Regarding the recent quarter, I spoke directly with the CFO and heard excuses that frankly, make me fear for the future of the company under its current management.  Increased health care costs, snow storms, and higher sales expenses, make it very clear that this company is in no position to capitalize as a stand alone entity with the current business model and margin scenarios.  The partnership with Cardinal is also to be questioned.  It would seem apparent there simply is not room for two entities to be selling this product line.   It has now been a year and a half since the inception of the Cardinal deal, and yet revenues remain flat, and expenses higher.  Cardinal may seem to have their focus on the many other items they sell, including their Converters division line, which directly competes with the SRI product line.  SRI competitors sell robust product lines and spread direct sales costs.  As so stated on page 9 of the 10-K, “many competitors have a greater number of products for the entire hospital, which in some instances is a competitive disadvantage for SRI.  There is no assurance that SRI will be able to compete effectively with existing or potential competitors.”  It is indeed a challenge for a direct representative selling a narrow scope product line like SRI’s to get the attention of a large hospital, GPO, or even channel partner Cardinal.  I find this theory to be evident when I hear the excuse directly from the CEO that the revenue side of the business has not grown due to Cardinal’s engagement in the business being slower than expected.  Please explain to me why SRI employs a 15 people plus sales force with clinician support if the company stands dependent on the large Cardinal entity?  It seems the success and fate of SRI is now held captive by competitor/partner/supplier Cardinal.  This is unacceptable, and makes no business sense.

Since the hiring of Gerald Woodard over 2 years ago, the company stock price has dropped.  I hardly call that progress for your shareholders.  Patience and confidence has been lost in both the Management team and the Board of Directors.  The Board’s unwillingness to improve or implement standard methods to improve investor relations, or help build shareholder value is obvious. The company refuses to conduct quarterly conference calls, has no research coverage, attends no investor conferences or conducts road shows, has no IR firm, issues no guidance and few press releases, and offers no future visibility to its shareholders.  This is not how you operate a public company, and I find your fiduciary responsibility to your shareholders to be in question.  It might also seem the corporation lacks the sufficient size required to operate as a public company.  In my view, shareholders’ equity is being wasted on general and administrative expenses that are not commensurate with the size of the company.

I am convinced SRI is too small to generate economies of scale, and feel an acquisition to broaden the product line is simply not an option.  The corporation, however, is an attractive acquisition candidate for a larger competitor, who can achieve operating synergies through said purchase. The list will stand strong with Cardinal, DeRoyal, Venture Capitalists, Medline, Kimberly Clark, Cintas, and other potential acquirers I know you are familiar with.  Some of the positive new accounts, including the recent landmark deal with Kaiser Permanente’s 48 hospital system (only announced deep in the 10-K, as opposed to a material announcement), the HealthTrust growth, and the new Government green procurement strategy, will place the company in a strong position to negotiate a sale that will far exceed current book value.  The barrier to entry for this type of reprocessing business is extreme and tedious, and the cost to replicate the current SRI operation would exceed the book value alone, thus making sense for a competitor to prefer immediate entrance via acquisition.  This would be in line with Stryker recently paying $525M for reprocessor Ascent Healthcare who had sales just in excess of $100M.   

My suggestion is to hire an investment bank with experience to bring shareholders the very best offers.  There is a history of successful acquisitions in this industry, and given SRI’s prospects, though seeming inability to execute on them over the last few years, the time has come to hand off the company to a larger industry player who can take SRI to the next level.  After review of the first quarter 2010, urgent action is required.  As Chairman and Members of the Board, you have a fiduciary responsibility to enhance shareholder value.   

Sincerely,

David Callan

Private Investor

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