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Fair Value
 6 Months Ended
Nov. 30, 2012
Fair Value [Abstract]  
FAIR VALUE

NOTE J – FAIR VALUE

Our financial instruments include cash and cash equivalents, accounts receivable, marketable securities, accounts payable, interest rate swap agreement and the contingent Earn out related to the acquisition of Vortex. The carrying amount of cash and cash equivalents, accounts receivable, marketable securities and accounts payable approximates fair value due to the immediate or short-term maturities. The interest rate swap agreement has been recorded at its fair value based on a valuation received from an independent third party. Marketable securities, with the exception of auction rate securities, are carried at their fair value as determined by quoted market prices. The contingent Earn out has been recorded at fair value using a discounted cash flow model.

Per our accounting policy, fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. This policy establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The policy describes three levels of inputs that may be used to measure fair value which are provided in the table below.

     
Level 1   Quoted prices in active markets for identical assets or liabilities. Level 1 assets include bank time deposits, money market funds, mutual funds and U.S. Treasury securities that are traded in an active exchange market.
   
Level 2  

Observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in

markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 2 assets include US government securities and corporate bonds. When quoted market prices are unobservable, we obtain pricing information from an independent pricing vendor. The pricing vendor uses various pricing models for each asset class that are consistent with what other market participants would use. The inputs and assumptions to the model of the pricing vendor are derived from market observable sources including: benchmark yields, reported trades, broker/dealer quotes, issuer spreads, benchmark securities, bids, offers, and other market-related data. Since many fixed income securities do not trade on a daily basis, the methodology of the pricing vendor uses available information as applicable such as benchmark curves, benchmarking of like securities, sector groupings, and matrix pricing. The pricing vendor considers all available market observable inputs in determining the evaluation for a security. Thus, certain securities may not be priced using quoted prices, but rather determined from market observable information. These investments are included in Level 2 and primarily comprise our portfolio of corporate and government fixed income securities. Additionally included in Level 2 are interest rate swap agreements which are valued using a mid-market valuation model.
   
Level 3   Unobservable inputs that are supported by little or no market activity and are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation. This category currently includes the auction rate securities where independent pricing information was not able to be obtained and the contingent Earn out related to the acquisition of Vortex. Our investments in auction-rate securities were classified as Level 3 as quoted prices were unavailable since these auction rate securities issued by New York state and local government authorities failed auction. Due to limited market information, we utilized a discounted cash flow (“DCF”) model to derive an estimate of fair value for all periods presented. The assumptions used in preparing the DCF model included estimates with respect to the amount and timing of future interest and principal payments, forward projections of the interest rate benchmarks, the probability of full repayment of the principal considering the credit quality and guarantees in place, and the rate of return required by investors to own such securities given the current liquidity risk associated with auction-rate securities. The contingent Earn out was valued utilizing a discounted cash flow method as detailed below.

 

The following tables provide information by level for assets and liabilities that are measured at fair value on a recurring basis (in thousands):

 

                                 
    Fair Value Measurements using inputs considered as:    

Fair Value at
Nov 30, 2012

  
    Level 1     Level 2     Level 3    

Financial Assets

                                

Cash equivalents

                                

Money market funds

   $ 120     $ —       $ —       $ 120  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 120     $ —       $ —       $ 120  
   

 

 

    

 

 

    

 

 

    

 

 

  

Marketable securities

                                

Corporate bond securities

   $ —       $ 305     $ —       $ 305  

U.S. government agency obligations

     —         —         1,850       1,850  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

     —         305       1,850       2,155  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total Financial Assets

   $ 120     $ 305     $ 1,850     $ 2,275  
   

 

 

    

 

 

    

 

 

    

 

 

  

Financial Liabilities

                                

Interest rate swap agreements

   $ —       $ 1,059     $ —       $ 1,059  

Contingent liability for acquisition earn out

                     60,499       60,499  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total Financial Liabilities

   $ —       $ 1,059     $ 60,499     $ 61,558  
   

 

 

    

 

 

    

 

 

    

 

 

  

 

                                 
    Fair Value Measurements using inputs considered as:    

Fair Value at

May 31, 2012

  
    Level 1     Level 2     Level 3    

Financial Assets

                                

Cash equivalents

                                

Money market funds

   $ 4,762     $ —       $ —       $ 4,762  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

   $ 4,762     $ —       $ —       $ 4,762  
   

 

 

    

 

 

    

 

 

    

 

 

  

Marketable securities

                                

Corporate bond securities

   $ —       $ 6,371     $ —       $ 6,371  

U.S. government agency obligations

     —         5,849       1,850       7,699  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total

     —         12,220       1,850       14,070  
   

 

 

    

 

 

    

 

 

    

 

 

  

Total Financial Assets

   $ 4,762     $ 12,220     $ 1,850     $ 18,832  
   

 

 

    

 

 

    

 

 

    

 

 

  

There were no financial liabilities measured at fair value at May 31, 2012.

There were no significant transfers in and out of Level 1 and 2 measurements for the three and six months ended November 30, 2012. During the three month period ended November 30, 2012, the Vortex Medical, Inc. contingent consideration discussed below was added to Level 3 fair value instruments.

The components of Level 3 fair value instruments as of November 30, 2012 are shown below (in thousands):

 

         
    Fair Value Measurements
Using Significant
Unobservable Inputs		  
    (Level 3)  

Balance, May 31, 2012

   $ 1,850  

Total gains or losses (realized/unrealized):

     —    

Included in earnings

     —    

Included in other comprehensive income

     —    

Purchases, issuances and settlements

     —    

Transfers in and/or (out) of Level 3

     —    

Contingent liability for acquisition earn out

     60,499  
   

 

 

  

Balance, November 30, 2012

   $ 62,349  
   

 

 

  

Contingent Liability for Acquisition Earn Out

The total estimated purchase consideration related to the acquisition of Vortex Medical, Inc. included an estimated fair value of contingent or earn out consideration. The fair value of the contingent consideration is remeasured at the estimated fair value at each reporting period with the change in fair value recognized as income or expense within acquisition-related items in the condensed consolidated statements of earnings. We measure the initial liability and remeasure the liability on a recurring basis using Level 3 inputs as defined under authoritative guidance for fair value measurements.

Contingent consideration liabilities will be remeasured to fair value each reporting period using projected net sales, discount rates, probabilities of payment and projected payment dates. Projected contingent payment amounts are discounted back to the current period using a discounted cash flow model. Projected net sales are based on our internal projections and extensive analysis of the target market and the sales potential. Increases in projected net sales and probabilities of payment may result in higher fair value measurements in the future. Increases in discount rates and the projected time to payment may result in lower fair value measurements in the future. Increases or decreases in any valuation inputs in isolation may result in a significantly lower or higher fair value measurement in the future.

The recurring Level 3 fair value measurements of the contingent consideration liability include the following significant unobservable inputs ($ in millions):

 

                     
    Fair value at
Nov 30, 2012		     Valuation
Technique		  

Unobservable

Input

   Range

Net sales based payments

   $ 60.5     Discounted   Discount rate   4%
            cash flow   Probability of payment   75-100%
                Projected fiscal year of payment   2013 - 2022

At November 30, 2012, the estimated potential amount of undiscounted future contingent consideration that we expect to pay as a result of this acquisition is approximately $75 million. The milestones associated with the contingent consideration must be reached in future periods ranging from fiscal years 2013 to 2023 in order for the consideration to be paid.

The fair value of contingent milestone payments associated with the Vortex acquisition was remeasured as of November 30, 2012 and $52.4 million was reflected in “Contingent consideration, net of current portion” and $8.1 million was reflected in “Current portion of contingent consideration” on the condensed consolidated balance sheet. The following table provides a reconciliation of the beginning and ending balances of contingent milestone payments associated with the Vortex acquisition measured at fair value that used significant unobservable inputs (Level 3) (in thousands):

 

         

Beginning balance - May 31, 2012

   $ —    

Purchase price contingent consideration

     60.3  

Contingent payments

     —    

Change in fair value of contingent consideration

     0.2  
   

 

 

  

Ending balance—November 30, 2012

   $ 60.5