CHEM INTERNATIONAL, INC.
MANAGEMENT'S 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.
RESULTS OF OPERATIONS
Year ended June 30, 1998 Compared to the Year Ended June 30, 1997
The Company's net [loss] for the year ended June 30, 1998 was $(97,438) as
compared to net loss of $(654,304) for the year ended June 30, 1997. This
decrease in net loss of approximately $557,000 is primarily the result of a
$865,000 decrease in operating loss and a decrease in the federal tax benefit of
approximately $200,000. The $865,000 decrease in operating loss is due to a
gross profit increase of approximately $1,500,000 and an increase in selling and
administrative expense of approximately $650,000.
Sales for the years ended June 30, 1998 and 1997 were $16,011,049 and
$11,126,860, respectively, an increase of approximately $5,000,000 or 44%. For
the year ended June 30, 1998, the Company had sales to one customer, who
accounted for 44% of net sales in 1998 and 48% of net sales in 1997. The loss of
this customer would have an adverse affect on the Company's operations.
Retail and mail order sales for the year ended June 30, 1998 totaled $1,090,854
as compared to $983,749 for the year ended June 30, 1997, an increase of
$107,105 or 11%.
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 year ended June 30, 1998 totaled $1,250,480.
Cost of sales increased to $12,841,937 in 1998 as compared to $9,475,624 for
1997. Cost of sales decreased as a percentage of sales to 80% as compared to 85%
for 1997. The decrease in cost of sales is due to greater operating efficiencies
because of the extensive renovation of the blending department and an increase
in sales to customers of bottled products.
Selling and administrative expenses for the year ended June 30, 1998 were
$3,197,047 versus $2,546,972 for the same period a year ago. The increase of
$650,075 was primarily attributable to an increase of advertising of
approximately $170,000, an increase in travel and entertainment of approximately
$85,000, a decrease in professional fees of approximately $55,000, a decrease in
consulting fees of approximately $124,000, an increase in pension and
profit-sharing plan expenses of approximately $400,000, and an increase in
office salaries of approximately $49,000.
Other income [expense] was $(105,789) for the year ended June 30, 1998 as
compared to $(4,588) for the same period a year ago. This increase in net
expense of $101,201 is attributable to a decrease in interest expense of
$12,128, a decrease in interest and investment income of $48,491, a decrease in
sales of fixed assets of $25,000, a loss resulting from the write off of a note
receivable of $33,058, and a decrease in partnership income of $6,780.
Year ended June 30, 1997 Compared to the Year Ended June 30, 1996
The Company's net [loss] for the year ended June 30, 1997 was $(654,304) as
compared to net income of $42,198 for the year ended June 30, 1996. This
decrease in net income of approximately $700,000 is primarily the result of a
$1,200,000 decrease in operating income resulting from a decrease in gross
profit of approximately $650,000 and an increase in selling and administrative
expenses of approximately $550,000 for the year ended June 30, 1997 as compared
to the year ended June 30, 1996. The decrease in gross profit is due to a higher
percentage of sales to lower margin customers and an increase in raw material
costs.
Cost of sales increased to $9,475,624 in 1997 as compared to $8,343,179 for
1996. Cost of sales increased as a percentage of sales to 85% as compared to 78%
for 1996. The increase in cost of sales is due to an increase in material costs.
The Company has begun to develop new raw material suppliers whereby the Company
can achieve a lower cost of materials.
Selling and administrative expenses for the year ended June 30, 1997 were
$2,546,972 versus $1,990,997 for the same period a year ago. The increase of
$555,975 was primarily attributable to an increase in officers' compensation of
approximately $225,000, an increase in office salaries of approximately $25,000,
a decrease in professional fees of approximately $38,000, a decrease in travel
and entertainment of approximately $21,000, an increase in consulting fees of
approximately $207,000, a decrease in office rent of approximately $22,000, an
increase in advertising and catalog costs of approximately $117,000 and an
increase in payroll tax expense of approximately $9,000.
Other income [expense] was $(4,588) for the year ended June 30, 1997 as compared
to $(127,823) for the same period a year ago. This increase of $123,235 is
attributable to a decrease in sales of fixed assets of $39,000, an increase of
$38,778 from a 50% owned partnership, a decrease in interest expense of $85,600
and an increase in interest and investment income of $37,857.
<PAGE>
CHEM INTERNATIONAL, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The Company began in July of 1997 a renovation of its blending department.
Management expects the renovation to be completed by October 15, 1997 and
expects to achieve greater manufacturing efficiencies as a result.
Sales for the years ended June 30, 1997 and 1996 were $11,126,860 and
$10,637,797, respectively, an increase of approximately $490,000 or 5%. For the
year ended June 30, 1997, the Company had sales to one customer, who accounted
for 48% of net sales in 1997 and 40% of net sales in 1996. The loss of this
customer would have an adverse affect on the Company's operations.
Retail and mail order sales for the year ended June 30, 1997 totaled $983,749 as
compared to $756,711 for the year ended June 30, 1996, an increase of $227,038
or 30%.
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 additional terms of one year each. Sales
for the period from February 20, 1997 through June 30, 1997 under the agreement
totaled $308,259.
In 1997, the Company signed an exclusive agreement with International Nutrition
Research Center, Inc. ["INRC"] to market and distribute the Master Amino Acid
Pattern ["MAP"]. MAP is a new patented unique food supplement in the sports
nutrition field and is specifically recommended for professional and weekend
athletes who need to maximize protein synthesis. MAP is being marketed
exclusively by "The Vitamin Factory, Inc." a subsidiary of the Company through
mail order. MAP represents the first proprietary product developed for sale by
the Company.
On July 7, 1997, the Company was informed by one of its suppliers of a recall of
the supplier's raw material used in the manufacturing of tablets sold containing
the recalled raw material. 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. In September, the Company instituted suit to recover
all damages.
LIQUIDITY AND CAPITAL RESOURCES
At June 30, 1998, the Company's working capital was $4,761,511 an increase of
$729,109 over working capital at June 30, 1997. Cash and cash equivalents were
$956,403 at June 30, 1998 a decrease of $53,853 from June 30, 1997. The Company
utilized $414,153 and $1,776,278 for operations for the years ended June 30,
1998 and 1997, respectively. The primary reasons for the decrease in cash
utilized for operations are (a) an increase in inventories of approximately
$1,400,000, (b) an increase in accounts receivable of approximately $1,000,000
resulting from an increase of approximately $2,000,000 in sales for the quarter
ended June 30, 1998, (c) an increase in accounts payable of approximately
$1,000,000, (d) a decrease in prepaid pension costs of approximately $340,000
due to the termination of the Company's defined benefit pension plan in May of
1997, and (e) a decrease in refundable federal income taxes of $240,000. The
Company utilized $740,216 and $660,004 in investing activities for the years
ended June 30, 1998 and 1997, respectively. The Company generated net cash of
$1,100,516 from debt financing activities for the year ended June 30, 1998 and
generated $2,681,473 from financing activities for the year ended June 30, 1997
through net proceeds from a public offering of $3,426,344 and proceeds from debt
financing of $412,744, with payments on debt of $1,157,615.
The Company had a $500,000 revolving line of credit with a bank which bears
interest at 1.5% above the bank's prime lending rate and expired on July 29,
1998. At June 30, 1998, the balance due under the line of credit loan was
$300,000. The Company has additionally secured a five year equipment loan with
interest at .75% above the bank's prime lending rate. At June 30, 1998, the
balance due under the equipment loan was $169,043.
On July 27, 1998, the Company signed a new financing agreement with a new bank
providing for a $500,000 revolving line of credit with interest at 1.00% above
the bank's prime lending rate and expiring on July 30, 1999, a $170,000 five
year equipment loan with interest at 1.50% above the bank's prime lending rate
expiring on June 30, 2003 and a five year $225,000 equipment term loan with
interest at 1.50% above the bank's prime lending rate.
On July 29, 1998, the Company borrowed $300,000 from the new bank to pay off the
existing line of credit balance and $170,000 to pay off the existing equipment
loan balance. Subsequently, the Company repaid the $300,000 on August 7, 1998.
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 years ending June 30, 1998 and June 30, 1999.
In December 1997, the Underwriter of the public offering ceased operations and
market making activities. As part of the October 1996 underwriting agreement,
the Company had entered into an agreement retaining the Underwriter as financial
consultant to the Company for a two year period commencing on the date of the
completion of the offering at a fee of $88,550. Accordingly at December 31,
1997, the balance of prepaid consulting fees of $36,896 was written off as
consulting expense for the nine months ended December 31, 1997.
<PAGE>
CHEM INTERNATIONAL, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
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.
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.
On March 12, 1998, the Company negotiated a three year promissory note with its
Chairman and President. The note bears interest at 7% and is due on March 12,
2001. The note provides for interest only to be paid quarterly. As additional
consideration for the loan and in light of the below market interest rate and
uncollateralized nature of the loan, the Company issued a Class C Warrant to
purchase 150,000 shares of common stock at the aggregate purchase price of $1.77
per share. The warrant is exercisable for a four year period commencing one year
after the issuance of the note and expires on March 12, 2003.
On March 17, 1998, the Company secured a three year equipment loan with interest
at 9.66%. At June 30, 1998, the balance due on the note was $101,529.
On April 9, 1998, the Company signed a development 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.
The Company's total annual principal commitments at June 30, 1998 for the next
five years of $1,364,124 consists of obligations under operating leases for
facilities and lease agreements for the rental of warehouse equipment, office
equipment and automobiles.
Based upon a preliminary study, the Company expects to spend approximately
$50,000 through 1999 to modify its computer information systems enabling proper
processing of transactions relating to the year 2000 and beyond. The Company
continues to evaluate appropriate courses of corrective action, including
replacement of certain systems whose associated costs would be recorded as
assets and amortized. Accordingly, the Company does not expect the amounts
required to be expanded over the next eighteen months to have a material effect
on its financial position or results of operations. The amount expended as of
June 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. Earlier
application is permitted. Reclassification of financial statements for earlier
periods provided for comparative purposes is required. SFAS No. 130 is not
expected to 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 is effective for periods beginning after December 15,
1997, and comparative information for earlier years is to be restated. SFAS No.
131 need not be applied to interim financial statements in the initial year of
its application. SFAS No. 131 is not expected to have a material impact on the
Company.
In February 1998, the FASB issued SFAS No. 132, "Employers Disclosure about
Pension and Other Postretirement Benefits," which is effective for fiscal years
beginning after December 15,1997. The modified disclosure requirements are not
expected to have a material impact on the Company's results of operations,
financial position or cash flows.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which is effective for fiscal years
beginning after June 15, 1999. The Company will evaluate the new standard to
determine any required new disclosures or accounting.
IMPACT OF INFLATION
The Company does not believe that inflation has significantly affected its
results of operations.
<PAGE>
CHEM INTERNATIONAL, INC.
CONSOLIDATED BALANCE SHEET
JUNE 30, 1998
- --------------------------------------------------------------------------------
Assets:
Current Assets:
Cash and Cash Equivalents $ 956,403
Accounts Receivable - Net 3,460,937
Inventories 3,521,810
Prepaid Expenses and Other Current Assets 177,357
Deferred Income Taxes 63,000
-----------
Total Current Assets 8,179,507
-----------
Property and Equipment - Net 1,645,362
-----------
Other Assets:
Goodwill - Net 281,884
Deferred Income Taxes 37,000
Security Deposits and Other Assets 91,990
-----------
Total Other Assets 410,874
-----------
Total Assets $10,235,743
===========
Liabilities and Stockholders' Equity:
Current Liabilities:
Accounts Payable $ 2,837,042
Notes Payable 356,537
Accrued Expenses and Other Current Liabilities 165,439
Accrued Expenses - Related Party 25,000
Capital Lease Obligation 33,978
-----------
Total Current Liabilities 3,417,996
-----------
Non-Current Liabilities:
Notes Payable 174,824
Notes Payable - Related Party 688,447
Capital Lease Obligation 67,551
-----------
Total Non-Current Liabilities 930,822
-----------
Commitments and Contingencies [14] --
-----------
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 1,029,163
-----------
Total Stockholders' Equity 5,886,925
-----------
Total Liabilities and Stockholders' Equity $10,235,743
================================================================================
The Accompanying Notes are an Integral Part of These Consolidated Financial
Statements.
<PAGE>
CHEM INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
- -------------------------------------------------------------------------------
Years Ended June 30, 1998 1997
- -------------------------------------------------------------------------------
Sales $16,011,049 $11,126,860
Cost of Sales 12,841,937 9,475,624
----------------------------
Gross Profit 3,169,112 1,651,236
Selling and Administrative Expenses 3,197,047 2,546,972
----------------------------
Operating [Loss] (27,935) (895,736)
----------------------------
Other Income [Expense]:
Gain on Sale of Fixed Assets -- 25,000
Interest Expense (80,616) (85,696)
Interest Expense - Related Party (7,051) (14,099)
Interest and Investment Income 19,936 68,427
Income [Loss] on Investment in Partnership (5,000) 1,780
[Loss] on Note Receivable (33,058) --
----------------------------
Other [Expense] - Net (105,789) (4,588)
----------------------------
[Loss] Before Income Taxes (133,724) (900,324)
Federal and State Income Tax [Benefit] (36,286) (246,020)
----------------------------
Net [Loss] $ (97,438) $ (654,304)
============================
Net [Loss] Per Common Share
Basic and Diluted $ (.02) $ (.16)
============================
Weighted Average Common Shares Outstanding 4,725,460 4,007,877
===============================================================================
The Accompanying Notes are an Integral Part of These Consolidated Financial
Statements.
<PAGE>
CHEM INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------
Common Stock Additional Total
-------------------- Preferred Paid-in Retained Stockholders'
For the Years Ended June 30, 1998 and 1997 Shares Par Value Stock Capital Earnings Equity
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance - July 1, 1996 3,370,000 $ 6,740 $ -- $ 1,883,132 $1,700,905 $3,590,777
Reversal of Issuance of Bridge Units (300,000) (600) -- (1,199,400) 80,000 (1,120,000)
Imputed Interest on Note Payable -
Related Party -- -- -- 14,099 -- 14,099
Issuance of Stock Options -- -- -- 143,601 -- 143,601
Net Proceeds from Public Offering 1,265,000 2,530 -- 3,354,640 -- 3,357,170
Net [Loss] -- -- -- -- (654,304) (654,304)
-------------------------------------------------------------------------
Balance - June 30, 1997 4,335,000 8,670 -- 4,196,072 1,126,601 5,331,343
Imputed Interest on Note Payable -
Related Party -- -- -- 7,051 -- 7,051
Common Stock Issued in Payment of Debt 843,300 1,687 -- 571,757 -- 573,444
Issuance of Stock Options -- -- -- 4,343 -- 4,343
Fair Value of Stock Purchase Warrant [7][12A] -- -- -- 68,182 -- 68,182
Net [Loss] -- -- -- -- (97,438) (97,438)
-------------------------------------------------------------------------
Balance - June 30, 1998 5,178,300 $10,357 $ -- $4,847,405 $1,029,163 $5,886,925
========================================================================================================================
</TABLE>
The Accompanying Notes are an Integral Part of These Consolidated Financial
Statements.
<PAGE>
CHEM INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
- -------------------------------------------------------------------------------
Years Ended June 30, 1998 1997
- -------------------------------------------------------------------------------
Operating Activities:
Net [Loss] $ (97,438) $ (654,304)
-------------------------
Adjustments to Reconcile Net [Loss] to Net Cash
[Used for] Operating Activities:
Depreciation and Amortization 413,060 310,395
Lease Termination Items -- (108,753)
Amortization of Discount on Note Payable 6,629 --
Deferred Income Taxes (83,000) 27,000
Imputed Interest on Note Payable - Related Party 7,051 14,099
[Gain] Loss on Investment in Partnership 5,000 (1,780)
Interest Income on Note Receivable (12,368) (14,623)
Write-off of Note Receivable 33,058 --
Bad Debt Expense 13,240 23,779
[Gain] on Sale of Property and Equipment -- (25,000)
Consulting Expense - Stock Options 4,343 143,601
Changes in Assets and Liabilities:
[Increase] Decrease in:
Accounts Receivable (1,031,469) (291,987)
Inventories (1,435,444) (653,134)
Prepaid Expenses and Other Current Assets 97,032 (241,332)
Prepaid Pension Costs 340,291 (45,957)
Security Deposits and Other Assets 11,868 (12,991)
Refundable Federal Income Taxes 240,000 --
Increase [Decrease] in:
Accounts Payable 1,075,080 (115,228)
Federal and State Income Taxes Payable (1,416) (127,549)
Accrued Expenses and Other Liabilities 330 (2,514)
-------------------------
Total Adjustments (316,715) (1,121,974)
-------------------------
Net Cash - Operating Activities - Forward (414,153) (1,776,278)
-------------------------
Investing Activities:
Investment in Partnership -- (5,000)
Investment in Officers Life Insurance (20,375) --
Issuance of Note Receivable -- (223,750)
Repayment of Loan from Related Company -- 16,849
Repayment of Note Payable - Stock Retirement -- (156,473)
Purchase of Property and Equipment (974,385) (316,499)
Proceeds from Sale of Property and Equipment -- 25,000
Loans to Stockholders -- (92)
Repayment of Loans by Stockholders 2,044 --
Repayment of Note Receivable 250,000 3,183
[Loan to] Repayment of Loan to Related Company 2,500 (3,222)
-------------------------
Net Cash - Investing Activities - Forward $ (740,216) $ (660,004)
The Accompanying Notes are an Integral Part of These Consolidated Financial
Statements.
<PAGE>
CHEM INTERNATIONAL, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
- -------------------------------------------------------------------------------
Years Ended June 30, 1998 1997
- -------------------------------------------------------------------------------
Net Cash - Operating Activities - Forwarded $ (414,153) $(1,776,278)
------------------------
Net Cash - Investing Activities - Forwarded (740,216) (660,004)
------------------------
Financing Activities:
Proceeds from Public Offering -- 3,426,344
Proceeds from Notes Payable 581,886 412,744
Proceeds from Notes Payable - Related Party 750,000 --
Repayment of Notes Payable (231,370) (1,157,615)
------------------------
Net Cash - Financing Activities 1,100,516 2,681,473
------------------------
Net [Decrease] Increase in Cash and Cash
Equivalents (53,853) 245,191
Cash and Cash Equivalents - Beginning of Years 1,010,256 765,065
------------------------
Cash and Cash Equivalents - End of Years $ 956,403 $ 1,010,256
========================
Supplemental Disclosures of Cash Flow Information:
Cash paid during the years for:
Interest $ 55,000 $ 59,000
Income Taxes $ 75,000 $ 168,000
Supplemental Disclosure of Non-Cash Investing and Financing Activities:
The Company incurred offering costs of $69,174 as of June 30, 1996. These costs
were offset against the net proceeds of the public offering as reflected in the
consolidated statements of stockholders' equity for the year ended June 30,
1997.
The Company issued 843,300 shares of its common stock to Gerob, a related party
in consideration of $297,000 of past due rent and satisfaction of a promissory
note in the amount of $276,444.
The promissory note from a related party is recorded net of a discount of
$68,182, which represents the fair value of the Class C Warrant issued as
consideration of the note.
The Company has received common stock and royalties receivable in exchange for
forgiveness of debt in the amount of $22,000 from a customer.
The Accompanying Notes are an Integral Part of These Consolidated Financial
Statements.
<PAGE>
CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[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.
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 $401,072 and $298,408 for the years ended June 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
$197,596 and is subject to periodic review for impairment.
Amortization expense was $11,987 for each of the years ended June 30, 1998 and
1997.
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 re-evaluates the
periods of amortization to determine whether subsequent events and circumstances
warrant revised estimates of useful lives. As of June 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 $447,516 and $235,636 for the years ended June
30, 1998 and 1997, respectively.
[3] INVESTMENT IN AND ADVANCES TO PARTNERSHIP
The Company was a 50% general partner in Swedish Herbal Institute - Chem
Associates [the "Partnership"]. In addition to its $1,000 capital investment,
the Company had advanced approximately $70,000 in exchange for a series of
promissory notes. As of June 30, 1996, the Partnership was insolvent and the
Company recorded a loss on its investment and a charge for approximately 50% of
its note receivable for the year ended June 30, 1997. At June 30, 1998, the
balance of this note of $33,058 including accrued interest was written off as
uncollectible.
[4] INVESTMENT IN MANHATTAN HEALTH PRODUCTS, L.L.C.
The Company is a 50% partner in Manhattan Health Products, L.L.C. at June 30,
1998. The Company's capital investment was written down to $-0-, which reflects
a capital cost of $5,000 and a net loss of $5,000 at June 30, 1998.
[5] INVENTORIES
Inventories consist of the following at June 30, 1998:
- --------------------------------------------------------------------------------
Raw Materials $2,122,343
Work-in-Process 419,663
Finished Goods 979,804
----------
Total $3,521,810
================================================================================
<PAGE>
CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[6] PROPERTY AND EQUIPMENT
Property and equipment comprise the following at June 30, 1998:
- --------------------------------------------------------------------------------
Leasehold Improvements $1,252,399
Machinery and Equipment 2,288,210
Machinery and Equipment Under Capital Leases 109,545
Transportation Equipment 36,652
----------
Total 3,686,806
Less: Accumulated Depreciation and Amortization 2,041,444
----------
Total $1,645,362
================================================================================
[7] NOTES PAYABLE
Notes payable are summarized as follows at June 30, 1998:
- --------------------------------------------------------------------------------
Related
Notes Party Note
Payable Payable Total
- --------------------------------------------------------------------------------
Notes Payable:
Bio Merieux Vitek, Inc.(a) $ 62,318 $ -- $ 62,318
President and Chief
Executive Officer(b) -- 688,447 688,447
Summit Bank:
Revolving Line-
of-Credit(c) 300,000 -- 300,000
Equipment Term Loan(d) 169,043 -- 169,043
------------------------------------
Totals 531,361 688,447 1,219,808
Less: Current Portion 356,537 -- 356,537
------------------------------------
Noncurrent Portion $174,824 $688,447 $ 863,271
================================================================================
(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 June 30, 1998 was $6,629 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 [See Note 17F].
(c) Under the terms of a revolving line of credit which expired on July 29,
1998, the Company borrowed $300,000 under a $500,000 line of credit at
11/2% above the bank's prime rate. The loan was collateralized by accounts
receivable, inventory and machinery and equipment. The loan has been
guaranteed by the Company's president and principal stockholder. At June
30, 1998, the interest rate was 10.0% [See Note 19].
(d) Under the terms of an equipment term loan, due November 30, 2001, the
Company may borrow up to $350,000 at 11/2% above the bank's prime rate.
The term loan provides for monthly payments of $4,698 for principal and
interest. At June 30, 1998, the interest rate was 9.75%. The loan is
collateralized by machinery and equipment. The loan has been guaranteed by
the Company's president and principal stockholder.
The loan agreement with Summit Bank contained 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 June 30, 1998 [See Note 19].
The non-interest bearing note of approximately $276,000 due to Gerob Realty
Partnership ["Gerob"] on September 10, 2002 was exchanged in consideration of
shares of authorized but unissued common stock [See Note 17E].
The following are maturities of long-term debt for each of the next five years:
- --------------------------------------------------------------------------------
Related
Notes Party Note
Payable Payable Total
- --------------------------------------------------------------------------------
June 30,
1999 $356,537 $ -- $ 356,537
2000 62,814 -- 62,814
2001 68,783 688,447 757,230
2002 43,227 -- 43,227
2003 -- -- --
------------------------------------
Totals $531,361 $688,447 $1,219,808
================================================================================
[8] 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 June
30, 1998 had a cost of $109,545 accumulated depreciation of $15,654 with a net
book value of $93,891.
The future minimum lease payments under capital leases and the net present value
of the future minimum lease payments at June 30, 1998 are as follows:
- -------------------------------------------------------------------------------
Total Minimum Lease Payments $115,390
Amount Representing Interest (13,861)
--------
Present Value of Net Minimum Lease Payments 101,529
Current Portion (33,978)
--------
Long-Term Capital Lease Obligation $ 67,551
===============================================================================
[9] INCOME TAXES
Provision for income taxes consists of the following:
- -------------------------------------------------------------------------------
Years Ended June 30, 1998 1997
- -------------------------------------------------------------------------------
Currently Payable:
Federal $ 33,134 $(277,276)
State 13,580 4,256
---------------------
46,714 (273,020)
---------------------
Deferred:
Federal (60,275) 22,950
State (22,725) 4,050
---------------------
(83,000) 27,000
---------------------
Totals $(36,286) $(246,020)
===============================================================================
Reconciliation of the statutory federal income tax rate to the Company's
effective income tax rate is as follows:
- --------------------------------------------------------------------------------
Years Ended June 30, 1998 1997
- --------------------------------------------------------------------------------
U.S. Statutory Rate (34)% (34)%
State Taxes on Income -
Net of Federal Benefit (6) (6)
Nondeductible Items:
Travel and Entertainment 1 4
Amortization of Goodwill 9 2
Other - Net -- 1
Consulting Fees 3 6
------------
Effective Income Tax Rate (27)% (27)%
================================================================================
<PAGE>
CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Deferred income taxes arise from temporary differences resulting from income and
expense reported for financial accounting and tax purposes in different periods.
The significant components of deferred tax assets and [liabilities] relate to
the following at June 30, 1998:
- --------------------------------------------------------------------------------
Inventory Cost $ 31,000
Other 10,000
Nondeductible Expense 22,000
Depreciation Expense 37,000
--------
Subtotal 100,000
Valuation Allowance --
--------
Net Deferred Tax Assets $100,000
================================================================================
The Company believes that net deferred tax assets, which are included in other
current assets, are more likely than not to be realized because all deductible
temporary differences will be utilized as charges against reversals of future
taxable temporary differences. Accordingly, the Company has not recorded a
valuation allowance for the year ended June 30, 1998. This is unchanged from
prior year.
The Company and its subsidiaries file a consolidated federal income tax return.
[10] PENSION PLANS
In May 1998, with the approval of the Internal Revenue Service, the Company
terminated the defined benefit pension plan. At June 30, 1997, the Company had
included in the balance sheet in other assets a prepaid pension cost of $340,291
and a corresponding deferred tax liability of $136,000. At June 30, 1998, the
Company wrote off the balance of the prepaid pension cost of $340,291 to pension
plan expense and reduced the deferred tax liability accordingly. The $340,291 is
included in selling and administrative expense at June 30, 1998.
The Company sponsored a noncontributory defined benefit pension plan covering
all nonunion employees meeting age and service requirements. Contributions to
the plan, which are made solely by the Company, are determined by an outside
actuarial firm. The Company made no contributions and incurred no expense for
1998 or 1997, respectively.
The defined benefit pension plan called for benefits to be paid to eligible
employees at retirement based primarily upon years of service with the Company
and the average monthly compensation. Contributions to the plan reflect benefits
attributed to employees' services to date, as well as services expected to be
earned in the future. Plan assets consisted primarily of marketable securities.
Pension expense includes the following components:
- -------------------------------------------------------------------------------
Years Ended June 30, 1998 1997
- -------------------------------------------------------------------------------
Service Cost of the Current Period $ -- $ 27,920
Interest Cost on the Projected
Benefit Obligation -- 36,541
Actual Gain on Assets Held in the Plan -- (81,318)
Net Amortization of Transition
Liability and Net Gain -- (29,100)
----------------
Pension Expense [Credit] $ -- $ (45,957)
===============================================================================
The following sets forth the funded status of the plan and the amounts shown in
the accompanying balance sheet:
- --------------------------------------------------------------------------------
1998 1997
- --------------------------------------------------------------------------------
Actuarial Present Value of
Benefit Obligations:
Vested Benefits $ -- $ (567,601)
Nonvested Benefits -- --
-------------------
Accumulated Benefit Obligation -- (567,601)
Effect of Anticipated Future
Compensation Levels and
Other Events -- (31,187)
-------------------
Projected Benefit Obligation -- (598,788)
Fair Value of Assets Held in the Plan -- 1,138,348
-------------------
Excess of Plan Assets Over
Projected Benefit Obligation -- 539,560
Unrecognized Transition Obligation -- 80,500
Unrecognized Net Gain from
Past Experience Different
than Assumed -- (279,769)
-------------------
Prepaid Pension Cost Included
in the Balance Sheet $ -- $ 340,291
================================================================================
The weighted average discount rate used to measure the projected benefit
obligation is 7% for 1997, the rate of increase in future compensation levels
was 2% for 1997, and the expected long-term rate of return on assets was 7% for
1997. The Company used the straight-line method of amortization of unrecognized
gains and losses.
Additionally, the Company participates in a union sponsored multi-employer
defined contribution plan covering all union employees. Information relating to
accumulated benefits obligations and plan assets is not available. Under ERISA,
an employer, upon withdrawal from a multi-employer plan, is required to fund its
proportionate share of the plan's unfunded vested benefits at the point of
withdrawal. The Company has no intention of withdrawing from the plan. The
Company is required to fund the plan on the first of each month for the
preceding month's obligation. Total contributions charged to operations were
$59,977 and $48,960 for the years ended June 30, 1998 and 1997, respectively.
[11] PROFIT-SHARING PLAN
The Company maintains a profit-sharing plan which qualifies under Section 401(k)
of the Internal Revenue Code, covering all nonunion employees meeting age and
service requirements. Contributions are determined by matching a percentage of
employee contributions. The total expense for the years ended June 30, 1998 and
1997 was $43,257 and $32,596, respectively.
[12] 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 June 30, 1998, the Company's uninsured cash balances totaled
approximately $644,000. The Company does not require collateral in relation to
cash credit risk.
<PAGE>
CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[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 June 30,
1998 is $25,750.
[13] MAJOR CUSTOMER
For the years ended June 30, 1998 and 1997, approximately 44% or $7,000,000 and
48% or $5,400,000, respectively, 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 years ended June 30, 1998 and 1997, an aggregate of
approximately 19% and 19%, respectively, of revenues were derived from two other
customers; no other customers accounted for more than 10% of consolidated sales
for the years ended June 30, 1998 and 1997. Accounts receivable from these
customers comprised approximately 48% and 51% of total accounts receivable at
June 30, 1998 and 1997, respectively.
[14] 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 years ended June 30, 1998 and 1997 on this lease was
approximately $116,000 and $143,000, respectively. Unpaid rent of $25,000 due to
Gerob at June 30, 1998 has been separately disclosed as accrued expenses on the
consolidated balance sheet. Past due rent at December 31, 1997 of $297,000 was
forgiven in consideration of issuance of shares of common stock [See Note 17E].
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 years ended June 30, 1998 on this lease was
approximately $450,000.
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.
The minimum rental commitment for long-term non-cancelable leases is as follows:
- --------------------------------------------------------------------------------
Related
Lease Party Lease
Year Ending June 30, Commitment Commitment Total
- --------------------------------------------------------------------------------
1999 $ 53,646 $ 346,000 $ 399,646
2000 48,240 346,000 394,240
2001 24,717 346,000 370,717
2002 16,912 182,609 199,521
2003 -- -- --
Thereafter -- -- --
-----------------------------------
Total $143,515 $1,220,609 $1,364,124
================================================================================
Total rent expense, including real estate taxes and maintenance charges, was
approximately $568,000 and $411,000 for the years ended June 30, 1998 and 1997,
respectively. Rent expense is stated net of sublease income of approximately
$16,000 and $160,000 for the years ended June 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 June 30, 1998 as to the
amount, if any, of ultimate recovery.
[E] Consulting Agreements
On October 29, 1996, the Company entered into a two year consulting agreement
for $88,550 with the underwriter of the Company's public offering, which is
being taken into expense over the term of the agreement. In December 1997, the
underwriter of the public offering ceased operations and market making
activities. At December 31, 1997, the balance of prepaid consulting fees of
$36,896 was written off as consulting expense.
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 options for 45,000 shares of
common stock [See Note 17D].
<PAGE>
CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
[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.
[15] 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 $1,000 per month. The total consulting expense recorded per this verbal
agreement for the years ended June 30, 1998 and 1997, by the Company was $12,000
and $11,000, respectively.
[16] 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.
[17] EQUITY TRANSACTIONS
[A] Capital Stock
In February 1996, the Company [a New York corporation] was merged into its
wholly-owned subsidiary, Chem International, Inc. [a Delaware corporation],
pursuant to Section 253 of the Delaware Corporation Law for the sole purpose of
changing its domicile. As a result thereof and after giving effect to
restatements to the Company's certificate of incorporation subsequent to the
conversions and retirement of the previously outstanding Class A and Class B
preferred stock, the authorized capitalization of the Company is as follows:
Preferred Stock: Authorized 1,000,000 shares $.002 par value
Common Stock: Authorized 25,000,000 shares $.002 par value
The Board of Directors of the Company has the right to determine the
designations, rights, preferences and privileges of the holders of one or more
series of preferred stock which might be issued.
In May 1996, the Company sold, in a private placement, 70,000 shares of common
stock for $175,000. In June 1996, the Company also issued the equivalent of
300,000 Bridge Units [each consisting of one share of common stock and one
warrant to purchase a share of common stock at $5.50 a share for four years
following the offering] in connection with the sale of $300,000 of 7% promissory
notes to four investors. The Bridge Units were valued at $4 each, a total of
$1,200,000, which was being charged to operations over the term of the Bridge
Notes. On October 16, 1996, the Bridge Lenders waived their rights to the bridge
units and agreed to the cancellation of the underlying securities. Accordingly,
the Company has eliminated the amount previously recorded for the bridge units
and the related bridge loan finance costs of $80,000.
In July 1996, the Company affected a 1 for 4 reverse common stock split. The
financial statements give retroactive effect to the reverse stock split.
On October 29, 1996, the Company received net proceeds of approximately
$3,400,000 from the sale of 632,500 units at $7.00 per unit in a public
offering. Each unit consisted of two shares of Common Stock and two Class A
Redeemable Common Stock Purchase Warrants.
[B] Additional Paid-in Capital
For financial accounting purposes, interest of 8.5% a year was being imputed on
a related party non-interest bearing note [See Note 7].
[C] Stock Option Plan
The Company has adopted a stock option plan for the granting of options to
employees, officers, directors and consultants of the Company to purchase up to
1,000,000 shares of common stock, at the discretion of the Board of Directors.
Stock option grants are limited to a total of 500,000 shares for "incentive
stock options" and 500,000 shares for "non-statutory options" and, may not be
priced less than the fair market value of the Company's common stock at the date
of grant. Options granted are generally for ten year periods, except that
options granted to a 10% stockholder [as defined] are limited to five year
terms. On October 16, 1996, options to purchase 573,597 shares at the offering
price [$3.50] and 25,974 shares at 110% of the offering price were granted. Such
options became exercisable on October 16, 1997. The weighted average grant date
fair value of the above options was $3.50.
Information pertaining to options as of June 30, 1998 and for the year then
ended is as follows:
- -------------------------------------------------------------------------------
Weighted Remaining
Average Contractual
Exercise Life
Common Price Per of Options
Shares Share Outstanding
- -------------------------------------------------------------------------------
Options Outstanding -
June 30, 1996 -- -- --
Granted:
Exercise Price Equals
Market Price 573,597 3.50 4.3 Years
Exercise Price is Greater
Than Market Price 25,974 3.85 8.7 Years
Options Exercised -- -- --
Options Canceled -- -- --
--------------------------------
Options Outstanding -
June 30, 1997 599,571 $3.52 4.5 Years
Granted:
Exercise Price is Greater
Than Market Price 45,000 2.54 4.8
Options Exercised -- -- --
Options Canceled -- -- --
--------------------------------
Options Outstanding -
June 30, 1998 644,571 3.45 3.6
================================
Options Exercisable -
June 30, 1998 644,571 $3.45 3.6
===============================================================================
<PAGE>
CHEM INTERNATIONAL, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company applies APB Opinion 25 in accounting for its stock issued to
employees. Accordingly, no compensation cost has been recognized for employee
stock options for the years ended June 30, 1998 and 1997, respectively.
Net income [loss] and net income [loss] per share as reported, and on a pro
forma basis as if compensation cost had been determined on the basis of fair
value pursuant to SFAS No. 123 is as follows:
- -------------------------------------------------------------------------------
Years Ended June 30, 1998 1997
- -------------------------------------------------------------------------------
Net [Loss] - As Reported $(97,438) $ (654,304)
======================
Pro Forma $(97,438) $(1,589,680)
======================
[Loss] Per Share - As Reported $ (.02) $ (.16)
======================
Pro Forma $ (.02) $ (.40)
===============================================================================
During the years ended June 30, 1998 and 1997, the Company issued 45,000 and
75,000 stock options, respectively, to consultants at an exercise price equal to
the market price [$1.06 and $3.50, respectively] on the dates of grants. The
cost of issuing these stock options to consultants during the years ended June
30, 1998 and 1997, is approximately $4,300 and $144,000. The weighted average
fair value of the stock options granted to consultants for the years ended June
30, 1998 and 1997 is estimated at $2.54 and $2.08, respectively, using the
Black-Scholes option pricing model and using a risk-free interest rate of 5.3%
and 6.1%, an expected volatility ranging from 43% to 52% for 1998 and 64% for
1997, and an expected life of 5 years. No dividends are expected to be paid
during the expected life of the options.
[D] Consultant Agreement/Stock Options
In connection with a consulting agreement dated March 20, 1998, the Company has
issued three options for 45,000 shares of common stock [See Note 14E]. 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 five years following
the date of this agreement.
[E] Related Party Debt Conversion
On January 12, 1998, the Company signed a Stock Sale Agreement with Gerob. Under
the terms of the agreement, the Company sold 843,300 shares of common stock to
Gerob. The issuance of the stock was in consideration of $297,000 of past due
rent and the satisfaction of a promissory note of $276,444 [See Note 7 and 14A].
[F] Related Party Promissory Note
On March 12, 1998, the Company negotiated a three year promissory note for
$750,000 with its Chairman and President. The note bears interest at 7% and is
due on March 12, 2001. The note provides for interest only to be paid quarterly.
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 Warrants. Amortization of $6,629 was
recorded for the warrants at June 30, 1998. The warrant is exercisable for a
four year period commencing one year after the issuance of the note and expires
on March 12, 2003 [See Note 7].
[18] 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. Earlier
application is permitted. Reclassification of financial statements for earlier
periods provided for comparative purposes is required. SFAS No. 130 is not
expected to 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 is effective for periods beginning after December 15,
1997, and comparative information for earlier years is to be restated. SFAS No.
131 need not be applied to interim financial statements in the initial year of
its application. Management is in the process of evaluating the disclosure
requirements. SFAS No. 131 is not expected to have a material impact on the
Company.
In February 1998, the FASB issued SFAS No. 132, "Employers Disclosure about
Pension and Other Postretirement Benefits," which is effective for fiscal years
beginning after December 15, 1997. The modified disclosure requirements are not
expected to have a material impact on the Company's results of operations,
financial position or cash flows.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which is effective for fiscal years
beginning after June 15, 1999. The Company will evaluate the new standard to
determine any required new disclosures or accounting.
[19] SUBSEQUENT EVENTS
On July 27, 1998, the Company signed a new financing agreement with First Union
Bank providing for a $500,000 revolving line of credit with interest at 1% above
the bank's prime lending rate and expiring on July 30, 1999, a $170,000 five
year equipment loan with interest at 1.50% above the bank's prime lending rate
expiring on June 30, 2003, and a five year $225,000 equipment term loan with
interest at 1.50% above the bank's prime lending rate. The above financing is
personally guaranteed by the Company's President, and is collateralized by a
security interest in all the assets of Manhattan Drug Company. The financing
with First Union Bank contains certain financial covenants relating to the
maintenance of specified liquidity, debt to equity and debt coverage ratios.
On July 29, 1998, the Company borrowed $300,000 of the $500,000 revolving line
of credit from the new bank to pay off the existing line of credit balance at
June 30, 1998 and used the $170,000 equipment loan to pay off the existing
equipment loan balance at June 30, 1998. Subsequently, the Company repaid the
$300,000 on August 7, 1998.
<PAGE>
CHEM INTERNATIONAL, INC.
MARKET FOR COMPANY'S COMMON EQUITY AND
RELATED STOCKHOLDER MATTERS
On October 30, 1996, the Company's units [Consisting of two shares of Common
Stock and two Class A Redeemable Warrants], Common Stock and Class A Redeemable
Warrants commenced trading on the National Association of Securities Dealers
Automated Quotation SmallCap Market System "NASDAQ" under the symbols CXILU,
CXIL and CXILW, respectively. In November 1996 the Company unbundled its public
unit. In November 1996, the Company authorized NASDAQ to delist the Unit [CXILU]
and cease trading it. Prior to the Company's initial public offering in October
1996 the Common Stock was traded sporadically in the over-the-counter market on
the NASD's Electronic Bulletin Board during the period commencing December 18,
1995 through May 5, 1996, at which time it was voluntarily withdrawn from
trading.
The following table sets forth the high and low prices for each of the Unit, the
Common Stock and the Class A Redeemable Warrant for the periods indicated as
reported by NASDAQ.
- --------------------------------------------------------------------------------
High Low
- --------------------------------------------------------------------------------
UNITS [CXILU]
Time Period:
October 30, 1996 through November 27, 1996
[Trading ceased on November 29, 1996] 27 8
COMMON STOCK [CXIL]
Time Period:
October 30, 1996 through December 31, 1996 10 5 1/4
January 1, 1997 through March 31, 1997 10 1/4 6 1/4
April 1, 1997 through June 30, 1997 8 3/4 2 1/2
July 1, 1997 through September 30, 1997 3 7/8 1 7/8
October 1, 1997 through December 31, 1997 3 5/16 13/32
January 1, 1998 through March 31, 1998 2 1/4 1/2
April 1, 1998 through June 30, 1998 3 3/8 1 5/8
CLASS A REDEEMABLE WARRANTS [CXILW]
Time Period:
October 30, 1996 through December 31, 1996 5 2 1/4
January 1, 1997 through March 31, 1997 5 1/2 2 1/2
April 1, 1997 through June 30, 1997 4 3/4 3/8
July 1, 1997 through September 30, 1997 1 3/8
October 1, 1997 through December 31, 1997 1 1/16
January 1, 1998 through March 31, 1998 7/16 1/16
April 1, 1998 through June 30, 1998 3/4 5/16
As of June 30, 1998 there were approximately 167 holders of record of the
Company's Common Stock.
The Company has not declared or paid a dividend with respect to its Common Stock
nor does the Company anticipate paying dividends in the foreseeable future.
INDEPENDENT AUDITOR'S REPORT
To the Stockholders and Board of Directors of Chem International, Inc.
We have audited the accompanying consolidated balance sheet of Chem
International, Inc. and its subsidiaries as of June 30, 1998, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
each of the two fiscal years in the period then ended. These consolidated
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audit.
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 consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
consolidated financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Chem
International, Inc. and its subsidiaries as of June 30, 1998, and the
consolidated results of their operations and their cash flows for each of the
two fiscal years in the period then ended in conformity with generally accepted
accounting principles.
MOORE STEPHENS, P. C.
Certified Public Accountants
Cranford, New Jersey
August 14, 1998
