market in a timely fashion.

Changes in our business strategy or plans may adversely affect our operating results and financial condition.

If our business strategy or plans change, whether in response to changes in economic conditions or developments in the diagnostics industry, or otherwise, we may be required to expend significantly more resources than planned to develop and implement any new business strategy or plans. The expense of such change could adversely affect our operating results and financial condition.

Because a significant portion of our business is conducted outside the United States, fluctuations in foreign currency exchange rates could adversely affect our results of operations.

Approximately 54% of our sales and a significant portion of our earnings are attributable to operations conducted outside of the United States. The United States dollar value of sales and earnings of these operations varies with currency exchange rate fluctuations. Changes in certain foreign currency exchange rates could have an adverse effect on our ability to meet interest and principal obligations on our United States dollar-denominated debt. Our planned hedging of other currencies against the United States dollar may not adequately reduce exposure to currency exchange fluctuation.

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Our ability to compete depends in part on our ability to protect our intellectual property.

We own or license over 2,500 United States and non-U.S. patents and have numerous patent applications pending around the world. We own numerous United States and non-U.S. registered trademarks and service marks and have applications for the registration of trademarks and service marks pending around the world. We also own several United States copyright registrations. In addition, we own a wide array of unpatented proprietary technology and know-how. Further, we license certain intellectual property rights from third parties. Our ability to compete depends in part on our ability to maintain the proprietary nature of our owned and licensed intellectual property. There can be no assurance as to the degree of protection offered by the various patents, the likelihood that patents will be issued on pending patent applications, or, with regard to the licensed intellectual property, that the licenses will not be terminated. Furthermore, there can be no assurance that others will not develop around the patented aspects of any of our current or proposed products, independently develop technology or know-how that is the same as or competitive with our technology and know-how or otherwise obtain access to our intellectual property. If we are unable to maintain the proprietary nature of our intellectual property and our significant current or proposed products, our revenues and results of operations may be adversely affected.

We are subject to regulation by various U.S. federal, state and non-U.S. agencies, which requires us to comply with regulations in the design, manufacture and distribution of most of our products and violation of such regulations could adversely affect us.

Most of our products and operations are subject to regulation by the United States Food and Drug Administration, or FDA, and various other federal and state agencies, as well as by a number of non-U.S. governmental agencies. FDA regulations require that most of our new products have pre-marketing approval by the FDA, or prove substantial equivalence through a 510(k) notification and also require that most of our products be manufactured in accordance with Good Manufacturing Practices.

Some products and operations are also subject to regulation by the United States Drug Enforcement Agency, or DEA, and various other federal and state agencies, including the United States Department of Agriculture, or USDA, as well as by a number of non-U.S. governmental agencies. DEA regulations require that we obtain DEA Registrations for the bulk manufacture and handling of controlled substances, and maintain effective controls against diversion. The USDA regulates the importation of animal-sourced materials and the treatment and handling of animals utilized to derive biological materials used in research or production.

Compliance with such regulations substantially increases the time, difficulty and costs incurred in obtaining and maintaining the approval to manufacture and market newly developed and existing products. In addition, government regulatory actions can result in the seizure or recall of products, suspension or revocation of the authority necessary for their production and sale and other civil or criminal sanctions.

We are subject to various environmental and occupational health and safety laws and any violation of these laws could result in liability that could adversely affect us.

We are subject to federal, state and local environmental, health and safety laws and regulations around the globe and are subject to liabilities and compliance costs associated with past and current handling, processing, storing and disposing of hazardous substances and wastes. Our operations are also subject to federal, state and local occupational health and safety laws and regulations in and outside the United States. This requires us to devote significant resources to maintain compliance with applicable environmental and occupational health and safety laws and regulations and manage environmental risks.

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ITEM 2. PROPERTIES.

Our corporate offices are located in Deerfield, Illinois. Our major facilities and their primary operating functions are described in the table below:

Location				Floor Area (Sq. Ft.)		Owned/Leased		Primary Operating Functions
Deerfield, Illinois				107,000		Leased		Office
Glasgow, Delaware				459,000		Owned		Manufacturing, Research & Development, Office
				105,000		Leased		Research & Development
Sacramento, California				87,000		Leased		Manufacuring
				85,000		Owned		Research & Development
Cupertino, California				62,000		Leased		Manufacturing
Newark, Delaware				82,000		Leased		Distribution
Duluth, Georgia				15,000		Leased		Office
Atlanta, Georgia				103,000		Leased		Distribution
Brookfield, Connecticut				100,000		Leased		Manufacturing
Schwalbach, Germany				48,000		Leased		Research & Development
Dortmund, Germany				41,000		Owned		Distribution
Marburg, Germany				455,000		Owned		Manufacuring, Research & Development
Anderlecht, Belgium				37,000		Leased		Distribution
Liederbach, Germany				22,000		Leased		Office
				1,808,000

 

We anticipate that our existing leases will be renegotiated as they expire or that alternative properties can be leased on acceptable terms. Our owned properties are well maintained. We believe that our owned and leased facilities are adequate to support our businesses.

ITEM 3. LEGAL PROCEEDINGS.

From time to time we are plaintiff or defendant in various cases arising out of our usual and customary business. We cannot assure you of the results of pending litigation, but we believe it is remote that any potential liability from these matters will have a material adverse affect on our business, financial condition, operating results or cash flow.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.

No matters were submitted to a vote of our security holders during the quarter ended December 31, 2004.

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PART II

ITEM 5. MARKET FOR THE REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.

Pursuant to the Plan of Reorganization that became effective on October 3, 2002, our previously outstanding common stock was cancelled and we issued 39,929,479 shares of new common stock pursuant to an exemption provided by Section 1145 of the U.S. Bankruptcy Code. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Bankruptcy Proceedings” in Part II, Item 7 for a further discussion.

The new common stock has been publicly traded since October 3, 2002, and has traded on the NASDAQ National Market since February 27, 2003, under the ticker symbol “DADE”. Prior to that date, the new common stock was quoted on the Over-the-Counter market Bulletin Board under the ticker symbol “DBEH.” As of February 28, 2005 there were 13,388 holders of record of our common stock, including Cede & Co., which holds shares on behalf of many beneficial owners. There was no public market for our previously outstanding common stock. The high and low closing sales prices quoted for our common stock for each quarter during the years ended December 31, 2004 and 2003 are presented in the table below.

				Fiscal 2004						Fiscal 2003
Quarter/Period Ended				High			Low			High			Low
December 31				$	57.40		$	51.92		$	35.80		$	29.10
September 30				57.26			42.67			29.46			22.33
June 30				47.73			42.34			24.54			18.48
March 31				44.48			35.16			19.31			15.50

 

We have never declared or paid cash dividends on our new common stock. We currently intend to retain earnings for use in managing our business. In addition, restrictions on our ability to declare and pay dividends on our common stock are described in Note 10 to the Consolidated Financial Statements included in Item 8 of this Annual Report.

ITEM 6. SELECTED FINANCIAL DATA.

The following table presents our selected historical consolidated financial data as of and for the period ended October 1, 2002, and for each of the years in the two-year period ended December 31, 2001 for the Predecessor Company (as defined below) and as of and for the period ended December 31, 2002 and each of the years in the two-year period ended December 31, 2004 for the Successor Company (as defined below), derived from audited consolidated financial statements. The results of operations for any period less than one year are not necessarily indicative of results of operations for a full year. The selected historical data should be read in conjunction with the financial statements and the related notes and other information contained elsewhere in this report, including the information set forth under the heading “Management’s Discussions and Analysis of Financial Condition and Results of Operation.”

As discussed previously, the Debtors filed for bankruptcy protection and emerged on October 3, 2002. Although the Plan of Reorganization became effective on October 3, 2002, for financial reporting convenience purposes, we recorded the adjustments necessitated by the American Institute of Certified Public Accountants Statement of Position 90-7: “Financial Reporting by Entities in Reorganization under the Bankruptcy Code” (“SOP 90-7”) on October 1, 2002. As a result of our emergence from Chapter 11 bankruptcy and the application of fresh-start reporting, our consolidated financial statements for the periods commencing on October 2, 2002 are referred to as the “Successor Company” and are not comparable with any periods prior to October 1, 2002, which are referred to as the “Predecessor Company.” The effects of fresh-start reporting and new accounting pronouncements (see Notes 2 and 3 to our consolidated financial statements) resulted in a new basis of accounting for the Predecessor Company

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on October 2, 2002. All references to the period ended October 1, 2002 (which represents the period from January 1, 2002 through October 1, 2002) and the years ended December 31, 2001 and 2000 are to the Predecessor Company. All references to the period ended December 31, 2002 (which represents the period from October 2, 2002 through December 31, 2002) and the years ended 2003 and 2004 are to the Successor Company.

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		Successor Company																Predecessor Company
		Year Ended December 31,					Year Ended December 31,					Period Ended December 31,						Period Ended October 1,					Year Ended December 31,					Year Ended December 31,
		2004(5)					2003(4)					2002(3)						2002(2)					2001					2000(1)
Statement of Operations Data:
Net sales(6)(7)			$	1,559.8				$	1,436.4				$	347.1					$	934.4				$	1,232.4				$	1,183.7
Cost of goods sold			704.8					678.2					228.8						467.5					595.6					583.4
Gross profit(7)			855.0					758.2					118.3						466.9					636.8					600.3
Marketing and administrative expenses			529.2					493.9					124.5						322.9					432.3					470.8
Research and development expenses			134.0					117.5					28.8						65.3					83.7					103.3
Goodwill amortization expense(10)			—					—					—						—					8.9					5.0
Cost reductions program expense			—					—					—						2.9					11.2					19.2
Restructuring expense, net			—					(0.9		)			—						(2.8		)			12.2					25.3
Income (loss) from operations			191.8					147.7					(35.0		)				78.6					88.5					(23.3		)
Balance sheet restructuring costs(8)			—					—					—						21.2					23.9					—
Reorganization items(9)			—					—					(2.2		)				1,567.5					—					—
Income (loss) before income tax and cumulative effect of change in accounting principle(10)			120.4					74.3					(50.0		)				1,531.2					(93.3		)			(162.6		)
Income (loss) before cumulative effect of change in accounting principle(10)			79.9					48.1					(48.6		)				1,511.1					(101.7		)			(525.8		)
Cumulative effect of change in accounting principle(1)(2)(7)			—					—					—						20.0					—					(6.8		)
Net income (loss)(7)			79.9					48.1					(48.6		)				1,531.1					(101.7		)			(532.6		)
Predecessor Company
Basic earnings per share:
Income (loss) before cumulative effect of change in accounting principle available per:
Class L common share			n/a					n/a					n/a						31.22					(2.08		)			(10.61		)
Common share			n/a					n/a					n/a						30.28					(2.08		)			(10.61		)
Cumulative effect of change in accounting principle per:
Class L common share			n/a					n/a					n/a						.40					—					(.14		)
Common share			n/a					n/a					n/a						.40					—					(.14		)
Net income (loss) available per:
Class L common share			n/a					n/a					n/a						31.62					(2.08		)			(10.75		)
Common share			n/a					n/a					n/a						30.68					(2.08		)			(10.75		)
Diluted earnings per share:
Income (loss) before cumulative effect of change in accounting principle available per:
Class L common share			n/a					n/a					n/a						31.22					(2.08		)			(10.61		)
Common share			n/a					n/a					n/a						25.36					(2.08		)			(10.61		)
Cumulative effect of change in accounting principle per:
Class L common share			n/a					n/a					n/a						.40					—					(.14		)
Common share			n/a					n/a					n/a						.34					—					(.14		)
Net income (loss) available per:
Class L common share			n/a					n/a					n/a						31.62					(2.08		)			(10.75		)
Common share			n/a					n/a					n/a						25.70					(2.08		)			(10.75		)
Successor Company basic net income (loss) per share			$	1.86				$	1.19				$	(1.22	)				n/a					n/a					n/a
Successor Company diluted net income (loss) per share			$	1.76				$	1.15				$	(1.22	)				n/a					n/a					n/a
Balance Sheet Data:
Total assets			$	1,904.4				$	1,971.3				$	1,918.8					$	1,941.5				$	1,141.9				$	1,320.5
Total long-term liabilities			694.2					923.3					1,014.3						997.7					138.0					116.3
Redeemable preferred stock			n/a					n/a					n/a						—					18.7					17.0

 

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(1)    Net loss for the year ended December 31, 2000 includes a $413.9 million valuation reserve adjustment to income tax expense to the beginning of the year balance recorded against the Debtors’ deferred tax assets (see Note 11, “Income Taxes” to our Consolidated Financial Statements) and a $6.8 million charge representing the cumulative effect of a change in accounting principle further discussed in footnote 7 below.

(2)    Net income for the period ended October 1, 2002 (which represents the period from January 1, 2002 through October 1, 2002) includes a cumulative effect of change in accounting principle related to the following. In June 2001, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141, “Business Combinations” which, among other things, requires that upon adoption, unamortized negative goodwill be written off as a change in accounting principle. Unamortized negative goodwill at December 31, 2001 aggregated $20.0 million and was recognized as a cumulative effect of change in accounting principle on January 1, 2002.

(3)    Net loss for the period ended December 31, 2002 (which represents the period from October 2, 2002 through December 31, 2002) includes $57.3 million of incremental expense associated with the sale of inventory stepped-up due to the application of fresh-start reporting and $5.9 million of costs relating to management stock grants.

(4)    Net income for the year ended December 31, 2003 includes $10.5 million of costs relating to stock-based compensation.

(5)    Net income for the year ended December 31, 2004 includes $6.4 million of costs relating to stock-based compensation.

(6)    In consideration of the issuance of Emerging Issues Task Force No. 00-10, “Accounting for Shipping and Handling Fees and Costs,” amounts billed to customers for shipping and handling costs are recorded as a component of net revenue. Prior to the third quarter of 2000, these amounts were reported as a reduction of operating expense. A reclassification of all prior period balances has been made to conform to the current presentation.

(7)    Effective January 1, 2000, we changed our revenue recognition policy to conform to Staff Accounting Bulletin No. 101, “Revenue Recognition in Financial Statements,” and accordingly recorded a $6.8 million charge representing the cumulative effect of the change in accounting principle.

(8)    We have recorded all incremental professional and bank fees associated with the reorganization of our balance sheet incurred prior to the bankruptcy filing on August 1, 2002 in this separate line item on our Consolidated Statement of Operations.

(9)    Reorganization items for the period ended October 1, 2002 include the gain on discharge of debt under the Plan of Reorganization ($786.3 million), and the impact of revaluing our assets and liabilities as required by fresh-start reporting ($816.6 million), offset by the two items discussed next in this note. We have recorded all incremental professional fees and other costs associated with the reorganization of our balance sheet incurred after the bankruptcy filing in this separate line item on our Consolidated Statement of Operations. Additionally, on September 6, 2002, Baxter Healthcare Corporation (“Baxter”) filed objections to our Plan of Reorganization. Baxter objected to the adequacy of the disclosure statement filed with the Bankruptcy Court and to confirmation of the Plan of Reorganization on a number of bases. On September 17, 2002, we agreed to settle all matters with Baxter for $19.0 million, such claim to be treated as a general unsecured claim under the Plan of Reorganization. This settlement is included in reorganization items for the period ended October 1, 2002. For the period ended December 31, 2002, reorganization items include only professional fees.

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(10)  In June 2001, the FASB issued SFAS No. 142, “Goodwill and Other Intangible Assets.” With the adoption of SFAS No. 142 on January 1, 2002, goodwill and other intangible assets that have indefinite useful lives will no longer be subject to amortization, but rather be tested at least annually for impairment. As of January 1, 2002, there was no material impact caused by the initial impairment assessment requirements of SFAS No. 142. The table below depicts what our loss before extraordinary item and cumulative effect of change in accounting principle and net loss would have been for the years ending December 31, 2000 and 2001, had we adjusted for the reduction in net goodwill amortization resulting from the adoption of SFAS No. 142, net of tax effects (in millions).

		Year Ended December 31,
		2001			2000
Loss before extraordinary item and cumulative effect of change in accounting principle
As reported		$	(101.7	)	$	(525.8	)
SFAS No. 142 Adjustment		4.0			5.0
Adjusted		$	(97.7	)	$	(520.8	)
Net loss
As reported		$	(101.7	)	$	(532.6	)
SFAS No. 142 Adjustment		4.0			5.0
Adjusted		$	(97.7	)	$	(527.6	)

 

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION.

In the discussion below, we make comparisons on a “constant currency” basis, which is not a U.S. GAAP defined measure. We believe this measure provides for a meaningful analysis of the underlying activity since it eliminates the effect of changes in foreign currency exchange rates. When making comparisons on a constant currency basis, we have calculated the change by comparing the applicable reported current year amount to the corresponding amount from the prior year in local currency translated at the foreign currency exchange rates for the current year. “Constant currency” as defined or presented by us may not be comparable to similarly titled measures reported by other companies.

Results of Operation

We derive substantially all of our revenue from manufacturing and marketing clinical diagnostic products and services. We are organized functionally and have three reporting segments: Global Customer Management (“GCM”)-Americas, GCM-International and Global Operations. GCM-Americas and GCM-International are our sales and service organizations. For our reporting purposes, Americas includes North and South America. International includes sales and service results from all other continents. The gross profit margin for the two GCM segments are not materially different. Global Operations primarily includes all manufacturing and research and development activities, which occur in the United States and Germany, and accordingly does not recognize significant revenues. Global Operations functions as a cost center. Consequently, a discussion of gross profit for each individual operating segment would not be meaningful. Generally, Global Operations does not incur a material amount of our marketing and administrative expense, but is responsible for virtually all research and development expense. Certain expenses, such as income taxes, general corporate expenses and financing costs, are not allocated to the operating segments.

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Effective January 1, 2004, we implemented changes to the GCM organizational structure. Accordingly, the reporting segments changed at that time. The countries in South America and Central America, as well as Mexico, which were previously managed as part of GCM-International, became part of GCM-North America. GCM-North America was thus renamed GCM-Americas. All periods presented conform to the current organizational structure.

Bankruptcy Proceedings

On August 1, 2002, Dade Behring Holdings, Inc. and certain of its wholly-owned direct and indirect domestic subsidiaries: Dade Behring Inc., Dade MicroScan Inc., Dade Finance, Inc., Syva Diagnostics Holding Co., Syva Childcare Inc., Syva Company, and Chimera Research & Chemical, Inc. filed voluntary petitions for relief under Chapter 11 of the United States Bankruptcy Code, as amended, with the United States Bankruptcy Court for the Northern District of Illinois. We collectively refer to the companies party to the bankruptcy proceedings as the “Debtors.” On August 1, 2002, the Debtors filed their Disclosure Statement for their Joint Chapter 11 Plan of Reorganization, which we call the Plan of Reorganization. No other subsidiaries of Dade Behring Holdings, Inc. filed for relief under the United States Bankruptcy Code.

The Bankruptcy Court confirmed the Plan of Reorganization on September 18, 2002 and the Plan became effective on October 3, 2002. The Plan of Reorganization allowed the Debtors to emerge from bankruptcy with an improved capital structure and, because the Debtors were allowed to continue paying their trade debt on a timely basis during the pendency of the Chapter 11 cases, they had sufficient trade credit to continue their operations in the ordinary course of business. On the effective date of the Plan of Reorganization, Dade Behring Inc. entered into new credit facilities. See “Liquidity and Capital Resources—Credit Facilities” below for further discussion.

As a result of the Plan of Reorganization, significant changes resulted to our capital structure. Although the Plan of Reorganization became effective on October 3, 2002, for financial reporting convenience purposes, we recorded the adjustments necessitated by SOP 90-7 on October 1, 2002. As a result of our emergence from Chapter 11 bankruptcy and the application of fresh-start reporting, our consolidated financial statements for the periods commencing on October 2, 2002 are referred to as the “Successor Company” and are not comparable with any periods prior to October 1, 2002, which are referred to as the “Predecessor Company.” The effects of fresh-start reporting and new accounting pronouncements (see Notes 2 and 3 to our consolidated financial statements) resulted in a new basis of accounting for the Predecessor Company on October 2, 2002. All references to the period ended October 1, 2002 (which represents the period from January 1, 2002 through October 1, 2002) are to the Predecessor Company. All references to the years ended December 31, 2004 and 2003 and the period ended December 31, 2002 (which represents the period from October 2, 2002 through December 31, 2002) are to the Successor Company.

The Plan of Reorganization and associated new senior credit agreement and capital structure provided for the following:

·       A restructuring of our debt occurred that reduced the principal amount of our outstanding indebtedness by approximately $678.2 million and converted that debt into equity. This was accomplished by retiring existing senior debt and 11¹/₈% senior subordinated notes, issuing approximately 40,000,000 shares of new common stock (65,000,000 shares are currently authorized), and replacing the old debt with the new debt described below. The new common stock was issued to the holders of existing senior debt, senior subordinated notes and management.

·       All preferred and common stock existing prior to the filing of the Plan of Reorganization, as well as all options, warrants, and rights to purchase or otherwise receive common stock existing prior to the filing of the Plan of Reorganization were cancelled.

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·       Management incentive plans were established that provided for issuing new common stock and granting new stock option awards to employees. As of October 3, 2002, 16% of our fully diluted new common equity (consisting of 7,529,412 common shares) was set aside for officers and certain other employees for the issuance of options and stock awards. This 16% was fully diluted after giving effect to the issuance of options and stock awards. All stock awards provided for in the management incentive plans, totaling 470,588 shares, have been issued. Nearly all of the 7,058,824 option awards provided for in the management incentive plans have been issued. See Note 12, “Shareholders’ Equity and Redeemable Preferred Stock,” for further information.

·       A new senior revolving credit facility in the amount of $125 million (no borrowings outstanding at December 31, 2004) and a new senior term loan facility of $450 million ($158.6 million outstanding at December 31, 2004) (both of which include the ability to borrow in Euros) were established (collectively the “Credit Facility”). New 11.91% senior subordinated notes of $315.3 million were issued ($275.0 million outstanding at December 31, 2004), which did not result in a cash infusion into the Company. During 2002, 2003 and 2004, our term loan facility was amended. See Note 10, “Debt,” for further discussion.

Reorganization value is defined by SOP 90-7 as “the fair value of the entity before considering liabilities and approximates the amount a willing buyer would pay for the assets of the entity immediately after the restructuring.” Our reorganization value was $1,848.8 million, which was less than the total postpetition liabilities and allowed claims of approximately $2,007.2 million. As a result, we adopted fresh-start reporting on October 1, 2002, as described earlier. The reorganization value was derived by adding the fair value of all our liabilities ($394.8 million) to our enterprise value ($1,454.0 million). The enterprise value can be defined as the total value of Dade Behring Holdings, Inc. and our subsidiaries as a going concern (i.e. the fair value of our assets, net of our liabilities excluding our bank debt and senior subordinated notes). Our enterprise value was determined based on consideration of many factors and by reliance on various valuation techniques, including comparable company analysis and two discounted cash flow analyses. The factors considered included, but were not limited to, the following:

·       Forecasted operating and cash flow results which gave effect to the estimated impact of the changes in our capital structure contemplated by the Plan of Reorganization;

·       Discounted cash flow analyses using an EBITDA multiple or a perpetual growth rate to determine a terminal value;

·       Estimated values of our net operating loss carryforwards;

·       Consideration of market values of comparable companies;

·       Market share and position; and

·       Competition and general economic considerations.

Successor Company Year Ended December 31, 2004 Compared to Year Ended December 31, 2003

Net Sales.   Net sales for the year ended December 31, 2004 totaled $1,559.8 million as compared to $1,436.4 million in the corresponding prior year period.

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Sales for each segment were as follows (in millions):

		Year Ended December 31,
		2004			2003			% Change
GCM-Americas		$	789.3		$	740.0			6.7	%
GCM-International		759.4			684.0				11.0	%
Global Operations		11.1			12.4				(10.5	)%
Total		$	1,559.8		$	1,436.4			8.6	%

 

Adjusting for the favorable impact of foreign currency rate changes of $63.3 million, 2004 sales increased $60.1 million or 4.0% for the year. On a constant currency basis, sales increased $47.7 million or 6.4% in GCM-Americas and increased $14.6 million or 2.0% across GCM-International locations. On a geographic basis, constant currency sales growth was 5.4% in the U.S. and 2.9% across all non-U.S. locations.

The overall sales increase on a constant currency basis can be attributed in part to a $67.5 million or 7.2% increase in core chemistry sales primarily driven by strong Dimension^® product sales globally. The growth can also be attributed in part to a $26.3 million or 10.5% increase in hemostasis product sales, with the strongest growth in GCM-Americas locations, offset by a $29.4 million or 41.7% decrease in sales of mature products/other across all segments. We define mature products as those products and services that we do not consider to be part of our core strategy and as a result, they are expected to have declining sales over time.

Our worldwide installed base of instruments, an important indicator of future growth potential, grew 8.1% during the year ended December 31, 2004. Growth in the installed base of Dimension^® RxL Max and Dimension^® Xpand^® instruments as well as the BN ProSpec^® plasma protein instrument continue to drive much of the reagents, consumables and service sales growth seen in our core chemistry products. Gains in the hemostasis installed base have been driven by successes in CA-1500, CA-560, CA-7000, BCT^®, BCS^® and PFA-100^® instrument placements. For microbiology, new installations of our autoSCAN^® and WalkAway^® series of instruments continue to provide growth.

Beyond the installed base impact, reagents and consumables sales growth has benefited from improved method penetration, which results from utilizing an existing instrument base for additional tests.

Gross Profit.   Gross profit for the year ended December 31, 2004 increased $96.8 million to $855.0 million as compared to $758.2 million in the corresponding prior year period. On a constant currency basis, gross profit increased $58.2 million. Gross profit margin for the year ended December 31, 2004 was 54.8% as compared to 52.8% in the corresponding prior year period. The 2.0 percentage point margin improvement is attributable to 0.3 percentage points of favorable foreign currency changes, 0.6 percentage points of higher reagent, consumables and service revenue in proportion to instrument revenue, and 1.1 percentage points of manufacturing cost efficiencies and favorable product mix. Our reagent, consumables and service revenue has a higher gross profit margin than instrument revenue. Growth in immunoassay and other specialty tests, which typically earn a higher margin than routine tests, also contributed to the improved gross profit margin.

Marketing and Administrative Expenses.   Marketing and administrative expenses for the year ended December 31, 2004 increased $35.3 million to $529.2 million, or 33.9% of sales, as compared to $493.9 million, or 34.4% of sales, in the prior year. Of the total increase, $21.1 million resulted from changes in foreign currency exchange rates and $4.3 million was due to incremental costs associated with our compliance efforts surrounding Section 404 of the Sarbanes-Oxley Act of 2002. These costs were partially offset by a reduction in stock-based compensation expense of $4.1 million from 2003 to 2004. The remaining $14.0 million increase was due to costs to build our sales and marketing infrastructure for the

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Dimension Vista^TM System and investments in current resources and processes to support the higher level of revenues being achieved.

Research and Development Expenses.   Research and development expenses for the year ended December 31, 2004 totaled $134.0 million (8.6% of sales) and were 14.0% higher than the prior year. On a constant currency basis, research and development expenses increased $11.7 million or 9.6% over the corresponding prior year period as we make investments in new product development, such as the high volume Dimension Vista^TM System and new assays for all product lines.

Income from Operations.   Income from operations for the year ended December 31, 2004 increased $44.1 million to $191.8 million compared to $147.7 million in the prior year. The increase in income from operations is due primarily to the impacts of improved gross profit, partially offset by increased marketing and administrative expenses and research and development spending.

Interest Expense.   Interest expense for the year ended December 31, 2004 totaled $64.0 million, a $13.8 million reduction from the prior year. The decrease is primarily due to lower borrowing levels and lower costs of borrowing. Partially offsetting the decrease is an increase of $3.1 in amortization of debt issuance costs. Early repayments on our bank borrowings resulted in $2.4 million of the increase, with the remainder being primarily attributable to amortization of debt costs paid in the fourth quarter of 2003.

Loss on Redemption/Purchase of Senior Subordinated Notes.   During the year ended December 31, 2004, we incurred losses of $5.0 million on the early redemption and purchases of our senior subordinated notes. These losses represent the difference between the carrying value of the notes and either (1) the redemption price (par plus 11.91% of the face value) for notes purchased with stock option or employee stock purchase plan proceeds, or (2) the market price for open market purchases. See “Liquidity and Capital Resources” section below for further discussion.

Income Taxes.   Income tax expense of $40.5 million, representing an effective rate of 33.6%, was recorded in the year ended December 31, 2004, as compared to $26.2 million, representing an effective tax rate of 35.3%, in the year ended December 31, 2003. The decrease in the effective tax rate is primarily due to the changes in certain valuation allowances and the mix in income by jurisdiction.

Net Income.   The net income for the year ended December 31, 2004 was $79.9 million as compared to $48.1 million in the prior year, an increase of $31.8 million, or 66.1%. The increase in net income is primarily attributable to higher income from operations and lower interest expense, partially offset by higher income tax expense.

Successor Company Year Ended December 31, 2003 Compared to Period Ended December 31, 2002

The following discussion compares the operating results of the Successor Company for the year ended December 31, 2003 to the period from October 2, 2002 to December 31, 2002. Throughout this discussion, all references to the period ended December 31, 2002 represent the period from October 2, 2002 to December 31, 2002. This discussion covers two periods of different lengths.

Net Sales.   Net sales of the Successor Company for the year ended December 31, 2003 and the period ended December 31, 2002 totaled $1,436.4 million and $347.1 million, respectively.

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Sales for each segment were as follows (in millions):

		Year ended					% of		Period ended					% of
		December 31, 2003					Total		December 31, 2002					Total
GCM-Americas			$	740.0			51	%		$	188.5			54	%
GCM-International			684.0				48	%		156.6				45	%
Global Operations			12.4				1	%		2.0				1	%
Total			$	1,436.4			100	%		$	347.1			100	%

 

The increase in sales of $1,089.3 million was driven primarily by the difference in the length of the periods (twelve months of sales in 2003 versus approximately three months of sales in 2002). Sales for the year ended December 31, 2003 by product line and as a percentage of total sales were as follows: core chemistry products $903.7 million (63%); hemostasis products $237.0 million (16%); microbiology products $150.5 million (10%); infectious disease diagnostics products $78.9 million (6%); and mature products/other $66.3 million (5%). Sales for the period ended December 31, 2002 by product line and as a percentage of total sales were as follows: core chemistry products $214.2 million (62%); hemostasis products $54.0 million (16%); microbiology products $39.7 million (11%); infectious disease diagnostics products $18.0 million (5%); and mature products/other $21.2 million (6%). Sales of GCM-International represented a higher percentage of our total sales for 2003 as compared to 2002 primarily due to changes in foreign currency exchange rates.

Gross Profit.   Gross profit margins for the year ended December 31, 2003, were 52.8% as compared to 34.1% for the period ended December 31, 2002. Approximately $57 million of inventory step-up under fresh-start reporting, which was recognized as expense in the period ended December 31, 2002, negatively impacted margins for that period by 16.5%. The remaining improvement in margins was primarily due to favorable product mix, cost reduction initiatives at our manufacturing sites and favorable impacts from foreign currency exchange rate changes.

Operating Costs and Expenses.   Marketing and administrative expenses for the year ended December 31, 2003, totaled $493.9 million or 34.4% of sales as compared to $124.5 million or 35.9% of sales for the period ended December 31, 2002. Non-cash charges of $10.5 million and $5.9 million, respectively, for stock based compensation expense relating to stock options issued and stock grants made to management negatively impacted marketing and administrative expenses as a percentage of sales by 0.7% and 1.7% for the year ended December 31, 2003 and the period ended December 31, 2002, respectively. Research and development expenses for the year ended December 31, 2003 were $117.5 million or 8.2% of sales as compared to $28.8 million or 8.3% of sales for the period ended December 31, 2002.

Income (Loss) from Operations.   Income from operations for the year ended December 31, 2003 was $147.7 million compared to a loss from operations of $35.0 million for the period ended December 31, 2002. The increase in operating income is attributable primarily to the different lengths of the periods and the absence of fresh-start reporting adjustments in 2003.

Interest Expense.   Interest expense for the year ended December 31, 2003 totaled $77.8 million compared to $19.5 million for the period ended December 31, 2002. The increase in interest expense is primarily attributable to the different lengths of the periods.

Income Tax Expense.   Income tax expense of $26.2 million, representing an effective rate of 35.3%, was recorded in the year ended December 31, 2003, as compared to an income tax benefit of $1.4 million, which represents an effective rate of 2.8%, in the period ended December 31, 2002. The recording of valuation allowances, the accrual for unremitted earnings, and income from non-U.S. sources negatively impacted the effective rate in the period ended December 31, 2002.

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Net Income.   Net income was $48.1 million for the year ended December 31, 2003 compared to a net loss of $48.6 million for the period ended December 31, 2002. The increase in net income is primarily due to increased sales as a result of different period lengths, increased gross profit margin percentage, the absence of fresh-start reporting adjustments in 2003, and decreased marketing and administrative expenses as a percentage of sales.

Successor Company Year Ended December 31, 2003 Compared to Combined Year Ended December 31, 2002

The combining of successor and predecessor periods does not result in a presentation that is in accordance with generally accepted accounting principles. However, we believe such results will provide meaningful comparisons for the items listed below, which are generally unaffected by changes to our capital structure and the adoption of fresh-start reporting. In order to compare these line items for the years ended December 31, 2003 and 2002, for purposes of the following discussion, the operating results of the Successor Company for the period ended December 31, 2002 (which represents the period from October 2, 2002 through December 31, 2002) have been combined with the operating results of the Predecessor Company for the period ended October 1, 2002 (which represents the period from January 1, 2002 through October 1, 2002), and are compared to the year ended December 31, 2003. Fresh-start reporting primarily affected depreciation, amortization and interest expense. Depreciation and amortization expense generally increased as a result of the revaluation of fixed assets and the recognition of new intangible assets. Interest expense generally decreased due to the reduction in the principal amount of our outstanding indebtedness.

		Year Ended December 31,
		2003			Combined 2002
		(in millions)
Net sales		$	1,436.4			$	1,281.5
Gross profit		758.2				585.2
Marketing and administrative expenses		493.9				447.4
Research and development expenses		117.5				94.1

 

Net Sales.   Net sales for the year ended December 31, 2003 totaled $1,436.4 million as compared to $1,281.5 million in the corresponding prior year period.

Sales for each segment were as follows (in millions):

		Year Ended December 31,
		2003			Combined 2002					% Change
GCM-Americas		$	740.0			$	702.1				5.4	%
GCM-International		684.0				571.5					19.7	%
Global Operations		12.4				7.9					57.0	%
Total		$	1,436.4			$	1,281.5				12.1	%

 

Adjusting for the favorable impact of foreign currency rate changes of $92.0 million, 2003 sales increased $62.9 million or 4.6% for the year. On a constant currency basis, sales increased $34.9 million or 4.9% in GCM-Americas, and $22.2 million or 3.4% across GCM-International locations. The increase on a constant currency basis can be primarily attributed to a $61.7 million or 7.3% increase in core chemistry sales primarily driven by Dimension® product sales globally, a $13.8 million or 6.2% increase in hemostasis product sales with the strongest growth in GCM-Americas, a $7.1 million or 4.9% increase in microbiology product sales, partially offset by a $2.0 million or 2.5% decrease in infectious disease product sales and $17.7 million or 21.1% decrease in sales of mature/other products across all segments.

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Our worldwide installed base of instruments, an important indicator of future growth potential, grew 4.3% during the year ended December 31, 2003. To provide more visibility to the growth dynamics of our instrument base, we adjusted our December 31, 2003 installed base statistic to remove mature product line instruments, including aca® and Opus®, which are being phased out of our product portfolio over the next two years, and other older non-strategic instruments. The revised installed base of instruments as of December 31, 2003, using the new calculation methodology, was approximately 32,400.

Growth in the installed base of Dimension^® RxL and Dimension^® Xpand^® instruments as well as the BN ProSpec^® plasma protein instrument have driven much of the sales growth seen in our core chemistry products. Gains in the hemostasis installed base have been driven by successes in CA-1500, CA-500, BCS^® and PFA-100^® instrument placements. For microbiology, new installations of our autoSCAN^® and WalkAway^® series of instruments continue to provide growth while the BEP^®III and BEP^®2000 instruments have been the primary contributors of installed base growth for the infectious disease product line. However, migration in the hospital laboratory from microtiter plate testing to immunoassay instruments has caused an overall decline in IDD sales. Improved method penetration, which results from utilizing an existing instrument base for additional tests, combined with the growth in sales of higher priced specialty tests, have further contributed to our sales growth.

Gross Profit.   Gross profit for the year ended December 31, 2003 increased $173.0 million to $758.2 million, or 52.8% of sales, as compared to $585.2 million, or 45.7% of sales, in the corresponding prior year period. Gross profit in 2002 was negatively impacted by a $57 million inventory step-up under fresh-start reporting and approximately $10 million related to the write-off of excess inventory and reductions in production volumes during the bankruptcy proceedings. These items, on a constant currency basis, negatively impacted the gross profit margin for 2002 by 5.2%. Excluding the inventory step-up impact, foreign currency changes positively impacted margins by 0.3%, while manufacturing efficiencies and cost reduction initiatives at our manufacturing sites, and changes in product mix had a positive impact of 1.9%. Partially offsetting these items, higher depreciation and amortization charges related to the implementation of fresh-start reporting negatively impacted margins by 0.3%.

Marketing and Administrative Expenses.   Marketing and administrative expenses for the year ended December 31, 2003 increased $46.5 million to $493.9 million, or 34.4% of sales, as compared to $447.4 million, or 34.9% of sales, in the corresponding prior year period. Marketing and administrative expenses increased $30 million related to changes in foreign currency exchange rates, $4.6 million related to higher non-cash stock-based compensation charges ($10.5 million in 2003 compared to $5.9 million in 2002), and approximately $4 million related to incremental depreciation and amortization expense resulting from the adoption of fresh-start reporting.

Research and Development Expenses.   Research and development expenses for the year ended December 31, 2003 totaled $117.5 million (8.2% of sales) and was 24.9% higher than the corresponding prior year period. On a constant currency basis, research and development expense increased $18.5 million or 18.7% over the corresponding prior year period.

Liquidity and Capital Resources

Cash Flows.   For the year ended December 31, 2004, net cash provided by operating activities was $249.5 million compared to $254.4 million for the year ended December 31, 2003. The increase in net income was offset by changes in working capital. In certain countries where the collection process is lengthy, we utilize factoring facilities under which certain trade accounts receivables are sold on a non-recourse basis to financial institutions at face value. During the year ended December 31, 2003, changes in accounts receivable positively impacted cash flows by $25.9 million. However, as a result of less incremental accounts receivable factoring during 2004, changes in accounts receivable negatively impacted cash flows by $8.9 million for the year ended December 31, 2004. On a constant currency basis, our

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utilization of factoring facilities increased by $8.6 million and $36.5 million during the years ended December 31, 2004 and 2003, respectively. As of December 31, 2004, the outstanding balance on our factoring facilities was $140.9 million. Changes in accounts payable and accrued liabilities negatively impacted cash flows by $13.0 million during 2004 as compared to positively impacting cash flows by $17.6 million during 2003. This unfavorable change in cash flow from 2003 to 2004 is due to timing of cash disbursements.

When selling instruments to our customers, we may enter into sales-type lease transactions. During the year ended December 31, 2004, we sold approximately $45 million of lease receivables to a financial institution, of which $24 million were sold in the fourth quarter. The sales during 2004 resulted in losses of $2.5 million. The losses are included in other expense on the accompanying statement of operations. At December 31, 2004, lease receivables of $16.9 million were included in other assets on the accompanying balance sheet. We expect lease receivables and the amount of lease receivables we sell to be greater in 2005 than in 2004.

We made pension plan funding payments in the U.S. of $25.6 million and $13.7 million and outside the U.S. of $2.1 million and $0.9 million during the years ended December 31, 2004 and 2003, respectively. We are currently estimating 2005 funding payments in the U.S. and outside the U.S. to be approximately $16 million and $2 million, respectively.

Net cash flow used for investing activities totaled $131.8 million and $103.5 million for the years ended December 31, 2004 and 2003, respectively, and was primarily for capital expenditures. The increase in capital expenditures was due primarily to an increase in the placement of instruments at customers in exchange for contractual commitments for ongoing reagent revenues and the impact of foreign currency exchange rates. We expect these trends to continue in 2005.

Financing activities for the year ended December 31, 2004 used net cash of $168.0 million, versus $109.4 million for the year ended December 31, 2003. The increase in cash used is primarily due to $210.2 million of prepayments on borrowings in 2004, partially offset by proceeds from the exercise of stock options of $30.9 million and proceeds from the employee stock purchase plan of $8.6 million. We made early repayments of $169.9 million on our bank debt during the year ended December 31, 2004. In January and February 2005, we made additional prepayments totaling $40 million. We also redeemed or purchased $40.3 million of our senior subordinated notes during the year ended December 31, 2004. Of the $40.3 million of notes that we redeemed or purchased, $35.5 million of notes were redeemed pursuant to a program initiated in January 2004, whereby net proceeds from the exercise of stock options and stock issued under the employee stock purchase plan were used to redeem the notes. The notes can be redeemed at par plus 11.91% of the face value, plus accrued and unpaid interest up to the redemption date. The remaining $4.8 million of notes were purchased in the open market. We do not expect to make any further early redemptions of our senior subordinated notes during 2005, but we intend to refinance our notes in 2005. During the twelve months following October 3, 2005, we will have to pay an approximate 6% premium to call these notes.

Credit Facilities.   As of December 31, 2004, the Credit Facility, as amended, consisted of a $150.8 million term loan facility, an €5.8 million term loan facility, and a $125 million multi-currency revolving credit facility. The term loan facilities have a maturity date of October 3, 2008. At December 31, 2004, our borrowings under the term loan facility bore interest at an effective average rate of 4.40%. See Item 7A. Quantitative and Qualitative Disclosures About Market Risk, for a discussion about our interest rate hedging activity. As of December 31, 2004, we had letters of credit outstanding of $4.1 million, which reduced our borrowing capacity under the revolving credit facility. There were no borrowings outstanding under the revolving credit facility as of December 31, 2004.

As of December 31, 2004, certain of our subsidiaries in Germany had a revolving credit facility for €30 million which is renewable annually (the “Dresdner Facility”). Borrowings under the Dresdner Facility

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are subject to a variable interest rate of the European Overnight Indexed Average plus 2.0% (reduced to 1.5% in January 2005). Under the terms of the Dresdner Facility, up to €15 million can be utilized in the forms of cash or guarantees, and the remainder can be used as credit lines for derivatives trading and settlement risks. As of December 31, 2004, the interest rate was 4.11% and €5.7 million was outstanding. An additional €1.1 million was utilized for guarantee purposes, which reduced our available borrowing capacity under this facility. In addition, a number of subsidiary companies outside the U.S. have credit facilities available to meet their liquidity requirements. As of December 31, 2004, the borrowing capacity under these facilities totaled $44.1 million. At December 31, 2004, $0.8 million in borrowings and $15.5 million of guarantees were outstanding under these credit facilities and other borrowing arrangements.

Certain terms of the Credit Facility were amended in March 2004 (the “Fourth Amendment”). The Fourth Amendment immediately reduced the annual cost of borrowing under the dollar denominated term loans by 25 basis points. It also provided for higher interest rate margins if our credit ratings deteriorate. The Fourth Amendment also allowed us to make up to $100 million of open market purchases of our senior subordinated notes. The amount of permitted additional indebtedness, as defined in the agreement, was also increased to $100 million.

The Credit Facility was again amended in December 2004 (the “Fifth Amendment”). The Fifth Amendment reduced the interest rate applicable to the dollar denominated term loans by 50 basis points from the then current rate. The Fifth Amendment also increased the amount of non-U.S. accounts receivable which may be factored from $150 million to $175 million, increased the limitation on capital expenditures from $130 million to $150 million for the fiscal year ended December 31, 2004 and increased the limitation on capital expenditures to $175 million for each subsequent fiscal year through 2008.

In 2004 we made $169.9 million of voluntary prepayments of required amortization payments originally due through March 2008. Additional prepayments totaling $40 million were made in January and February 2005.

Senior Subordinated Notes.   At December 31, 2004, we had senior subordinated notes due 2010 outstanding in the principal amount of $275.0 million, with a coupon rate of 11.91%. The obligations under the senior subordinated notes are senior to all of Dade Behring Inc.’s subordinated unsecured obligations and subordinate to the Credit Facility. We redeemed $40.3 million in principal amount of the notes during the year ended December 31, 2004.

Contractual Cash Obligations

Projected payments and estimated interest expense are as shown below:

		Expected Payments by Period (in millions)
		Total			2005			2006			2007			2008			2009			After 2009
Long-term debt		$	433.6		$	40.0		$	—		$	—		$	118.6		$	—		$	275.0
Interest on long-term debt		212.9			39.4			39.3			39.4			37.3			32.8			24.7
Revolving credit line		—			—			—			—			—			—			—
Fees on revolving credit line		2.9			0.8			0.8			0.7			0.6			—			—
Operating leases		114.5			25.7			20.3			15.7			13.0			11.4			28.4
Non-U.S. borrowing arrangements		8.6			8.6			—			—			—			—			—
Capital lease obligations		21.1			7.8			6.6			4.4			2.0			0.3			—
Purchase obligations		27.6			20.6			4.7			1.0			1.3			—			—
Pension plan contributions		18.0			18.0			—			—			—			—			—
Total Contractual Cash Obligations		$	839.2		$	160.9		$	71.7		$	61.2		$	172.8		$	44.5		$	328.1

 

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As discussed above, we made prepayments on our term loans totaling $40 million in January and February 2005.

Purchase obligations primarily consist of supply agreements with vendors for the purchase of specified levels of goods or services over the respective contract periods. Estimated pension plan contributions for 2005 are based on our funding policy as discussed below in “Critical Accounting Policies.”  We have not determined projected pension contributions for years beyond 2005.

Off-Balance Sheet Arrangements

Except as noted in the table above, we have no material off-balance sheet arrangements.

Critical Accounting Policies

Critical accounting policies are those that, in management’s view, are very important to the portrayal of our financial condition and results of operations and also require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. We believe our most critical accounting policies (Note 3 to our Consolidated Financial Statements, “Summary of Significant Accounting Policies”) relate to:

·       Revenue recognition;

·       Reserves for doubtful accounts;

·       Adjustments for write-down of inventories to net realizable value;

·       Impairment of long-lived assets;

·       Pension plan assumptions; and

·       Tax valuation allowances.

We use a combination of historical results and anticipated future events to estimate and make assumptions relating to our critical accounting policies. Actual results could differ from our estimates. See also Note 3 to our Consolidated Financial Statements, “Summary of Significant Accounting Policies.”

Revenue Recognition.   We manufacture and market a broad offering of clinical diagnostic products and services which include: (1) medical diagnostic instruments, (2) reagents and consumables, and (3) maintenance services. Revenue related to the sale of instruments, reagents and consumables represents the vast majority of our sales. We recognize revenue from the sale of instruments, reagents and consumables upon delivery. Revenue for maintenance services is recognized as the services are provided.

Instruments are sold outright to customers or via sales-type lease arrangements. Instruments are also leased to customers pursuant to operating leases. Under operating lease arrangements, the cost of the instruments is carried on our balance sheet and amortized to cost of sales over the useful life of the equipment.

We provide most of our products and services as part of bundled contract arrangements, which contain multiple deliverable elements. Revenues under these bundled arrangements are allocated among the contract’s constituent elements (principally instruments, reagents, consumables and service) based upon the estimated fair value of each element as determined by reference to verifiable objective evidence. Our principal point of reference in making this determination is the amount of revenue realized when products and services are sold separately in stand-alone transactions.

Reserves for Doubtful Accounts.   We perform ongoing credit evaluations of our customers based upon customer payment history and current creditworthiness, as determined by our review of our customers’ current credit information. We continuously monitor collections and payments from our customers and payment accommodations made to our customers and maintain a provision for estimated credit losses based upon our historical experience and any specific customer collection issues that we have identified.

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While such credit losses have historically been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same credit loss rates that we have in the past. Measurement of such losses requires consideration of historical loss experience, including the need to adjust for current conditions, and judgments about the probable effects of relevant observable data, including present economic conditions such as delinquency rates and financial health of specific customers.

Adjustments for Write-down of Inventories to Net Realizable Value.   Inventories are stated at the lower of cost (based on the first-in, first-out method) or market. Market for raw materials is based on replacement costs and, for other inventory classifications, on net realizable value. We regularly review inventory quantities on hand and record a provision for deterioration, excess and obsolete inventory based primarily on our estimated forecast of product demand and production requirements for the next 18 months. Several factors may influence the realizability of our inventories, including technological change and new product development. These factors could result in an increase in the amount of obsolete inventory on hand. Additionally, our estimates of future product demand may prove to be inaccurate, in which case we may have understated or overstated the provision required for excess and obsolete inventory. In the future, if we determine that our inventory was overvalued, we will be required to recognize such costs in cost of goods sold at the time of such determination. Although we make every effort to ensure the accuracy of our forecasts of future product demand, any significant unanticipated changes in demand or technological developments could have a significant impact on the value of our inventory and our reported operating results.

Impairment of Long-Lived Assets.   We periodically evaluate long-lived assets other than goodwill and indefinite-lived intangibles for indicators of impairment. Management’s judgments regarding the existence of impairment indicators are based on operational performance and market conditions. Goodwill and indefinite-lived intangible assets, including tradenames and trademarks, are tested for impairment annually. In assessing the recoverability of long-lived assets, market values and projections regarding estimated future cash flows and other factors are used to determine the fair values of the respective assets. If these estimates or related projections change in the future, we may be required to record impairment charges for these assets.

Pension Plan Assumptions.   We maintain non-contributory defined benefit pension plans covering substantially all employees in the United States and a combination of contributory and non-contributory plans in certain non-U.S. locations. Benefits under the United States plans are based on a cash balance formula. Our funding policy is to make contributions to the trusts of the plans that meet or exceed the minimum requirements of the Employee Retirement Income Security Act of 1974. In an attempt to anticipate future events, several statistical and other factors are used in calculating the expense, liability and resulting funding requirements related to the plans. These factors include assumptions we make about, among other things, the discount rate, expected return on plan assets, rate of future compensation increases and withdrawal and mortality rates. The actuarial assumptions we use may differ materially from actual results due to changing market and economic conditions, higher or lower withdrawal rates or longer or shorter life spans of participants. These differences may result in a significant impact to the amount of pension expense we have recorded or may record, and our cash funding requirements. In determining pension expense for 2004, our assumption for the discount rate for the U.S. plans was 6.0%. In determining the December 31, 2004 liabilities and 2005 pension expense for the U.S. plans, the discount rate was assumed to be 5.9%. The 2004 discount rates for the non-U.S. plans ranged from 2.0% to 5.5%, and are expected to be between 2.0% and 5.25% for 2005. We generally determine the discount rate assumption by constructing a hypothetical portfolio of investments with maturities that mirror the pension obligation. For the year ended December 31, 2004, our assumptions for the expected long-term rates of return on pension plan assets were 8.5% for the U.S. plans and ranged from 3.25% to 3.5% for non-U.S. plans, respectively. The rate for the U.S. plans is not expected to change for 2005. The rate for all non-U.S. plans is expected to be 3.25% in 2005. The expected long-term rate of return on plan assets is reviewed at least annually, taking into account our asset allocation, historical returns on the types of assets in the trust and the current economic environment. Based on these factors, we expect the plan assets will earn an average of 8.5% per year for the U.S. plans and 3.25% per year for the non-U.S. plans over the long-term.

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These and other assumptions impacting pension expense could change in the future based on various factors, including, but not limited to, market conditions, asset allocations, and workforce composition. For 2004, our net periodic benefit costs for our U.S. and non-U.S. plans were approximately $11 million and $6 million, respectively. These amounts are approximately the same as 2003 for the U.S. plans and $1 million higher than 2003 for the non-U.S. plans. We expect that the 2005 costs will be approximately $2 million and $1 million higher than 2004 for the U.S. plans and non-U.S. plans, respectively. However, changes in interest rates and market gains or losses could significantly impact post-2005 pension expense and additional funding requirements.

Tax Valuation Allowances.   We record the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and amounts reported in our Consolidated Balance Sheets, as well as operating loss and tax credit carryforwards. We follow very specific and detailed guidelines in each tax jurisdiction regarding the recoverability of any tax assets recorded on the balance sheet and provide necessary valuation allowances if we believe more likely than not that the net deferred tax asset is not recoverable.

In assessing the realizability of the deferred tax assets, we consider all currently available data, our historical U.S. Generally Accepted Accounting Principles (“GAAP”) and taxable earnings and losses by jurisdiction, current financial condition, forecast of future U.S. GAAP and taxable earnings and losses by jurisdiction and other relevant factors. The data considered in determining the realizability of the U.S. valuation allowance includes the tax deductions that we have received or will receive related to the stock options granted under the 2002 Management Stock Option Plan and the 2004 Incentive Compensation Plan. See Note 12, “Shareholders’ Equity and Redeemable Preferred Stock,” to our consolidated financial statements for further discussion. Under the U.S. Internal Revenue Code of 1986, as amended, a company is allowed a deduction on the date of exercise equal to the difference between the fair market value on date of exercise and the exercise price. Due to the significant increase in our share price since the issuance of certain stock options, we have a significant tax deduction that has caused uncertainty regarding the realizability of fully utilizing our Section 382 limitation related to our net operating loss carryforwards and is considered negative evidence in evaluating the need for the U.S. valuation allowance.

If we are unable to generate sufficient future taxable income in a jurisdiction, or if there is a material change in the time period within which the underlying temporary differences become taxable or deductible, we could be required to increase the valuation allowance against all or a significant portion of our remaining net deferred tax assets resulting in an increase in our effective tax rate and a material adverse impact on our operating results.

See “Tax Credits and Loss Carryforwards” below and Note 11, “Income Taxes,” to our consolidated financial statements for further discussions.

Recent Accounting Developments

In December 2004, the FASB issued a revised SFAS No. 123, “Share-Based Payment.” The revised SFAS No. 123 replaces SFAS No. 123, “Accounting for Stock-Based Compensation,” and supercedes Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees.”  The revised statement requires compensation costs related to share-based payment transactions to be recognized in the financial statements. Generally, the amount of compensation cost will be measured based on the grant-date fair value of the instruments issued. Compensation cost will be recognized over the period that an employee provides service in exchange for the award. We will adopt the revised SFAS No. 123 on July 1, 2005 and the provisions will be applied prospectively. In the first half of 2005, we will recognize approximately $3 million of expense under APB Opinion No. 25 related to stock option grants made through December 31, 2004. After adoption of the revised SFAS No. 123, we estimate that we will recognize approximately $8 million of expense during the second half of 2005 from stock option grants made through December 31, 2004 and our employee stock purchase plan. Additional expense may be recognized should future grants be made after January 1, 2005.

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In November 2004, the FASB issued SFAS No. 151, “Inventory Costs—An Amendment of ARB No. 43, Chapter 4,” to clarify the accounting for abnormal inventory costs. SFAS No. 151 requires that abnormal amounts of idle facility costs, freight, handling costs and spoilage are to be recognized as current-period expenses regardless of whether they meet the “so abnormal” criterion outlined in Accounting Research Bulletin No. 43. In addition, the allocation of fixed production overhead costs to inventory is to be based on the normal capacity of the production facilities. Unallocated overhead costs are to be recognized as expenses in the period incurred. Normal capacity is defined as the production expected to be achieved over a number of periods or seasons under normal circumstances, taking into account the loss of capacity resulting from planned maintenance. SFAS No. 151 is effective for inventory costs incurred during fiscal years beginning after June 15, 2005. The adoption of SFAS No. 151 is not expected to have a significant impact on our consolidated financial statements.

In December 2003, the FASB issued a revised SFAS No. 132, “Employers’ Disclosures about Pensions and Other Postretirement Benefits.” The revised SFAS No. 132 retains the disclosure requirements required by the original statement. Additional disclosures have been added which include information describing the types of plan assets, investment strategy, measurement dates, plan obligations, cash flows, and components of net periodic benefit cost recognized during interim periods. Except as noted below, SFAS No. 132 was effective for financial statements with fiscal years ending after December 15, 2003. Disclosure of estimated future benefit payments and information about non-U.S. plans is effective for fiscal years ending after June 15, 2004. Interim period disclosures are effective for interim periods beginning after December 15, 2003. The required 2003 and 2004 disclosure provisions have been adopted in the attached consolidated financial statements.

Tax Credits And Loss Carryforwards

Realization of Cancellation of Indebtedness Income.   Subject to certain exceptions, a debtor generally recognizes an amount of cancellation of debt (“COD”) income upon satisfaction of its outstanding indebtedness equal to the excess of (1) the adjusted issue price of the indebtedness satisfied over (2) the sum of the issue price of any new indebtedness issued, the amount of cash paid and the fair market value of any other consideration, including stock of the debtor, given in satisfaction of the indebtedness. As discussed below, there is a bankruptcy exception to the recognition of COD income which applies to us in connection with the reorganization.

A debtor is not required to include COD income in gross income if the debt discharge occurs in a Title 11 case. However, under the U.S. Internal Revenue Code of 1986, as amended, (the “Tax Code”) the debtor must, as of the first day of the next taxable year, reduce its tax attributes (in general, first its NOL carryovers and then tax credits and capital loss carryovers and then the tax basis of its assets) by the amount of COD income excluded from gross income by this exception. As an exception to the order of tax attribute reduction described above, a taxpayer can elect to reduce its tax basis in its depreciable assets first, then its NOL carryovers and then its tax credits and capital loss carryovers.

Since the COD income was realized in a Title 11 case, we are not required to include the COD income in taxable income, but are required to reduce our U.S. NOL carryovers by the amount of the COD income. Our U.S. NOL carryover as of December 31, 2004 was $629.8 million after the amount of COD income realized as a result of the reorganization.

Section 382 Limitation on NOL Carryovers and Other Tax Attributes.   As a result of the consummation of the reorganization, we underwent an “ownership change” within the meaning of section 382 of the Tax Code. As a consequence, after the reorganization, we are subject to limitation on the use of any U.S. NOL carryover incurred prior to the ownership change. Under special provisions of section 382 of the Tax Code applicable to companies in bankruptcy, the limitation is equal to the product of (1) the lesser of (x) the value of the equity of the reorganized debtors immediately after the ownership change and (y) the value of the consolidated gross assets immediately before such change, with certain adjustments and (2) the “long-term tax-exempt rate” in effect for the month of the effective date of the reorganization as published in the Internal Revenue Bulletin of the United States Treasury Department. We elected not to apply the general

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U.S. NOL limitation applicable to companies in bankruptcy since application of that rule would result in less favorable treatment than that described above.

If a corporation that undergoes an ownership change has a “net unrealized built-in loss,” subject to certain limitations, any “recognized built-in loss” during the five-year period beginning with the date of the ownership change, referred to as the “recognition period,” is generally treated as a pre-change loss and is subject to the section 382 limitation described above. If the corporation has a “net unrealized built-in gain,” subject to certain limitations, the section 382 limitation for any taxable year within the recognition period will be increased by the “recognized built-in gain” for such taxable year. A net unrealized built-in gain or net unrealized built-in loss exists to the extent the fair market value of the corporation’s assets is more or less, respectively, than the aggregate adjusted tax basis of its assets immediately before the ownership change, provided the resulting net unrealized built-in gain or net unrealized built-in loss is greater than the lesser of (1) 15% of the fair market value of the corporation’s assets and (2) $10 million. Under current IRS administrative policy, the amount of the COD income recognized upon an ownership change is treated as an item of income attributable to the pre-change period under section 382(h)(6) of the Tax Code and such COD income is added to the gross fair market value of the corporation’s assets in determining whether the loss corporation has a net unrealized built-in loss.

Any unused section 382 limitation in a given year may be carried forward, thereby increasing the section 382 limitation in the subsequent taxable year. However, if the corporation or consolidated group does not continue its historic business or use a significant portion of its assets in a new business for two years after the ownership change, the section 382 limitation resulting from the ownership change will be zero.

Alternative Minimum Tax.   A corporation must pay an alternative minimum tax, or AMT, equal to 20% of its alternative minimum taxable income, or AMTI, reduced by certain credits allowable for AMT purposes, to the extent that the AMT exceeds the tax of the corporation calculated at the normal progressive income tax rates. In calculating the AMTI, a corporation’s income and losses are subject to various adjustments. For example, in computing AMTI, a corporation’s NOLs are adjusted for the adjustments and preferences under the AMT sections of the Tax Code and such resulting NOLs can be utilized to offset only 90% of the corporation’s AMTI (100% for NOLs generated or taken as carryforwards in taxable years ending in 2001 or 2002). However, COD income that is excluded from taxable income under the rules discussed above under “Realization of Cancellation of Indebtedness Income” similarly is excluded from AMTI. As a result of limitations on the use of our NOLs and the reduced annual amount of depreciation used in calculating AMTI, it is possible that we may be required to pay AMT even though we may not otherwise be required to pay regular federal income tax.

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