UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington D.C. 20549
---------
FORM 10-QSB
Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarter ended September 30, 1998 Commission File Number 000-28876
CHEM INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
Delaware 13-3035216
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
201 Route 22
Hillside, New Jersey 07205
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (973) 926-0816
----------------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 of 15(d) of the Securities and Exchange Act of 1934
during the preceding 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
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding as of November 12, 1998
- ---------------------------------- -----------------------------------
Common Stock, Par Value 5,178,300
<PAGE>
CHEM INTERNATIONAL, INC.
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INDEX
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Part I: Financial Information
Item 1: Consolidated Financial Statements
Consolidated Balance Sheet as of September 30, 1998 [Unaudited] 1..2
Consolidated Statements of Operations for the three months ended
September 30, 1998 and 1997 [Unaudited]..................... 3.....
Consolidated Statement of Stockholders' Equity for the three months
ended September 30, 1998 [Unaudited]........................ 4.....
Consolidated Statements of Cash Flows for three months ended
September 30, 1998 and 1997 [Unaudited]..................... 5.....6
Notes to Consolidated Financial Statements [Unaudited]...... 7.....14
Item 2: Management's Discussion and Analysis of Financial Condition
and Results of Operations...................................15.....17
Part II: Other Information..........................................18
Signature...........................................................19
. . . . . . . .
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CHEM INTERNATIONAL, INC.
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CONSOLIDATED BALANCE SHEET AS OF SEPTEMBER 30, 1998.
[UNAUDITED]
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<TABLE>
Assets:
Current Assets:
<S> <C>
Cash and Cash Equivalents $ 304,758
Accounts Receivable - Net 1,748,880
Deferred Income Taxes 75,000
Inventories 3,747,520
Prepaid Expenses and Other Current Assets 152,572
Refundable Federal Income Taxes 200,000
-----------
Total Current Assets 6,228,730
Property and Equipment - Net 1,634,189
-----------
Other Assets:
Goodwill 278,887
Deferred Income Taxes 43,000
Security Deposits and Other Assets 108,151
-----------
Total Other Assets 430,038
Total Assets $ 8,292,957
===========
The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.
1
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CHEM INTERNATIONAL, INC.
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CONSOLIDATED BALANCE SHEET AS OF SEPTEMBER 30, 1998.
[UNAUDITED]
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Liabilities and Stockholders' Equity:
Current Liabilities:
<S> <C>
Accounts Payable $ 1,249,104
Notes Payable 399,180
Accrued Expenses and Other Current Liabilities 179,137
Accrued Expenses - Related Party 40,000
Capital Lease Obligation 34,771
-----------
Total Current Liabilities 1,902,192
Non-Current Liabilities:
Notes Payable 173,907
Notes Payable - Related Party 694,129
Capital Lease Obligation 58,555
-----------
Total Non-Current Liabilities 926,591
Commitments and Contingencies [9] --
Stockholders' Equity:
Preferred Stock - Authorized 1,000,000 Shares,
$.002 Par Value, No Shares Issued --
Common Stock - Authorized 25,000,000 Shares,
$.002 Par Value, 5,178,300 Shares Issued and Outstanding 10,357
Additional Paid-in Capital 4,847,405
Retained Earnings 606,412
Total Stockholders' Equity 5,464,174
Total Liabilities and Stockholders' Equity $ 8,292,957
===========
The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.
2
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CHEM INTERNATIONAL, INC.
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CONSOLIDATED STATEMENTS OF OPERATIONS
[UNAUDITED]
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Three months ended
September 30,
1 9 9 8 1 9 9 7
------- -------
<S> <C> <C>
Sales $2,223,732 $ 2,351,590
Cost of Sales 2,132,595 2,022,752
---------- -----------
Gross Profit 91,137 328,838
Selling and Administrative Expenses 682,940 595,756
---------- -----------
Operating [Loss] (591,803) (266,918)
---------- -----------
Other Income [Expense]:
Interest Expense - Related Party (18,807) --
Partnership Loss -- (3,503)
Interest Expense (12,543) (11,197)
Interest and Income Investment Income 217 16,616
---------- -----------
Other Income [Expense] - Net (31,133) 1,916
---------- -----------
[Loss] Before Income Taxes (622,936) (265,002)
Federal and State Income Tax [Benefit] (200,185) (82,700)
---------- -----------
Net [Loss] $ (422,751) $ (182,302)
========== ===========
Net [Loss] Per Share:
Basic and Diluted $ (.08) $ (.04)
========== ===========
Average Common Shares Outstanding 5,178,300 4,335,000
========== ===========
The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.
3
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CHEM INTERNATIONAL, INC.
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CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY FOR THE THREE MONTHS
ENDED SEPTEMBER 30, 1998.
[UNAUDITED]
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Additional Total
Common Stock Preferred Paid-in Retained Stockholders'
Shares Par Value Stock Capital Earnings Equity
<S> <C> <C> <C> <C> <C> <C> <C>
Balance - July 1, 1998 5,178,300 $ 10,357 $ -- $4,847,405 $1,029,163 $5,886,925
Net [Loss] for the
three months ended
September 30, 1998 -- -- -- -- (422,751) (422,751)
--------- -------- -------- ---------- ---------- ----------
Balance - September 30,
1998 5,178,300 10,357 $ -- $4,847,405 $ 606,412 $5,464,174
========= ======== ======== ========== ========== ==========
The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.
4
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CHEM INTERNATIONAL, INC.
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CONSOLIDATED STATEMENTS OF CASH FLOWS
[UNAUDITED]
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Three months ended
September 30,
1 9 9 8 1 9 9 7
------- -------
Operating Activities:
<S> <C> <C>
Net [Loss] $ (422,751) $ (182,302)
---------- -----------
Adjustments to Reconcile Net [Loss] to Net Cash
[Used for] Operating Activities:
Depreciation and Amortization 96,451 76,114
Amortization of Discount on Note Payable 5,682 --
Deferred Income Taxes (18,000) (10,000)
Imputed Interest on Note Payable - Related Party -- 3,526
Loss on Investment in Partnership -- 3,503
Interest Income on Note Receivable -- (9,347)
Bad Debt Expense 2,500 --
Changes in Assets and Liabilities:
[Increase] Decrease in:
Accounts Receivable 1,709,557 1,124,019
Inventories (225,710) (792,883)
Refundable Federal Income Taxes (200,000) (80,000)
Prepaid Expenses and Other Current Assets 24,784 108,564
Security Deposits and Other Assets (2,060) (121,977)
Increase [Decrease] in:
Accounts Payable (1,587,938) (462,388)
Federal and State Income Taxes Payable (40,000) (40,530)
Accrued Expenses and Other Liabilities 68,698 (79,880)
---------- -----------
Total Adjustments (166,036) (281,279)
---------- -----------
Net Cash - Operating Activities (588,787) (463,581)
---------- -----------
Investing Activities:
Purchase of Property and Equipment (82,280) (22,400)
Loans to Stockholders' (14,101) --
Loan to Related Company -- 2,500
---------- -----------
Net Cash - Investing Activities (96,381) (19,900)
---------- -----------
Financing Activities:
Proceeds from Notes Payable 520,000 --
Repayment of Notes Payable (486,477) (12,244)
---------- -----------
Net Cash - Financing Activities 33,523 (12,244)
---------- -----------
Net [Decrease] in Cash and Cash Equivalents (651,645) (495,725)
Cash and Cash Equivalents - Beginning of Periods 956,403 1,010,256
---------- -----------
Cash and Cash Equivalents - End of Periods $ 304,758 $ 514,531
========== ===========
The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.
5
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CHEM INTERNATIONAL, INC.
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CONSOLIDATED STATEMENTS OF CASH FLOWS
[UNAUDITED]
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Three months ended
September 30,
1 9 9 8 1 9 9 7
------- -------
Supplemental Disclosures of Cash Flow Information:
Cash paid during the periods for:
<S> <C> <C>
Interest $ 25,593 $ 11,604
Income Taxes $ 50,425 $ 62,411
The Accompanying Notes are an Integral Part of These Consolidated Financial Statements.
6
</TABLE>
<PAGE>
CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[UNAUDITED]
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[1] Business
Chem International, Inc. [the "Company"] is engaged primarily in the
manufacturing, marketing and sales of vitamins, nutritional supplements and
herbal products. Its customers are located primarily throughout the United
States and Europe.
[2] Summary of Significant Accounting Policies
Principles of Consolidation - The accompanying consolidated financial statements
include the accounts of the Company and its subsidiaries all of which are
wholly-owned. Intercompany transactions and balances have been eliminated in
consolidation.
Basis of Reporting - The accompanying unaudited interim financial statements
have been prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form 10-QSB and
Item 310(b)of Regulation S-B. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements. In the opinion of management, such interim
statements include all adjustments which are considered necessary in order to
make the interim financial statements not misleading. It is suggested that these
financial statements be read in conjunction with the financial statements and
notes thereto, together with management's discussion and analysis of financial
condition and results of operations, contained in the Company's annual report to
stockholders incorporated by reference in the Company's annual report on Form
10-KSB for the fiscal year ended June 30, 1998. The results of operations for
the three months ended September 30, 1998 are not necessarily indicative of the
results for the entire fiscal year ending June 30, 1999.
Cash and Cash Equivalents - Cash equivalents are comprised of certain highly
liquid investments with a maturity of three months or less when purchased.
Inventories - The inventories are stated at the lower of cost or market. Cost is
determined by the first-in, first-out method.
Depreciation - The Company follows the general policy of depreciating the cost
of property and equipment over the following estimated useful lives:
Leasehold Improvements 15 Years
Machinery and Equipment 7 Years
Machinery and Equipment Under Capital Leases 7 Years
Transportation Equipment 5 Years
Machinery and equipment are depreciated using accelerated methods while
leasehold improvements are amortized on a straight-line basis. Depreciation
expense was $93,453 and $73,117 for the three months ended September 30, 1998
and 1997, respectively. Amortization of equipment under capital leases is
included with depreciation expense.
Goodwill - Goodwill, representing the excess of cost over the fair value of the
net assets acquired of the Company's principal operating business subsidiary at
its date of its acquisition in 1981, is being amortized over 40 years on the
straight-line method. The Company carries its goodwill net of accumulated
amortization of $200,626 and is subject to periodic review for impairment.
Amortization expense was $2,998 for each of the three months ended September 30,
1998 and 1997.
7
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CHEM INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Sheet #2
[UNAUDITED]
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[2] Summary of Significant Accounting Policies [Continued]
Estimates - The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Net [Loss] Per Share -The FASB issued SFAS No. 128, "Earnings Per Share," in
February 1997. SFAS No. 128 simplifies the earnings per share ["EPS"]
calculations required by Accounting Principles Board ["APB"] Opinion No. 15, and
related interpretations, by replacing the presentation of primary EPS with a
presentation of basic EPS. SFAS No. 128 requires dual presentation of basic and
diluted EPS by entities with complex capital structures. Basic EPS includes no
dilution and is computed by dividing income available to common stockholders by
the weighted-average number of common shares outstanding for the period. Diluted
EPS reflects the potential dilution of securities that could share in the
earnings of an entity, similar to the fully diluted EPS of APB Opinion No. 15.
SFAS No. 128 is effective for financial statements issued for periods ending
after December 15, 1997, including interim periods; earlier application is not
permitted. The Company has adopted SFAS No. 128 in these financial statements.
Basic EPS is based on average common shares outstanding and diluted EPS include
the effects of potential common stock, such as, options and warrants, if
dilutive. Potential common shares of 150,000 are not currently dilutive, but may
be in the future. Adoption of SFAS No. 128 is not material to the Company.
Revenue Recognition - The Company generally recognizes revenue upon shipment of
the product.
Impairment - Certain long-term assets of the Company including goodwill are
reviewed at least annually as to whether their carrying value has become
impaired, pursuant to guidance established in Statement of Financial Accounting
Standards ["SFAS"] No. 121, "Accounting for the Impairment of Long-Lived Assets
and for Long-Lived Assets to Be Disposed Of." Management considers assets to be
impaired if the carrying value exceeds the future projected cash flows from
related operations [undiscounted and without interest charges]. If impairment is
deemed to exist, the assets will be written down to fair value which represents
the projected discounted cash flows from related operations. Management also
reevaluates the periods of amortization to determine whether subsequent events
and circumstances warrant revised estimates of useful lives. As of September 30,
1998, management expects these assets to be fully recoverable.
Advertising - Costs incurred for producing and communicating advertising are
expensed when incurred. Advertising expense was $89,334 and $42,882 for the
three months ended September 30, 1998 and 1997, respectively.
[3] Inventories
Inventories consist of the following at September 30, 1998:
Raw Materials $ 2,095,774
Work-in-Process 770,580
Finished Goods 881,166
-----------
Total $ 3,747,520
----- ===========
8
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CHEM INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Sheet #3
[UNAUDITED]
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[4] Property and Equipment
Property and equipment comprise the following at September 30, 1998:
Leasehold Improvements $1,066,416
Machinery and Equipment 2,341,178
Machinery and Equipment Under Capital Leases 109,545
Transportation Equipment 36,652
Total 3,553,791
Less: Accumulated Depreciation and Amortization 1,919,602
Total $1,634,189
[5] Notes Payable
Notes payable are summarized as follows at September 30, 1998:
Related Party
Notes Payable Note Payable Total
Notes Payable:
Bio Merieux Vitek, Inc. (a) $ 58,754 $ -- $ 58,754
President and Chief Executive Officer (b) -- 694,129 694,129
First Union National Bank:
Revolving Line-of-Credit (c) 350,000 -- 350,000
Equipment Term Loan (d) 164,333 -- 164,333
---------- ----------- ----------
Totals 573,087 694,129 1,267,216
Less: Current Portion 399,180 -- 399,180
---------- ----------- ----------
Noncurrent Portion $ 173,907 $ 694,129 $ 868,036
------------------ ========== =========== ==========
(a)Five year 10% equipment note dated April 1, 1997 providing for monthly
payments of $1,698 for principal and interest. The note is collateralized by
laboratory equipment.
(b)Three year non-collaterized 7% promissory note for $750,000 with related
party providing for quarterly payments of $13,125 representing interest only.
The note matures on March 12, 2001. As additional consideration for the loan
and in the light of the below market interest rate and uncollateralized
nature of the loan, the Corporation issued a Class C Warrant to purchase
150,000 shares of common stock at the aggregate purchase price of $1.75 per
share. The note is recorded net of $68,182, which represents the fair value
of the Class C warrant. The amortization at September 30, 1998 was $5,682 and
is classified as interest expense in the Company's financial statements. The
warrant is exercisable for a four year period commencing one year after the
issuance of the note and expires on March 12, 2003.
(c)Under the terms of a revolving line of credit which expires on July 27, 1999,
the Company may borrow up to $500,000 at 1% above the bank's prime lending
rate. The loan is collateralized by the assets of Manhattan Drug Company. The
loan has been guaranteed by the Company's principal stockholder. At September
30, 1998, the interest rate was 9.25%.
9
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CHEM INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Sheet #4
[UNAUDITED]
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[5] Notes Payable [Continued]
(d)Under the terms of a five year equipment term loan, dated July 27, 1998, the
Company may borrow up to $395,000 at 1.5% above the bank's prime interest
rate. The term loan provides for monthly payments of $2,834 for principal and
monthly payments for interest. The loan is collateralized by the assets of
Manhattan Drug Company. The loan has been guaranteed by the Company's
principal stockholder. At September 30, 1998, the interest rate was 9.75%.
The loan agreement with First Union National Bank contains certain financial
covenants relating to the maintenance of specified liquidity, debt to equity and
debt coverage ratios and requires that the Company's president and principal
stockholder maintain a minimum stock ownership percentage of the Company. The
Company was not in compliance with its debt coverage ratio on a consolidated
basis at September 30, 1998.
The following are maturities of long-term debt for each of the next five years:
Related Party
Notes Payable Note Payable Total
September 30,
1999 $ 399,180 $ -- $ 399,180
2000 50,785 -- 50,785
2001 52,533 694,129 746,662
2002 42,288 -- 42,288
2003 28,301 -- 28,301
---------- ----------- ----------
Totals $ 573,087 $ 694,129 $1,267,216
------ ========== =========== ==========
[6] Capital Lease
The Company acquired equipment under the provision of a long-term lease. The
lease expires in March 2001. The equipment under the capital lease as of
September 30, 1998 had a cost of $109,545 accumulated depreciation of $22,361
with a net book value of $87,184
The future minimum lease payments under capital leases and the net present value
of the future minimum lease payments at September 30, 1998 are as follows:
Total Minimum Lease Payments $ 104,900
Amount Representing Interest (11,574)
----------
Present Value of Net Minimum Lease Payments 93,326
Current Portion (34,771)
Long-Term Capital Lease Obligation $ 58,555
[7] Significant Risks and Uncertainties
[A] Concentrations of Credit Risk - Cash - The Company maintains balances at
several financial institutions. Accounts at each institution are insured by the
Federal Deposit Insurance Corporation up to $100,000. At September 30, 1998, the
Company's uninsured cash balances totaled approximately $268,000. The Company
does not require collateral in relation to cash credit risk.
10
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CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Sheet #5
[UNAUDITED]
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[7] Significant Risks and Uncertainties [Continued]
[B] Concentrations of Credit Risk - Receivables - The Company routinely assesses
the financial strength of its customers and, based upon factors surrounding the
credit risk of its customers, establishes an allowance for uncollectible
accounts and, as a consequence, believes that its accounts receivable credit
risk exposure beyond such allowances is limited. The Company does not require
collateral in relation to its trade accounts receivable credit risk. The amount
of the allowance for uncollectible accounts at September 30, 1998 is $28,250.
[8] Major Customer
For the three months ended September 30, 1998 and 1997, approximately 44% and
39% of revenues were derived from one customer. The loss of this customer would
have an adverse affect on the Company's operations. In addition, for the three
months ended September 30, 1998 and 1997, an aggregate of approximately 19% and
23%, respectively, of revenues were derived from two other customers; no other
customers accounted for more than 10% of consolidated sales for the three months
ended September 30, 1998 and 1997. Accounts receivable from these customers
comprised approximately 67% and 64% of total accounts receivable at September
30, 1998 and 1997, respectively.
[9] Commitments and Contingencies
[A] Leases
Related Party Leases - Certain manufacturing and office facilities are leased
from Gerob Realty Partnership ["Gerob"] whose partners are stockholders of the
Company. The lease, which expires on December 31, 1998, provides for a minimum
annual rental of $60,000 plus payment of all real estate taxes. Rent and real
estate tax expense for the three months ended September 30, 1998 and 1997 on
this lease was approximately $20,000 and $29,000, respectively. Unpaid rent of
$40,000 due to Gerob at September 30, 1998 has been separately disclosed as
accrued expenses on the consolidated balance sheet.
Other warehouse and office facilities are leased from Vitamin Realty Associates,
L.L.C., a limited liability company, which is 90% owned by the Company's
president and principal stockholder and certain family members and 10% owned by
the Company's Chief Financial Officer. The lease was effective on January 10,
1997 and provides for minimum annual rental of $346,000 through January 10, 2002
plus increases in real estate taxes and building operating expenses. At its
option, the Company has the right to renew the lease for an additional five year
period. Rent expense for the three months ended September 30, 1998 and 1997 on
this lease was approximately $117,000 and $102,000, respectively.
Other Lease Commitments - The Company leases warehouse equipment for a five year
period providing for an annual rental of $15,847 and office equipment for a five
year period providing for an annual rental of $8,365.
The Company leases automobiles under non-cancelable operating lease agreements
which expire through 2001.
11
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CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Sheet #6
[UNAUDITED]
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[9] Commitments and Contingencies [Continued]
Other Lease Commitments [Continued] - The minimum rental commitment for
long-term non-cancelable leases is as follows:
Related
Lease Party Lease
September 30, Commitment Commitment Total
1999 $ 43,023 $ 259,500 $ 302,523
2000 48,240 346,000 394,240
2001 24,717 346,000 370,717
2002 16,912 182,609 199,521
2003 -- -- --
Thereafter -- -- --
---------- --------- ----------
Total $ 132,892 $1,134,109 $1,267,001
----- ========== ========== ==========
Total rent expense, including real estate taxes and maintenance charges, was
approximately $137,000 and $122,000 for the three months ended September 30,
1998 and 1997, respectively. Rent expense is stated net of sublease income of
approximately $4,000 and $8,000 for the three months ended September 30, 1998
and 1997, respectively.
[B] Employment Agreements - Effective July 1, 1996, the Company entered into
three year employment agreements with its president and four other officers
which provide for aggregate annual salaries of $580,000 for the year ending June
30, 1997, and $680,000 for the years ending June 30, 1998 and 1999,
respectively. These agreements are subject to annual increases equal to at least
the increase in the consumer price index for the Northeastern area.
[C] Investment in and Royalties Receivable from Martin Health Care Products,
Inc. - On February 10, 1998, the Company signed an exclusive manufacturer
agreement with Martin Health Care Products, Inc. to provide to Martin Health
Care certain products for a ten year period. In connection with the agreement,
the Company also agreed to forgive from Martin Health Care outstanding invoices
totaling $22,000. In return for the forgiveness, Martin agreed to pay to the
Company a royalty on sales of certain products and to issue to the Company
15,000 shares of common stock in Martin Health Care Products, Inc. The Company
has recorded the cost for the common stock at $1,000 and has recorded the
royalties as a non-current asset in the amount of $21,000.
[D] Litigation - The Company is unable to predict its ultimate financial
exposure with respect to its prior sale of certain products which may have
contained allegedly contaminated Tryptophan which is the subject of numerous
lawsuits against unrelated manufacturers, distributors, suppliers, importers and
retailers of that product. However, management does not presently believe the
outcome of these actions will have a material adverse effect on the Company.
On July 7, 1997, the Company was informed by one of its suppliers of a recall of
the supplier's raw material which was used in manufacturing of tablets sold by
the Company. On July 17, 1997, the Company issued a voluntary recall to three
customers affected by this and, accordingly, reduced its sales and accounts
receivable at June 30, 1997 by $127,000. The Company believes they have recourse
against the supplier for the full value of the tablets sold containing the
recalled raw material. The Company does not believe there will be any
significant additional costs relating to this recall. On September 30, 1997, the
Company instituted suit to recover all damages. The case is currently in the
discovery stage. The Company expects that the case will proceed to non-binding
arbitration in January 1999. No estimate can be made at September 30, 1998 as to
the amount, if any, of ultimate recovery.
12
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CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Sheet #7
[UNAUDITED]
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[9] Commitments and Contingencies [Continued]
[E] Consulting Agreements - The Company entered into a consulting agreement with
a financial advisory group ["Consultants"] commencing on March 20, 1998 until
February 28, 1999. The Company is obligated to pay $2,500 for services rendered
at the end of each month that services are provided during the terms of this
agreement. In addition, the Company has issued to the Consultants three options
for 45,000 shares of common stock. Each option is exercisable for 15,000 shares
at exercise prices of $1.125, $2.50 and $4.00, respectively. These options are
exercisable until March 20, 2003.
[F] Development and Supply Agreement - On April 9,1998, the Company signed a
development and supply agreement with Herbalife International of America, Inc.
["Herbalife"] whereby the Company will develop, manufacture and supply certain
nutritional products to Herbalife through December 31, 2000.
[G] Manufacturing Agreement - On February 14, 1998, the Company signed a
manufacturing agreement with Pilon International, PLC., a company that supplies
Zepter International, a world-wide direct sales distributor of consumer
products. The Company will manufacture and develop dietary supplements through
the year 2001.
[10] Related Party Transactions
During the year ended June 30, 1997, the Company entered into a consulting
agreement with the brother of the Company's president on a month to month basis
for $1,100 per month. The total consulting expense recorded per this verbal
agreement for the three months ended September 30, 1998 and 1997, by the Company
was $3,300 and $3,000, respectively.
[11] Fair Value of Financial Instruments
Generally accepted accounting principles require disclosing the fair value of
financial instruments to the extent practicable for financial instruments which
are recognized or unrecognized in the balance sheet. The fair value of the
financial instruments disclosed herein is not necessarily representative of the
amount that could be realized or settled, nor does the fair value amount
consider the tax consequences of realization or settlement.
In assessing the fair value of financial instruments, the Company uses a variety
of methods and assumptions, which are based on estimates of market conditions
and risks existing at the time. For certain instruments, including cash and cash
equivalents, accounts receivable, notes receivable, accounts payable, and
accrued expenses, it was estimated that the carrying amount approximated fair
value because of the short maturities of these instruments. Short-term debt and
long-term debt including long-term debt to a related party is based on current
rates at which the Company could borrow funds with similar remaining maturities
and approximates fair value.
13
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CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, Sheet #8
[UNAUDITED]
- ------------------------------------------------------------------------------
[12] New Authoritative Pronouncements
The FASB has issued SFAS No. 130, "Reporting Comprehensive Income." SFAS
No. 130 is effective for fiscal years beginning after December 15, 1997.
Reclassification of financial statements for earlier periods provided for
comparative purposes is required. The Company adopted SFAS No. 130 as of July 1,
1998. SFAS No. 130 does not have a material impact on the Company.
The FASB has issued SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information." SFAS No. 131 changes how operating segments
are reported in annual financial statements and requires the reporting of
selected information about operating segments in interim financial reports
issued to shareholders. SFAS No. 131 was effective for periods beginning after
December 15, 1997, and comparative information for earlier years is to be
restated. SFAS No. 131 does not apply to interim financial statements in the
initial year of its application. SFAS No. 131 does not have a material impact on
the Company.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts and for hedging activities. SFAS No. 133
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. The accounting for changes in the fair value of a derivative
depends on the intended use of the derivative and how it its designated, for
example, gain or losses related to changes in the fair value of a derivative not
designated as a hedging instrument is recognized in earnings in the period of
the change, while certain types of hedges may be initially reported as a
component of other comprehensive income [outside earnings] until the
consummation of the underlying transaction.
SFAS No. 133 is effective for all fiscal quarters of fiscal years beginning
after June 15, 1999. Initial application of SFAS No. 133 should be as of the
beginning of a fiscal quarter; on that date, hedging relationships must be
designated anew and documented pursuant to the provisions of SFAS No. 133.
Earlier application of all of the provisions of SFAS No. 133 is encouraged, but
it is permitted only as of the beginning of any fiscal quarter. SFAS No. 133 is
not to be applied retroactively to financial statements of prior periods. The
Company does not currently have any derivative instruments and is not currently
engaged in any hedging activities.
[13] Subsequent Events
[A] Incentive Stock Options - On October 7, 1998, the Company granted 219,998
incentive stock options for a term of ten years commencing on October 7, 1998 to
its officers at the exercise price of $1.50 per share and 60,606 shares at 110%
of the exercise price for a term of five years commencing on October 7, 1998.
[B] Non-Statutory Options - On October 7, 1998, the Company granted 40,000
non-statutory stock options to the members of its Scientific Advisory Board at
the exercise price of $1.50 per share for a term of ten years commencing on
October 7, 1998.
. . . . . . . . . . . . . . . . .
14
<PAGE>
Item 2.
CHEM INTERNATIONAL, INC.
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
- ------------------------------------------------------------------------------
The following discussion should be read in conjunction with the historical
financial statements of the Company and notes thereto.
Three months ended September 30, 1998 Compared to September 30, 1997
Results of Operations
The Company's net losses for the three months ended September 30, 1998 and 1997
were $(422,751)and $(182,302) respectively. This increase in net loss of
approximately $240,000 is primarily the result of a $325,000 increase in an
operating loss resulting from a corresponding $238,000 decrease in gross profit
and an $87,000 increase in selling and administrative expenses. The decrease in
gross profit is due to an increase in manufacturing expenses as the Company
hired additional direct labor and increased its production capacity in the
fourth quarter of fiscal 1998 in anticipation of increased orders. Product
launches expected for the first quarter of fiscal 1999 in eastern Europe were
delayed because of the uncertainties in the European markets. The Company does
expect second quarter sales to reflect the product launches. Bulk manufacturing
sales which carry a lower gross margin were higher than the comparative quarter.
Sales for the three months ended September 30, 1998 and 1997 were $2,223,732 and
$2,351,500, respectively, a decrease of approximately $128,000 or 5.4% due to a
decrease primarily in mail order sales. For the three months ended September 30,
1998, the Company had sales to one customer, who accounted for 44% of net sales
in 1998 and 39% in 1997. The loss of this customer would have an adverse affect
on the Company's operations.
Retail and mail order sales for the first quarter of 1998 totaled $198,119 as
compared to $273,749 for the first quarter of 1997 a decrease of 27.6% due to
decreased mail order business over the summer months.
On February 17, 1997, the Company signed a distribution agreement with Roche
Vitamins, Inc. to service and supply Roche products to a select segment of
Roche's food, nutrition and cosmetic accounts. The agreement has an initial term
of two years and shall be renewable for an additional term of one year each.
Sales for the quarter ended September 30, 1998 were $310,021 as compared to
$275,132 for the quarter ended September 30, 1997, an increase of 12.7%.
Cost of sales increased to $2,132,595 for the first quarter of 1998 as compared
to $2,022,752 for the first quarter of 1997. Cost of sales increased as a
percentage of sales to 96% for the first quarter of 1998 from 86% for the first
quarter of 1997. The increase in cost of sales is due to an increase in
manufacturing costs and an increase in lower margin sales.
Selling and administrative expenses for the three months ended September 30,
1998 were $682,940 versus $595,756 for the same period a year ago. The increase
of $87,184 was primarily attributable to an increase in advertising of
approximately $40,000 over the comparative period last year as the Company tries
to generate new sales and customers, including hiring a consulting group and
signing a professional services contract with Allen Houston of the New York
Knicks to be the Company's spokesman for its Vitality Medicine line of product.
The Company believes this increased advertising effort will increase its sales.
There was also, an increase in professional fees of approximately $12,000 that
was not indicative in the comparative period last year. The Company believes
these expenses will stabilize at approximately $700,000 per quarter, which will
be lower than the comparative quarters in the prior year.
Other income [expense] was $(31,133) for the first quarter of 1998 as compared
to $1,916 for the first quarter of 1997. This decrease of $33,049 is
attributable to an increase in interest expense of $20,153, a decrease in
interest and investment income of $16,399 and a decrease in a partnership loss
of $3,503.
15
<PAGE>
CHEM INTERNATIONAL, INC.
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
- ------------------------------------------------------------------------------
Results of Operations [Continued]
On July 7, 1997, the Company was informed by one of its suppliers of a recall of
the supplier's raw material which was used in manufacturing of tablets sold by
the Company. On July 17,1997, the Company issued a voluntary recall to three
customers affected by this, and accordingly, reduced its sales and accounts
receivable at June 30, 1997 by $127,000. The Company believes they have recourse
against the supplier for the full value of the tablets sold containing the
recalled raw material. The company does not believe there will be any
significant additional costs relating to this recall. On September 30, 1997 the
Company instituted suit to recover all damages. The case is currently in the
discovery stage. The Company expects that the case will proceed to non-binding
arbitration in January 1999. No estimate can be made at September 30, 1998 as to
the amount, if any, of ultimate recovery.
Liquidity and Capital Resources
At September 30, 1998, the Company's working capital was $4,326,538 a decrease
of $434,973 over working capital at June 30, 1998. Cash and cash equivalents
were $304,758 at September 30, 1998 a decrease of $651,645 from June 30, 1998.
The Company utilized $588,787 and $463,581 for operations for the three months
ended September 30, 1998 and 1997, respectively.
The primary reasons for the increase in cash utilized for operations are (a) a
decrease in accounts receivable of approximately $1,700,000, (b) an increase in
inventories of approximately $225,000, (c) an increase in refundable federal
income taxes of $200,000 and (d) a decrease in accounts payable of approximately
$1,600,000. The Company believes that the anticipated sales for the second
quarter of fiscal 1999 will meet the cash needs for operations in the next nine
months. During the first quarter of fiscal 1999, the Company had significantly
paid accounts payable from June 30, 1998. This should not be indicative of
future trends, as payables were up at June 30, 1998 due to an increase in
material costs and inventory in anticipation of European sales. The Company may
also draw on its available line of credit from the bank. In addition, the
Company is looking for additional sources of financing to meet its liquidity
needs.
The Company utilized $96,381 and $19,900 in investing activities for the three
months ended September, 30, 1998 and 1997, respectively. The Company generated
net cash of $33,523 from debt financing activities for the three months ended
September 30, 1998 and utilized $12,244 in investing activities for the three
months ended September 30, 1997.
The Company has a $500,000 revolving line of credit agreement with a bank which
bears interest at 1.0% above the banks prime lending rate and expires on July
27, 1999. At September 30, 1998 the balance due under the revolving line of
credit was $350,000. The Company has additionally secured a five year equipment
term loan with interest at 1.5% above the bank's prime lending rate. At
September 30, 1998 the balance due under the equipment loan was $164,333. The
Company was not in compliance with its debt coverage ratio on a consolidated
basis at September 30, 1998.
The Company's total annual principal commitments at September 30, 1998 for the
next five years of $1,267,001 consists of obligations under operating leases for
facilities and lease agreements for the rental of warehouse equipment, office
equipment and automobiles.
Effective July 1, 1996, the Company entered into employment agreements with each
of its five executive officers providing for aggregate compensation in the
amount of $680,000 for the fiscal year ending June 30, 1999.
16
<PAGE>
CHEM INTERNATIONAL, INC.
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
- ------------------------------------------------------------------------------
Liquidity and Capital Resources [Continued]
The Company expects to spend approximately $55,000 through 1999 to modify it's
computer information systems enabling proper processing of transactions relating
to the year 2000 ("Y2K") and beyond. The Company installed a new network system
in October 1998 at a cost of approximately $20,000, whose hardware and software
is Y2K compliant. New manufacturing software will be purchased at a cost of
approximately $32,000. The Company is still researching various software
programs, and anticipates having a new manufacturing program up and running
before June 1999. The Company's suppliers and vendors have been contacted, and
most have responded with their intent to be Y2K compliant by the year 2000. At
this time, the Company believes, based on their responses, that there will be no
disruption of their business. The Company intends to simultaneously run its
existing manufacturing program which is independent with its new computer system
to be sure of no disruption in business. The Company does not expect the amounts
required to be expended over the next fifteen months to have a material effect
on its financial position or results of operations. The amount expended as of
September 30, 1998 was $2,248.
New Authoritative Pronouncements
The FASB has issued SFAS No. 130, "Reporting Comprehensive Income." SFAS
No. 130 is effective for fiscal years beginning after December 15, 1997.
Reclassification of financial statements for earlier periods provided for
comparative purposes is required. The Company adopted SFAS No. 130 as of July 1,
1998.SFAS No. 130 does not have a material impact on the Company.
The FASB has issued SFAS No. 131, "Disclosures About Segments of an
Enterprise and Related Information." SFAS No. 131 changes how operating segments
are reported in annual financial statements and requires the reporting of
selected information about operating segments in interim financial reports
issued to shareholders. SFAS No. 131 was effective for periods beginning after
December 15, 1997, and comparative information for earlier years is to be
restated. SFAS No. 131 does not apply to interim financial statements in the
initial year of its application. SFAS No. 131 does not have a material impact on
the Company.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards for derivative instruments, including certain derivative
instruments embedded in other contracts and for hedging activities. SFAS No. 133
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. The accounting for changes in the fair value of a derivative
depends on the intended use of the derivative and how it its designated, for
example, gain or losses related to changes in the fair value of a derivative not
designated as a hedging instrument is recognized in earnings in the period of
the change, while certain types of hedges may be initially reported as a
component of other comprehensive income [outside earnings] until the
consummation of the underlying transaction.
SFAS No. 133 is effective for all fiscal quarters of fiscal years beginning
after June 15, 1999. Initial application of SFAS No. 133 should be as of the
beginning of a fiscal quarter; on that date, hedging relationships must be
designated anew and documented pursuant to the provisions of SFAS No. 133.
Earlier application of all of the provisions of SFAS No. 133 is encouraged, but
it is permitted only as of the beginning of any fiscal quarter. SFAS No. 133 is
not to be applied retroactively to financial statements of prior periods. The
Company does not currently have any derivative instruments and is not currently
engaged in any hedging activities.
Impact of Inflation
The Company does not believe that inflation has significantly affected its
results of operations.
17
<PAGE>
Part II: Other Information
CHEM INTERNATIONAL, INC.
- ------------------------------------------------------------------------------
Item 1: Legal Proceeding
None
Item 2: Changes in Securities
None
Item 3: Defaults Upon Senior Securities
None
Item 4: Submission of Matters to a Vote of Security Holders
None
Item 5: Other Information
None
Item 6: Exhibits and Reports on Form 8K
None
18
<PAGE>
SIGNATURES
- ------------------------------------------------------------------------------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CHEM INTERNATIONAL, INC.
Date: November 12, 1998 By:/s/ E. Gerald Kay
E. Gerald Kay,
President and Chief Executive Officer
Date: November 12, 1998 By:/s/ Eric Friedman
Eric Friedman,
Chief Financial Officer
19
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
consolidated balance sheet and the consolidated statement of operations
and is qualified in its entirety by reference to such schedules.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-Mos
<FISCAL-YEAR-END> Jun-30-1998
<PERIOD-END> Sep-30-1998
<CASH> 304,758
<SECURITIES> 0
<RECEIVABLES> 1,748,880
<ALLOWANCES> 0
<INVENTORY> 3,747,520
<CURRENT-ASSETS> 6,228,730
<PP&E> 3,553,791
<DEPRECIATION> 1,919,602
<TOTAL-ASSETS> 8,292,957
<CURRENT-LIABILITIES> 1,902,192
<BONDS> 0
0
0
<COMMON> 10,357
<OTHER-SE> 5,453,817
<TOTAL-LIABILITY-AND-EQUITY> 8,292,957
<SALES> 2,223,732
<TOTAL-REVENUES> 2,223,732
<CGS> 2,132,595
<TOTAL-COSTS> 2,815,535
<OTHER-EXPENSES> 31,133
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 31,350
<INCOME-PRETAX> (622,936)
<INCOME-TAX> (200,185)
<INCOME-CONTINUING> (422,751)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (422,751)
<EPS-PRIMARY> (.08)
<EPS-DILUTED> (.08)
</TABLE>
