edX - TXT1x Data
-----BEGIN PRIVACY-ENHANCED MESSAGE-----1Proc-Type: 2001,MIC-CLEAR2Originator-Name: [email protected]3Originator-Key-Asymmetric:4MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen5TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB6MIC-Info: RSA-MD5,RSA,7HxZg8ytwFP/gxE5B2ZlwJ7ul8nBgSSIhhmHz15slD0NwmNqEbutK8bOVAfh2MDgk8PFOzrFn/tfl3JFHh5831rg==910<SEC-DOCUMENT>0000897101-00-000947.txt : 2001022411<SEC-HEADER>0000897101-00-000947.hdr.sgml : 2001022412ACCESSION NUMBER: 0000897101-00-00094713CONFORMED SUBMISSION TYPE: 10-K14PUBLIC DOCUMENT COUNT: 515CONFORMED PERIOD OF REPORT: 2000063016FILED AS OF DATE: 200009281718FILER:1920COMPANY DATA:21COMPANY CONFORMED NAME: LECTEC CORP /MN/22CENTRAL INDEX KEY: 000080592823STANDARD INDUSTRIAL CLASSIFICATION: 384524IRS NUMBER: 43130187825STATE OF INCORPORATION: MN26FISCAL YEAR END: 06302728FILING VALUES:29FORM TYPE: 10-K30SEC ACT:31SEC FILE NUMBER: 333-7256932FILM NUMBER: 7312843334BUSINESS ADDRESS:35STREET 1: 10701 RED CIRCLE DR36CITY: MINNETONKA37STATE: MN38ZIP: 5534339BUSINESS PHONE: 61293322914041MAIL ADDRESS:42STREET 1: 10701 RED CIRCLE DRIVE43STREET 2: 10701 RED CIRCLE DRIVE44CITY: MINNETONKA45STATE: MN46ZIP: 5534347</SEC-HEADER>48<DOCUMENT>49<TYPE>10-K50<SEQUENCE>151<FILENAME>0001.txt52<TEXT>53545556UNITED STATES SECURITIES AND EXCHANGE COMMISSION57WASHINGTON, D.C. 205495859-----------------6061FORM 10-K6263-----------------6465(Mark One)6667/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE68ACT OF 1934 FOR THE FISCAL YEAR ENDED JUNE 30, 2000.6970/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES71EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ________ TO _______.7273Commission File Number: 0-161597475LECTEC CORPORATION76(Exact name of registrant as specified in its charter)7778MINNESOTA 41-130187879(State or other jurisdiction of (I.R.S. Employer Identification No.)80incorporation or organization)818210701 RED CIRCLE DRIVE, MINNETONKA, MINNESOTA 5534383(Address of principal executive offices) (Zip Code)8485Registrant's telephone number, including area code: (952) 933-22918687-----------------8889Securities registered pursuant to Section 12(b) of the Act: None9091Securities registered pursuant to Section 12(g) of the Act: Common Stock, par92value $0.01 per93share.9495-----------------9697Indicate by check mark whether the Registrant (1) has filed all reports98required to be filed by Section 13 or 15(d) of the Securities Exchange Act of991934 during the preceding 12 months (or for such shorter period that the100Registrant was required to file such reports), and (2) has been subject to such101filing requirements for the past 90 days. Yes [ X ] No [ ]102103Indicate by check mark if disclosure of delinquent filers pursuant to104Item 405 of Regulation S-K is not contained herein; and will not be contained,105to the best of the Registrant's knowledge, in the definitive proxy statement106incorporated by reference in Part III of this Form 10-K, or any amendment to107this Form 10-K. [ ]108109The aggregate market value of the Common Stock held by non-affiliates110of the Registrant as of September 20, 2000 was $6,513,235 based upon the last111reported sale price of the Common Stock at that date by the Nasdaq Stock Market.112113The number of shares outstanding of the Registrant's Common Stock as of114September 20, 2000 was 3,904,465 shares.115116-----------------------------117118DOCUMENTS INCORPORATED BY REFERENCE119120Part III of this Annual Report on Form 10-K incorporates by reference121information from the Registrant's Proxy Statement for its Annual Meeting of122Shareholders to be held November 16, 2000.123124<PAGE>125126127PART I128129ITEM 1. BUSINESS130131GENERAL132133LecTec Corporation (the "Company") designs, manufactures and markets134diagnostic electrocardiograph ("ECG") electrodes, conductive and non-conductive135adhesive hydrogels, and patches for the topical application of over-the-counter136("OTC") drugs. The Company markets and sells its products to medical products137distributors, consumers through retail outlets (food, chain drug and mass138merchandise stores), consumer products companies and original equipment139manufacturers ("OEM"s). All of the products manufactured by the Company are140designed to be highly compatible with skin.141The Company developed one of the first solid gel disposable ECG142electrodes which did not require the use of aqueous conductive gels in order to143maintain contact with the skin. The Company has since continued to develop,144manufacture and market electrodes as well as hydrogels and OTC topical145therapeutic patches. A hydrogel is a gel-like material having an affinity for146water and similar compounds. These gels are ideal for electrical conductivity147and skin compatibility. The Company holds multiple domestic and foreign patents.148Effective January 14, 1999, the Company was certified as meeting the149requirements of ISO 9001 and EN46001 quality system standards. Certification was150granted by TUV Product Service GmbH. Meeting these standards, particularly151EN46001, confirms that the Company has achieved the highest level of quality152systems compliance demonstrated by world-class design and manufacturing firms.153For medical devices, EN46001 is awarded only to those companies which satisfy154the rigorous standards of ISO 9001 and comply with the European Union's Medical155Device Directive.156The Company, through its research and development efforts, is157investigating new products for topical delivery of OTC drugs, and new conductive158adhesive hydrogel polymers. In addition, existing technologies are being refined159to focus on new consumer products targeting new retail customers and new160markets.161The Company was organized in 1977 as a Minnesota corporation. Its162principal executive office is located at 10701 Red Circle Drive, Minnetonka,163Minnesota 55343, and its telephone number is (952) 933-2291.164165166PRODUCTS167168The Company's core competency is skin interface technology. This169competency results in products which are chemically compatible with human skin,170thereby reducing skin irritation and reducing damage to the skin as well as the171risk of infection. The electrical properties, adhesive characteristics,172dimensions, drug stability, shelf life and manufacturability of the Company's173products are highly consistent and reproducible from product to product.174175CONDUCTIVE PRODUCTS176The Company's conductive products include diagnostic electrodes and177electrically conductive adhesive hydrogels.178The Company applies its patented conductive, skin compatible, adhesive179hydrogel technology to cardiac diagnostic electrodes. The Company's patented180natural and synthetic-based hydrogel polymers are self-adherent and are capable181of being made electrically conductive. Using natural-based polymers, the Company182developed the first solid gel disposable diagnostic ECG electrodes.183The solid gel design of the Company's electrodes provides more184consistent electrical performance and eliminates clean-up time for the185clinician. Currently the Company has three different types of diagnostic186electrodes: LecTec 1000 Series, a disposable electrode made of natural polymer187solid gel with gentle adhesion; LecTec 3000 Series and LecTec 3009 Series,188synthetic solid gel electrodes with higher levels of adhesion which meet all189American Association for Medical Instrumentation ("AAMI") standards190191192-1-193<PAGE>194195196including defibrillation recovery; and LecTec 4000 Series, a synthetic solid197gel, silver substrate electrode which also meets all AAMI standards including198defibrillation recovery.199The Company pioneered hydrogel technology and manufactures synthetic200and natural-based hydrogels. These hydrogels are resistant to dehydration,201evaporation and changes in electrical and physical properties. Hydrogels are202also used topically to deliver specific medications to the skin. Hydrogels are203manufactured with various levels of conductivity, as well as with varying204degrees of self-adhesive properties, for diagnostic electrodes, external205defibrillation, pacing and monitoring electrodes, Transcutaneous Electronic206Nerve Stimulation ("TENS") products and iontophoretic return electrodes.207Sales of conductive products accounted for approximately 51%, 63% and20861% of the Company's total sales for fiscal years 2000, 1999 and 1998.209210MEDICAL TAPE PRODUCTS211The Company adopted a plan at the end of fiscal 2000 to exit the low212margin medical tape business for which sales had been declining for several213years. The medical tape business was comprised of sales of individual slit roll214widths of the standard paper, plastic and cloth products widely used in the215health care industry and sales of large jumbo rolls which were converted by the216customer into individual slit rolls widths for ultimate sale to consumers.217Minimal sales are expected in fiscal 2001 as remaining medical tape inventories218are liquidated.219Sales of medical tapes accounted for approximately 13%, 22% and 32% of220the Company's total sales for fiscal years 2000, 1999 and 1998.221222THERAPEUTIC CONSUMER PRODUCTS223The Company manufactures and markets patches for the topical224application of OTC drugs and other therapeutic compounds. Therapeutic patch225products use a hydrogel coated, breathable cloth patch to deliver OTC drugs and226other therapeutic compounds onto the skin. Products currently manufactured using227the adhesive-based patch technology are analgesic patches for localized pain228relief, cooling gel comfort patches, vapor cough suppressant patches, anti-itch229patches, acne treatment patches, wart removers, and a corn and callus remover.230These products are marketed as OTC products. The analgesic, cooling and231anti-itch patches are marketed under the LecTec brand name TheraPatch(R). The232acne treatment patches, wart removers and corn and callus removers are marketed233by the customer under the brand of the customer. The vapor cough suppressant234patches are marketed under the TheraPatch brand name as well as by the customer235under the brand of the customer.236Sales of therapeutic consumer products accounted for approximately 36%,23715% and 7% of the Company's total sales for fiscal years 2000, 1999 and 1998.238239240MARKETING AND MARKETING STRATEGY241242The Company markets and sells its products to medical products243distributors, consumers through retail outlets (food, chain drug and mass244merchandise stores), consumer products companies and original equipment245manufacturers.246A major entry into the consumer products markets was supported by the247hiring of a new retail sales executive late in fiscal 1998 and a retail sales248team in fiscal 1999. In the consumer products markets, retail broker and249manufacturer's representative contracts have been established. The TheraPatch250brand is the umbrella brand for the Company's therapeutic patch products251introduced to all markets.252In addition to the retail sales team hired for entry into the retail253consumer products markets, the Company has sales teams which address other254markets into which it sells. These teams support sales to:255256o medical products distributors who sell to end-user257organizations,258o consumer products companies who sell directly to the consumer,259and260o OEMs which either include the Company's product with the261product they sell (e.g., electrodes purchased from the Company262may be included with electrocardiogram machines manufactured263and sold by an OEM), or use the Company's jumbo rolls of264hydrogels to265266267-2-268<PAGE>269270271manufacture a finished product for sale to the end-user (e.g.,272hydrogel purchased from the Company may be used by an OEM to273make electrodes).274275The Company has not experienced any significant seasonality in sales of276its products.277The Company sells its products in the U.S., Europe, Latin America,278Asia, Canada and Middle East. Except for sales of the TheraPatch brand patch279product into Canada, all of the Company's international sales are denominated in280U.S. dollars, thus, most of the impact of the foreign currency transaction gains281and losses are borne by the Company's customers. The Company does not believe282the January 1, 1999 euro currency conversion has had, nor will have, a material283impact on its financial statements. Export sales accounted for approximately28413%, 13% and 26% of total sales for 2000, 1999 and 1998.285The Company's international sales are made by the Company's corporate286sales force. The Company does not maintain a separate international marketing287staff or operations. The following table sets forth export sales by geographic288area:289290Years ended June 30291-----------------------------------------------------2922000 1999 1998293---- ---- ----294Europe $1,006,412 $1,216,199 $1,705,996295Latin America 547,904 371,654 371,854296Asia 46,279 31,935 62,027297Canada 298,884 7,011 199,082298Middle East 10,272 -- 912,240299Other 25,962 28,333 71,949300---------- ---------- ----------301Total Export Sales $1,935,713 $1,655,132 $3,323,148302========== ========== ==========303304305CUSTOMERS306307Spacelabs Burdick Inc. accounted for 17%, 22% and 18% of the Company's308total sales for the fiscal years 2000, 1999 and 1998. The Company sold its309products to approximately 275, 240 and 190 active customers (excluding310TheraPatch sales to individuals) during 2000, 1999 and 1998. The Company's311backlog orders (purchase orders received from customers for future shipment) as312of August 11, 2000 totaled $3,170,000 (all of which the Company expects to fill313in fiscal 2001), compared with approximately $913,000 on August 12, 1999. The314increase in the backlog as of August 11, 2000 was primarily the result of supply315agreements for patch products signed with Johnson & Johnson Consumer Products316Company and Novartis Consumer Health, Inc. towards the end of fiscal 2000.317318319COMPETITION320321The markets for electrodes, hydrogels and topical OTC drug delivery322patches are highly competitive. Firms in the medical and consumer industries323compete on the basis of product performance, pricing, distribution and service.324Many of the Company's major competitors have significantly greater financial,325marketing and technological resources than the Company. However, the Company326believes that it competes on the basis of proprietary technology,327speed-to-market, flexibility, innovative "first-in-category" patches, customer328focus and its ability to manufacture and market its products to targeted market329segments.330Over the past several years there have been a number of mergers within331the electrode and hydrogel industries, resulting in fewer but larger332competitors.333The Company's primary competitor for electrode and hydrogel sales is334Tyco International. The Company's OTC TheraPatch family of analgesic, anti-itch335and cough suppressant patches competes with ointments, lotions and creams336manufactured by various competitors including Mentholatum/Rohto Pharmaceuticals,337Inc.338339340-3-341<PAGE>342343344MANUFACTURING345346The Company manufactures its conductive and therapeutic membranes at347the Company's Minnetonka, Minnesota facility. The Minnetonka facility also348processes raw materials and manufactures the Company's therapeutic products. The349Company's second manufacturing facility in Edina, Minnesota is the primary site350for the manufacturing and packaging of diagnostic electrodes and the packaging351of therapeutic products. The Edina location also provides the majority of the352Company's warehouse capacity.353The Company believes that the raw materials used in manufacturing its354products are generally available from multiple suppliers.355356357RESEARCH AND DEVELOPMENT358359The Company's research and development staff consists of professionals360drawn from the business and academic communities with experience in the361biological, chemical, pharmaceutical and engineering sciences. The research and362development staff is responsible for the investigation, development and363implementation of new and improved products and new technologies.364The Company may develop products internally, jointly with corporations365and/or with inventors from outside the Company. The Company may then market366resulting products by sponsoring partners or through a marketing arrangement367with an appropriate distributor. Research and development contract opportunities368are evaluated on an individual basis.369The Company, through its research and development efforts, is370investigating new products for topical delivery of OTC drugs and new conductive371adhesive hydrogel polymers. In addition, existing technologies are being refined372to focus on new products targeting new customers and new markets.373During fiscal 2000 the Company discontinued development of a374cotinine-based smoking cessation product after unsuccessful efforts to secure375the third party funding necessary for the next phases of research and376development.377During fiscal years 2000, 1999 and 1998, the Company spent378approximately $1,095,000, $1,170,000 and $1,037,000 on research and development.379380381GOVERNMENTAL AND ENVIRONMENTAL REGULATION382383The Company's Quality System includes design development planning,384testing, manufacturing, packaging, labeling and distribution of the Company's385products which are subject to federal and foreign regulations, and in some386instances, state and local government regulations.387388UNITED STATES REGULATION389The Company's electrodes sold in the United States are subject to390federal Food and Drug Administration (the "FDA") policy and are marketed391pursuant to Section 510(k) notification, which is a means of obtaining FDA392clearance to market a medical device. The Company's finished goods electrodes393sold in the United States are subject to the FDA's current Good Manufacturing394Practices ("GMP") and quality system regulations.395The Company's hydrogels sold domestically are also subject to GMP and396quality system regulations as they are sold to OEMs and distributors for397processing into finished commercial goods.398The Company's topical OTC drug delivery patches are marketed under399applicable federal FDA OTC monographs.400401FOREIGN REGULATION402The Company's electrodes sold into the European Community (the "EC")403are considered to be Class I, non-sterile and non-measuring medical devices.404These products are "CE" marked and "self declared" as being compliant to the405Medical Device Directive 93/42/EEC. An authorized representative for406407408-4-409<PAGE>410411412the Company has been established in the EC as required by European law. Foreign413sales of the Company's electrodes are made only into the EC.414There are no foreign regulatory approvals required to sell the415Company's hydrogels into foreign countries because these products are sold to416OEM customers for processing into finished commercial goods.417The Company's topical OTC drug delivery patches are marketed in Canada418under applicable Canadian OTC monographs where appropriate, and are reviewed and419approved prior to commercialization by the Health Protection branch of Health420Canada.421422ENVIRONMENTAL REGULATION423The Company does not use solvents that have an adverse effect on the424environment in the manufacturing of its products. The Company does not425anticipate any major expenditure for environmental controls during the next426fiscal year.427428429PATENTS AND TRADEMARKS430431The Company has U.S. and foreign patents on adhesive hydrogels,432electrodes and transdermal and topical delivery systems. Twenty-two active U.S.433patents and fourteen active international patents are currently assigned or434licensed to the Company. Four U.S. patents were allowed during fiscal 2000 and435are expected to be issued to the Company in fiscal 2001. Sixteen U.S. and436foreign applications are pending including two which are on appeal. Foreign437patent applications are pending in numerous European countries, Canada and438Japan. The patents most pertinent to the Company's major products have a439remaining duration ranging from four to twenty years. Three of these patents440have a remaining duration of less than five years and the expiration of these441patents is not expected to have a material effect on the Company's proprietary442position.443Four trademark registrations were received in fiscal 2000. One444trademark registration is pending.445The Company expects that its products will be subject to continuous446modifications due to improvements in materials and technological advances for447medical products. Therefore, the Company's continued success does not depend448solely upon ownership of patents, but upon technical expertise, creative skills449and the ability to forge these talents into the timely release of new products.450The Company uses both patents and trade secrets to protect its451proprietary property and information. In addition, the Company monitors452competitive products and patent publications to be aware of potential453infringement of its rights.454455456EMPLOYEES457458As of June 30, 2000, the Company employed 97 full-time employees. None459of the Company's employees are represented by labor unions or other collective460bargaining units. The Company believes relations with its employees are good.461462463EXECUTIVE OFFICERS OF THE REGISTRANT464465Name Age Title466- - --------------------- --- --------------------------------------------------467Rodney A. Young 45 Chairman, Chief Executive Officer and President468469Douglas J. Nesbit 48 Chief Financial Officer470471Timothy P. Fitzgerald 60 Vice President, Operations472473John D. LeGray 54 Vice President, Quality Assurance and Regulatory474Affairs475476Daniel M. McWhorter 60 Vice President, Research and Development477478Jane M. Nichols 54 Vice President, Marketing and New Business479Development480481Timothy R. J. Quinn 39 Vice President, Consumer Products482483484-5-485<PAGE>486487488Rodney A. Young is Chairman, Chief Executive Officer and President. He489joined the Company in August 1996. Prior to joining LecTec, Mr. Young had 23490years of health care industry experience including sales and marketing for491Upjohn Company and 3M Company. Prior to joining the Company, he was Vice492President and General Manager of the Specialized Distribution Division of Baxter493International, Inc.494495Douglas J. Nesbit is Chief Financial Officer. He joined the Company in496August 2000. Mr. Nesbit's 23-year professional background includes public497accounting experience with the big five firm of KPMG LLP. Prior to joining498LecTec he was the Chief Financial Officer at Total Solutions Group, Inc. and499Treasurer at Secure Computing Corporation.500501Timothy P. Fitzgerald is Vice President, Operations. He joined the502Company in February 2000. Mr. Fitzgerald's 40-year career includes technical and503senior management positions at Bell & Howell Co., International Data504Engineering, Inc. and Varitronic Systems, Inc.505506John D. LeGray is Vice President, Quality Assurance and Regulatory507Affairs. He joined the Company in September 1997. Mr. LeGray's 33-year career508includes technical and management positions at DiaSorin Inc., Bayer Corporation509and Abbott Laboratories.510511Daniel M. McWhorter is Vice President, Research and Development. He512joined the Company in January 1997. Mr. McWhorter has more than 28 years of513experience in the medical products industry including both technical and general514management positions at The Kendall Company and Pharmacia Deltec and senior515technical positions at Abbott Laboratories and Mentor Corporation.516517Jane M. Nichols is Vice President, Marketing and New Business518Development. She joined the Company in April 1997. Ms. Nichols' 28-year career519includes clinical, technical and management roles at Methodist Hospital and Park520Nicollet Medical Centers, and senior marketing positions at 3M Company and521Ecolab.522523Timothy R. J. Quinn is Vice President and General Manager, Consumer524Products. He joined the Company in May 1998. He has 20 years of sales and525marketing experience in the consumer products industry. Prior to joining LecTec,526he was Vice President of Sales at Redmond Products. Prior to Redmond, Quinn527served in a variety of sales and marketing management positions for Lederle528Laboratories and General Foods Corporation. He received his Bachelor of Science529Degree in business administration from Western Michigan University and completed530Columbia University executive management courses.531532533-6-534<PAGE>535536537ITEM 2. PROPERTIES538539The Company owns a building located in Minnetonka, Minnesota,540containing 18,000 square feet of office and laboratory space and 12,000 square541feet of manufacturing and warehouse space. In addition, the Company leases a542building in Edina, Minnesota containing 29,000 square feet of manufacturing and543warehouse space. The Edina building lease term extends through June 30, 2002.544545546ITEM 3. LEGAL PROCEEDINGS547548None549550551ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS552553None554555556PART II557558ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER559MATTERS560561The Company's common stock trades on the Nasdaq National Market tier of562the Nasdaq Stock Market ("Nasdaq") under the symbol LECT.563The following table sets forth the high and low daily trade price564information for the Company's common stock for each quarter of fiscal 2000 and5651999. Such prices reflect interdealer prices, without retail mark-up, mark-down,566or commission, and may not necessarily represent actual transactions.567568YEARS ENDED JUNE 30, 2000 1999569------------------ ----------------570HIGH LOW HIGH LOW571---- --- ---- ---572573First Quarter $4.375 $2.688 $4.000 $2.250574575Second Quarter 3.125 1.188 4.000 2.125576577Third Quarter 5.000 1.375 3.000 1.250578579Fourth Quarter 4.875 2.000 4.750 1.813580581As of September 20, 2000 the Company had 3,904,465 shares of common582stock outstanding, and 315 common shareholders of record which number does not583include beneficial owners whose shares were held of record by nominees or broker584dealers.585The Company has not declared or paid cash dividends on its common stock586since its inception, and intends to retain all earnings for use in its business587for the foreseeable future.588589590-7-591<PAGE>592593594ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA595596CONSOLIDATED STATEMENT OF OPERATIONS DATA597598<TABLE>599<CAPTION>600Years ended June 30, 2000 1999 1998 1997 1996601---- ---- ---- ---- ----602<S> <C> <C> <C> <C> <C>603Net sales $ 14,596,346 $ 12,279,075 $ 12,922,365 $ 12,256,327 $ 13,100,754604Gross profit 5,121,217* 4,093,561 3,715,032 4,324,180 4,969,659605Loss from operations (2,890,497)** (1,771,324) (474,935) (2,215,951)*** (724,074)606Loss before equity in losses of607unconsolidated subsidiary (2,859,276)** (1,683,257) (404,061) (2,140,660)*** (632,193)608Equity in losses of unconsoli-609dated subsidiary -- -- -- 126,067 --610Net loss (2,859,276)** (1,683,257) (404,061) (2,266,727)*** (632,193)611Net loss per common and612common equivalent share613(BASIC AND DILUTED) (.74)** (.43) (.10) (.59)*** (.17)614</TABLE>615616617CONSOLIDATED BALANCE SHEET DATA618619<TABLE>620<CAPTION>621At June 30, 2000 1999 1998 1997 1996622---- ---- ---- ---- ----623<S> <C> <C> <C> <C> <C>624Cash, cash equivalents and625short-term investments $ 100,171 $ 1,022,025 $ 2,186,532 $ 1,242,777 $ 800,693626Current assets 5,236,110 5,904,111 6,728,531 6,873,696 5,624,682627Working capital 1,512,561 3,497,926 5,335,861 4,035,084 4,240,024628Property, plant and equipment, net 3,039,088 4,028,491 4,306,568 4,592,304 5,112,975629Long-term investments -- -- 8,676 8,013 574,806630Total assets 8,474,549 10,132,573 11,317,774 11,837,356 12,494,003631Long-term liabilities 31,184 217,868 222,000 211,000 174,000632Shareholders' equity 4,719,816 7,508,520 9,703,104 8,787,744 10,935,345633</TABLE>634635636* Includes a charge of $85,000 related to the plan to exit the medical637tape product line.638639** Includes a charge of $730,000 or $.19 per share related to the plan to640exit the medical tape product line.641642*** Includes a nonrecurring restructuring charge of $2,180,353 or $.57 per643share.644645646-8-647<PAGE>648649650ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION651AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS652653NET SALES654Net sales were $14,596,346 in 2000, an increase of 18.9% from net sales655of $12,279,075 in 1999. Net sales were $12,922,365 in 1998. The increase in 2000656net sales was primarily the result of increased therapeutic consumer product657sales, partially offset by decreased medical tape and conductive product sales.658The decrease in 1999 net sales was primarily the result of decreased medical659tape sales, partially offset by increased therapeutic consumer product sales.660Net sales of conductive products (medical electrodes and conductive661hydrogels) decreased by 4.0% in 2000 to $7,450,755 from $7,758,286 in 1999.662Conductive product net sales were $7,906,676 in 1998. These fluctuations in663sales were primarily volume-related. The Company expects fiscal 2001 conductive664sales to be comparable to fiscal 2000 sales.665Net sales of medical tapes decreased by 29.0% in 2000 to $1,927,392666from $2,716,540 in 1999. Medical tape net sales were $4,157,199 in 1998. The667decrease in 2000 was primarily the result of reduced sales to a low-margin slit668roll tape customer and decreases in sales volume to several other low-margin669medical tape customers. The decrease in 1999 was primarily the result of the670absence of sales in 1999 to an international customer. The Company adopted a671plan at the end of fiscal 2000 to exit the medical tape business and expects672minimal medical tape sales in 2001 as remaining inventories are liquidated.673Net sales of therapeutic consumer products increased 189.2% in 2000 to674$5,218,199 from $1,804,249 in 1999. Net sales of therapeutic consumer products675were $858,490 in fiscal 1998. The increase in 2000 was primarily the result of676increased TheraPatch(R) product sales, which increased 127.1%, and sales in 2000677of the new acne product to Johnson & Johnson Consumer Products Worldwide. The678increase in 1999 was primarily the result of increased TheraPatch sales to679retailers, both as a result of increased volumes and increased unit selling680price. The higher unit selling price in 1999 was the result of the Company681selling directly to retailers rather than to CNS, Inc., the Company's exclusive682distributor to retailers in the prior year. The agreement under which CNS683distributed the TheraPatch product was terminated at the end of fiscal 1998 when684the Company assumed responsibility for retail distribution of the product.685Management believes that sales of the Company's therapeutic patch products will686represent an increased percentage of total net sales during fiscal 2001 due to687continued sales growth of the acne product, new sales of Triaminic(R) Vapor688brand topical cough and cold patches and increased TheraPatch brand name689recognition.690Export sales, consisting primarily of electrodes, semi-finished691conductive and medical tape products sold to overseas converters for final692processing, packaging and marketing, as well as TheraPatch brand therapeutic693consumer products, were 13%, 13% and 26% of total net sales in 2000, 1999 and6941998. All international sales are in U. S. dollars with the exception of695TheraPatch brand products sold in Canada. Export sales increased by $280,581 in696fiscal 2000 primarily as a result of the Canadian TheraPatch sales. The decrease697in the percent for 1999 resulted primarily from the absence in 1999 of medical698tape sales to an international customer as well as decreased conductive sales to699another customer who began manufacturing product previously purchased from the700Company. The Company expects fiscal 2001 international sales will be comparable701to 2000.702703GROSS PROFIT704The Company's gross profit was $5,121,217 in 2000, up from $4,093,561705in 1999. Gross profit was $3,715,032 in 1998. As a percentage of net sales,706gross profit was 35.1% in 2000, 33.3% in 1999 and 28.8% in 1998. Gross profit in7072000 increased by 25.1% from the prior year and gross profit in 1999 increased708by 10.2% from the prior year. The increase in gross profit in 2000 resulted709primarily from a shift in the sales mix to higher margin therapeutic consumer710products. The increase in gross profit in 1999 resulted primarily from a shift711in the sales mix to higher margin therapeutic consumer products from lower712margin medical tape products, as well as higher margins on therapeutic patch713sales primarily as a result of sales made directly to retailers rather than to a714distributor.715716717-9-718<PAGE>719720721SALES AND MARKETING EXPENSES722Sales and marketing expenses totaled $3,672,908 or 25.2% of net sales723in 2000, compared to $2,187,710 or 17.8% of net sales in 1999, and $1,042,788 or7248.1% of net sales in 1998. The 2000 increase was primarily due to increased725TheraPatch related advertising and promotional expenses and slotting fees. The726increase in advertising was primarily the result of a TV ad campaign for727TheraPatch Vapor for Kids. The increased slotting fees resulted from the728placement of TheraPatch products in new stores as well as the placement of new729TheraPatch products on the shelves in existing stores. The 1999 increase was730primarily due to increased sales staff and advertising and slotting fees to731establish new retail accounts. The Company anticipates sales and marketing732expenses as a percent of sales in fiscal 2001 will be comparable to 2000.733734GENERAL AND ADMINISTRATIVE EXPENSES735General and administrative expenses totaled $2,598,998 or 17.8% of net736sales in 2000, compared to $2,507,432 or 20.4% of net sales in 1999, and737$2,110,084 or 16.3% of net sales in 1998. The increase in 2000 was primarily the738result of increased consulting expense which more than offset a decrease in739legal expenses. Legal expense in the prior year included approximately $126,000740related to the re-negotiation and modification of the license agreement for the741development and commercialization of cotinine as well as legal expenses742associated with work on new and existing patents. The increase in 1999 was743primarily the result of increased regulatory and quality assurance expenses744associated with achieving and maintaining ISO 9001 and EN 46001 certification,745expenses related to the re-negotiation and modification of the license agreement746for the development and commercialization of cotinine, and legal expenses747associated with work on new and existing patents. The Company anticipates748general and administrative expenses in fiscal 2001 will be comparable to fiscal7492000.750751RESEARCH AND DEVELOPMENT EXPENSES752Research and development expenses totaled $1,094,808 or 7.5% of net753sales in 2000, compared to $1,169,743 or 9.5% of net sales in 1999, and754$1,037,095 or 8.0% of net sales in 1998. The decrease in 2000 primarily reflects755decreased test-run production costs and supplies which were partially offset by756increased labor costs. The increase in 1999 reflects increased staffing levels757and increased costs for testing of products under development. Management758believes that research and development expenditures as a percent of sales will759be comparable in fiscal 2001 to fiscal 2000.760761MEDICAL TAPE ASSET IMPAIRMENT AND EXIT PLAN762In June of fiscal 2000, the Company adopted a plan to exit the medical763tape business effective June 30, 2000. Adoption of this plan resulted in a764charge for $645,000 related to the write-down of the medical tape equipment to765its estimated fair market value, net of disposal costs, of $526,000. The Company766also recorded a charge of $85,000 to reduce the carrying value of medical tape767inventory to a net realizable value. The $85,000 charge was included in the cost768of goods sold. The Company expects to sell the assets and dispose of the769remaining inventory by December 31, 2000.770771OTHER INCOME AND EXPENSE772Interest expense increased to $35,405 in 2000 from $1,173 in 1999773primarily due to interest expense associated with the line of credit. There was774no interest expense in 1998. Other income decreased to $27,692 in 2000 from775$89,240 in 1999 and $69,874 in 1998 primarily due to decreased interest income776as a result of lower cash and cash equivalent balances.777778INCOME TAX BENEFIT779The Company recorded an income tax benefit in 2000 of $38,934, no780income tax expense or benefit in 1999 and an income tax benefit of $1,000 in7811998. The income tax benefit in 2000 resulted primarily from the refund of taxes782previously paid by the Company's foreign sales corporation. The foreign sales783corporation was dissolved during fiscal 2000. There was no income tax benefit784recorded during 2000, 1999 and 1998 related to the loss before income taxes785since the tax benefit may not be realizable by the Company.786787788-10-789<PAGE>790791792OPERATIONS SUMMARY793The net loss for 2000 resulted primarily from increased sales and794marketing expenses and charges related to the plan to exit the medical tape795business which more than offset an increase in gross profit. The increase in796gross profit resulted from increased sales volume and a shift in the sales mix797toward higher-margin therapeutic consumer products. The net loss for 1999798resulted primarily from increased sales and marketing expenses related to the799Company's investment in the consumer products market and increased general and800administrative expenses, primarily those expenses related to the modification of801the cotinine license agreement and achievement of ISO 9001 and EN 46001802certification. The net loss for 1998 resulted primarily from a decrease in the803gross profit percent due to a shift in the sales mix from higher margin804conductive and therapeutic consumer products to lower margin medical tape805products and increased material costs and material usage.806807EFFECT OF INFLATION808Inflation has not had a significant impact on the Company's operations809or cash flow.810811LIQUIDITY AND CAPITAL RESOURCES812Cash and cash equivalents decreased by $921,854 to $100,171 at June 30,8132000 from $1,022,025 at June 30, 1999. This decrease was primarily due to the814net loss for fiscal 2000 of $2,859,276. Accounts receivable increased by815$294,165 to $2,645,710 primarily due to increased sales for June 2000 as816compared to June 1999. Inventories increased by $251,162 to $2,247,686 primarily817due to increased raw material and finished goods inventory related to818therapeutic products which was partially offset by decreased finished goods819inventory of medical tape.820Working capital totaled $1,512,561 at June 30, 2000, compared to821$3,497,926 at the end of fiscal 1999. The Company's current ratio was 1.4 at822June 30, 2000 compared to 2.5 at June 30, 1999.823Capital spending for plant improvements and equipment totaled $425,856824in 2000. There were no material commitments for capital expenditures at June 30,8252000. Net property, plant and equipment decreased by $989,403 to $3,039,088 at826June 30, 2000 from $4,028,491 at June 30, 1999, reflecting the write-down of the827medical tape equipment to its estimated fair market value of $526,000 and the828excess of depreciation expense over capital spending.829Accounts payable increased by $265,643 to $1,910,551 at June 30, 2000830from $1,644,908 at June 30, 1999 primarily due to increased payables related to831increased manufacturing production as well as an increase in the average number832of days outstanding before payment.833The Company finalized a $2,000,000 asset-based line of credit in834November, 1999 and borrowings outstanding on the line were $837,542 at June 30,8352000. The Company was in default at June 30, 2000 with covenants relating to the836minimum book net worth and the maximum loss before taxes as a result of the837charges totaling $730,000 related to the exit of the medical tape business.838These defaults were waived by the bank in an amendment to the line of credit839dated September 26, 2000. Shareholders' equity decreased by $2,788,704 to840$4,719,816 as of June 30, 2000 from $7,508,520 as of June 30, 1999, primarily841due to the net loss incurred during 2000.842Management believes that existing cash and cash equivalents,843internally-generated cash flow, the existing secured line of credit, an expected844increase in the existing line of credit due to the addition of international845receivables and inventory in the asset base, and expected additional fixed846asset-based financing will be sufficient to support anticipated operating and847capital spending requirements during fiscal 2001. Management is also evaluating848additional sources of capital that may be appropriate for funding longer-term849growth and expansion of the business. Maintaining adequate levels of working850capital depends in part upon the success of the Company's products in the851marketplace, the relative profitability of those products and the Company's852ability to control operating expenses. Funding of the Company's operations in853future periods may require additional investments in the Company in the form of854equity or debt. There can be no assurance that the Company will achieve desired855levels of sales or profitability, or that future capital infusions will be856available.857858859-11-860<PAGE>861862863FORWARD-LOOKING STATEMENTS864From time to time, in reports filed with the Securities and Exchange865Commission (including this Form 10-K), in press releases, and in other866communications to shareholders or the investment community, the Company may867provide forward-looking statements concerning possible or anticipated future868results of operations or business developments which are typically preceded by869the words "believes", "expects", "anticipates", "intends", "will", "may",870"should" or similar expressions. Such forward-looking statements are subject to871risks and uncertainties which could cause results or developments to differ872materially from those indicated in the forward-looking statements. Such risks873and uncertainties include, but are not limited to, the buying patterns of major874customers; competitive forces including new products or pricing pressures; costs875associated with and acceptance of the Company's TheraPatch brand strategy;876impact of interruptions to production; dependence on key personnel; need for877regulatory approvals; changes in governmental regulatory requirements or878accounting pronouncements; and ability to satisfy funding requirements for879operating needs, expansion or capital expenditures.880881882ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK883884The Company has no history of, and does not anticipate in the future,885investing in derivative financial instruments, derivative commodity instruments886or other such financial instruments. Transactions with international customers887are entered into in U. S. dollars with the exception of TheraPatch sales to888Canadian customers, precluding the need for foreign currency hedges. These889Canadian sales have not been material. Additionally, the Company invests in890money market funds and short-term commercial paper, which experience minimal891volatility. Thus, the exposure to market risk is not material.892893894-12-895<PAGE>896897898ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA899900LecTec Corporation and Subsidiaries Financial Statements Furnished Pursuant to901the Requirements of Form 10-K.902903904REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS905906To the Shareholders and907Board of Directors908LecTec Corporation909910We have audited the accompanying consolidated balance sheets of LecTec911Corporation and subsidiaries as of June 30, 2000 and 1999, and the related912consolidated statements of operations, comprehensive loss, shareholders' equity,913and cash flows for each of the three years in the period ended June 30, 2000.914These financial statements are the responsibility of the Company's management.915Our responsibility is to express an opinion on these financial statements based916on our audits.917918We conducted our audits in accordance with auditing standards generally919accepted in the United States of America. Those standards require that we plan920and perform the audit to obtain reasonable assurance about whether the financial921statements are free of material misstatement. An audit includes examining, on a922test basis, evidence supporting the amounts and disclosures in the financial923statements. An audit also includes assessing the accounting principles used and924significant estimates made by management, as well as evaluating the overall925financial statement presentation. We believe our audits provide a reasonable926basis for our opinion.927928In our opinion, the financial statements referred to above present929fairly, in all material respects, the consolidated financial position of LecTec930Corporation and subsidiaries as of June 30, 2000 and 1999, and the consolidated931results of their operations and their consolidated cash flows for each of the932three years in the period ended June 30, 2000, in conformity with accounting933principles generally accepted in the United States of America.934935We have also audited Schedule II of LecTec Corporation and subsidiaries936for each of the three years in the period ended June 30, 2000. In our opinion,937this Schedule presents fairly, in all material respects, the information938required to be set forth therein.939940/s/ GRANT THORNTON LLP941942Minneapolis, Minnesota943August 18, 2000 (except for note B, as to which the date is September 26, 2000)944945946-13-947<PAGE>948949950LECTEC CORPORATION AND SUBSIDIARIES951952CONSOLIDATED BALANCE SHEETS953954<TABLE>955<CAPTION>956June 30,957----------------------------958ASSETS 2000 1999959------------ ------------960<S> <C> <C>961CURRENT ASSETS962Cash and cash equivalents $ 100,171 $ 1,022,025963Receivables964Trade, net of allowance of $127,100 and965$101,800 at June 30, 2000 and 1999 2,642,880 2,335,314966Other 2,830 16,231967Inventories 2,247,686 1,996,524968Prepaid expenses and other 220,514 174,674969Investments 22,029 5,343970Deferred income taxes -- 354,000971------------ ------------972973Total current assets 5,236,110 5,904,111974975PROPERTY, PLANT AND EQUIPMENT -976AT COST977Land 247,731 247,731978Building and improvements 1,879,006 1,841,742979Equipment 5,080,180 7,157,016980Furniture and fixtures 414,857 413,013981------------ ------------9827,621,774 9,659,502983Less accumulated depreciation 4,582,686 5,631,011984------------ ------------9853,039,088 4,028,491986987OTHER ASSETS988Patents and trademarks, less accumulated amortization989of $1,293,871 and $1,154,698 at June 30, 2000 and 1999 199,351 199,971990------------ ------------991992$ 8,474,549 $ 10,132,573993============ ============994</TABLE>995996997The accompanying notes are an integral part of these statements.998999-14-1000<PAGE>100110021003LECTEC CORPORATION AND SUBSIDIARIES10041005CONSOLIDATED BALANCE SHEETS - CONTINUED10061007<TABLE>1008<CAPTION>1009June 30,1010LIABILITIES AND ------------------------------1011SHAREHOLDERS' EQUITY 2000 19991012------------ ------------1013<S> <C> <C>1014CURRENT LIABILITIES1015Note payable to bank $ 837,542 $ --1016Current maturities of long-term obligations 22,562 11,0001017Accounts payable 1,910,551 1,644,9081018Accrued expenses1019Payroll related 371,405 403,0751020Retail support programs 421,489 165,4721021Other -- 181,7301022Customer deposits 160,000 --1023------------ ------------10241025Total current liabilities 3,723,549 2,406,18510261027LONG-TERM OBLIGATIONS, less current maturities 31,184 20,86810281029DEFERRED INCOME TAXES -- 197,00010301031COMMITMENTS AND CONTINGENCIES -- --10321033SHAREHOLDERS' EQUITY1034Common stock, $.01 par value; 15,000,000 shares1035authorized; 3,904,465 and 3,876,476 shares1036issued and outstanding at June 30, 2000 and 1999 39,045 38,7651037Additional contributed capital 11,316,260 11,262,6541038Accumulated other comprehensive gain (loss) 4,845 (11,841)1039Accumulated deficit (6,640,334) (3,781,058)1040------------ ------------10414,719,816 7,508,5201042------------ ------------10431044$ 8,474,549 $ 10,132,5731045============ ============1046</TABLE>104710481049The accompanying notes are an intregral part of these statements.105010511052-15-1053<PAGE>105410551056LECTEC CORPORATION AND SUBSIDIARIES10571058CONSOLIDATED STATEMENTS OF OPERATIONS10591060<TABLE>1061<CAPTION>1062Years ended June 30,1063------------------------------------------------10642000 1999 19981065------------ ------------ ------------1066<S> <C> <C> <C>1067Net sales $ 14,596,346 $ 12,279,075 $ 12,922,3651068Cost of goods sold 9,475,129 8,185,514 9,207,3331069------------ ------------ ------------10701071Gross profit 5,121,217 4,093,561 3,715,03210721073Operating expenses1074Sales and marketing 3,672,908 2,187,710 1,042,7881075General and administrative 2,598,998 2,507,432 2,110,0841076Research and development 1,094,808 1,169,743 1,037,0951077Medical tape asset impairment 645,000 -- --1078------------ ------------ ------------10798,011,714 5,864,885 4,189,9671080------------ ------------ ------------10811082Loss from operations (2,890,497) (1,771,324) (474,935)10831084Other income (expenses)1085Interest expense (35,405) (1,173) --1086Other, net 27,692 89,240 69,8741087------------ ------------ ------------10881089Loss before income taxes (2,898,210) (1,683,257) (405,061)10901091Income tax benefit (38,934) -- (1,000)1092------------ ------------ ------------10931094Net loss $ (2,859,276) $ (1,683,257) $ (404,061)1095============ ============ ============10961097Net loss per share - basic and diluted $ (0.74) $ (0.43) $ (0.10)10981099Weighted average shares outstanding -1100basic and diluted 3,885,911 3,906,694 4,005,4551101</TABLE>110211031104The accompanying notes are an intregral part of these statements.11051106-16-1107<PAGE>110811091110LECTEC CORPORATION AND SUBSIDIARIES11111112CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS11131114<TABLE>1115<CAPTION>1116Years ended June 30,1117------------------------------------------------11182000 1999 19981119------------ ------------ ------------1120<S> <C> <C> <C>1121Net loss $ (2,859,276) $ (1,683,257) $ (404,061)11221123Other comprehensive income (loss)11241125Unrealized gains (losses) on securities1126available-for-sale1127Unrealized holding gains (losses)1128arising during period 16,686 (3,333) 13,9491129Reclassification adjustment for losses1130included in net loss -- -- 10,9151131------------ ------------ ------------113216,686 (3,333) 24,8641133------------ ------------ ------------11341135Comprehensive loss $ (2,842,590) $ (1,686,590) $ (379,197)1136============ ============ ============1137</TABLE>11381139The accompanying notes are an intregral part of these statements.114011411142-17-1143<PAGE>114411451146LECTEC CORPORATION AND SUBSIDIARIES11471148CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY11491150YEARS ENDED JUNE 30, 2000, 1999 AND 199811511152<TABLE>1153<CAPTION>1154Accumulated1155Common stock Additional other Total1156------------------------- contributed comprehensive Accumulated shareholders'1157Shares Amount capital gain (loss) deficit equity1158----------- ----------- ----------- ------------- ----------- -------------1159<S> <C> <C> <C> <C> <C> <C>1160Balance at July 1, 1997 3,842,800 $ 38,428 $10,476,428 $ (33,372) $(1,693,740) $ 8,787,74411611162Net loss -- -- -- -- (404,061) (404,061)11631164Cost of shares retired (10,863) (109) (40,627) -- -- (40,736)11651166Common shares issued upon exercise of options 11,615 116 40,329 -- -- 40,44511671168Unrealized gain on securities available-for-sale -- -- -- 24,864 -- 24,86411691170Common shares issued to acquire minority1171shares of consolidated subsidiary 221,948 2,220 1,367,191 -- -- 1,369,41111721173Shares repurchased (29,500) (295) (124,268) -- -- (124,563)11741175Warrants issued for services -- -- 50,000 -- -- 50,0001176----------- ----------- ----------- ----------- ----------- -----------11771178Balance at June 30, 1998 4,036,000 40,360 11,769,053 (8,508) (2,097,801) 9,703,10411791180Net loss -- -- -- -- (1,683,257) (1,683,257)11811182Common shares issued upon exercise of options 1,000 10 2,390 -- -- 2,40011831184Unrealized loss on securities available-for-sale -- -- -- (3,333) -- (3,333)11851186Common shares issued in connection with the1187employee stock purchase plan 15,126 151 32,855 -- -- 33,00611881189Shares repurchased (175,650) (1,756) (541,644) -- -- (543,400)1190----------- ----------- ----------- ----------- ----------- -----------11911192Balance at June 30, 1999 3,876,476 38,765 11,262,654 (11,841) (3,781,058) 7,508,52011931194Net loss -- -- -- -- (2,859,276) (2,859,276)11951196Common shares issued upon exercise of options 500 5 1,295 -- -- 1,30011971198Unrealized gain on securities available-for-sale -- -- -- 16,686 -- 16,68611991200Common shares issued in connection with the1201employee stock purchase plan 27,489 275 52,311 -- -- 52,5861202----------- ----------- ----------- ----------- ----------- -----------12031204Balance at June 30, 2000 3,904,465 $ 39,045 $11,316,260 $ 4,845 $(6,640,334) $ 4,719,8161205=========== =========== =========== =========== =========== ===========1206</TABLE>12071208The accompanying notes are an intregral part of these statements.120912101211-18-1212<PAGE>121312141215LECTEC CORPORATION AND SUBSIDIARIES12161217CONSOLIDATED STATEMENTS OF CASH FLOWS12181219<TABLE>1220<CAPTION>1221Years ended June 30,1222------------------------------------------------12232000 1999 19981224------------ ------------ ------------1225<S> <C> <C> <C>1226Cash flows from operating activities:1227Net loss $ (2,859,276) $ (1,683,257) $ (404,061)1228Adjustments to reconcile net loss to net1229cash provided by (used in) operating activities:1230Medical tape asset impairment and inventory write-down 730,000 -- --1231Depreciation and amortization 908,024 851,087 844,5941232Warrants issued for services -- -- 50,0001233Loss on sales of investments -- -- 10,9151234Deferred income taxes 157,000 -- (2,000)1235Changes in operating assets and liabilities, net of1236effect of medical tape asset charges:1237Trade and other receivables (294,165) (61,620) (80,617)1238Refundable income taxes -- 52,000 341,7191239Inventories (336,162) (278,513) 859,0101240Prepaid expenses and other (45,840) (71,611) (18,192)1241Accounts payable 265,643 835,761 29,4481242Accrued expenses 42,917 167,154 (104,279)1243Customer deposits 160,000 -- --1244------------ ------------ ------------1245Net cash provided by (used in) operating activities (1,271,859) (188,999) 1,526,53712461247Cash flows from investing activities:1248Purchase of property, plant and equipment (424,448) (419,469) (406,515)1249Investment in patents and trademarks (138,553) (79,513) (62,999)1250Sale of investments -- -- 590,8731251------------ ------------ ------------1252Net cash provided by (used in) investing activities (563,001) (498,982) 121,35912531254Cash flows from financing activities:1255Issuance of common stock 53,586 35,006 38,7451256Repurchases and retirement of common stock -- (543,400) (165,299)1257Net borrowings on note payable 837,542 -- --1258Proceeds from long-term obligations 33,649 36,849 --1259Repayment of long-term obligations (11,771) (4,981) --1260------------ ------------ ------------1261Net cash provided by (used in) financing activities 913,006 (476,526) (126,554)1262------------ ------------ ------------1263Net increase (decrease) in cash and cash1264equivalents (921,854) (1,164,507) 1,521,34212651266Cash and cash equivalents at beginning of year 1,022,025 2,186,532 665,1901267------------ ------------ ------------1268Cash and cash equivalents at end of year $ 100,171 $ 1,022,025 $ 2,186,5321269============ ============ ============1270</TABLE>12711272The accompanying notes are an intregral part of these statements.127312741275-19-1276<PAGE>127712781279LECTEC CORPORATION AND SUBSIDIARIES12801281CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED12821283<TABLE>1284<CAPTION>1285Years ended June 30,1286----------------------------------------12872000 1999 19981288---------- ---------- ----------1289<S> <C> <C> <C>1290Supplemental disclosure of cash flow information:12911292Cash paid during the year for interest $ 28,085 $ 792 $ 1,10612931294Cash paid during the year for income taxes $ -- $ 22,010 $ 16,7321295</TABLE>129612971298Supplemental disclosure of non-cash investing and financing activities:12991300During fiscal 1998, the Company issued 221,948 shares of common stock in1301exchange for the minority interest in Pharmadyne, valued at $1,369,411.13021303The accompanying notes are an intregral part of these statements.130413051306-20-1307<PAGE>130813091310LECTEC CORPORATION AND SUBSIDIARIES13111312NOTES TO CONSOLIDATED FINANCIAL STATEMENTS13131314JUNE 30, 2000, 1999 AND 19981315131613171318NOTE A - SUMMARY OF ACCOUNTING POLICIES13191320LecTec Corporation (the "Company") is primarily engaged in the research,1321design, manufacture and sale of diagnostic electrodes, conductive hydrogels,1322medical tapes and therapeutic consumer products. The Company's customers are1323located throughout the United States as well as Europe, Latin America, Asia,1324Canada and the Middle East. A summary of the Company's significant accounting1325policies consistently applied in the preparation of the accompanying1326financial statements follows:13271328Basis of Financial Statement Presentation13291330The consolidated financial statements include the accounts of LecTec1331Corporation ("LecTec") and subsidiaries. All intercompany accounts and1332transactions have been eliminated in consolidation.13331334Cash and Cash Equivalents13351336The Company considers all highly liquid temporary investments purchased with1337original maturities of three months or less to be cash equivalents. At times1338cash and cash equivalents may be in excess of FDIC insurance limits.13391340Accounts Receivable13411342The Company grants credit to customers in the normal course of business, but1343generally does not require collateral or any other security to support1344amounts due. Management performs on-going credit evaluation of customers. The1345Company maintains allowances for potential credit losses which, when1346realized, have been within management expectations.13471348Investments13491350The Company's investments are classified as available-for-sale and are1351reported at fair value. The Company utilizes the specific identification1352method in computing realized gains and losses.135313541355-21-1356<PAGE>135713581359LECTEC CORPORATION AND SUBSIDIARIES13601361NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED13621363JUNE 30, 2000, 1999 AND 19981364136513661367NOTE A - SUMMARY OF ACCOUNTING POLICIES - Continued13681369Inventories13701371Inventories are stated at the lower of cost (determined on a first-in,1372first-out basis) or market and consist of the following:13731374June 301375-------------------------13762000 19991377---------- ----------13781379Raw materials $1,666,544 $1,324,9731380Work in process 23,202 69,3241381Finished goods 557,940 602,2271382---------- ----------1383$2,247,686 $1,996,5241384========== ==========13851386Depreciation and Amortization13871388Depreciation is provided in amounts sufficient to relate the cost of1389depreciable assets to operations over their estimated service lives. The1390straight-line method of depreciation is followed for financial reporting1391purposes, and accelerated methods are used for tax purposes. Estimated useful1392lives used in the calculation of depreciation for financial statement1393purposes are:13941395Buildings and improvements 5 - 40 years1396Equipment 4 - 15 years1397Furniture and fixtures 5 - 7 years13981399The investment in patents and trademarks consists primarily of the cost of1400applying for patents and trademarks. Patents and trademarks are amortized on1401a straight-line basis over the estimated useful life of the asset, generally1402five years.14031404Revenue Recognition14051406Revenue is recognized at the time of shipment.140714081409-22-1410<PAGE>141114121413LECTEC CORPORATION AND SUBSIDIARIES14141415NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED14161417JUNE 30, 2000, 1999 AND 19981418141914201421NOTE A - SUMMARY OF ACCOUNTING POLICIES - Continued14221423Advertising14241425The Company expenses the cost of advertising as incurred, except for the1426costs of television commercials. These costs are expensed as the commercials1427are broadcast. Advertising expense totaled approximately $536,000, $271,000,1428and $145,000 for the years ended June 30, 2000, 1999 and 1998.14291430Research and Development14311432Research and development costs are expensed as incurred and are reported as a1433component of selling, general and administrative expenses.14341435Net Loss Per Share14361437Basic net loss per share is computed by dividing net loss by the weighted1438average number of common shares outstanding. Diluted net loss per share is1439computed by dividing net loss by the weighted average number of common shares1440outstanding and common share equivalents related to stock options and1441warrants when dilutive.14421443Common stock options and warrants to purchase 1,048,205, 897,506 and 795,9971444shares of common stock with a weighted average exercise price of $6.07, $7.541445and $8.09 were outstanding during the years ended June 30, 2000, 1999 and14461998, but were excluded because they were antidilutive.14471448Stock Based Compensation14491450The Company utilizes the intrinsic value method of accounting for its1451stock-based employee compensation plan. Pro-forma information related to fair1452value based method of accounting is disclosed in Note F.145314541455-23-1456<PAGE>145714581459LECTEC CORPORATION AND SUBSIDIARIES14601461NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED14621463JUNE 30, 2000, 1999 AND 19981464146514661467NOTE A - SUMMARY OF ACCOUNTING POLICIES - Continued14681469Fair Value of Financial Instruments14701471Due to their short-term nature, the carrying value of current financial1472assets and liabilities approximates their fair values. The fair value of1473long-term obligations, if recalculated based on current interest rates, would1474not significantly differ from the recorded amounts.14751476Use of Estimates14771478In preparing consolidated financial statements in conformity with accounting1479principles generally accepted in the United States of America, management is1480required to make estimates and assumptions that affect the reported amounts1481of assets and liabilities and the disclosure of contingent assets and1482liabilities at the date of the financial statements and the reported amounts1483of revenues and expenses during the reporting period. Actual results could1484differ from those estimates.14851486Reclassifications14871488Certain reclassifications have been made to the 1999 and 1998 balances to1489conform to the presentation used in 2000.149014911492NOTE B - NOTE PAYABLE TO BANK14931494The Company entered into a secured line of credit on November 22, 1999, with1495a maximum borrowing of $2,000,000 as defined in the agreement. The credit1496agreement expires November 22, 2001 and includes interest computed at the1497prime rate plus 3% (effective rate of 12.5% at June 30, 2000). The agreement1498includes a minimum annual interest charge for each year of the agreement1499($80,000 and $95,000 for each of the two years ended November 22, 2001).1500Borrowings outstanding on the line of credit were $837,542 at June 30, 2000.1501Borrowings under the credit agreement are collateralized by substantially all1502of the Company's assets. At June 30, 2000, the Company was in violation of1503certain covenants contained in the credit agreement. These covenant1504violations were waived by the bank on September 26, 2000 in connection with1505the establishment of revised financial covenants under the credit agreement.1506The Company expects to be in compliance with the revised covenants during1507fiscal 2001.150815091510-24-1511<PAGE>151215131514LECTEC CORPORATION AND SUBSIDIARIES15151516NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED15171518JUNE 30, 2000, 1999 AND 19981519152015211522NOTE C - LONG-TERM OBLIGATIONS15231524Long-term obligations consists of capital leases, due in various monthly1525installments up to $1,230 including interest from 10.50% to 15.99% through1526May 2003, collateralized by equipment.15271528Maturities of long-term obligations are as follows:15291530Years ending June 30:1531---------------------15322001 $22,56215332002 19,49915342003 11,6851535-------1536$53,7461537=======153815391540NOTE D - COMMITMENTS AND CONTINGENCIES15411542Leases15431544The Company conducts portions of its operations in a leased facility. The1545lease provides for payment of a portion of taxes and other operating expenses1546by the Company. Total rent expense for operating leases was $260,481,1547$250,641 and $248,931 for the years ended June 30, 2000, 1999 and 1998.15481549Future minimum lease commitments under all operating leases are as follows:15501551Years ending June 30:1552---------------------15532001 $261,70015542002 256,100155515561557-25-1558<PAGE>155915601561LECTEC CORPORATION AND SUBSIDIARIES15621563NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED15641565JUNE 30, 2000, 1999 AND 19981566156715681569NOTE D - COMMITMENTS AND CONTINGENCIES - Continued15701571Employee Benefit Plan15721573The Company maintains a contributory 401(k) profit sharing benefit plan1574covering substantially all employees. The Company matches 50% of employee1575contributions up to 5% of a participant's compensation. The Company's1576contributions under this plan were $81,474, $71,006 and $54,901 for the years1577ended June 30, 2000, 1999 and 1998. The Company may also make a discretionary1578contribution. No discretionary contributions were made for each of the three1579years ended June 30, 2000.15801581Legal Proceedings15821583The Company is subject to various legal proceedings in the normal course of1584business. Management believes these proceedings will not have a material1585adverse effect on the Company's financial position or results of operations.158615871588NOTE E - INCOME TAXES15891590Income tax expense (benefit) consists of the following:15911592Years ended June 30,1593---------------------------------------15942000 1999 19981595--------- --------- ---------15961597Current $(195,934) $ -- $ 1,0001598Deferred 157,000 -- (2,000)1599--------- --------- ---------16001601$ (38,934) $ -- $ (1,000)1602========= ========= =========160316041605-26-1606<PAGE>160716081609LECTEC CORPORATION AND SUBSIDIARIES16101611NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED16121613JUNE 30, 2000, 1999 AND 19981614161516161617NOTE E - INCOME TAXES - Continued16181619Deferred tax assets and liabilities represent the tax effects of cumulative1620future deductible or taxable items that have been recognized in the financial1621statements as follows:16221623June 30,1624--------------------------16252000 19991626----------- -----------1627Current assets and liabilities:1628Inventories $ 160,600 $ 199,4001629Vacation pay 73,500 67,1001630Write-down of long-lived medical tape assets 232,200 --1631Other 115,600 40,9001632----------- -----------16331634Net current asset 581,900 307,40016351636Long-term assets and liabilities:1637Net operating loss carryforwards 2,312,000 1,656,5001638Tax credit carryforwards 253,600 253,6001639Tax depreciation in excess of book depreciation (225,000) (273,400)1640Charitable contribution carryforwards 19,200 18,9001641Other 69,800 57,5001642----------- -----------16431644Net long-term asset 2,429,600 1,713,1001645----------- -----------16461647Net deferred tax asset 3,011,500 2,020,5001648Less valuation allowance (3,011,500) (1,863,500)1649----------- -----------16501651Net deferred tax asset $ -- $ 157,0001652=========== ===========16531654At June 30, 2000, the Company has available net operating loss carryforwards1655of approximately $6,800,000 which can be used to reduce future taxable1656income. The utilization of a portion of these net operating loss1657carryforwards is restricted under Section 382 of the Internal Revenue Code1658due to past ownership changes. These net operating loss carryforwards begin1659to expire in 2007. A valuation allowance has been recorded for these net1660operating loss carryforwards as they may not be realizable.166116621663-27-1664<PAGE>166516661667LECTEC CORPORATION AND SUBSIDIARIES16681669NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED16701671JUNE 30, 2000, 1999 AND 19981672167316741675NOTE E - INCOME TAXES - Continued16761677Differences between income tax benefit and the statutory federal income tax1678rate of 34% are as follows:167916802000 1999 19981681------ ------ ------16821683Federal statutory income tax rate (34.0)% (34.0)% (34.0)%1684State income taxes, net of federal effect .1 -- 0.31685Foreign sales corporation -- -- (11.1)1686Change in valuation allowance 33.6 34.4 58.01687Tax exempt investment income -- -- (1.7)1688Prior years' overaccruals -- -- (3.7)1689Other (1.0) (0.4) (8.0)1690----- ----- -----16911692(1.3)% -- % (0.2)%1693===== ===== =====169416951696NOTE F - EQUITY TRANSACTIONS169716981699Employee Stock Purchase Plan17001701The Company's employee stock purchase plan, adopted November 19, 1998, allows1702eligible employees to purchase shares of the Company's common stock through1703payroll deductions. The purchase price is the lower of 85% of the fair market1704value of the stock on the first or last day of each six-month period during1705which an employee participated in the plan. The Company has reserved 200,0001706shares under the plan. The Company issued 27,489 and 15,126 shares in1707connection with purchases by employees for $52,586 and $33,006 for the years1708ended June 30, 2000 and 1999.170917101711-28-1712<PAGE>171317141715LECTEC CORPORATION AND SUBSIDIARIES17161717NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED17181719JUNE 30, 2000, 1999 AND 19981720172117221723NOTE F - EQUITY TRANSACTIONS - Continued17241725Stock Options and Warrants17261727The Company has stock option plans for the benefit of selected officers,1728employees and directors of the Company. A total of 1,673,049 shares of common1729stock are reserved for issuance under the plans. Options under the Company's1730plans are granted at fair market value and expire at five or ten years from1731the grant date. Options given to directors are exercisable at the date of1732grant. Options given to selected officers and employees are exercisable at1733such times as set forth in the individual option agreements, generally1734vesting 100% after three to four years.17351736A summary of the Company's stock option transactions for the years ended June173730, 2000, 1999 and 1998 is as follows:17381739Weighted average1740Number of shares exercise price1741---------------- ----------------1742Outstanding at July 1, 1997 722,833 $8.461743Granted 219,000 5.311744Exercised (11,615) 3.351745Canceled (82,598) 6.371746---------17471748Outstanding at June 30, 1998 847,620 7.861749Granted 304,200 2.761750Exercised (1,000) 2.001751Canceled (16,994) 8.741752---------17531754Outstanding at June 30, 1999 1,133,826 6.481755Granted 115,000 3.041756Exercised (500) 2.001757Canceled (221,704) 8.441758--------- -----17591760Outstanding at June 30, 2000 1,026,622 $5.681761========= =====17621763A total of 604,971, 593,876 and 459,994 options were exercisable at June 30,17642000, 1999 and 1998, with a weighted average price of $6.54, $7.83 and $8.35.176517661767-29-1768<PAGE>176917701771LECTEC CORPORATION AND SUBSIDIARIES17721773NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED17741775JUNE 30, 2000, 1999 AND 19981776177717781779NOTE F - EQUITY TRANSACTIONS - Continued17801781The following information applies to grants that are outstanding at June 30,17822000:17831784<TABLE>1785<CAPTION>1786Options outstanding Options exercisable1787--------------------------- -----------------------1788Weighted Weighted Weighted1789average average average1790Range of Number remaining exercise Number exercise1791exercise prices outstanding contractual life price exercisable price1792--------------- ----------- ---------------- -------- ----------- --------1793<S> <C> <C> <C> <C> <C>1794$2.00- $2.99 341,000 3.7 years $ 2.71 117,750 $ 2.601795$3.00- $4.99 97,571 4.8 years 3.54 46,291 3.551796$5.00- $7.49 273,250 5.7 years 5.66 179,312 5.761797$7.50-$11.24 214,801 4.5 years 8.77 200,988 8.851798$11.25-$13.50 100,000 6.1 years 11.25 60,000 11.251799--------- -------18001,026,622 604,9711801========= =======1802</TABLE>18031804The weighted average fair value of the options granted during 2000, 1999 and18051998 were $1.84, $1.47 and $2.77. The fair value of each option grant is1806estimated on the date of grant using the Black-Scholes option valuation model1807with the following weighted-average assumptions used for all grants in 2000,18081999 and 1998: zero dividend yield, expected volatility of 74%, 62% and 52%,1809risk-free interest rate of 6.53%, 5.77% and 5.57% and expected lives of 4.00,18104.09 and 5.16 years.18111812Management believes the Black-Scholes option valuation model currently1813provides the best estimate of fair value. However, the Black-Scholes option1814valuation model was developed for use in estimating the fair value of traded1815options which have no vesting restrictions and are fully transferable. In1816addition, option valuation models require the input of several subjective1817assumptions. The Company's employee and director stock options have1818characteristics different from those of traded options, and changes in the1819subjective input assumptions can materially affect the fair value estimate.1820In management's opinion, the existing models do not necessarily provide a1821reliable single measure of the fair value of its employee and director stock1822options.182318241825-30-1826<PAGE>182718281829LECTEC CORPORATION AND SUBSIDIARIES18301831NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED18321833JUNE 30, 2000, 1999 AND 19981834183518361837NOTE F - EQUITY TRANSACTIONS - Continued18381839The Company's net loss and net loss per share for 2000, 1999 and 1998 would1840have been increased to the pro forma amounts indicated below had the fair1841value method been used for options granted to employees and directors. These1842effects may not be representative of the future effects of applying this1843method.1844<TABLE>1845<CAPTION>18462000 1999 19981847-------------------------- -------------------------- --------------------------1848As reported Pro forma As reported Pro forma As reported Pro forma1849----------- ----------- ----------- ----------- ----------- -----------1850<S> <C> <C> <C> <C> <C> <C>1851Net loss $(2,859,276) $(3,447,381) $(1,683,257) $(2,201,974) $ (404,061) $ (897,365)1852Net loss per share -1853basic/diluted $(.74) $(.89) $(.43) $(.56) $(.10) $(.22)1854</TABLE>185518561857During 1998, the Company issued a warrant to an outside consultant for the1858purchase of 12,953 shares of the Company's common stock at $6.25 per share,1859expiring November 20, 2004, in exchange for recruiting and placement1860services. The fair value of the warrant granted was calculated on the date of1861grant using the Black-Scholes option-pricing model.18621863Stock Repurchase Program18641865In April 1998, the Company's Board of Directors authorized a stock repurchase1866program pursuant to which up to 500,000 shares, or approximately 12.4% of the1867Company's outstanding common stock, may be repurchased. The shares may be1868purchased from time to time through open market transactions, block1869purchases, tender offers, or in privately negotiated transactions. The total1870consideration for all shares repurchased under this program cannot exceed1871$2,000,000. During the year ended June 30, 1999, the Company repurchased1872175,650 shares for $543,400. There were no shares repurchased during the year1873ended June 30, 2000.187418751876-31-1877<PAGE>187818791880LECTEC CORPORATION AND SUBSIDIARIES18811882NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED18831884JUNE 30, 2000, 1999 AND 19981885188618871888NOTE G - MEDICAL TAPE ASSET IMPAIRMENT AND EXIT PLAN18891890The Company announced that it was exiting the medical tape business effective1891June 30, 2000 and recorded a charge of $730,000. The Company analyzed all1892long-lived medical tape assets in connection with this exit and recorded a1893reduction of $645,000 to their estimated fair market value of $526,000. The1894Company also recorded a charge of $85,000 to reduce the current carrying1895value of medical tape inventory to a net realizable value which has been1896included with costs of goods sold. The Company expects to sell the assets by1897December 31, 2000.189818991900NOTE H - PHARMADYNE CORPORATION AND RESTRUCTURING19011902In October 1997, the Company issued 221,948 new shares of its common stock to1903acquire the minority interests in Pharmadyne. In November 1997, the newly1904issued shares were registered with the Securities and Exchange Commission. On1905December 31, 1997, Pharmadyne Corporation was merged into LecTec Corporation.190619071908NOTE I - SEGMENT INFORMATION19091910The Company operates its business in one reportable segment - the manufacture1911and sale of products based on advanced skin interface technologies. Each of1912the Company's major product lines have similar economic characteristics,1913technology, manufacturing processes, and regulatory environments. Customers1914and distribution and marketing strategies vary within major product lines as1915well as overlap between major product lines. The Company's executive decision1916makers evaluate sales performance based on the total sales of each major1917product line and profitability on a total company basis, due to shared1918infrastructures, to make operating and strategic decisions. Net sales by1919major product line were as follows:19201921Years ended June 30, 2000 1999 19981922----------- ----------- -----------19231924Conductive products $ 7,450,755 $ 7,758,286 $ 7,906,6761925Medical tape products 1,927,392 2,716,540 4,157,1991926Therapeutic consumer products 5,218,199 1,804,249 858,4901927----------- ----------- -----------19281929$14,596,346 $12,279,075 $12,922,3651930=========== =========== ===========193119321933-32-1934<PAGE>193519361937LECTEC CORPORATION AND SUBSIDIARIES19381939NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED19401941JUNE 30, 2000, 1999 AND 19981942194319441945NOTE I - SEGMENT INFORMATION - Continued19461947Export sales accounted for approximately 13%, 13% and 26% of total net sales1948during the years ended June 30, 2000, 1999, and 1998. Export sales are1949attributed to geographic region based upon the location of the customer.1950Export sales by geographic area were as follows:19511952Years ended June 30, 2000 1999 19981953---------- ---------- ----------19541955Europe $1,006,412 $1,216,199 $1,705,9961956Latin America 547,904 371,654 371,8541957Asia 46,279 31,935 62,0271958Canada 298,884 7,011 199,0821959Middle East 10,272 - 912,2401960Other 25,962 28,333 71,9491961---------- ---------- ----------19621963$1,935,713 $1,655,132 $3,323,1481964========== ========== ==========196519661967NOTE J - MAJOR CUSTOMER19681969One customer accounted for 17%, 22% and 18% of total sales for each of the1970three years ended June 30, 2000. The accounts receivable from this customer1971represented 18% and 26% of trade receivables at June 30, 2000 and 1999.1972Management believes that the loss of this customer could have a material1973adverse effect on the Company.197419751976-33-1977<PAGE>197819791980ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING1981AND FINANCIAL DISCLOSURE19821983None.1984198519861987PART III19881989ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT19901991The information required under this item with respect to directors will1992be included under the heading "Election of Directors" in the Company's1993definitive Proxy Statement for the Annual Meeting of Shareholders to be held1994November 16, 2000, and is incorporated herein by reference. The information1995required under this item with respect to executive officers is included under1996the heading "Executive Officers of the Registrant" of Item 1 of this Form 10-K.199719981999ITEM 11. EXECUTIVE COMPENSATION20002001The information required under this item will be included under the2002heading "Executive Compensation" in the Company's definitive Proxy Statement for2003the Annual Meeting of Shareholders to be held November 16, 2000, and is2004incorporated herein by reference.200520062007ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT20082009The information required under this item will be included under the2010heading "Security Ownership of Certain Beneficial Owners and Management" in the2011Company's definitive Proxy Statement for the Annual Meeting of Shareholders to2012be held November 16, 2000, and is incorporated herein by reference.201320142015ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS20162017Information required under this item with respect to certain2018relationships and related transactions will be included under the heading2019"Certain Relationships and Related Transactions" in the Company's definitive2020Proxy Statement for the Annual Meeting of Shareholders to be held on November202116, 2000, and is incorporated herein by reference.202220232024-34-2025<PAGE>202620272028PART IV20292030ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON2031FORM 8-K203220332034(a) Financial Statements, Schedules and Exhibits203520361. Financial Statements20372038The following consolidated financial statements of the Company2039and its subsidiaries are filed as a part of this Form 10-K in2040Part II, Item 8:20412042(i) Report of Independent Certified Public Accountants2043(ii) Consolidated Balance Sheets at June 30, 2000 and 19992044(iii) Consolidated Statements of Operations for the years2045ended June 30, 2000, 1999 and 19982046(iv) Consolidated Statements of Comprehensive Loss for the2047years ended June 30, 2000, 1999 and 19982048(v) Consolidated Statements of Shareholders' Equity for2049the years ended June 30, 2000, 1999 and 19982050(vi) Consolidated Statements of Cash Flows for the years2051ended June 30, 2000, 1999 and 19982052(vii) Notes to the Consolidated Financial Statements205320542. Financial Statement Schedules20552056(i) Schedule II - Valuation and Qualifying2057Accounts, for each of the three years in the2058period ended June 30, 2000 Page 3820592060(ii) Other Schedules - All other schedules have2061been omitted because of the absence of the2062conditions under which they are required or2063because the required information is included2064in the financial statements or the notes2065thereto.206620673. Exhibits20682069Method of2070Filing2071----------20723.01 Articles of Incorporation of Registrant,2073as amended (1)207420753.02 By-laws of Registrant (1)2076207710.01 Service Agreement dated July 1, 1986, between2078LecTec International, Inc., a U.S. Virgin2079Islands corporation, and LecTec Corporation,2080relating to the sale, lease or rental of2081certain property outside the United States. (1)2082208310.02 Distribution and Commission Agreement dated2084July 1, 1986, between LecTec International,2085Inc., a U.S. Virgin Islands corporation, and2086LecTec Corporation, relating to the sale,2087lease or rental of certain property outside2088the United States. (1)208920902091-35-2092<PAGE>20932094209510.03 Certificate of Secretary pertaining to2096Resolution of Board of Directors of LecTec2097Corporation, dated October 30, 1986,2098implementing a Profit Sharing Bonus Plan. (1)20992100**10.04 LecTec Corporation 1989 Stock Option Plan (2)21012102**10.05 LecTec Corporation 1991 Directors' Stock2103Option Plan (2)2104210510.06 Building lease dated May 24, 1991 between2106LecTec Corporation and Sierra Development2107Co. for the lease of the manufacturing and2108warehouse facility located in Edina, Minnesota (2)2109211010.07 First amendment dated May 5, 1997 between2111LecTec Corporation and Rushmore Plaza2112Partners Limited Partnership for the2113extension of the previous lease of the2114manufacturing and warehouse facility located2115in Edina, Minnesota (2)2116211710.08 Articles of Merger of Pharmadyne Corporation2118into LecTec Corporation dated December 31,21191997, whereby Pharmadyne, a wholly-owned2120subsidiary, is merged into LecTec Corporation (3)21212122**10.09 Change In Control Termination Pay Plan2123adopted May 27, 1998, for the benefit of2124certain employees of LecTec Corporation in2125the event of a Change in Control (3)21262127**10.10 LecTec Corporation Employee Stock Purchase2128Plan (4)21292130**10.11 LecTec Corporation 1998 Stock Option Plan (5)2131213210.12 LecTec Corporation 1998 Directors' Stock2133Option Plan (5)2134213510.13 Letter of Intent dated April 19, 1999 between2136LecTec Corporation and Johnson & Johnson2137Consumer Companies, Inc., whereby the parties2138agree to certain milestones leading to the2139development of a skin care product (6)2140214110.14 Credit and Security Agreement by and between2142LecTec Corporation and Wells Fargo business2143Credit, Inc. dated November 22, 1999 and2144First Amendment To Credit and Security2145Agreement and Waiver of Defaults dated2146February 9, 2000, whereby the parties agree2147to the terms and amended terms regarding a2148line of credit (7)21492150*10.15 Supply Agreement dated as of May 15, 20002151by and between LecTec Corporation and2152Novartis Consumer Health, Inc., whereby the2153parties agree to terms for the sale of2154product from LecTec Corporation to Novartis2155Consumer Health, Inc. (8)215621572158-36-2159<PAGE>21602161216221.01 Subsidiaries of the Company (8)2163216423.01 Consent of Grant Thornton LLP (8)2165216627.01 Financial Data Schedule (8)21672168- - ---------------------------------------------------21692170* Confidential treatment has been requested for portions of this2171Exhibit pursuant to Rule 24b-2 under the Securities Exchange2172Act of 1934 as amended. The confidential portions have been2173deleted and filed separately with the United States Securities2174and Exchange Commission together with a confidential treatment2175request.21762177** Management contract or compensatory plan or arrangment2178required to be filed as an exhibit to this Form 10-K.217921802181(1) Incorporated herein by reference to the Company's Form S-182182Registration Statement (file number 33-9774C) filed on October218331, 1986 and amended on December 12, 1986.21842185(2) Incorporated herein by reference to the Company's Annual2186Report on Form 10-K for the year ended June 30, 1997.21872188(3) Incorporated herein by reference to the Company's Annual2189Report on Form 10-K for the year ended June 30, 1998.21902191(4) Incorporated herein by reference to the Company's Registration2192Statement on Form S-8 (file number 333-72571) filed on2193February 18, 1999.21942195(5) Incorporated herein by reference to the Company's Registration2196Statement on Form S-8 (file number 333-72569) filed on2197February 18, 1999.21982199(6) Incorporated herein by reference to the Company's Annual2200Report on Form 10-K for the year ended June 30, 1999.22012202(7) Incorporated herein by reference to the Company's Quarterly2203Report on Form 10-Q for the quarter ended December 31, 1999.22042205(8) Filed herewith.220622072208(b) 1. Reports on Form 8-K.22092210None.221122122213-37-2214<PAGE>221522162217LecTec Corporation and Subsidiaries2218Schedule II2219Valuation and Qualifying Accounts2220Three Years Ended June 30, 2000222122222223<TABLE>2224<CAPTION>2225Balance at Charged to Charge to Balance2226Beginning of costs and other Deductions at end2227Description Period expenses accounts (a) of period2228- - ------------------------------- ------------ ---------- --------- ---------- ---------2229<S> <C> <C> <C> <C> <C>2230Allowance for doubtful accounts22312232Year ended June 30, 1998 48,529 48,000 -- 5,711 90,81822332234Year ended June 30, 1999 90,818 48,000 -- 37,067 101,75122352236Year ended June 30, 2000 101,751 48,000 -- 22,626 127,125223722382239Allowance for sales returns and credits22402241Year ended June 30, 1998 17,598 71,070 -- -- 88,66822422243Year ended June 30, 1999 88,668 61,876 -- 93,787 56,75722442245Year ended June 30, 2000 56,757 345,855 -- 160,206 242,406224622472248Allowance for inventory obsolescence22492250Year ended June 30, 1998 143,438 300,000 -- 233,216 210,22222512252Year ended June 30, 1999 210,222 243,198 -- 168,811 284,60922532254Year ended June 30, 2000 284,609 267,911 -- 406,545 145,9752255</TABLE>225622572258-38-2259<PAGE>226022612262SIGNATURES22632264Pursuant to the requirements of Section 13 or 15(d) of the Securities2265Exchange Act of 1934, the Registrant has duly caused this report to be signed on2266its behalf by the undersigned, thereunto duly authorized, on the 27th day of2267September, 2000.22682269LECTEC CORPORATION22702271/s/Rodney A. Young2272-----------------------2273Rodney A. Young2274Chairman, Chief Executive Officer and President2275(Principal Executive Officer)22762277Pursuant to the requirements of the Securities Exchange Act of 1934,2278this report has been signed below by the following persons on behalf of the2279Registrant and in the capacities and on the date indicated.228022812282/s/Rodney A. Young September 27, 20002283- - ---------------------------------------------------- ------------------2284Rodney A. Young2285Chairman, Chief Executive Officer and President2286(Principal Executive Officer)228722882289/s/Douglas J. Nesbit September 27, 20002290- - ---------------------------------------------------- ------------------2291Douglas J. Nesbit2292Chief Financial Officer2293(Principal Financial Officer and Accounting Officer)229422952296/s/Lee M. Berlin September 27, 20002297- - ---------------------------------------------------- ------------------2298Lee M. Berlin2299Director230023012302/s/Bert J. McKasy September 27, 20002303- - ---------------------------------------------------- ------------------2304Bert J. McKasy2305Director230623072308/s/Marilyn K. Speedie September 27, 20002309- - ---------------------------------------------------- ------------------2310Marilyn K. Speedie231123122313/s/Donald C. Wegmiller September 27, 20002314- - ---------------------------------------------------- ------------------2315Donald C. Wegmiller2316Director231723182319-39-2320<PAGE>232123222323EXHIBIT INDEX23242325Exhibits2326- - --------232723283.01 Articles of Incorporation of Registrant, as amended (Note 1).232923303.02 By-laws of Registrant (Note 1).2331233210.01 Service Agreement dated July 1, 1986, between LecTec International,2333Inc., a U.S. Virgin Islands corporation, and LecTec Corporation,2334relating to the sale, lease or rental of certain property outside2335the United States (Note 1).2336233710.02 Distribution and Commission Agreement dated July 1, 1986, between2338LecTec International, Inc., a U.S. Virgin Islands corporation, and2339LecTec Corporation, relating to the sale, lease or rental of certain2340property outside the United States (Note 1).2341234210.03 Certificate of Secretary pertaining to Resolution of Board of2343Directors of LecTec Corporation, dated October 30, 1986,2344implementing a Profit Sharing Bonus Plan (Note 1).23452346**10.04 LecTec Corporation 1989 Stock Option Plan (Note 2).23472348**10.05 LecTec Corporation 1991 Directors' Stock Option Plan (Note 2).2349235010.06 Building lease dated May 24, 1991 between LecTec Corporation and2351Sierra Development Co. for the lease of the manufacturing and2352warehouse facility located in Edina, Minnesota (Note 2).2353235410.07 First amendment dated May 5, 1997 between LecTec Corporation and2355Rushmore Plaza Partners Limited Partnership for the extension of the2356previous lease of the manufacturing and warehouse facility located2357in Edina, Minnesota (Note 2).2358235910.08 Articles of Merger of Pharmadyne Corporation into LecTec Corporation2360dated December 31, 1997, whereby Pharmadyne, a wholly-owned2361subsidiary, is merged into LecTec Corporation (Note 3).23622363**10.09 Change In Control Termination Pay Plan adopted May 27, 1998, for the2364benefit of certain employees of LecTec Corporation in the event of a2365Change in Control (Note 3).23662367**10.10 LecTec Corporation Employee Stock Purchase Plan (Note 4).23682369**10.11 LecTec Corporation 1998 Stock Option Plan (Note 5).23702371**10.12 LecTec Corporation 1998 Directors' Stock Option Plan (Note 5).2372237310.13 Letter of Intent dated April 19, 1999 between LecTec Corporation and2374Johnson & Johnson Consumer Companies, Inc., whereby the parties2375agree to certain milestones leading to the development of a skin2376care product (Note 6).2377237810.14 Credit and Security Agreement by and between LecTec Corporation and2379Wells Fargo business Credit, Inc. dated November 22, 1999 and First2380Amendment To Credit and Security Agreement and Waiver of Defaults2381dated February 9, 2000, whereby the parties agree to the terms and2382amended terms regarding a line of credit (Note 7).238323842385-40-2386<PAGE>238723882389*10.15 Supply Agreement dated as of May 15, 2000 by and between LecTec2390Corporation and Novartis Consumer Health, Inc., whereby the parties2391agree to terms for the sale of product from LecTec Corporation to2392Novartis Consumer Health, Inc......................................2393239421.01 Subsidiaries of the Company........................................2395239623.01 Consent of Grant Thornton LLP......................................2397239827.01 Financial Data Schedule............................................2399240024012402NOTES:24032404* Confidential treatment has been requested for portions of this2405Exhibit pursuant to Rule 24b-2 under the Securities Exchange Act of24061934 as amended. The confidential portions have been deleted and2407filed separately with the United States Securities and Exchange2408Commission together with a confidential treatment request.24092410** Management contract or compensatory plan or arrangment required to2411be filed as an exhibit to this Form 10-K.24122413(1) Incorporated herein by reference to the Company's Form S-182414Registration Statement (file number 33-9774C) filed on October 31,24151986 and amended on December 12, 1986.24162417(2) Incorporated herein by reference to the Company's Annual Report on2418Form 10-K for the year ended June 30, 1997.24192420(3) Incorporated herein by reference to the Company's Annual Report on2421Form 10-K for the year ended June 30, 1998.24222423(4) Incorporated herein by reference to the Company's Registration2424Statement on Form S-8 (file number 333-72571) filed on February 18,24251999.24262427(5) Incorporated herein by reference to the Company's Registration2428Statement on Form S-8 (file number 333-72569) filed on February 18,24291999.24302431(6) Incorporated herein by reference to the Company's Annual Report on2432Form 10-K for the year ended June 30, 1999.24332434(7) Incorporated herein by reference to the Company's Quarterly Report2435on Form 10-Q for the quarter ended December 31, 1999.243624372438-41-24392440</TEXT>2441</DOCUMENT>2442<DOCUMENT>2443<TYPE>EX-10.152444<SEQUENCE>22445<FILENAME>0002.txt2446<DESCRIPTION>SUPPLY AGREEMENT2447<TEXT>244824492450EXHIBIT 10.15245124522453SUPPLY AGREEMENT24542455THIS SUPPLY AGREEMENT, dated as of May 15, 2000 (the "Effective Date"), is2456between Novartis Consumer Health, Inc., 560 Morris Avenue, Summit, New Jersey245707901 ("Novartis"), a Delaware corporation, and LecTec Corporation, a Minnesota2458corporation, 10701 Red Circle Dr., Minnetonka, MN 55343 ("LecTec").24592460Background24612462A. LecTec is a manufacturer of medical and health-related consumer2463products, including a line of proprietary patch products for the2464over-the-counter market which emit vapors which, when inhaled, provide relief of2465cough and cold symptoms (the "Vapor Patches"). LecTec manufactures and sells2466such patch products under its own trade names and also manufactures and sells2467certain of such patch products to third parties.24682469B. Novartis is a manufacturer and reseller of health-related consumer2470products.24712472C. Novartis desires to obtain a supply of certain LecTec patch products,2473and LecTec desires to supply same, all upon the terms and conditions set forth2474below and in the attached exhibits.24752476NOW, THEREFORE, the parties do hereby agree to the following:247724781. GENERAL SCOPE OF AGREEMENT247924801.1 Manufacturing. LecTec has developed and shall manufacture, sell and2481cause to be delivered to Novartis the products set forth in Exhibit A hereto2482(the "Products") in quantities sufficient to meet the total requirements,2483consistent with the forecasting and purchase order mechanism set forth in2484Article 3 of this Agreement, of Novartis for use in the pediatric field of use2485(the "Field of Use") and in the countries set forth in Exhibit D hereto (the2486"Territory") of such Products. LecTec shall manufacture and sell the Products2487exclusively to Novartis, provided, however, "exclusivity" in the foregoing2488sentence shall mean that LecTec may not manufacture and sell the Products or any2489other Vapor Patches (collectively, "Comparable Products") in the Field of Use2490and in the Territory to any other customer. Notwithstanding such exclusivity,2491LecTec may continue to manufacture and sell Comparable Products directly to2492retailers under its "TheraPatch" tradename, or under any Other LecTec Trade Name2493(as defined below) even if such Comparable Products may compete directly with2494the Products in the Field of Use and in the Territory. The term "Other LecTec2495Trade Names" shall mean any LecTec tradenames in existence at the Effective Date2496or as developed by LecTec during the term of this Agreement, but not including2497any third party's trade names which LecTec acquires or to which LecTec otherwise2498gains rights during the term of this Agreement.249925001.2 ( * )2501* Denotes confidential information that has been omitted from the exhibit and2502filed separately, accompanied by a confidential treatment request, with the2503Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities2504Exchange Act of 1934.25052506250712508<PAGE>2509251025111.2.1 ( * )251225131.2.2 ( * )251425151.3 Fulfillment of Requirements. Novartis shall purchase all of Novartis'2516requirements of the Products for use in the Territory and the Field of Use2517exclusively from LecTec, in accordance with and subject to the terms and2518conditions of this Agreement. This requirements obligation is limited to2519Novartis' requirements of Products which meet the Specifications (as defined2520below).252125221.4 Minimum Requirements. During the period commencing on the Effective2523Date and ending on December 31, 2001 (the "Initial Period"), and during each2524calendar year thereafter (the Initial Period and each calendar year thereafter2525each being a "Period"), Novartis shall purchase at least the minimum2526requirements of Products set forth in Exhibit C hereto (the "Minimum2527Requirements").252825291.4.1 In calculating whether Novartis has in fact purchased the2530Minimum Requirements, the parties shall count all variations of the Products2531purchased by Novartis from LecTec in the Period in one cumulative total. Any2532Products returned to LecTec by Novartis hereunder shall not be counted in such2533total (but replacements of such returned Products shall be25342535253625372538* Denotes confidential information that has been omitted from the exhibit and2539filed separately, accompanied by a confidential treatment request, with the2540Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities2541Exchange Act of 1934.25422543254422545<PAGE>254625472548included in such counting as if such replacements had been purchased at the time2549of the Products being replaced).255025511.4.2 Beginning on January 1, 2002 and in each January thereafter,2552if Novartis failed to purchase at least the Minimum Requirements of Products2553during the preceding Period, then, by February 28 of the applicable calendar2554year, Novartis shall either (a) place firm purchase orders for the shortfall2555("Shortfall") and such Shortfall amount of Products shall be deemed added, on a2556one-time basis, to the Minimum Requirements for the Period in which such2557purchase order is placed; or (b) pay to LecTec an amount equal to forty percent2558(40%) of the difference between (i) the amount Novartis would have paid if it2559had actually purchased the Minimum Requirements of Products for such period and2560(ii) the amount actually paid for Products purchased during such period2561("Compensatory Payment"). If Novartis elects not to place such orders for the2562Shortfall amount by such date, and elects not to make the Compensatory Payment2563by such date, then LecTec shall no longer be obligated to sell Products to2564Novartis on an exclusive basis within the Field of Use and the Territory and may2565thereafter sell Comparable Products to third parties within the Field of Use and2566the Territory. Upon such termination of Novartis' exclusivity, Novartis shall2567cease to have any requirements to purchase the Minimum Requirements of the2568Products. The provisions of this Section 1.4.2 shall not apply in the event that2569Novartis' failure to purchase the Minimum Requirements is due to to the actions2570or omissions of LecTec.257125721.4.3 On January 1, 2002, at the option of LecTec, the parties shall2573negotiate in good faith an increase in the annual Minimum Requirements. However,2574in no event shall Novartis be obligated to agree to an increase in the Minimum2575Requirements of more than twenty-five percent (25%).257625771.5 Regulatory Compliance. As set forth below, LecTec shall be responsible2578for regulatory compliance in the manufacture of the Products and supply of same2579to Novartis. Novartis shall be responsible for regulatory compliance in the2580proper labeling of the Products and the sale of same to end users, directly or2581indirectly, which shall be under the exclusive control of Novartis. The parties2582shall cooperate in good faith to achieve such regulatory compliance.258325841.6 Production Standards. All Products sold and delivered to Novartis2585hereunder shall (a) conform in all material respects with the specifications set2586forth in the Quality Assurance Agreement, attached hereto as Exhibit B (the "QA2587Agreement"), and with such further specifications as shall be agreed to by all2588parties in writing (the "Specifications"); (b) be manufactured, packaged and2589sold to Novartis without any material deviation from or breach of (i) the2590QAAgreement, and (ii) any applicable laws, regulations, and requirements of any2591government or governmental agency; and (c) be subject to the warranties set2592forth in Article 9 of this Agreement.259325941.7 Brand Name. Novartis intends to market the Products under the2595proprietary names "Vapor Patch" or "VaporPatch" (as selected by Novartis in its2596own discretion). LecTec hereby acknowledges that it has no objection to Novartis2597seeking to register such names at its own expense and risk with the United2598States Trademark Office, or with other authorities, and25992600260132602<PAGE>260326042605shall file its consent thereto, as requested in writing by Novartis, but LecTec2606does not warrant or imply that such marks are otherwise available or will be2607granted. LecTec shall give commercially reasonable cooperation to Novartis to2608manufacture and label the Products with such name or names or other names as2609Novartis, in its sole discretion, may designate from time to time during the2610term of this Agreement. However, subject to the foregoing, nothing herein shall2611be deemed to authorize the use of any LecTec trade name or trademark or any2612other mark that would dilute or reasonably tend to dilute any such LecTec trade2613name or trademark.261426152. PAYMENT261626172.1 Prices. In consideration of the satisfactory manufacture and delivery2618to Novartis of the ordered quantities of Products, and subject to adjustment in2619accordance with this Agreement, Novartis shall pay LecTec for the Products in2620accordance with the prices set forth in Exhibit C hereto. Novartis shall make2621such payments within thirty (30) days of the date of each LecTec invoice issued2622upon shipment of the Products. Such payments shall be without prejudice to the2623inspection and credit rights of Novartis under Article 4 of this Agreement.262426252.2 Taxes. Novartis shall bear the cost of taxes of any kind, nature or2626description whatsoever applicable to the sale of any Products by LecTec to2627Novartis (other than taxes based upon the income of LecTec or LecTec's2628employees), unless Novartis is exempt therefrom and provides to LecTec, at the2629time of the submission of any Purchase Order, tax exemption certificates or2630permits acceptable to the appropriate taxing authorities.263126322.3 Shipment. ( * )263326342.4 ( * )263526362.5 ( * )2637263826392640* Denotes confidential information that has been omitted from the exhibit and2641filed separately, accompanied by a confidential treatment request, with the2642Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities2643Exchange Act of 1934.26442645264642647<PAGE>2648264926502.5.1 ( * )265126522.5.2 ( * )265326542.5.3 ( * )265526562.6 ( * )265726582.7 Raw Material Vendors. Novartis may at any time identify to LecTec2659lower cost and comparable quality sources from which LecTec may obtain any of2660the Raw Materials. In such an event, except to the extent that such other source2661is unable to reasonably satisfy LecTec's quality, service or delivery standards,2662or any of LecTec's other standard vendor qualification requirements, LecTec2663shall utilize the sources identified by Novartis as soon as commercially26642665266626672668* Denotes confidential information that has been omitted from the exhibit and2669filed separately, accompanied by a confidential treatment request, with the2670Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities2671Exchange Act of 1934.26722673267452675<PAGE>267626772678feasible, and the prices charged to Novartis for Products shall be reduced by2679the amount of any resulting reductions in Raw Material costs. Novartis shall2680reimburse LecTec for any costs LecTec shall reasonably incur in implementing any2681such change in sources.268226832.8 ( * )268426852.9 ( * )268626873. FORECASTS AND ORDERS268826893.1 Rolling Forecasts. In order to assist LecTec in planning production,2690Novartis shall provide LecTec with a twelve (12) month rolling forecast of the2691quantities of Products and delivery dates required by Novartis, by month, for2692the following twelve (12) months. It is understood that such forecasts are2693intended to be estimates only and shall not be binding upon Novartis.2694Notwithstanding the foregoing, Novartis shall be bound to purchase from LecTec2695one hundred percent (100%) of those quantities of Products set forth in each2696such forecast as being Novartis' requirements of Products for the first three2697(3) months of each twelve (12) month period and, accordingly, shall issue2698purchase orders therefor pursuant to Section 3.2. LecTec shall, no later than2699ten (10) business days after receipt of each such forecast, notify Novartis in2700writing of any prospective problems of which it is then aware that might prevent2701it from meeting Novartis' forecasted order quantities or estimated delivery2702dates. Unless LecTec so informs Novartis that it would have problems in meeting2703Novartis' forecasted requirements, LecTec shall be obligated to deliver during2704any calendar year, pursuant to purchase orders provided under Section 3.2 of2705this Agreement, up to one hundred twenty percent (120%) of Novartis' estimated2706purchases for that calendar year (but in no single month more than one hundred2707fifty percent27082709271027112712* Denotes confidential information that has been omitted from the exhibit and2713filed separately, accompanied by a confidential treatment request, with the2714Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities2715Exchange Act of 1934.27162717271862719<PAGE>272027212722(150%) of those quantities of Products set forth in the most recent forecast as2723being Novartis' requirements of Products for the first month of the forecasted2724twelve (12) month period). LecTec shall further use its commercially reasonable2725efforts to comply with purchase orders for Products in excess of such one2726hundred twenty percent (120%) and one hundred fifty percent (150%) amounts.272727283.2 Purchase Orders. Subject to Section 3.1, at least sixty (60) days2729prior to the date on which Novartis desires to have a shipment of Products2730delivered (as defined in Section 2.4), Novartis shall furnish to LecTec a2731binding purchase order for such shipment, stating (a) the desired quantity of2732Products, and (b) the desired delivery date. Each such Novartis purchase order2733shall be subject to acceptance by LecTec. If LecTec has not indicated in writing2734its rejection of such a purchase order within five (5) business days from2735receipt of same, such purchase order shall be deemed accepted. If LecTec cannot2736accept a specific purchase order, it shall, within such 5-day period, inform2737Novartis in writing of the circumstances and of LecTec's proposed alternative2738delivery proposal. In such event, Novartis shall have no firm commitment to2739purchase, and LecTec shall have no firm commitment to supply, unless Novartis2740furnishes LecTec with a new purchase order incorporating such alternative2741proposal and LecTec has accepted same.274227433.3 Amendment of Purchase Orders. LecTec shall use its commercially2744reasonable efforts to accommodate any Novartis requests for delivery of Products2745in excess of the quantities described in any previously-submitted and accepted2746purchase order, or for delivery of Products sooner than that allowed pursuant to2747this Article 3. If Novartis' business conditions necessitate reduction or delay2748in purchase order requirements, then LecTec shall use its commercially2749reasonable efforts to implement such requested changes. Notwithstanding the2750foregoing, LecTec shall not take any action in response to any such requests2751which would result in charges to Novartis in addition to those set forth in the2752respective purchase order without Novartis' prior written consent.275327544. INSPECTIONS AND ACCEPTANCE275527564.1 Inspection; Right of Rejection. Novartis shall accept any delivery of2757Products hereunder if, in Novartis' sole and reasonable discretion, Novartis2758determines that the delivery complies fully with the relevant purchase order,2759the Specifications and the requirements of this Agreement. Novartis shall have2760the right to inspect all Products delivered hereunder within thirty (30) days of2761its receipt of the Products and all required documentation. Novartis shall2762provide LecTec with written notice of its acceptance or rejection of the2763shipment within sixty (60) days of receipt of the Products and all required2764documentation. Any notice of rejection shall specify the reason(s) therefor.2765Except in the event of any investigation, corrective action or retesting of a2766shipment, if Novartis fails to provide LecTec with written notice of its2767acceptance or rejection of the shipment within sixty (60) days of receipt of the2768Products and all required documentation, then the shipment shall be deemed to2769have been accepted by Novartis. Novartis' prior payment of any invoice for a2770shipment which is timely rejected under this Section 4.1 shall not prejudice2771Novartis' right under Section 4.2 to seek replacement Products or a credit or2772refund, as Novartis may deem appropriate, with respect to any such rejected2773Products.27742775277672777<PAGE>2778277927804.2 Replacements. If Novartis notifies LecTec that any, or any part2781thereof, is rejected pursuant to Section 4.1, then, at Novartis' option, (a)2782LecTec shall, at no additional charge, deliver replacement Products to Novartis2783as soon as reasonably practicable thereafter (but, in any event, within ninety2784(90) days after the initial notification by Novartis); or (b) the purchase order2785at issue shall be deemed terminated, and Novartis shall not be obligated to make2786any payments to LecTec with respect to such purchase order or the rejected2787shipment (or, if payment has already been made for such Products, then Novartis2788shall be entitled to a credit in such amount). Novartis shall give commercially2789reasonable cooperation to LecTec to determine the nature and extent of any2790problem giving rise to a rejection of Products, including, without limitation,2791prompt samples of any allegedly non-conforming Products.279227934.3 Returns. Novartis shall not return any rejected Products to LecTec2794except upon a return material authorization ("RMA") from LecTec. LecTec shall2795pay the freight to deliver replacement Products to Novartis for rightfully2796rejected Products, and LecTec shall pay the freight to return to LecTec or its2797designee rejected Products for which LecTec has provided to Novartis an RMA.279827995. DOCUMENTATION AND INFORMATION280028015.1 Confirmation. LecTec shall submit to Novartis the batch manufacturing2802and testing documents relating to any Products ordered hereunder, within ten2803(10) days of the completion of the manufacturing process with respect to any2804particular batch of Products. LecTec shall provide such documentation as2805reasonably requested by Novartis solely (a) to assist Novartis in determining2806whether any manufactured or delivered Products comply fully with the2807Specifications and the requirements of this Agreement; (b) to assist Novartis in2808obtaining any and all regulatory approvals necessary to market the Products in2809the Territory; or (c) to enable Novartis to comply with any statutory or2810regulatory requirements or with a request by any governmental or regulatory2811authority in the Territory. Such records and reports shall be subject to the2812confidentiality provisions of Article 8 of this Agreement, shall be deemed2813LecTec's Confidential Information, and shall be subject to the requirements of2814Section 1.3 of the QA Agreement.281528165.2 Certificate of Analysis. Every shipment of the Products to Novartis2817shall be accompanied by a Certificate of Analysis from LecTec to certify the2818active ingredients therein. LecTec shall warrant the accuracy of each such2819Certificate of Analysis to a reasonable degree of scientific certainty.282028215.3 Books and Records. LecTec shall keep on file all books and records in2822connection with the manufacture and testing of the Products, including, but not2823limited to, those books and records relating to cross-over cleaning, process2824validation, installation qualification, operational qualification and cleaning2825validation for a period of seven (7) years, plus the active year, from the time2826of generation of such documents.28272828282982830<PAGE>2831283228336. PRODUCTION PROCEDURES283428356.1 No Reworked Products. LecTec shall not rework or reprocess any2836non-conforming Products without the prior written approval of Novartis.283728386.2 Product Packaging. The Products shall be delivered to Novartis2839packaged in accordance with the Specifications. Notwithstanding the foregoing,2840Novartis shall have the right to require any special or varied packing that it2841believes is reasonably necessary to meet customs or regulatory requirements in2842the Territory. Reasonable incremental costs which result directly from any2843packing changes required by Novartis will be borne by Novartis.284428456.3 Production Procedures. At an agreed upon time prior to its first2846production run of the Products for Novartis, and at some mutually agreeable time2847prior to the production of qualification batches, LecTec either shall provide to2848a designated Novartis employee, or shall permit such designated Novartis2849employee to review at LecTec's facility, for Novartis' review and approval,2850LecTec's production procedures for the Products ("Production Procedures"). Such2851Production Procedures shall include the manufacturing site, manufacturing2852equipment, manufacturing process, manufacturing conditions and testing2853procedures for the manufacture of the Products. After such initial Novartis2854approval, if LecTec wishes to make any material change in any of the Production2855Procedures so documented and approved, LecTec shall provide notice thereof to2856the designated Novartis employee, and shall permit such designated Novartis2857employee to review such proposed changes at LecTec's facility, at least thirty2858(30) days prior to its first production run under such revised Production2859Procedures. All such changes to the Production Procedures must be approved in2860writing by Novartis prior to being implemented, which approval shall not2861unreasonably be withheld.286228636.4 Waste Disposal. LecTec represents and warrants, to the best of its2864knowledge, and shall take all commercially reasonable actions necessary to2865ensure, that all facilities, equipment and practices used to perform LecTec's2866responsibilities under this Agreement by or on behalf of LecTec, or by any of2867LecTec's contractors of any rank (including, without limitation, environmental2868or safety and health consultants or waste management or disposal firms) (each a2869"LecTec Contractor") will be during the term of this Agreement, in full2870compliance with all health, safety and environmental laws, statutes, ordinances,2871regulations, rules, permits and pronouncements. LecTec assumes responsibility2872for disposing of any and all waste generated during the performance of its2873responsibilities under this Agreement (including, without limitation, during any2874manufacturing, storage and transportation activities) in accordance with all2875legal and professional standards.287628776.4.1 LecTec shall Dispose or arrange for the Disposal of Waste and2878at an Approved Disposal Facility. Novartis shall have the right to unilaterally2879modify any designation of any Approved Disposal Facility at any time based upon2880audit and inspection results. LecTec shall only transport Waste to an Approved2881Disposal Facility by means of a transporter lawfully permitted to transport the2882particular types of Waste at issue. LecTec shall be solely responsible for the2883proper Disposal of Waste. For purposes of this Section 6.4.1,28842885288692887<PAGE>2888288928906.4.1.1 "Dispose" or "Disposal" shall mean any discharge,2891deposit, injection, dumping, spilling, leaking, or placing of any Waste into or2892on any land or water and the arrangement of any of the foregoing, and shall2893include any storage, pretreatment, treatment (including incineration), any other2894actual disposal, use, sale, sampling or other transfer or application of Waste2895of any kind or nature whatsoever;289628976.4.1.2 "Waste" shall mean, for purposes of this Agreement2898only, all materials that are produced or generated in connection with the2899manufacture of any chemical compounds pursuant to this Agreement and for which2900Disposal is required, including but not limited to materials that are Hazardous2901Waste, co-product, by-product, chemical compounds that fail to conform to the2902requirements of this Agreement, wastewaters, residues, wastes, bottoms and other2903remainders and materials, packaging of, or components of the chemical compounds,2904and components of any chemical compounds that are not used in the manufacture of2905the chemical compounds;290629076.4.1.3 "Hazardous Waste" shall mean (a) any material or2908substance defined as or containing materials defined as a "hazardous substance"2909pursuant to any applicable laws or regulations, including the Comprehensive2910Environmental Response, Compensation and Liability Act, as amended, the Resource2911Conservation and Recovery Act, as amended, and any similar successor or2912supplementary legislation, and the regulations promulgated thereunder, or (b)2913any material or substance that is radioactive; and291429156.4.1.4 "Approved Disposal Facility" shall mean a disposal2916facility approved by Novartis, which approval shall not be unreasonably2917withheld.291829196.4.2 Notwithstanding anything to the contrary herein, (i) if LecTec2920and/or any LecTec Contractor fails to comply with the obligations set forth in2921this Section 6.4, then LecTec shall be responsible for any claims, suits, or2922liabilities resulting therefrom (including, without limitation, those based on2923strict liability and joint and several liability), and LecTec shall indemnify,2924defend and save Novartis (including officers, directors, employees and agents of2925Novartis) harmless from and against any and all such claims, suits, and2926liabilities; and (ii) LecTec shall indemnify, defend and save Novartis2927(including officers, directors, employees and agents of Novartis) harmless from2928and against any and all claims, suits, and liabilities which arise directly or2929indirectly from the storage, release, transportation or disposal of chemicals,2930raw materials, product, waste or any other substance by LecTec and/or any LecTec2931Contractor.293229337. OWNERSHIP293429357.1 Novartis Property. All materials, inventions, know-how, trademarks,2936information, data, writings and other property, in any form whatsoever, which is2937provided to LecTec by and/or on behalf of Novartis, or which is used by LecTec2938with respect to the performance of its obligations hereunder, and which was2939owned by Novartis prior to being provided to LecTec, shall remain the property2940of Novartis (the "Novartis Property"). LecTec shall have a royalty-free license2941to use any Novartis Property supplied to it solely to the extent necessary to2942enable LecTec to perform its obligations hereunder. LecTec shall not acquire any2943other right, title or interest in the Novartis Property as a result of its2944performance hereunder. Without limiting the294529462947102948<PAGE>294929502951foregoing, Novartis Property shall include the copyrights and trademarks used in2952the packaging of the Products ("Packaging IP Rights").295329547.2 LecTec Property. All materials, inventions, know-how, trademarks,2955information, data, writings and other property, in any form whatsoever, which is2956provided to Novartis by or on behalf of LecTec, or which is used by LecTec with2957respect to the performance of its obligations hereunder, and which was owned by2958LecTec prior to its performance or is developed or acquired in the course of2959such performance hereunder, shall remain the property of LecTec (the "LecTec2960Property"). Novartis shall acquire no right, title or interest in the LecTec2961Property as a result of LecTec's performance hereunder. Without limiting the2962foregoing, as between the parties hereto, all the intellectual property rights2963for the Products other than the Packaging IP Rights shall be deemed to be LecTec2964Property.296529667.3 Effect of Termination. Upon the termination of this Agreement, each2967party shall return to its owner all Novartis Property or LecTec Property, as2968applicable, except for one copy which may be retained in the returning party's2969confidential files.297029718. TRADE SECRETS, CONFIDENTIALITY AND PUBLICITY297229738.1 Confidential Information. During the period that this Agreement is in2974effect and thereafter, LecTec and Novartis shall not disclose to anyone in any2975manner whatsoever or use for any purpose other than its performance of this2976Agreement (except as authorized in writing by the disclosing party) any2977information it receives from the other party ( "Confidential Information"),2978including, without limitation, intellectual property, inventions, works of2979authorship, trade secrets or know-how or other information relating in any way2980to the Products, processes, and services of the other party.298129828.2 Limitations. Each party shall limit disclosure of Confidential2983Information received hereunder to only those of its employees who are directly2984concerned with the performance of any activities with respect to which the2985Confidential Information was disclosed. Each party agrees to advise those of its2986employees who receive any other party's Confidential Information that such2987Confidential Information (a) is proprietary and confidential to such party and2988(b) shall not be disclosed to anyone except as authorized by this Agreement or2989otherwise authorized by such party in writing. Each party further agrees to take2990at least such precautions as it normally takes with its own Confidential2991Information to prevent unauthorized disclosure of the other party's Confidential2992Information.299329948.3 Injunctive Relief. Each party acknowledges that any unauthorized2995disclosure of any portion of the other party's Confidential Information shall2996cause irreparable injury to the other party and that no adequate or complete2997remedy shall be available at law to such other party to compensate for such2998injury. Accordingly, each party hereby also acknowledges that the other party2999shall be entitled to injunctive relief in the event of such unauthorized3000disclosure by a party or any of its employees in addition to whatever other3001remedies it might have at law.300230033004113005<PAGE>3006300730088.4 Effect of Termination. Upon termination of this Agreement, each party3009shall return to the other all copies of the other party's Confidential3010Information, and shall make no further use of such Confidential Information,3011except for one copy which may be retained in the receiving party's confidential3012files.301330148.5 Exceptions. The obligations of this Section 8 shall not apply to3015- - -information.301630178.5.1 that is or has been in the possession of the recipient prior3018to receipt of the same from the disclosing party as evidenced by recipient's3019written records;302030218.5.2 which the recipient lawfully obtains from any third party not3022under an obligation to the disclosing party to hold the same in confidence;302330248.5.3 that is published or becomes part of the public domain without3025breach of any undertakings discussed hereinabove;302630278.5.4 that is independently developed by personnel of the recipient3028without any use of or reliance upon the disclosing party's Confidential3029Information; or303030318.5.5 that is required to be disclosed pursuant to judicial process,3032court order or administrative request, or that is otherwise required for any3033regulatory filing, provided that the recipient shall notify the other party3034sufficiently prior to disclosing such Confidential Information as to permit such3035other party to seek a protective order.303630378.6 Press Releases. LecTec shall not issue any press release or other3038public statement disclosing the existence of or relating to this Agreement3039without prior written consent of Novartis, which consent shall not be3040unreasonably withheld or delayed. The foregoing shall not limit LecTec's rights3041to make such disclosures as reasonably required by applicable securities laws or3042the rules of any stock exchange where its securities are traded.304330449. QUALITY OF THE PRODUCT; COMPLIANCE WITH LAW304530469.1 Representations and Warranties. LecTec hereby represents and warrants3047that:304830499.1.1 no Products constituting or being a part of any shipment3050hereunder shall at the time of any such shipment be (i) adulterated or3051misbranded within the meaning of the Federal Food, Drug and Cosmetic Act, as3052amended from time to time (the "Act"), or regulations promulgated thereunder, as3053such law or regulation is constituted and in effect at the time of any such3054shipment, or (ii) an article which may not, under the provisions of Sections3055404, 505 or 512 of the Act, be introduced into interstate commerce;305630579.1.2 all Products furnished to Novartis hereunder shall be in full3058compliance with the Specifications, and shall remain in full compliance with the3059Specifications for the full period of the expected shelf-life of such Products,3060so long as the Products are stored in accordance with the Specifications;306130623063123064<PAGE>3065306630679.1.3 LecTec shall perform its obligations hereunder in compliance3068with any materially applicable federal, state and local laws and regulations,3069including without limitation the Act, the FDA's then-current Good Manufacturing3070Practices ("cGMP"), and any health, safety and environmental laws and3071regulations materially applicable to LecTec's manufacture and packaging of the3072Products and its other performance hereunder;307330749.1.4 all Products furnished to Novartis hereunder shall have been3075manufactured in accordance with the terms of the QA Agreement;307630779.1.5 LecTec's manufacturing, laboratory and packaging facilities3078shall remain in compliance with CGMP at all times during the term of this3079Agreement to the extent applicable to the manufacture and packaging of the3080Products; and308130829.1.6 LecTec owns or has the right to use all necessary copyright,3083trademark, patents, trade secrets and other intellectual property rights which3084it shall use to perform its obligations hereunder with respect to the Territory.308530869.2 Disclaimer. EXCEPT AS OTHERWISE SPECIFICALLY PROVIDED IN THIS3087AGREEMENT, LECTEC MAKES NO WARRANTY OF ANY KIND, EXPRESS OR IMPLIED, CONCERNING3088THE PRODUCTS, OR THE MERCHANTABILITY OR FITNESS THEREOF FOR ANY PURPOSE.308930909.3 Remedy. In the event that Products are delivered to Novartis by LecTec3091which are not in compliance with the warranties made in Section 9.1 then, at3092Novartis' option (i) LecTec shall replace the non-compliant Products at no3093additional charge (which replacement Products shall be delivered to Novartis as3094soon as reasonably practicable, but in no event more than ninety (90) days after3095the initial notification by Novartis); or (ii) LecTec shall credit Novartis'3096account in the amount of the price of the non-compliant Products. Novartis shall3097give commercially reasonable cooperation to LecTec to determine the nature and3098extent of any problem giving rise to a breach of warranties, including, without3099limitation, prompt samples of any allegedly non-compliant Products. Returns of3100non-compliant Products shall be subject to the provisions of Section 4.3.3101310210. INDEMNIFICATION AND INSURANCE3103310410.1 Novartis Indemnification. Novartis shall defend, indemnify and hold3105LecTec harmless against any and all claims, damages, expenses, reasonable3106attorneys' fees, settlement costs and judgments arising out of any death,3107personal injury, bodily injury or property damage to a third party alleged to3108have been caused by the Products, except to the extent that such injury or3109damage was the result of any breach of this Agreement by LecTec, including any3110warranty contained herein, or the result of any latent defects in the Products3111caused by the negligence or willful misconduct of LecTec. LecTec shall promptly3112notify Novartis of any such claim or action, shall reasonably cooperate with3113Novartis in the defense of such claim or action, and shall permit Novartis to3114control the defense and settlement of such claim or action, all at Novartis'3115cost and expense.311631173118133119<PAGE>31203121312210.2 LecTec Indemnification. LecTec shall defend, indemnify and hold3123Novartis harmless against any and all claims, damages, expenses, reasonable3124attorneys' fees, settlement costs and judgments arising out of any death,3125personal injury, bodily injury or property damage to a third party to the extent3126that such death, injury or damage is the result of (i) any breach of this3127Agreement by LecTec, including any warranty contained herein; (ii) any claim3128regarding a work-related death or injury to any LecTec employee; (iii) any claim3129regarding latent defects in the Products caused by the negligence or willful3130misconduct of LecTec; or (iv) any claim that the Products, or any means used to3131manufacture the Products, infringe any third party's patent, trade secret,3132trademark, copyright, or other proprietary interest in the Territory. Novartis3133shall promptly notify LecTec of any such claim or action, shall reasonably3134cooperate with LecTec in the defense of such claim or action, and shall permit3135LecTec to control the defense and settlement of such claim or action, all at3136LecTec's cost and expense.3137313810.3 Product Recalls and Withdrawals. Each party shall promptly notify the3139other party of any legal and/or factual circumstances which might, under3140applicable laws and regulations, necessitate a field correction, recall or3141withdrawal of any Products (collectively, a "Regulatory Recall") and shall3142consult with each other regarding the appropriate steps to be taken. Novartis3143shall determine whether any Regulatory Recall shall take place. Novartis shall3144notify all regulatory authorities of any such Regulatory Recall, and shall take3145all steps necessary to effectuate such Regulatory Recall. LecTec shall assist3146Novartis in each of these activities to the extent reasonably requested by3147Novartis. LecTec shall reimburse Novartis for the costs of any such Regulatory3148Recall to the extent such Regulatory Recall was made necessary by the actions or3149inaction of LecTec. If LecTec is unable in good faith to obtain the recall3150insurance required by Section 10.4.6 for a reasonable premium, then the maximum3151amount which LecTec shall be required to reimburse Novartis pursuant to the3152preceding sentence shall be $500,000 per Regulatory Recall, not including the3153cost of any replacement Products made necessary by the applicable Regulatory3154Recall. Novartis shall reimburse LecTec for the costs of any such Regulatory3155Recall to the extent such Regulatory Recall was made necessary by the actions or3156inaction of Novartis. Any claim for such reimbursement of costs incurred in such3157a Regulatory Recall shall be subject to audit by the CPA Firm.3158315910.4 LecTec's Insurance Coverage. LecTec shall obtain, at its own expense,3160policies of insurance in amounts no less than those specified below and shall3161cause its carrier or carriers to name Novartis as an additional insured on those3162coverages marked with an (*) below:3163316410.4.1 *general liability insurance with combined limits of not less3165than $1,000,000 per occurrence and $1,000,000 per accident for bodily injury,3166including death, and property damage;3167316810.4.2 workers' compensation and disability insurance in the amounts3169required by the law of the state(s) in which its workers are located, and3170employer's liability insurance with limits of not less than $1,000,000 per3171occurrence;3172317310.4.3 *automobile liability insurance (in the event that the use of3174an automobile by LecTec is required in the performance of this Agreement) with3175combined limits of not less317631773178143179<PAGE>318031813182than $1,000,000 per occurrence and $1,000,000 per accident for bodily injury,3183including death, and property damage is required;3184318510.4.4 *product liability insurance with limits not less than3186$5,000,000;3187318810.4.5 property insurance for the replacement value of the3189facilities and equipment used to produce the Products;3190319110.4.6 *recall insurance with limits not less than $2,000,000; and3192319310.4.7 *excess insurance with limits not less than $5,000,000.3194319510.5 Documentation of Coverage. Upon request, LecTec shall provide to3196Novartis evidence of its insurance or self insurance. LecTec shall provide3197Novartis thirty (30) days prior written notice of any cancellation or material3198change in coverage.3199320010.6 Novartis' Insurance Coverage. Novartis warrants and represents to3201LecTec that Novartis maintains a policy or program of insurance or3202self-insurance at levels sufficient to support the indemnification obligations3203assumed herein. Upon request, Novartis shall provide to LecTec evidence of its3204insurance or self-insurance. Novartis shall provide to LecTec thirty (30) days3205prior written notice of any cancellation or material change in coverage.3206320711. TERM AND TERMINATION3208320911.1 Initial Term; Renewal. This Agreement shall commence on the Effective3210Date and shall continue in effect for five (5) years ( the "Initial Term") and,3211thereafter, shall be renewed for subsequent one (1) year terms upon the mutual3212consent of the parties.3213321411.2 Termination for Convenience. Notwithstanding Section 11.1, Novartis3215may terminate this Agreement for convenience at no cost, at any time, by giving3216LecTec at least six (6) months prior written notice thereof.3217321811.3 Termination for Cause. In the event LecTec is unable for three (3)3219consecutive months to supply Products which comply with LecTec's obligations3220hereunder in quantities sufficient to meet Novartis' purchase orders under3221Section 3.2, then Novartis may terminate this Agreement at no cost upon ten (10)3222days prior written notice thereof. In addition, if either party materially3223breaches this Agreement, the other party shall give such breaching party written3224notice thereof with reasonable detail. If the breaching party fails to cure such3225breach within forty-five (45) days of its receipt of such notice, then the3226non-breaching party may terminate this Agreement at no cost upon written notice3227thereof. In addition, either party may terminate this Agreement with immediate3228effect upon giving written notice to the other party in the event of insolvency,3229assignment for the benefit of creditors, or bankruptcy proceedings by or against3230the other party.3231323211.4 Survival. Notwithstanding any termination of this Agreement, the3233provisions of Sections 1.6, 1.7, 2.1, 2.2, 2.4, 2.5, 2.6, 2.9, 5.3, 6.4.2, 7, 8,32349, 10 and 13 shall remain in effect.323532363237153238<PAGE>32393240324112. AUDIT AND INSPECTION RIGHTS3242324312.1 Audit, Inspection and Observation. During the term of this Agreement3244and any renewal thereof, Novartis shall have the right, at its sole cost and3245expense, to send Novartis representatives to audit, inspect and observe the3246manufacture, storage, disposal and transportation of the Products, and all other3247materials reasonably related thereto or used in connection therewith, upon3248reasonable prior notice to LecTec and during LecTec's normal business hours.3249Such Novartis representatives shall have no responsibility or authority for3250supervision of LecTec employees performing such manufacture, storage, disposal3251or transportation operations. Such Novartis representatives shall comply with3252any reasonable LecTec health, safety or security rules or policies while at3253LecTec's premises. The audit, inspection and observations rights set forth in3254this Section 12.1 are solely for the purpose of determining LecTec's compliance3255with the terms of this Agreement and the QA Agreement.3256325712.2 Action Plan. If, as a result of any such audit, inspection or3258observation under Section 12.1, Novartis reasonably concludes that LecTec is not3259in compliance with any of its obligations hereunder, it shall so notify LecTec3260in writing, specifying such areas of non-compliance in reasonable detail. LecTec3261shall provide to Novartis within thirty (30) days of Novartis' request a written3262action plan with a time line for resolution of the problems identified within a3263reasonable, mutually agreed upon time frame.3264326512.3 Government Inspections. LecTec shall inform Novartis within3266twenty-four (24) hours of any notification to LecTec of any site visits to the3267LecTec facility by the FDA, state or federal regulatory agencies or any other3268governmental or regulatory agency, relating, directly or indirectly, to the3269manufacture of the Products, and shall provide to Novartis all other materials3270related thereto or used in connection therewith. Novartis shall have the option3271of participating in any site visit by any governmental or regulatory agency3272(except to the extent such governmental or regulatory agency visitor objects) if3273the site visit relates, directly or indirectly, to the manufacturing, storage,3274disposal and transportation of the Products. If Novartis does not participate in3275the site visit for any reason, LecTec shall report in writing the results of the3276visit to Novartis within seven (7) days of the occurrence thereof. In the event3277that any such governmental or regulatory agency finds that the site is deficient3278or unsatisfactory in any material respect, LecTec shall cure all such material3279deficiencies within the earlier of ninety (90) days or such cure period as3280ordered by the government or regulatory agency. If all such deficiencies are not3281cured by LecTec within the required time frame, Novartis may deem such condition3282to be a material breach of this Agreement without the required 45-day cure3283period in Section 11.2 of this Agreement and thus may immediately terminate this3284Agreement.3285328613. MISCELLANEOUS3287328813.1 Waiver. Each party acknowledges and agrees that any failure on the3289part of the other party to enforce at any time, or for any period of time, any3290of the provisions of this Agreement shall not be deemed or construed to be a3291waiver of such provisions or of the right of such other party thereafter to3292enforce each an every such provision.329332943295163296<PAGE>32973298329913.2 Enforcement. If and to the extent that any provision of this3300Agreement is determined by any legislature, court or administrative agency to3301be, in whole or in part, invalid or unenforceable, such provision or part3302thereof shall be deemed to be surplusage and, to the extent not so determined to3303be invalid or unenforceable, each provision hereof shall remain in full force3304and effect unless the purposes of this Agreement cannot be achieved. In the3305event any provisions shall be held invalid, illegal or unenforceable the parties3306shall use commercially reasonable efforts to substitute a valid, legal and3307enforceable provision which insofar as practical implements the purposes hereof.3308330913.3 Choice of Law. This Agreement shall be governed by, and construed in3310accordance with, the laws of the State of Minnesota as though made and to be3311fully performed in said State.3312331313.4 Notices. All notices required or permitted hereunder shall be given3314in writing and sent by confirmed facsimile transmission, or mailed postage3315prepaid by first-class certified or registered mail, or sent by a nationally3316recognized express courier service, or hand-delivered to the following3317addressees:33183319Novartis: Novartis Consumer Health, Inc.3320560 Morris Avenue3321Summit, NJ 079013322Attn: General Counsel33233324LecTec: LecTec Corporation332510701 Red Circle Dr.3326Minnetonka, MN 553433327Attn: Chief Executive Officer33283329or to such other address as may be specified in a notice given to the other3330party in accordance with this Section 13.4. Any notice, if sent properly3331addressed, postage prepaid, shall be deemed made three (3) days after the date3332of mailing as indicated on the certified or registered mail receipt, or on the3333next business day if sent by express courier service or on the date of delivery3334or transmission (if delivered or sent during ordinary business hours, otherwise3335on the next business day) if hand-delivered or sent by confirmed facsimile3336transmission.3337333813.5 Captions. The captions of each section of this Agreement are inserted3339only as a matter of convenience and for reference and in no way shall be deemed3340to define, limit, enlarge, or describe the scope of this Agreement and the3341relationship of the parties hereto, and shall not in any way affect this3342Agreement or the construction of any provisions herein.3343334413.6 Entire Agreement; Amendment. This Agreement, including all Exhibits3345annexed hereto (which are incorporated herein by reference), represents and3346incorporates the entire understanding between the parties hereto with respect to3347the subject matter of this Agreement and supersedes any prior offers, proposals,3348drafts or other communications with respect thereto. Each party acknowledges3349that there are no warranties, representations, covenants or335033513352173353<PAGE>335433553356understandings of any kind, nature or description whatsoever made by any party3357to any other, except such as are expressly hereinabove set forth. This Agreement3358shall not be subject to change or modification except by the execution of a3359writing specified to be an explicit amendment to this Agreement duly executed by3360all parties hereto.3361336213.7 Effect of Forms. The parties recognize that, during the term of this3363Agreement, a purchase order, acknowledgment form or similar routine document3364(collectively, "Forms") may be used to implement or administer provisions of3365this Agreement. Therefore, the parties agree that the terms of this Agreement3366shall prevail in the event of any conflict between this Agreement and the3367printed provisions of such Forms, or typed provisions of Forms that appear to3368add to, vary, modify or conflict with the provisions of this Agreement.3369337013.8 Relationship. Nothing in this Agreement shall create between the3371parties a partnership, joint venture or principal-agent relationship and, for3372the avoidance of doubt, each of LecTec and Novartis now confirms and accepts3373that it is an independent contractor trading for and on its own behalf.3374337513.9 Assignment. LecTec may not assign or otherwise transfer this3376Agreement or any interest herein or any right hereunder (other than to an3377affiliate) without the prior written consent of Novartis, which consent shall3378not be unreasonably withheld, except that LecTec may assign this Agreement in3379connection with the transfer or sale of all or substantially all of its assets3380or business or its merger or consolidation with another company, so long as (i)3381such acquiror or successor in interest agrees in writing to be bound by all the3382terms and conditions hereof; and (ii) LecTec shall first give Novartis written3383notice of any such assignment, and fifteen (15) days to object thereto. The only3384grounds upon which Novartis may object to such an assignment are if such3385acquiror or successor in interest is (a) a direct competitor of Novartis; (b) in3386Novartis' reasonable discretion, is not a manufacturer which has a proven record3387of operational quality at least equal to that of LecTec; or (c) in Novartis'3388reasonable discretion, does not have sufficient financial wherewithal. Any3389purported assignment, transfer, or attempt to assign or transfer any interest or3390right hereunder except in compliance with this Section 13.9 shall be null, void3391and of no effect.3392339313.10 Counterparts. This Agreement may be executed in two or more3394counterparts, each of which shall constitute an original and all of which3395together shall constitute a single instrument.3396339713.11 Force Majeure. A party shall not be liable for delayed performance3398or non-performance of this Agreement (other than payment of money when due) if3399such condition is due to events beyond its reasonable control, including,3400without limitation, fire, flood, storm, earthquake, any other Act of God,3401electrical or computer failures, supply or labor shortages, strikes, riot, civil3402disorder, war or government order or decree.3403340413.11.1 A party claiming relief under this Section 13.11 shall give3405prompt written notice thereof to the other party, together with its best3406estimate of when such condition will end and its full performance may be3407resumed.340834093410183411<PAGE>34123413341413.11.2 In the event of a Force Majeure, or if for any other reason3415LecTec experiences any shortage and is therefore unable to supply Novartis with3416the full quantity of Products and with the delivery date as ordered by Novartis3417and accepted by LecTec, then Novartis shall be entitled to the same3418proportionate quantity of available Vapor Patches as the quantity of Products3419purchased by Novartis from LecTec in the twelve (12) months preceding the3420shortage bears to all orders for Vapor Patches received by LecTec from all its3421customers during such period, including LecTec's sales to Novartis, and3422including LecTec's sales of Comparable Products directly to retailers under its3423"TheraPatch" tradename, or under any Other LecTec Trade Name. 13.11.33424Notwithstanding the foregoing, if such condition continues without change for3425more than ninety (90) days, the other party may then elect to treat such delayed3426performance or non-performance as a material breach of this Agreement.34273428IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of3429the day and year first above written.343034313432LECTEC CORPORATION NOVARTIS CONSUMER HEALTH, INC.34333434343534363437By: /s/ Rodney A. Young By: /s/ Thomas E. Berry3438----------------------------------- ------------------------------------34393440Name: Rodney A. Young Name: Thomas E. Berry3441--------------------------------- ----------------------------------34423443Title: Chairman/CEO/President Title: Sr V P Supply Chain & Production3444-------------------------------- ---------------------------------34453446Date: 5/15/00 Date: 5/23/003447--------------------------------- ----------------------------------344834493450193451<PAGE>345234533454EXHIBIT A3455THE PRODUCTS3456345734581. Packages of six (6) menthol-scented hydrogel patches containing3459menthol, camphor, eucalyptus oil, and fragrance used for the topical application3460of vapor active ingredients for relief of symptoms due to coughs and colds.346134622. Packages of six (6) mentholated cherry-scented hydrogel patches3463containing menthol, camphor, eucalyptus oil, and fragrance used for the topical3464application of vapor active ingredients for relief of symptoms due to coughs and3465colds.34663467346820346934703471<PAGE>347234733474EXHIBIT C3475PRODUCT PRICING AND MINIMUM PURCHASE REQUIREMENTS3476347734783479FUNDING REQUIREMENTS STANDARD PRODUCT/PRIVATE LABEL3480- - -------------------- ------------------------------3481Concept Phase (*)3482Feasibility Phase (*)3483Salesmen's Samples (*)3484Completion of Design Phase (*)3485Transfer Phase (*)34863487(*)348834893490PRICING3491- - -------3492Finished product: Price per patch: (*)3493Per 6-patch folding carton: (*)3494Per 24-carton case: (*)349534963497ANNUAL MINIMUM PURCHASE REQUIREMENTS FOR US PEDIATRIC EXCLUSIVITY3498- - -----------------------------------------------------------------3499(*)3500350135023503350435053506* Denotes confidential information that has been omitted from the exhibit and3507filed separately, accompanied by a confidential treatment request, with the3508Securities and Exchange Commission pursuant to Rule 24b-2 of the Securities3509Exchange Act of 1934.351035113512<PAGE>351335143515EXHIBIT D3516TERRITORY35173518351935203521United States of America3522352335243525</TEXT>3526</DOCUMENT>3527<DOCUMENT>3528<TYPE>EX-21.013529<SEQUENCE>33530<FILENAME>0003.txt3531<DESCRIPTION>SUBSIDIARIES OF THE REGISTRANT3532<TEXT>3533353435353536EXHIBIT 21.0135373538Subsidiaries of the Company35393540LecTec International Corporation3541Dissolved effective December 31, 199935423543Incorporated in the state of Minnesota35443545Registered office: 10701 Red Circle Drive3546Minnetonka, MN 5534335473548Corporate office: 55-11 Curacao Gade3549P. O. Box 3094203550Charlotte Amalie3551St. Thomas, Virgin Islands 00803-942035523553Records office: C/O Chase Trade, Inc.355455-11 Curacao Gade3555P. O. Box 3094203556Charlotte Amalie3557St. Thomas, Virgin Islands 00803-942035583559</TEXT>3560</DOCUMENT>3561<DOCUMENT>3562<TYPE>EX-23.013563<SEQUENCE>43564<FILENAME>0004.txt3565<DESCRIPTION>CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS3566<TEXT>3567356835693570EXHIBIT 23.0135713572357335743575CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS35763577We have issued our report dated August 18, 2000 (except for Note B,3578as to which the date is September 26, 2000) accompanying the consolidated3579financial statements included in the Annual Report of LecTec Corporation and3580Subsidiaries on Form 10-K for the year ended June 30, 2000. We hereby consent to3581the incorporation by reference of said report in the Registration Statements of3582LecTec Corporation on Form S-3 (File No. 333-40183, effective November 17, 1997)3583and Forms S-8 (File No. 33-121780, effective April 21, 1987, File No. 33-45931,3584effective February 21, 1992, File No. 333-46283, effective February 13, 1998,3585File No. 333-46289, effective February 13, 1998, File No. 333-72569, effective3586February 18, 1999 and File No. 333-72571, effective February 18, 1999).358735883589/s/ GRANT THORNTON LLP35903591Minneapolis, Minnesota3592September 27, 200035933594</TEXT>3595</DOCUMENT>3596<DOCUMENT>3597<TYPE>EX-27.013598<SEQUENCE>53599<FILENAME>0005.txt3600<DESCRIPTION>FINANCIAL DATA SCHEDULE3601<TEXT>36023603<TABLE> <S> <C>360436053606<ARTICLE> 536073608<S> <C>3609<PERIOD-TYPE> 12-MOS3610<FISCAL-YEAR-END> JUN-30-20003611<PERIOD-END> JUN-30-20003612<CASH> 100,1713613<SECURITIES> 03614<RECEIVABLES> 2,770,0053615<ALLOWANCES> 127,1253616<INVENTORY> 2,247,6863617<CURRENT-ASSETS> 5,236,1103618<PP&E> 7,621,7743619<DEPRECIATION> 4,582,6863620<TOTAL-ASSETS> 8,474,5493621<CURRENT-LIABILITIES> 3,723,5493622<BONDS> 03623<PREFERRED-MANDATORY> 03624<PREFERRED> 03625<COMMON> 39,0453626<OTHER-SE> 4,680,7713627<TOTAL-LIABILITY-AND-EQUITY> 8,474,5493628<SALES> 14,596,3463629<TOTAL-REVENUES> 14,596,3463630<CGS> 9,475,1293631<TOTAL-COSTS> 17,486,8433632<OTHER-EXPENSES> 03633<LOSS-PROVISION> 48,0003634<INTEREST-EXPENSE> 35,4053635<INCOME-PRETAX> (2,898,210)3636<INCOME-TAX> (38,934)3637<INCOME-CONTINUING> (2,859,276)3638<DISCONTINUED> 03639<EXTRAORDINARY> 03640<CHANGES> 03641<NET-INCOME> (2,859,276)3642<EPS-BASIC> (0.74)3643<EPS-DILUTED> (0.74)3644364536463647</TABLE>3648</TEXT>3649</DOCUMENT>36503651</SEC-DOCUMENT>3652-----END PRIVACY-ENHANCED MESSAGE-----365336543655