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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB
(MARK ONE)
/X/ ANNUAL REPORT UNDER TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED SEPTEMBER 30, 1998
/ / TRANSITION REPORT UNDER TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 0-28760
PACIFIC COAST APPAREL COMPANY, INC.
(Exact name of registrant as specified in its charter)
CALIFORNIA 95-4536683
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
1620 SOUTH LOS ANGELES STREET
LOS ANGELES, CA 90015
(Address of principal executive offices)
ISSUER'S TELEPHONE NUMBER: (213) 748-9724
___________
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE EXCHANGE ACT:
None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE EXCHANGE ACT:
Common Stock, no par value
Common Stock Purchase Warrants
(Title of Class)
Check whether the registrant (1) has filed all reports required to be filed
by Section 13 of 15(d) of the Securities Exchange Act of 1934 during the past 12
months (or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes X No .
--- ---
Check if disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. X .
---
The registrant's revenues for the fiscal year ended September 30, 1998 were
$4,474,339.
As of December 29, 1998, the aggregate market value of the registrant's
Common Stock held by non-affiliates of the registrant, based on the closing
price for the registrant's Common Stock in the Nasdaq SmallCap Market on such
date, was approximately $889,296. This calculation does not reflect a
determination that certain persons are affiliates of the registrant for any
other purposes.
The number of shares of Common Stock outstanding on September 30, 1998 was
3,064,000.
Transitional Small Business Disclosure Format: Yes No X .
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FORWARD LOOKING STATEMENTS
In addition to historical information, this Annual Report contains
forward-looking statements, such as those pertaining to the Company's future
sales and revenues, return on investment, profitability and cash
requirements. Forward looking statements involve numerous risks and
uncertainties. The following factors, among others discussed herein, could
cause actual results and future events to differ materially from those set
forth or contemplated in the forward-looking statement: economic conditions,
competitive products, and pricing, new product development, need for
additional capital, development of the Cotton Stuff business, changes in
fashion trends, dependence on key customers and personnel, and consumer
response to the Company's products and advertising. Readers are cautioned
not to place undue reliance on forward-looking statements, which reflect
management's analysis only as of the date hereof. The Company assumes no
obligation to update forward-looking statements. See also the Company's
other reports to be filed from time to time with the Securities and Exchange
Commission pursuant to the Securities and Exchange Act of 1934.
ITEM 1. DESCRIPTION OF BUSINESS
SUMMARY
Pacific Coast Apparel Company, Inc. ("the Company") was incorporated in
California in April 1995 to design, source and market in the United States
a collection of men's active sportswear under the brand name "Aca Joe"
- -Registered Trademark- through traditional department stores and men's
specialty stores. In August 1997 the Company acquired the assets and
business of Cotton Stuff, Inc. Because of the Company's inability to
generate sufficient revenues it decided not to renew it's exclusive Aca Joe
license agreement and ceased doing business under it's license with Action
Down Under, Ltd. in June 1998.
As previously stated the Company acquired the assets of Cotton Stuff,
Inc. in August 1997. Cotton Stuff apparel is a collection of both men's and
women's garment-dyed, better sportswear which is sold across the United
States through better catalogs including Saks Folio, Coldwater Creek, Neiman
Marcus and Nordstrom, better specialty stores such as Fred Segal,
Bloomingdales and My Friends Place and selected department stores including
Macy's.
Over the past three years, the women's line represented the significant
portion of the Cotton Stuff business. In January 1998 the Company began to
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execute a plan to further develop the men's business. The Company hired
Dorian Bolick a men's designer and merchandiser to head the product
development of the men's line. Additionally the Company recruited a sales
force comprised of seven independent regional salesmen and began opening
specialty store accounts across the country.
In November 1998 the Company announced the signing of definitive merger
agreement which called for the merger of Jodi Kristopher, Inc. and Pacific
Coast Apparel Company, Inc. Should the merger be consummated, Pacific Coast
Apparel Company, Inc. would be the surviving corporation.
Jodi Kristopher, Inc. is a well established Los Angeles maker of junior
dresses with annual revenues of approximately $45M. The company is owned and
operated by Ira Rosenberg, a successful industry veteran.
Jodi Kristopher distributes their line through major department stores
including the Federated Group, Robinson's-May, Dayton Hudson, Kohl's, Sears
Roebuck & Company and J C Penney among others.
The transaction is being structured as a merger and is intended to be
treated as a tax-free reorganization pursuant to the provisions of Section
368 of the Internal Revenue Code of 1986, as amended. The terms of the
agreement called for the Company to pay to the existing shareholders of Jodi
Kristopher, Inc. at closing, $1,456,532 in cash, and to issue 2,506,900
shares of its common stock and 9,646 shares of Series A Preferred Stock with
a valuation of $100 per share in exchange for all of the outstanding Class
A and B common stock of Jodi Kristopher, Inc.
Upon completion of the merger, Mr. Ira Rosenberg, president of Jodi
Kristopher, Inc. will become the president and chief executive officer of
Pacific Coast Apparel Company, Inc. Mr. Terrence McGovern will remain
chairman of the board of the Company.
If all conditions of the merger agreement are met, the merger is
anticipated to close in the Company's first or second fiscal quarter 1999.
The Company plans to consolidate the operations of the two companies
following the merger.
The Company's ability to consummate the described transaction or any
future acquisition or merger is subject to numerous uncertainties and
conditions, including the ability to obtain financing on terms satisfactory
to the company and Jodi Kristopher, Inc., receipt of third-party consents,
adverse changes to the business of the Company or its target markets, and the
uncertainties with the Company's operations.
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In anticipation of the pending merger with Jodi Kristopher, Inc., the
Company decided to re-focus all of it's energies and resources on the
development of the Cotton Stuff women's line and has licensed the men's
Cotton Stuff sportswear category to 34 Degrees West Apparel Company, Inc. a
California Corporation formed by Dorian Bolick; the Company's former men's
designer and associates specifically for the licensing of the Cotton Stuff
men's line. The initial term of the license agreement is thirteen months.
The licensee has the option to renew the agreement for one additional four
year term.
BUSINESS
Since the Company decided not to renew it's exclusive Aca Joe license in
June 1998 because of it's inability to achieve profitable revenue levels,
its Cotton Stuff line is its sole operating division. As previously stated,
the Company has licensed it's men's line and no longer designs or
manufactures the product but approves the design and concept as called for in
the license agreement. The Company will receive a 3% royalty on sales of all
men's Cotton Stuff apparel sold under the license agreement.
MARKETING
The Company markets it's Cotton Stuff line through women's specialty
clothing stores, selected department stores and better women's apparel
catalogs. The primary marketing vehicle for the Company is seasonal trade
shows including Intermezzo which takes place three times per year and The
Coterie, which takes place twice per year in New York. In addition, the
Company's independent regional sales representatives participate in trade
shows in their geographic sales territories. The Company participates in a
total of approximately thirty-five regional shows throughout the year in the
cities of Dallas, Chicago, Atlanta, Ft. Lauderdale, San Francisco, Seattle
and Los Angeles. Another effective marketing tool is the advertising in
specialty apparel catalogs which the Company's products are sold. Some of
those catalogs include Coldwater Creek, Neiman Marcus and Saks Folio.
SIGNIFICANT CUSTOMERS
Coldwater Creek accounted for approximately 6.9% of the Company's sales
in fiscal year ended September 30, 1998. No other single account represented
more than approximately 2.6% of sales during the same period.
EMPLOYEES
As of September 30, 1998, the Company had 25 employees. Of those
employees, 16 were salaried and 9 were hourly. None of the Company's
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employees are represented by a union. The Company believes that relations
with it's employees is good.
LICENSE AGREEMENT
The Company signed an agreement to license the Cotton Stuff men's
sportswear line to 34 Degrees North, Inc.; a corporation recently formed by a
former employee specifically for the purpose of acquiring the license of the
Cotton Stuff men's sportswear line. The initial term is thirteen months
commencing December 1, 1998. The licensee has one option for an additional
four year term. In agreement calls for a quarterly payment of 3% of sales to
be paid to the Company. In the event the option is exercised the licensee is
required to make minimum annual guaranteed royalty payments as follows:
<TABLE>
<CAPTION>
Option Year Minimum Guaranteed Payment
----------- --------------------------
<S> <C>
1 $10.000
2 $25,000
3 $50,000
4 $100,000
</TABLE>
COMPETITION
The Competition in the apparel industry is significant. The major
competitors of Cotton Stuff include, A Month of Sundays, Moda Doc, Weekends
Off, Fatigues, Allen Allen, Garon and Lauren Kay.
In order to address the competition in the Company's market, the Company
increased the number of lines from four per year to six per year. The
deliveries by season are as follows:
January/February Spring
March/ April Summer
May/June Transitional
July/August Fall I
September/October Fall II
November/December Resort
The Company believes that by increasing the number of deliveries by one
third, it will give the retail customer more reasons to visit their favorite
store which carries the Cotton Stuff line. Retailers have responded
positively to the change in delivery. Most retail accounts now actually
order less inventory per order but order more often and move merchandise more
quickly keeping their overall Cottons Stuff inventory fresher.
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FACTORING OF ACCOUNTS RECEIVABLE
Historically, the Company has sold a substantial portion of its trade
receivable accounts a factor that assumes the credit risk with respect to
collection of such accounts. The factor will advance up to 85% of the
invoice amount. The factor pays the Company any balance due from the orders
(minus factoring fees) after the factor receives payment from the Company's
customers. The factor approves the credit of the Company customer prior to
its agreement to purchase the invoice. If the factor chooses not to buy a
particular receivable, then the Company bears the risk that the receivable
will not be collectible if the Company decides to ship the customers order.
The Company factors through Capital Factors. In addition Capital Factors has
made a three-year $325,000 amortized loan to the Company which is secured by
the Company's inventory and accounts receivable. As of September 30, 1998
the principal balance remaining on the loan is $218,713. In October 1998,
the factor agreed to over advance the Company up to $216,000. The over
advance was guaranteed with a $216,000 cash payment to the factor as
collateral for the over advance commitment. Mr. Terrence McGovern, CEO and
Chairman and an affiliate of the Company equally contributed the cash
payment to the factor.
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SELECTED FINANCIAL DATA
The statement of operations data set forth below for the years ended
September 30, 1996, 1997 (1996 and 1997 financial statements not presented
herein) and 1998 and the balance sheet data as of September 30, 1996, 1997
(1996 and 1997 financial statements not presented herein) and 1998 have been
derived from the audited financial statements of the Company. The selected
financial data set forth below should be read in conjunction with
"Management's Discussion and Analysis or Plan of Operation" and the financial
statements of the company, including the notes thereto, included elsewhere
herein.
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
1996 1997 1998
STATEMENT OF OPERATIONAL DATA
(IN THOUSANDS EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
Net Sales $ 221 $ 1,270 $ 4,474
Cost of Sales 183 1,943 2,655
Gross Profit 38 (673) 1,819
Operating Expenses:
Design 354 227 226
Selling 339 748 826
Shipping 27 91 51
General and Administrative 957 1,233 1,633
Interest (Income) Expense 186 (21) 70
Total Operating Expenses 1,863 2,278 2,806
Loss before Income Taxes (1,825) (2,951) (987)
Provision for Income Taxes (2) (3) (2)
Net Loss (1,827) (2,954) (989)
Basis Net Loss per Share $ (0.99) $ (.99) $ (.33)
Weighted Average Common Stock 1,850,000 2,974,000 2,965,000
Outstanding
BALANCE SHEET DATA (IN THOUSANDS)
Total Assets $ 4,119 $ 1,684 $ 798
Total Liabilities 173 923 944
(Accumulated Deficit) (2,137) (5,172) (6,079)
Shareholders Equity 3,946 760 (146)
</TABLE>
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CERTAIN RISK FACTORS
FUTURE CAPITAL NEEDS; UNCERTAINTY OF ADDITIONAL FUNDING.
The Company does not have capital resources to satisfy its cash
requirements for the current fiscal year. The Company continues to cut
expenses as evidenced by its recent licensing of the Cotton Stuff men's
license. The Company may seek additional funding through public or private
financing or collaborative or other arrangements with third parties. There
can be no assurances that additional funds will be available on acceptable
terms. If additional funds are raised by issuing equity securities,
substantial dilution to existing shareholders may occur. If adequate funds
are not available, the Company may be required to delay, scale back or
eliminate one or more of its strategies, or to obtain funds through entering
into arrangements with third parties that may require the Company to
relinquish control of the Company.
ILLIQUIDITY OF TRADING MARKET. The Company lost its NASDAQ SmallCap
listing in May 1998 because it could not maintain the Net Tangible Asset
Requirement of at least $2 million. Since that time the Company shares have
been trading on the OTC Bulletin Board under the symbol (ACAJ). As a result
of the de-listing, the shareholders may find it more difficult to dispose of
or obtain accurate quotations as to the price of the Company's securities.
In addition the securities have become subject to the so-called "penny stock"
rules that impose additional sales practice and market making requirements on
broker-dealers who sell or make a market in the securities and adversely
affect the ability of shareholders to sell their securities.
DEPENDENCE ON FACTORING. The Company's existing resources include cash
received through factoring a substantial portion of its trade accounts
receivable pursuant to a factoring agreement which, if canceled, could
result in an increase in its cash requirements.
CHANGES IN FASHION TRENDS. The apparel industry is subject to rapidly
changing consumer demands and preferences. The Company believes that its
success depends on its ability to anticipate, gauge and respond in a timely
manner to changing consumer demands and fashion trends. There can be no
assurance that the Company will be successful in this regard. If fashion
trends shift away from the Company's products, or if the Company otherwise
misjudges the market for its product lines, it may be faced with a
significant amount of unsold inventory or other conditions which could have a
material adverse effect on the Company's financial condition and results of
operations.
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Decisions with respect to product designs often need to be made several
months in advance of the time when customer acceptance of such products is
known. In addition any failure by the Company to identify and respond to
changing demands and trends could adversely effect consumer acceptance of the
Cotton Stuff brand, which may have an adverse effect on the Company's
business and prospects.
UNCERTAINTIES IN APPAREL RETAILING; GENERAL ECONOMIC CONDITIONS. The
apparel industry historically has been subject to substantial cyclical
variations. During recessionary periods, when disposable income is low,
purchases of apparel and related goods tend to decline. Accordingly, a
recession in the general economy or uncertainties regarding future economic
prospects that affect consumer spending habits could have a material adverse
effect on the Company's results of operations. Additionally, the retail
industry has experienced significant changes and difficulties over the past
several years, including consolidation of ownership, increased centralization
of buying decisions, restructurings, bankruptcies and liquidation's.
Financial problems of a retailer could cause the Company's factor to limit
the amount of receivable of such retailer that the factor would approve,
which could cause the Company to curtail business with such retailer or
require the Company to assume more credit risk relating to such retailer's
receivable.
NEW PRODUCT INTRODUCTIONS. The Company's success is dependent entirely
upon its ability to design and deliver new products and new product lines
that are accepted by the consumer. As is typical with new products, demand
for and market acceptance of new products introduced by the Company are
subject to uncertainty. Achieving market acceptance for new products may
require substantial marketing and other efforts and the expenditure of
significant funds to create customer demand. There can be no assurance that
the Company's efforts will be successful. In addition, the failure of new
products or new product lines to gain sufficient market acceptance could
adversely affect the image of the Company's brand name and retailers' demand
for other products.
DEPENDENCE ON KEY PERSONNEL. The Company's success largely depends on
the personal efforts and abilities of Terrence L. McGovern, founder, chairman
of the board, chief executive officer and chief financial officer, and
Micheal Mote, the company controller. James A. McDermott the former president
left the Company in January 1988 and Stuart Bryer, the former general manager
left the Company in April of 1998.
RELIANCE OF INDEPENDENT MANUFACTURERS AND SUPPLIERS. The Company does
not maintain its own manufacturing facilities and does not intend to do so.
The Company's products are manufactured and supplied by independent
companies, many of which also manufacture and supply products
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to the Company's competitors. As is customary in the apparel business, the
Company does not have any licensing or other supply agreements with its
manufacturers or suppliers. Therefore, any of the these companies could
terminate its relationship with the Company at any time. There can be no
assurances that in the event the Company were to have supply problems with
its current suppliers, the Company would be able to readily replace those
suppliers. Any delay in replacement of suppliers by the Company could prove
to be detrimental to the Company's results of operations. While the Company
carefully monitors the manufacturer of its products, there can be no
assurances that its independent manufactures and suppliers will consistently
deliver products that meet the high standards required by the Company. The
Company reserves the right to reject any substandard products and some delays
in deliveries to customers could result if any such rejection were to occur.
POTENTIAL ADVERSE EFFECT OF OUTSTANDING STOCK OPTIONS AND WARRANTS. As
set forth elsewhere herein (see "Index to Financial Statements Notes to the
Financial Statements Notes 11 and 12"), various warrants and options to
purchase the Company's common stock are outstanding and additional stock
options are authorized for issuance. For the term of these warrants and
options, the holders thereof will have, at nominal cost, the opportunity to
profit from a rise in the market price of the common stock without risk of
ownership, with a resulting dilution in the interest of the other security
holders. As long as warrants and options remain unexercised, the Company's
ability to obtain additional capital might be adversely affected. Moreover,
the holders of the warrants and options may be expected to exercise such
warrants or options at a time when the Company would, in all likelihood, be
able to obtain any needed capital by a new offering of its securities on
terms more favorable than those provided in such warrants or options.
NO DIVIDENDS. The Company has paid no dividends of its Common Stock and
does not anticipate doing so in the foreseeable future. Dividends will only
be paid at such time as the cash flow of the Company is sufficient to justify
such payments.
BLANK CHECK PREFERRED STOCK. The Company is authorized to issue 600,000
shares of preferred stock on terms determined by the Board of Directors
without the need for shareholder approval. The issuance of preferred stock
in the future could dilute the common shareholders and discourage or impede a
tender offer, proxy contest or similar transaction involving a potential
change in control by the Company, which transaction might be viewed favorably
by other shareholders.
GOING CONCERN CONSIDERATION. The Company has incurred significant
losses from operations and has a net deficit in accumulated earnings and
stockholders' deficiency. These factors raise substantial doubt about the
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Company's ability to continue as a going concern. In the event the Company
is unable to raise additional capital, increase revenues and lower expenses,
the Company may be forced to liquidate.
SHARES ELIGIBLE FOR FUTURE SALE. Sales of shares of common stock by
existing shareholders, or by exiting holders of warrants, under Rule # 144 of
the Securities Act, or pursuant to the exercise of registration rights or
otherwise, could have an adverse effect on the price of the Company's common
stock. Certain current shareholders of the Company executed lock-up
agreements with the underwriter of the Company's initial public offering
that restrict the public sale or disposition of such shares until March or
September 1997. These shares are now eligible for sale in the public market
subject to compliance with Rule # 144 under the Securities Act of 1933.
EXECUTIVE OFFICERS AND KEY EMPLOYEES OF THE REGISTRANT.
The executive officer and key employee of the Company are:
<TABLE>
<CAPTION>
Year Joined
Name Age Position Company
---- --- -------- -----------
<S> <C> <C> <C>
Terrence L. McGovern 49 CEO/Chairman 1995
Micheal Mote 43 Controller 1997
</TABLE>
ITEM 2. DESCRIPTION OF PROPERTY.
The Company leases its headquarters premises at 1620 South Los Angeles
Street, Los Angeles, California 90015. The office portion of the space is
12,000 and the warehouse portion is 21,500 square feet. The monthly rental
is $8,654. The Company believes the facility is sufficient to accommodate
its operations until the expiration of the lease in the year 2000. The needs
will be assessed during the remaining period of the lease and a decision as
to extend the lease or look for headquarters that better fits the Company's
needs will be made closer to the expiration of the lease.
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The Company shares its warehouse with CMG Corporation, a women's apparel
company. A sharing agreement is in place which calls for the allocation of
rent and expenses based on the number of square feet each company occupies.
Pacific Coast Apparel Company is responsible for approximately 40% of the
rent and expenses of the facility.
The Company maintains a showrooms in Los Angeles which serves as the
Company's west coast showroom. The lease was renewed in September 1997 for
an additional three year period. The average monthly rental during the term
of this agreement is $2,620. In addition, the Company is responsible for
certain expenses including common area maintenance, real estate taxes and
utilities.
The Company maintains a showroom 239 West 42nd Street in New York City
which serves as the Company's east coast showroom The lease was signed in
October 1998 for a three year term. The average monthly rent is
approximately $3,360 per month. In addition, the Company is responsible for
certain expenses including real estate taxes and utilities.
ITEM 3. LEGAL PROCEEDINGS
The Company is currently involved in a law suit which was filed by Ms.
Jill Grossman, the Company's former sales manager. Ms. Grossman terminated
her employment with the Company on September 22, 1997. Ms. Grossman claims
she is owed approximately $440,000 of compensation due under an employment
agreement. The Company filed a cross complaint against Ms. Grossman based on
the belief that, among other things, Ms. Grossman breached the employment
agreement.
Although the outcome of the litigation cannot be predicted with
certainty, management believes that the Company has meritorious defenses to
the claims alleged and intends to defend this action with vigor.
In March 1998, the Company entered into a settlement agreement with OWN,
Inc., the Company's former advertising agency, arising from a judgment
rendered by the American Arbitration Association against the Company. The
settlement agreement called for the Company to pay to OWN, Inc. the sum of
$69,593.99 to satisfy all claims. The Company appealed the decision of the
arbitrator but was unsuccessful in changing the determination of the
arbitrator.
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The arbitration stemmed from a disagreement between the parties. OWN,
Inc. was the advertising agency of the Company from December 1996 until
terminated by the Company two months prior to the expiration of the agreement
in September 1997. The Company terminated the agreement because it believed
that OWN, Inc. had not performed under the terms of the agreement. The
termination provision in the agreement called for a two month notice with
payment of $22,000 per month. The settlement represented two months
termination fee, plus prior out of pocket expenses and interest. The
settlement has been paid in full and the Company has no further obligations
to OWN, Inc.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Inapplicable.
PART II
ITEM 5. MARKET FOR COMMON STOCK AND RELATED STOCKHOLDER MATTERS.
(a) The Company's common stock trades under the symbol "ACAJ" on the
OTC Bulletin Board. The Company's warrants to purchase common stock at $6.00
per share (which warrants expire August 22, 2001) also trade on the OTC
Bulletin Board under the symbol "ACAJW"
The following table sets forth the range of high and low closing
sale prices for the common stock and the warrants on the OTC Bulletin Board
for the period from October 1, 1997 to September 30, 1998.
<TABLE>
<CAPTION>
Common Stock Warrants
------------- --------
High Low High Low
<S> <C> <C> <C> <C>
1st Fiscal Quarter 1998 11/16 1/2 1/16 1/16
2nd Fiscal Quarter 1998 2 1/2 1 5/8 1/4 1/4
3rd Fiscal Quarter 1998 1 3/4 3/16 1/8
4th Fiscal Quarter 1998 13/16 13/16 1/8 1/16
</TABLE>
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The closing price for the common stock on December 29, 1998 was $.625 per
share. On that date, there were approximately 312 shareholders of record of
the Company's common Stock. The Company has never paid or declared any
dividends on its common stock.
(b) The following table sets forth the approximate use through
September 30, 1998 of the $5,267,000 net proceeds of the Company's initial
public offering.
<TABLE>
<S> <C>
DESIGN AND PRODUCTION OF DISPLAY FIXTURES $ 113,000
DEVELOPMENT AND FIXTURE OF OUTLET STORE $ 24,000
NATIONAL MARKETING PROGRAM $ 162,000
RETIREMENT OF BRIDGE PROMISSORY NOTES $ 417,000
RETIREMENT OF OFFICERS LOANS $ 32,000
REPAYMENT OF WORKING CAPITAL LOANS $ 101,000
EXPENSES IN CONJUNCTION WITH THE
PURCHASE OF COTTON STUFF $ 589,000
REPURCHASES OF COMMON STOCK $ 145,790
WORKING CAPITAL AND GENERAL
CORPORATE PURPOSES $ 3,683,210
TOTAL $ 5,267,000
BALANCE $ -0-
TOTAL PROCEEDS $ 5,267,000
</TABLE>
The principal variances from that expected at the time of the offering are
the Cotton Stuff acquisition and the common stock repurchase.
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ITEM 6. MANAGEMENTS DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
GENERAL
The Company was formed in April 1995 with the business strategy of
reintroducing the Aca Joe apparel brand through major department stores in
the United States. The focus had been to capitalize on the strength of the
Aca Joe name and perceived value of the apparel products.
The Company was unsuccessful in its efforts to market Aca Joe and has
given up its rights to the Aca Joe license effective June 30, 1998. The
Company believes its lack of success in generating revenues was due to the
tremendous competition in the men's sportswear market. During the launch of
the Aca Joe line several of its competitors including Polo, Tommy Hilfiger
and Nautica introduced a line of jeans and related wear which required
additional floor space from their customers; the major department stores.
The Company was competing for floor space with three of the industry's most
successful apparel firms and the buyers chose to give these companies the
floor space needed for their new product lines leaving little opportunity for
the Company's Aca Joe line. The buyers are more likely to give the brands
that produce historically above average dollars per square foot additional
space for more product than they are to allocate space to new or less widely
distributed resources.
The Company did change its marketing plan in early 1998 and attempted to
gain distribution through men's specialty store, but revenues were not
sufficient to gain profitability. For that reason, the Company elected not
to renew its agreement with Action Down Under, Ltd. which gave the Company
the exclusive license rights in the United States to the Aca Joe name for
period beginning August 1, 1998.
RESULTS OF OPERATIONS
YEAR ENDED SEPTEMBER 30. 1998
The Company's total expenses for the year ended September 30, 1998 were
$2,805,560 which included ($70,094) in interest expense. The total expenses
primarily reflected a slight increase in selling expense, and an increase
in general and administrative expenses due primarily to the increase
occupancy cost following the consolidation of operations immediately after
the acquisition of the Cotton Stuff assets. Total operating expenses as a
percentage of revenues fell to approximately 62% of total revenues from 179%
of total revenues in fiscal year ended September 30, 1997. The Company
believes total operating expenses will continue to decrease by approximately
15% of revenues
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because of the licensing of the Cotton Stuff men's line. The Company
believes the operating expenses attributable to the men's Cotton Stuff line
and the ACA JOE men's line in fiscal year ended 1998 were approximately
$500,000. The company was late in shipping approximately $200,000 of its
orders booked for September 30, 1998 delivery. The orders were shipped on
October 4 and 5, 1998. All the expenses associated with design and
development of these orders is reflected in the results of operations for the
period ended September 30, 1998, however the sales revenues are posted to
October 1998. Additionally, the financial statements reflect approximately
$35,000 in professional service fees associated with the previously reported
merger with Jodi Kristopher. Inc., anticipated to close in the first or
second quarter of 1999.
YEAR ENDED SEPTEMBER 30. 1997
The Company's total expenses for the year ended September 30, 1997 were
$2,278,966 which included ($20,807) in interest income. The total expenses
primarily reflected an increase in selling, shipping and general and
administrative expenses compared to the same period in 1996. Design and
production expenses were $226,828, a decrease of approximately 37%. Selling
expenses increased to $748,535 from $359,008 reflecting cost in development
of a national sales force in the both men's and boy's Aca Joe line. The
negative gross profit of ($672,705) primarily reflected the markdown of
unsold Aca Joe inventory that was produced but not sold during the season for
which it was designed. There was a prior period adjustment to the results of
operations of 1997 in the amount of $81,084, reducing the loss in 1997 by the
same amount. Further information concerning the prior period adjustment can
be found in Notes to the Financial Statements #15.
FEDERAL TAXES
Since its inception, the Company has been taxed as a "C" corporation.
Accordingly the Company has available as of September 30, 1998 approximately
$4,000,000 in net operating loss carryforwards to offset future federal
taxable income until expiration through the year ending September 30, 2018.
In the Company's fiscal year ended September 30, 1997 Form-10-KSB, the
Company mistakenly overstated its net operating loss carryforward through
that period. The net operating loss carryforward which was available to
offset future federal taxable income at that period, would have been
approximately $3,000,000.
LIQUIDITY AND CAPITAL RESOURCES
15
<PAGE>
In September 1996, the Company realized net proceeds of $5,267,000 from
an initial public offering of common stock and warrants to purchase stock. A
portion of these proceeds was used to repay approximately $550,000 of
indebtedness then outstanding.
The Company experienced losses of $258,235 for the period from April 28,
1995 (inception) to September 30, 1995, $1,826,928 for the year ended
September 30, 1996, $2,954,339 for the year ended September 30, 1997 and
$988,323 for the year ended September 30, 1998. The Company continues to
experience loss from operations but expects to begin narrowing losses during
the first half of fiscal 1999 due to the discontinuation of the Aca Joe lines
and the licensing of the Cotton Stuff men's line. The revenues of the Cotton
Stuff women's line are not sufficient to sustain the Company. At September
30, 1998, the Company's cash and cash equivalent balance was zero.
At its current projected level of operations, the Company will require
additional capital during the quarter ending March 31, 1999. In order to
sustain operations until such time as positive cash flow can be achieved, the
Company is considering available alternatives, including additional cost
cutting. In addition, the Company may seek to fund its operations through
private offerings of securities, with collaborative or other arrangements
with corporate partners or from other sources. Additional financing may not
be available when needed or on terms acceptable to the Company. The Company
may be required to delay, scale back or eliminate certain of its development
programs, to relinquish rights to certain products or to license to third
parties the right to commercialize products the Company would otherwise seek
to develop itself.
In November 1996, following a decline in the market price of the
Company's common stock, the Board authorized the Company's repurchase of up
to 150,000 shares of its common stock. From December 1996 to March 1997, the
Company purchased 116,000 shares for a total of $145,790 ($1.258 per share).
Management believes these purchases were in the best interests of the Company
and its shareholders at the time, but at present there are no plans to
purchase any additional shares.
YEAR 2000
Many currently installed computer systems and software products are
coded to accept only two digit entries in the date code field. These date
code fields will need to accept four digit entries to distinguish 21st
century dates. This inability to recognize or properly treat the Year 2000
may cause the Company's systems and applications to process critical
financial and operational information incorrectly. The Company continues to
assess the impact of the Year 2000 issue on its reporting systems and
operations.
16
<PAGE>
The Company is currently in the process of investigating whether its
internal accounting systems and other operational systems are Year 2000
compliant. The Company has been informed by the vendor of its internal
accounting software that upgrades that will bring such software into Year
2000 compliance are currently available and will provide them to the Company
under its existing software maintenance agreement. The Company expects to
effect the conversion of its internal accounting system to such upgraded
software by June 1999. The Company believes that necessary conversions of
other operational systems can also be accomplished through vendor upgrades
and enhancements as provided under its system maintenance agreements
currently in effect. The Company does not anticipate significant costs
associated with any necessary conversions. However, there can be no
assurances that certain of the Company's internal computer systems or
networks or those of its key vendors and distributors will not be adversely
effected by such Year 2000 issues, which could have a material adverse effect
on the Company's business, operating results or financial conditions.
ITEM 7. FINANCIAL STATEMENTS.
PACIFIC COAST APPAREL COMPANY, INC.
SEPTEMBER 30, 1998
I N D E X
INDEPENDENT AUDITORS REPORT
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
On June 28, 1996, the Company dismissed Chaskes & Company, Certified
Public Accountants, as the Company's principal accountants. On the same
date, the Company engaged Fineman West & Co. LLP as its new principal
accountants to audit its financial statements for the fiscal period and year
ended September 30 1995 and 1996 respectively. These decisions were made
with the approval of the Company's Board of Directors.
The Company believes, and has been advised by Chaskes & Company that it
concurs in belief that (a) Chaskes & Company's report on the Company's
financial statements for the period from inception through September 30, 1995
did not contain any adverse opinion or disclaimer of opinion nor was it
modified as to uncertainty, audit scope or accounting principles, and (b)
there was no disagreement between the Company and Chaskes & Company on any
17
<PAGE>
matter of accounting principles or practices, financial statement disclosure,
or accounting scope or procedure which, if not resolved to the former
accountant's satisfaction, would have caused it to make reference to the
subject matter of the disagreement in such report.
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT.
MANAGEMENT
The following table sets forth the names and year of birth of the
Company's directors, executive officers and key employees.
<TABLE>
<CAPTION>
NAME YEAR OF BIRTH POSITION
<S> <C> <C>
Terrence L. McGovern 1949 Chief Executive Officer
Chairman of the Board
of Directors and
Secretary
Micheal Mote 1955 Controller
Alan I. Annex (1),(2) 1961 Director
James A. McDermott (1),(2) 1936 Director
</TABLE>
(1) Compensation Committee member
(2) Audit Committee member
Mr. McDermott serves as the IT Director for Group B Clothing company.
Mr. McDermott served as President and Chief Operating Officer of the Company
from April 1995 to December 1997. Mr. McDermott was terminated in December
1997 as a cost savings measure. From 1991 to 1994, he was president of
Choose, a private label apparel manufacturer. From 1990 to 1991 Mr.
McDermott served as president of Catalina Swimwear and Sportswear. From 1998
to 1990 McDermott served as a consultant with the public accounting firm
18
<PAGE>
Stonefield Josephson, where he developed an apparel software accounting
package. From 1984 to 1987, Mr. McDermott served as president of Fashion
Portfolio, a former subsidiary of Levi Strauss & Co., which designed,
manufactured and marketed men's sportswear. From 1963 to 1984, Mr. McDermott
served in various management positions with Levi Strauss & Co., including Sr.
Vice president of marketing, president Levi Strauss USA Group II, and
president of Levi Strauss & Co. Womenswear Division.
Mr. Mote was hired in 1997 as company controller. He served as the
controller for Cotton Stuff, Inc. from its inception in 1992 until the
acquisition in 1997 by Pacific Coast Apparel Company, Inc. From 1990 to 1992,
Mr. Mote owned and operated a small chain of ladies clothing stores.
Previously, Mr. Mote was controller for Five and Dime, Inc., operators of a
chain of ladies specialty stores located in California, and was controller
for Jersey Juniors, Inc., an operator of ladies specialty stores located in
the Pacific Northwest.
Mr. Annex was elected a Director in November 1995. He serves as a
designee of National Securities Company pursuant to provisions of the
Company's underwriting agreement in connection with its initial public
offering. He has been a partner at Camhy Karlinsky & Stein LLP since July
1995. From July 1994 to June 1995, Mr. Annex was of counsel to the firm.
From January 1993 to June 1994, Mr. Annex was associated with Proskauer Rose
Goetz & Mendelsohn and prior thereto he was associated with Shea & Gould.
Mr. Annex is a director of Marketing Services Group, Inc.
ITEM 10. EXECUTIVE COMPENSATION.
SUMMARY COMPENSATION TABLE
The following table sets forth the compensation paid by the Company to
the chief executive officer for services rendered during the fiscal years
ended September 1998, 1997 and 1996.
<TABLE>
<CAPTION>
NAME AND
PRINCIPAL POSITION FISCAL YEAR SALARY
- ----------------- ----------- ------
<S> <C> <C>
Terrence L. McGovern 1998 $ 88,688
Chairman of the Board 1997 $108,000
Chief Executive Officer 1996 $100,760
James A. McDermott 1998 $ 36,890
President and Chief 1997 $108,000
Operating Officer 1996 $104,700
</TABLE>
EMPLOYMENT AGREEMENTS
19
<PAGE>
The Company has no employment agreements currently in place.
STOCK OPTION PLAN AND OTHER STOCK OPTIONS
The Company adopted a Stock Option Plan on November 15, 1996. The Plan
authorizes the grant of options to officers and other employees,
non-employees, directors and consultants for a maximum of 300,000 shares of
the Company's common stock. The maximum number of shares which options may
be granted under the Plan to any one person in any calendar year is 50,000
shares. The Plan was adopted by the Board of Directors and is not subject to
shareholder approval, and may be amended by the Board of Directors without
shareholder approval. Options granted under the plan to officers and
directors are intended to be exempt from Section 16 (b) of the Securities and
Exchange Act of 1934 pursuant to Rule 16b-3 thereunder.
The Board has granted the following options which remain outstanding.
There were no grants in fiscal 1998 to the Named Executive Officers.
a. Five-year options granted under the Plan on November 15, 1996 to
Messrs. Annex and Hurwitz; a former Director for 5,000 shares at
$4.50 per share, fully vested. The Company also has a policy of
granting non-employee directors an option for 2,500 shares annually
as part of their compensation for serving as a director, pursuant to
which on March 1997, Messrs. Annex and Hurwitz each received
five-year options under the Plan for an additional 2,500 shares at
$4.50 per share.
b. In August 1997, two principals of the Company's investor relations
firm received non-Plan five-year options totaling 75,000 shares at
$1.00 per share.
c. On August 22, 1997, Stuart Bryer received a non-Plan option to
purchase 100,000 shares at $1.00 per share, which option was granted
to him in connection with the Company's acquisition of the assets of
Cotton Stuff, Inc., which company was principally owned by Mr. Bryer.
d. On December 18, 1997, Micheal Mote, an employee, received a ten-year
option under the plan for 50,000 shares at $.75 per share and another
employee received a ten-year option under the Plan for 25,000 shares
at $.75 per share.
20
<PAGE>
e. On January 12, 1998, Dorian Bolick, an employee, received a ten-year
option under the plan for 25,000 shares at prices from $1.50 per
share to $3.50 per share.
f. On November 12, 1998, Alan Annex, a director, received a ten-year
option under the plan for 25,000 shares at $.68 per share.
g. On December 15, 1998, Micheal Mote, an employee, received a ten-year
option under the plan for 25,000 shares at $1.00 per share. Five
other employees received three-year options under the Plan for 1,000
shares each at $1.00 per share.
On September 30, 1998, the closing sale price for the Company's common
stock on the OTC Bulletin Board was $.8125 per share.
COMPENSATION OF DIRECTORS
The Company pays $300 per Board meeting attended to each director who is
not an officer or employee of the Company. All directors are entitled to
reimbursement of expenses incurred in traveling to and from the Board
meetings. Directors also receive a five-year stock option for 5,000 on
becoming a director and annually receive an additional option for 2,500
shares.
INDEMNIFICATION OF DIRECTORS OFFICERS AND LIMITATION OF DIRECTORS LIABILITY
The Company has adopted provisions in it's Articles of Incorporation
that eliminate, to the fullest extent permissible under California Law, the
liability of its directors to the Company for monetary damages. Such
limitation of liability does not affect the availability of equitable
remedies such as injunctive relief, recession or damages. The Company's
Bylaws provide that the Company shall indemnify its directors and officers to
the fullest extent permitted by California law, including in circumstances in
which indemnification is otherwise discretionary under California law.
Insofar as indemnification for liability arising under the Securities
Act may be permitted to directors and officers of the Company pursuant to the
foregoing provisions, or otherwise, the Company has been advised that in the
opinion of the Security and Exchange Commission, such indemnification is
against public policy as expressed in the Securities Act and is, therefore,
unenforceable. At the present time there is no pending litigation involving
a director, officer, employee or other agent of the Company in which
indemnification would be required or permitted. The Company is not aware of
any threatened litigation or proceeding that may result in a claim for such
indemnification.
21
<PAGE>
ITEM 11. SECURITY OWNERSHIP OF BENEFICIAL OWNERS AND MANAGEMENT.
The following table sets forth certain information with respect to
beneficial ownership of the Company's common stock as of December 16, 1998 by
(I) each executive officer of the Company, (ii) each director of the Company,
(iii) all directors and executive officers of the Company as a group, and
(iv) each person known by the Company to be a beneficial owner of more than
five percent of the common stock.
NAMES AND ADDRESSES OF BENEFICIAL OWNERS
<TABLE>
<CAPTION>
NO. OF SHARES
PERCENT OF CLASS NO. OF SHARES PERCENT OF CLASS
- -------------------------------------------------------------------------------
<S> <C> <C>
Terrence L. McGovern
50 Ridgecrest Road
Kentfield, CA 94904 990,000 32.2%
James A. McDermott 335,500 10.9%
22522 Malden Street
West Hills, CA 91304
Complete Management, Inc.
254 West 31st. St.
New York, NY 10001 154,500 5.0%
Alan Annex 32,500 *
1740 Broadway, 11th Fl.
New York, NY 10019-4315
All Directors and Executive
Officers as group
(two persons) 1,325,500 43.2%
</TABLE>
* Less than 1% of the outstanding shares of Common Stock.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
In May 1995, the Company entered into the License Agreement with Action
Down Under, Ltd., an entity that owns the exclusive right to source and use
the "Aca Joe" name in the United States. The License Agreement gives the
Company an exclusive United States license to source, under the name and
style "Aca Joe". Mr. McGovern, the chairman of the board and chief executive
officer of the Company holds a 17% interest in the licensor. Mr. McGovern's
22
<PAGE>
ownership interest in Action Down Under, Ltd. represent a conflict of
interest vis-a-vis his fiduciary obligations to the Company.
In May 1998, the Company notified Action Down Under, Ltd., that it had
no plans to renew its license for the rights to "Aca Joe" in the United
States because of its inability to generate a profit from its efforts. The
Company has no further obligations to Action Down Under, Ltd.
In August 1997, Mr. Lawrence Hurwitz; a member of the Board of Directors
at the time, received a finder's fee of $7,500 from Capital Factors in
connection with the acquisition financing of the Cotton Stuff asset purchase
transaction.
In March 1998, The Company announced the signing of a Letter of Intent
to purchase CMG, Inc., a Los Angeles based manufacturer of women's and men's
apparel. In August 1998, the Company announced that it had ceased
discussions with CMG, Inc. having decided it was not an appropriate
acquisition candidate.
In August 1998, Mr. Terrence McGovern, the chairman of the board and
chief executive officer and , an affiliate of the Company put on deposit, as
a loan to the Company, $216,000 with the Company's factor to induce the
factor to overadvance the Company the same amount against receivables, so
that the Company could meet its financial obligations. As compensation both
Messrs. McGovern and the affiliate each received a warrant to purchase 54,000
shares of the Company's common stock for $.01 per share. Subsequent to the
issue, both Mr. McGovern and the affiliate exercised their warrants.
All future transactions, including loan, between the Company and its
officers, directors, principal shareholders and affiliates will be approved
by a majority of the Board of Directors, including a majority of the
independent and disinterested outside directors on the Board of Directors,
and will be on terms no less favorable to the Company than could be obtained
from unaffiliated third parties.
23
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
F-1
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
SEPTEMBER 30, 1998
I N D E X
<TABLE>
<CAPTION>
Page No.
<S> <C>
INDEPENDENT AUDITOR'S REPORT . . . . . . . . . . . . . . . . . . . F-3
FINANCIAL STATEMENTS
Balance Sheet as of September 30, 1998 . . . . . . . . . . . . F-4
Statement of Operations for the Years Ended
September 30, 1998 and 1997 . . . . . . . . . . . . . . . . . F-5
Statement of Cash Flows for the Years Ended
September 30, 1998 and 1997 . . . . . . . . . . . . . . . . . F6-7
Statement of Cash Flows - Supplemental Information
for the Years Ended September 30, 1998 and 1997 . . . . . . . F-8
Statement of Stockholders' Deficiency for the Years
Ended September 30, 1998 and 1997 . . . . . . . . . . . . . . F-9
Notes to Financial Statements. . . . . . . . . . . . . . . . . . F-10-19
</TABLE>
F-2
<PAGE>
[FINEMAN WEST & CO. LLP LETTERHEAD]
INDEPENDENT AUDITOR'S REPORT
To the Board of Directors and Stockholders
Pacific Coast Apparel Company, Inc.
dba Cotton Stuff
We have audited the accompanying balance sheet of Pacific Coast Apparel
Company, Inc. dba Cotton Stuff as of September 30, 1998 and the related
statements of operations, cash flows and stockholders' deficiency for the
years ended September 30, 1998 and 1997. These financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Pacific Coast Apparel
Company, Inc. dba Cotton Stuff as of September 30, 1998 and the results of
its operations and its cash flows for the years ended September 30, 1998 and
1997, in conformity with generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 16 to the
financial statements, the Company has incurred significant losses from
operations and has a net deficit in accumulated earnings and a stockholders'
deficiency. These factors raise substantial doubt about the Company's
ability to continue as a going concern. Management's plans in regard to
these matters are also described in Note 16. The financial statements do not
include any adjustments that might result from the outcome of this
uncertainty.
FINEMAN WEST & CO LLP
December 18, 1998
Los Angeles, California
F-3
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
BALANCE SHEET
SEPTEMBER 30, 1998
<TABLE>
<CAPTION>
<S> <C>
ASSETS
CURRENT ASSETS
Accounts receivable (Notes 1, 3 and 6) $ 22,818
Inventories (Notes 1, 3, 4 and 6) 564,006
Prepaid expenses and other current assets 82,068
----------
Total Current Assets 668,892
PROPERTY AND EQUIPMENT, at cost, net of accumulated
depreciation (Notes 1 and 5) 92,206
OTHER ASSETS 36,730
----------
$ 797,828
----------
----------
LIABILITIES AND STOCKHOLDERS' DEFICIENCY
CURRENT LIABILITIES
Outstanding checks payable $ 17,324
Current maturities of long-term debt (Note 6) 108,000
Due to factor (Note 3) 96,018
Accounts payable 171,474
Accrued expenses (Note 7) 279,049
----------
Total Current Liabilities 671,865
LONG-TERM DEBT, LESS CURRENT MATURITIES (Note 6) 110,713
NEGATIVE GOODWILL (Note 1) 161,062
COMMITMENTS AND CONTINGENCIES (Note 11)
STOCKHOLDERS' DEFICIENCY (Notes 1, 9, 11, 12 and 15)
Preferred stock
Authorized, 600,000 shares
No shares outstanding -
Common stock, no par value
Authorized, 10,000,000 shares
Issued and outstanding 3,064,000 shares 5,453,798
Additional paid-in capital 479,860
Deficit (6,079,470)
----------
Total Stockholders' Deficiency (145,812)
----------
$ 797,828
----------
----------
</TABLE>
See accompanying independent auditors' report
and notes to financial statements
F-4
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended September 30,
---------------------------
1998 1997
----------- -----------
(as restated)
(Note 15)
<S> <C> <C>
NET SALES (Notes 1 and 14) $ 4,474,339 $ 1,270,482
COST OF GOODS SOLD 2,655,402 1,943,187
----------- -----------
GROSS PROFIT (LOSS) 1,818,937 (672,705)
OPERATING EXPENSES (Note 11)
Design and production 226,016 226,828
Selling 825,538 748,535
Shipping 51,140 91,347
General and administrative 1,632,772 1,233,063
Interest expense (income) 70,094 (20,807)
----------- -----------
Total Operating Expenses 2,805,560 2,278,966
----------- -----------
LOSS BEFORE INCOME TAXES (986,623) (2,951,671)
PROVISION FOR INCOME TAXES
(Notes 1 and 10) (1,700) (2,668)
----------- -----------
NET LOSS $ (988,323) $(2,954,339)
----------- -----------
----------- -----------
BASIC NET LOSS PER SHARE (Note 8) (.33) (.99)
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING (Note 8) 2,965,000 2,974,000
</TABLE>
See accompanying independent auditors' report
and notes to financial statements
F-5
<PAGE>
Page 1 of 2
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
STATEMENT OF CASH FLOWS
INCREASE (DECREASE) IN CASH
<TABLE>
<CAPTION>
Year Ended September 30,
--------------------------
1998 1997
----------- -----------
(as restated)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (988,323) $(2,954,339)
----------- -----------
Adjustments to reconcile net loss to
cash used by operating activities:
Depreciation 37,010 35,888
Loss on abandonment of leasehold improvements 14,402 -
Amortization of negative goodwill (11,504) -
Issuance of stock for services - 4,500
Changes in assets and liabilities, net
of effect of assets and liabilities
acquired in 1997
Decrease (increase) in due from factor 173,577 (105,999)
Increase (decrease) in due to factor 96,018 (5,000)
Decrease (increase) in accounts
receivable 29,847 (46,799)
Decrease in inventories 301,320 7,925
(Increase) decrease in prepaid expenses
and other current assets (64,431) 12,849
Increase in other assets (16,991) (5,957)
Decrease in advances to contractor - 30,000
(Decrease) increase in accounts payable (69,830) 84,767
Increase in accrued expenses 98,057 34,909
----------- -----------
Total Adjustments 587,475 47,083
----------- -----------
Net Cash Used by Operating
Activities (400,848) (2,907,256)
</TABLE>
See accompanying independent auditors' report
and notes to financial statements
F-6
<PAGE>
Page 2 of 2
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
STATEMENT OF CASH FLOWS
INCREASE (DECREASE) IN CASH
<TABLE>
<CAPTION>
Year Ended September 30,
--------------------------
1998 1997
----------- -----------
(as restated)
<S> <C> <C>
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment (5,606) (165,385)
Net payment for acquisition of net assets - (401,905)
Decrease in short-term investments 81,084 3,618,467
----------- ----------
Net Cash Provided by
Investing Activities 75,478 3,051,177
CASH FLOWS FROM FINANCING ACTIVITIES
Increase in outstanding checks payable 17,324 -
Proceeds from issuance of common stock 1,080 -
Decrease (increase) in note receivable,
officer 10,000 (10,000)
Principal payments on long-term debt (109,642) (851)
Proceeds from long-term debt - 325,000
Reacquisition of common stock - (154,540)
Decrease in loans payable, officer - (6,899)
----------- ----------
Net Cash (Used) Provided by
Financing Activities (81,238) 152,710
----------- ----------
NET (DECREASE) INCREASE IN CASH AND
CASH EQUIVALENTS (406,608) 296,631
CASH AND CASH EQUIVALENTS, beginning 406,608 109,977
----------- ----------
CASH AND CASH EQUIVALENTS, ending $ - $ 406,608
----------- ----------
----------- ----------
</TABLE>
See accompanying independent auditors' report
and notes to financial statements
F-7
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
STATEMENT OF CASH FLOWS - SUPPLEMENTAL INFORMATION
<TABLE>
<CAPTION>
Year Ended September 30,
------------------------
1998 1997
-------- --------
<S> <C> <C>
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest $ 78,598 $ 28,179
Income taxes 2,635 1,618
</TABLE>
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING
AND FINANCING ACTIVITIES
During the year ended September 30, 1997, the Company reacquired and retired
121,000 shares of common stock for $154,540. The difference between the
original issuance price and the reacquisition price of $306,610 has been
reflected on the accompanying financial statements as an increase in
additional paid-in capital.
On August 22, 1997, the Company acquired certain assets and assumed certain
liabilities of Cotton Stuff, Inc. as follows:
<TABLE>
<CAPTION>
<S> <C>
Fair value of assets acquired (all current) $ 793,193
Liabilities assumed (all current) 145,627
----------
Less: negative goodwill resulting from the 647,566
net asset acquisition 172,566
----------
Purchase price 475,000
Less: cash acquired 73,095
----------
Net cash paid for acquisition of net assets $ 401,905
----------
----------
</TABLE>
During the year ended September 30, 1997, the Company issued 9,000 shares of
common stock with a value of $4,500 for services.
See accompanying independent auditors' report
and notes to financial statements
F-8
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
STATEMENT OF STOCKHOLDERS' DEFICIENCY
YEAR ENDED SEPTEMBER 30, 1998 AND 1997
<TABLE>
<CAPTION>
Total
Common Stock Additional Stockholders'
----------------------- Paid-in Equity
Shares Amount Capital Deficit (Deficiency)
---------- ---------- -------- ----------- ------------
<S> <C> <C> <C> <C> <C>
Balance, October 1, 1996 3,070,000 $5,920,118 $162,500 $(2,136,808) $ 3,945,810
Reacquisition of stock during the year
ended September 30, 1997 (116,000) (452,400) 306,610 - (145,790)
Issuance of stock for services 9,000 4,500 - - 4,500
Other (5,000) (19,500) 10,750 - (8,750)
Net loss for the year ended
September 30, 1997, as restated - - - (2,954,339) (2,954,339)
---------- ---------- -------- ----------- ------------
Balance, September 30, 1997 2,958,000 5,452,718 479,860 (5,091,147) 841,431
Issuance of stock 108,000 1,080 - - 1,080
Cancellation of stock (2,000) - - - -
Net loss for the year ended
September 30, 1998 - - - (988,323) (988,323)
---------- ---------- -------- ----------- ------------
Balance, September 30, 1998 3,064,000 $5,453,798 $479,860 $(6,079,470) $ (145,812)
---------- ---------- -------- ----------- ------------
---------- ---------- -------- ----------- ------------
</TABLE>
Note: No preferred stock was issued or outstanding as of September 30, 1998
and 1997 and for the years then ended.
See accompanying independent auditors' report
and notes to financial statements
F-9
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
The Company was incorporated in the state of California in 1995 and was in
the development stage through September 30, 1995. The Company manufactures
primarily women's' casual apparel for sale to retailers throughout the
United States under the label "Cotton Stuff" and uses the services of
outside contractors for its manufacturing. In the prior year, the Company
manufactured under the "Aca Joe" trademarks and used the dba "Aca Joe."
The Company has only one reportable industry segment, apparel
manufacturing. The deficit accumulated during the development stage to
September 30, 1995 was $258,235.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include money market accounts with original
maturities of three months or less.
ACCOUNTS RECEIVABLE
For non-factored sales, the Company assumes the credit risk and grants
credit to customers generally without collateral.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out method) or
market.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is provided using
the straight-line method over the estimated useful lives of the related
assets.
Expenditures for repairs and maintenance are charged to expense when
incurred. In addition, major renewals and replacements that increase the
property's useful life are capitalized.
REVENUE RECOGNITION
Revenues are recognized when a product is shipped to customers. Customer
returns are allowed only for quality control and other related matters.
Such returns are estimated and provided for in the period of sale when
significant.
F-10
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
USE OF ESTIMATES
Management uses estimates and assumptions in preparing financial statements
in accordance with generally accepted accounting principles. Those
estimates and assumptions affect the reported amounts of assets and
liabilities, the disclosure of contingent assets and liabilities and the
reported revenues and expenses. Actual results could vary from the
estimates that were used.
INCOME TAXES
Income taxes are provided for the tax effect of transactions included in
the financial statements and consist of state income taxes currently
payable.
Deferred income taxes are recognized for the tax effect of temporary
differences between the bases of assets and liabilities for financial
statement and income tax purposes. Deferred income taxes are also
recognized for the income tax benefit of net operating losses that are
available to offset future taxable income, if any. Valuation allowances
are established when necessary to reduce deferred income tax benefits to
estimated realizable amounts.
SIGNIFICANT TRANSACTIONS
On August 22, 1997, the Company acquired certain assets and assumed certain
liabilities of Cotton Stuff, Inc. and also took over their related business
and operations. Cotton Stuff, Inc. operated as a manufacturer of casual
sportswear and sold to specialty retailers throughout the United States.
The purchase price of the net assets acquired was $475,000. This
transaction has been accounted for using the purchase method of accounting
and the prior year financial statements include the results of these
operations from August 22, 1997 to September 30, 1997.
Negative goodwill results from the amount of the fair value of the above
net assets acquired that exceeds the purchase price. The negative goodwill
is being amortized over a period of 15 years using the straight-line
method.
F-11
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
2 - ACQUISITION OF COTTON STUFF, INC.'S NET ASSETS
The following table reflects the unaudited pro-forma combined results of
operations of the Company and the Cotton Stuff, Inc. operations assuming
that the acquisition had taken place at the beginning of the fiscal year
ended September 30, 1997:
<TABLE>
<S> <C>
Net sales $ 4,851,000
Net loss (3,088,000)
Net loss per common share (1.04)
Shares used in computation 2,974,000
</TABLE>
The unaudited pro-forma information above has been prepared assuming Cotton
Stuff, Inc. had been acquired as of the beginning of the period presented.
The pro-forma information is presented for information purposes only and is
not necessarily indicative of what would have occurred if the acquisition
had been made as of that date. In addition, the pro-forma information is
not intended to be a projection of future results and does not reflect any
reduction (or increase) of expenses that may result from the integration of
Cotton Stuff, Inc.'s operations with the Company.
3 - DUE TO FACTOR
The Company uses a factor for credit administration and working capital
purposes. Under the factoring agreement, the factor purchases a
substantial portion of the Company's trade accounts receivable and assumes
substantially all credit risks with respect to such accounts. Receivables
sold in excess of maximums established for each account by the factor are
subject to recourse in the event of non-payment by the customer. At
September 30, 1998, items subject to such recourse were $83,000. To the
extent that the Company draws on funds prior to the average maturity date
of accounts receivable sold to the factor, the Company pays interest on
such funds. The Company is contingently liable to the factor for
merchandise disputes, customer claims, and the like, on receivables sold to
the factor. The Company has granted to the factor a security interest in
any of the Company's accounts receivable and inventories. An officer and
affiliate of the Company have pledged certain personal assets to the factor
in order to collateralize over-advances from the factor.
F-12
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
<TABLE>
<S> <C>
4 - INVENTORIES
Inventories consist of the following:
Raw materials $ 299,275
Work in process 43,680
Finished goods 221,051
-----------
$ 564,006
-----------
-----------
5 - PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
Office equipment $ 46,573
Furniture and fixtures 114,473
-----------
161,046
Accumulated depreciation 68,840
-----------
$ 92,206
-----------
-----------
6 - LONG-TERM DEBT
Long-term debt consists of the following:
Note payable, factor, bearing interest at
prime plus 2.5% (prime rate is 8.50% as of
September 30, 1998), payable in 36 install-
ments. Security interests are the same as
those described in Note 3 $ 218,713
Current maturities 108,000
-----------
$ 110,713
-----------
-----------
</TABLE>
F-13
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
6 - LONG-TERM DEBT (Continued)
Minimum future payments on long-term debt are as follows:
<TABLE>
<CAPTION>
Year Ending
September 30,
-------------
<S> <C>
1999 $ 108,000
2000 108,000
2001 3,000
---------
$ 219,000
---------
---------
</TABLE>
7 - ACCRUED EXPENSES AND SUNDRY LIABILITIES
Accrued expenses and sundry liabilities consist of the following:
<TABLE>
<S> <C>
Payroll and payroll taxes $ 26,710
Commissions 8,084
Professional fees 164,394
Contract payable 38,191
Other 41,670
---------
$ 279,049
---------
---------
</TABLE>
8 - BASIC LOSS PER SHARE
Basic loss per share computation for the years ended September 30, 1998 and
1997 is based upon the weighted average number of shares outstanding in
each period and does not include the exercise of stock purchase warrants
and stock options because the effect of such inclusion would be to decrease
the net loss per share.
9 - PREFERRED STOCK
The preferred stock is noncumulative and is convertible into one share of
common stock for each share of preferred stock.
F-14
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
9 - PREFERRED STOCK (Continued)
Other characteristics of the preferred stock are as follows:
Voting rights - The preferred stock shall have the same voting rights
per share as the common stock, one vote per share.
Dividends - The preferred stock shall participate in dividends on the
same basis as common stock.
In the event of a liquidation, a portion of the preferred stock will have a
first claim over and above the common stock on the net assets of the
Company in the amount of $2.50 per share. The Board of Directors from time
to time may designate other preference rights.
10 -INCOME TAXES
The Company has available approximately $4,000,000 as of September 30, 1998
in federal net operating loss carryforwards of which $3,000,000 can be used
to offset future federal taxable income, if any, until its expiration
through the year ending September 30, 2012 and $1,000,000 can be used to
offset future federal taxable income, if any, until its expiration through
the year ending September 30, 2018.
For state income tax purposes, the Company also has available approximately
$4,000,000 in net operating loss carryforwards which can be used to offset
future state taxable income, if any, until its expiration through the year
ending September 30, 2003.
11 -COMMITMENTS AND CONTINGENCIES
LEASES
The Company leases its office and warehouse facilities through March 2000.
Additionally, the Company leases two showrooms under noncancellable leases
through October 2000. The Company subleases its office and warehouse
facilities on a month-to-month basis. Rental income for the year ended
September 30, 1998 was $34,000. There was no rental income in 1997. Rent
expense for the years ended September 30, 1998 and 1997 approximates
$154,000 and $110,000, respectively, net of rental income.
F-15
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
11 -COMMITMENTS AND CONTINGENCIES (Continued)
LEASES (Continued)
Minimum future lease payments are as follows:
<TABLE>
<CAPTION>
Year Ending
September 30,
-------------
<S> <C>
1999 $ 191,000
2000 170,000
2001 2,000
---------
$ 363,000
---------
---------
</TABLE>
ROYALTY AGREEMENT
The Company had a licensing agreement whereby the Company had the exclusive
right to design, manufacture and sell products utilizing the "Aca Joe"
trademarks. The Company elected to cancel its royalty agreement during the
year ended September 30, 1998.
Royalty expense for the years ended September 30, 1998 and 1997 was $37,500
and $25,000, respectively.
STOCK PURCHASE WARRANTS
The Company has outstanding warrants to purchase up to 1,350,000 shares of
the Company's common stock at $6.00 per share through 2001 and also has
outstanding warrants to purchase up to 270,000 shares of common stock
through 2001 at an approximate average price of $6.00 per share.
During the year ended September 30, 1997, the Company issued additional
warrants to purchase up to 75,000 shares of common stock at $1.00 per share
through July 31, 2002. During the year ended September 30, 1998, the
Company issued two warrants to purchase 54,000 shares of common stock each,
at $.01 per share, to an officer of the Company and an affiliate of the
Company in exchange for the pledging of certain personal assets with the
Company's factor. The warrants were exercised immediately and 108,000
shares of common stock were issued.
F-16
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
11 -COMMITMENTS AND CONTINGENCIES (Continued)
CONTINGENCIES
The Company is involved in a legal dispute with a potential total liability
to the Company of approximately $440,000. Outside counsel for the Company
has advised that at this stage in the proceedings, an opinion as to the
probable outcome can not be made. However, management of the Company
believes that the ultimate outcome of the matter will not have a material
adverse effect upon the Company's financial position. During the year
ended September 30, 1998, the Company settled an arbitration for
approximately $70,000 and this is included in operating expenses.
12 -STOCK OPTION PLAN
The Company has a stock option plan which provides for the granting of up
to 300,000 shares of common stock. The option price per share will be
fixed on the date the option is granted and the maximum term of an option
may not exceed ten years. The option price will be not less than the fair
value of the stock at the date of grant.
Stock option activity during the years ended September 30, 1998 and 1997 is
as follows:
<TABLE>
<CAPTION>
Option
Shares Price
--------- -----------
<S> <C> <C>
Outstanding as of October 1, 1996 - $ -
Granted during the year ended
September 30, 1997 215,000 1.00 to 4.50
Canceled during the year ended
September 30, 1997 100,000 4.50
-------
Outstanding as of September 30, 1997 115,000 1.00 to 4.50
Granted during the year ended
September 30, 1998 105,000 .75 to 3.50
Canceled during the year ended
September 30, 1998 (16,667) 1.50 to 3.50
-------
Outstanding as of September 30, 1998 203,333 .75 to 4.50
-------
-------
</TABLE>
Subsequent to September 30, 1998, the Company granted stock options to a
director and employees of the Company. The options can be exercised to
purchase up to 55,000 shares of common stock at prices ranging from $.68
per share to $1.00 per share.
F-17
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
13 -DEFERRED INCOME TAXES
Components of the Company's gross deferred tax balance and deferred tax
asset valuation allowance are as follows:
<TABLE>
<S> <C>
Deferred tax assets
Net operating loss carryforwards $ 2,360,000
Less valuation allowance (2,360,000)
------------
Net deferred taxes $
------------
------------
</TABLE>
100% valuation allowance is necessary due to the uncertainty of future
earnings and the resultant realization of future tax benefits.
14 -MAJOR CUSTOMERS
For the year ended September 30, 1998, no customers accounted for more than
10% of the Company's sales. For the year ended September 30, 1997,
approximately 10% of the Company's sales were to one customer. All
receivables were sold to the Company's factor.
15 -PRIOR PERIOD ADJUSTMENT
The accompanying financial statements for the year ended September 30, 1997
have been restated to correct an error made in the year ended September 30,
1997. The error caused an understatement in assets. The effect of the
error was to reduce the net loss for the year ended September 30, 1997 by
$81,084 ($.03 per share). There is no income tax effect due to the
existence of the tax net operating loss carryforwards.
16 -GOING CONCERN
The accompanying financial statements have been prepared in conformity with
generally accepted accounting principles, which contemplate the
continuation of the Company as a going concern. However, the Company
sustained a loss of approximately $988,000 for the year ended September 30,
1998 and as of September 30, 1998, the Company's accumulated deficit is
approximately $6,080,000 and the stockholders' deficiency is approximately
$146,000.
F-18
<PAGE>
PACIFIC COAST APPAREL COMPANY, INC. DBA COTTON STUFF
NOTES TO FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
16 -GOING CONCERN (Continued)
In order to generate profitable operations, the Company needs to increase
its sales volume and reduce operating overhead. In addition, to continue
as a going concern, the Company may need an infusion of additional capital
or financing.
17 -OTHER MATTERS
Historically, certain computer programs were written using two digits
rather than four to define the applicable year. Accordingly, these
programs and related software may recognize a date using "00" as 1900
rather than the year 2000, which could result in major systems failures or
miscalculations, commonly referred to as the Year 2000 issue.
The Company is currently in the process of investigating whether its
internal accounting systems and other operational systems are Year 2000
compliant. The Company expects to effect the conversion of its internal
accounting system to upgraded software in 1999. The Company believes that
necessary conversions of other operational systems can also be accomplished
through vendor upgrades and enhancements. The Company does not anticipate
significant costs associated with any necessary conversions. However,
there can be no assurances that certain of the Company's internal computer
systems or networks or those of its significant customers, vendors and
other suppliers of goods and services will not be adversely effected by
such Year 2000 issues, which could have a material adverse effect on the
Company's business, operating results or financial condition.
18 -SUBSEQUENT EVENT
Subsequent to September 30, 1998, the Company entered into a Reorganization
Agreement (Agreement) with a Los Angeles based women's apparel
manufacturer. This Agreement will provide for a merger between the Company
and the apparel manufacturer. The merger contemplated under the Agreement
has not been consummated as of the current date as there are certain
contingencies presently existing that must be resolved prior to the actual
merger taking place. The Company is in the process of seeking financing
related to the proposed merger, but no commitment for financing currently
exists.
F-19
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> SEP-30-1998
<PERIOD-START> OCT-01-1997
<PERIOD-END> SEP-30-1998
<CASH> 0
<SECURITIES> 0
<RECEIVABLES> 22,818
<ALLOWANCES> 0
<INVENTORY> 564,006
<CURRENT-ASSETS> 668,892
<PP&E> 92,206
<DEPRECIATION> 0
<TOTAL-ASSETS> 797,828
<CURRENT-LIABILITIES> 671,865
<BONDS> 0
0
0
<COMMON> 5,453,798
<OTHER-SE> 479,860
<TOTAL-LIABILITY-AND-EQUITY> 797,828
<SALES> 4,474,339
<TOTAL-REVENUES> 0
<CGS> 2,655,402
<TOTAL-COSTS> 2,805,560
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 70,094
<INCOME-PRETAX> (986,623)
<INCOME-TAX> 1,700
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (988,323)
<EPS-PRIMARY> (.33)
<EPS-DILUTED> 0
</TABLE>
