UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For Quarterly Period Ended September 30, 1999
Commission File Number 0-14602
CYANOTECH CORPORATION
(Exact name of registrant as specified in its charter)
NEVADA 91-1206026
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification Number)
73-4460 Queen Kaahumanu Hwy. #102, Kailua-Kona, HI 96740
(Address of principal executive offices)
(808) 326-1353
(Registrant's telephone number)
Check whether the registrant (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days. Yes xx No
Number of common shares outstanding as of October 31, 1999:
Title of Class Shares Outstanding
Common stock - $.005 par value stock 13,765,575
<PAGE>
CYANOTECH CORPORATION
FORM 10-Q
INDEX
PART I. FINANCIAL INFORMATION
<TABLE>
<CAPTION>
<S> <C>
Item 1. Financial Statements Page
Consolidated Balance Sheets (unaudited)
September 30, 1999 and March 31, 1999 . . . . . . . . . . . . . . . . . . . . . . . . . . 3
Consolidated Statements of Operations (unaudited)
Three and six month periods ended
September 30, 1999 and 1998. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4
Consolidated Statements of Cash Flows (unaudited)
Six month periods ended
September 30, 1999 and 1998. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .5
Notes to Consolidated Financial Statements (unaudited). . . . . . . . . . . . . . . . . . . . . . .6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . .11
PART II. OTHER INFORMATION
Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .20
Item 3. Defaults Upon Senior Securities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20
Item 4. Submission of Matters to a Vote of Security Holders. . . . . . . . . . . . . . . . . . . 21
Item 6. Exhibits and Reports on Form 8-K. . . . . . . . . . . . . . . . . . . . . . . . . . . . .21
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
</TABLE>
2
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
<TABLE>
<CAPTION>
CYANOTECH CORPORATION
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share amounts)
(Unaudited)
<S> <C> <C>
September 30, March 31,
1999 1999
(Unaudited) (Audited)
------------- -------------
ASSETS
Current assets:
Cash and cash equivalents $ 221 $ 323
Accounts receivable, net 847 1,012
Refundable income taxes 157 273
Inventories (note 2) 1,744 2,105
Prepaid expenses 106 105
------------- -------------
Total current assets 3,075 3,818
Equipment and leasehold improvements, net (note 3) 19,140 19,623
Other assets 128 180
------------- -------------
Total assets $ 22,343 $ 23,621
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current maturities of long-term debt $ 575 $ 700
Short-term revolving line of credit 942 994
Current maturities of capital lease obligations -- 67
Accounts payable 735 746
Other accrued liabilities 345 394
Deferred Revenue 30 --
------------- -------------
Total current liabilities 2,627 2,901
Long-term debt, excluding current maturities -- 13
------------- -------------
Total liabilities 2,627 2,914
Stockholders' equity:
Cumulative preferred stock, Series C, of $.001 par value
(aggregate involuntary liquidation preference $2,975 ($5 per
share), plus unpaid cumulative dividends). Authorized
5,000,000 shares; issued and outstanding 595,031 shares at
September 30, 1999 and March 31, 1999. 1 1
Common Stock of $0.05 par value, authorized 25,000,000
shares; issued and outstanding 13,760,575 shares at September
30, 1999 and 13,599,572 shares at March 31, 1999 69 68
Additional paid-in capital 24,100 23,956
Accumulated deficit (4,454) (3,318)
------------- -------------
Total stockholders' equity 19,716 20,707
------------- -------------
Total liabilities and stockholders' equity $ 22,343 $ 23,621
============= =============
See accompanying notes to consolidated financial statements.
</TABLE>
3
<PAGE>
<TABLE>
<CAPTION>
CYANOTECH CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
(Unaudited)
Three Months Ended Six Months Ended
September 30, September 30,
1999 1998 1999 1998
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
NET SALES $ 1,496 $ 1,525 $ 3,095 $ 3,288
COST OF PRODUCT SALES 1,370 1,124 2,702 2,708
------------ ------------ ------------ ------------
Gross Profit 126 401 393 580
------------ ------------ ------------ ------------
OPERATING EXPENSES:
Research and development 156 245 322 467
General and administrative 337 358 724 689
Sales and marketing 192 242 385 499
------------ ------------ ------------ ------------
Total operating expenses 685 845 1,431 1,655
------------ ------------ ------------ ------------
Loss from operations (559) (444) (1,038) (1,075)
------------ ------------ ------------ ------------
OTHER INCOME (EXPENSE):
Interest income 1 1 5 3
Interest expense (51) (35) (106) (70)
Other income (expense), net - 2 3 (5)
------------ ------------ ------------ ------------
Total other expense (50) (32) (98) (72)
------------ ------------ ------------ ------------
Income (loss) before income taxes (609) (476) (1,136) (1,147)
Income taxes - 34 - 74
------------ ------------ ------------ ------------
NET LOSS (609) (442) (1,136) (1,073)
============ ============ ============ ============
Other comprehensive income - - - -
------------ ------------ ------------ ------------
COMPREHENSIVE LOSS $ (609) $ (442) $ (1,136) $ (1,073)
============ ============ ============ ============
NET LOSS PER COMMON SHARE
Basic $ (0.05) $ (0.04) $ (0.09) $ (0.09)
Diluted $ (0.05) $ (0.04) $ (0.09) $ (0.09)
SHARES USED IN CALCULATION OF:
Basic 13,744 13,600 13,678 13,600
Diluted 13,744 13,600 13,678 13,600
See accompanying notes to consolidated financial statements.
</TABLE>
4
<PAGE>
<TABLE>
<CAPTION>
CYANOTECH CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)
Six Months Ended
September 30,
1999 1998
------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C>
Net loss $ (1,136) $ (1,073)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation and amortization 656 687
Amortization of debt issue costs 19 6
Issuance of stock in exchange for services 31 -
Net (increase) decrease in:
Accounts receivable 165 59
Refundable income taxes 116 -
Inventories 361 (38)
Prepaid expenses and other assets 32 (24)
Net increase (decrease) in:
Accounts payable (11) (150)
Deferred revenue 30 -
Other accrued liabilities (49) 5
------------- -------------
Net cash provided by (used in) operating activities 214 (528)
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Investment in equipment and leasehold improvements (173) (289)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from exercise of warrants and options 16 -
Net proceeds from issuance of common stock 98 -
Debt issue costs paid - (103)
Proceeds from issuance of long-term debt - 750
Principal payments on long-term debt (138) (25)
Borrowings (repayment) on short-term revolving line of
credit, net (52) 184
Principal payments on note payable - (975)
Principal payments on capital lease obligations (67) (66)
------------- -------------
Net cash used in financing activities (143) (235)
------------- -------------
Net decrease in cash and cash equivalents (102) (1,052)
Cash and cash equivalents at beginning of period 323 1,397
------------- -------------
Cash and cash equivalents at end of period $ 221 $ 345
============= =============
See accompanying notes to consolidated financial statements.
</TABLE>
5
<PAGE>
CYANOTECH CORPORATION
FORM 10-Q
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1999
(Unaudited)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles
for interim financial information and with the instructions to Form
10-Q and Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. These consolidated
financial statements and notes should be read in conjunction with the
Company's consolidated financial statements contained in the Company's
previously filed report on Form 10-K for the year ended March 31, 1999.
The Company consolidates enterprises in which it has a controlling
financial interest. The accompanying consolidated financial statements
include the accounts of Cyanotech Corporation and its wholly-owned
subsidiaries, Nutrex, Inc. and Cyanotech International FSC, Inc. All
significant intercompany balances and transactions have been eliminated
in consolidation. While the financial information furnished for the
three and six month periods ended September 30, 1999 is unaudited, the
statements in this report reflect all material items which, in the
opinion of management, are necessary for a fair presentation of the
results of operations for the interim periods covered and of the
financial condition of the Company at the dates of the consolidated
balance sheets. The operating results for the interim period presented
are not necessarily indicative of the results that may be expected for
the year ending March 31, 2000.
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
significantly from those estimates.
2. INVENTORIES
Inventories are stated at the lower of cost (which approximates
first-in, first-out) or market and consist of the following (dollars in
thousands):
<TABLE>
<CAPTION>
<S> <C> <C>
September 30, 1999 March 31, 1999
------------------ ------------------
Raw materials $ 44 $ 63
Work in process 193 287
Finished goods 1,322 1,555
Supplies 185 200
------------------ ------------------
$ 1,744 $ 2,105
================== ==================
</TABLE>
6
<PAGE>
3. EQUIPMENT AND LEASEHOLD IMPROVEMENTS
Owned equipment and leasehold improvements are stated at cost.
Equipment under capital lease is stated at the lower of the present
value of the minimum lease payments or fair value of the equipment at
the inception of the lease. Depreciation and amortization are provided
using the straight-line method over the estimated useful lives for
furniture and fixtures and the shorter of the lease terms or estimated
useful lives for leasehold improvements and equipment under capital
lease as follows:
Equipment 3 to 10 years
Leasehold improvements 10 to 27 years
Furniture and fixtures 7 years
Equipment under capital lease 10 years
<TABLE>
<CAPTION>
Equipment and leasehold improvements consist of the following (dollars in thousands):
September 30, 1999 March 31, 1999
------------------ ------------------
<S> <C> <C>
Equipment $ 8,674 $ 8,421
Leasehold improvements 13,781 13,779
Furniture and fixtures 96 83
Equipment under capital lease 160 388
------------------ ------------------
22,711 22,671
Less accumulated depreciation and amortization (6,763) (6,107)
Construction in-progress 3,192 3,059
------------------ ------------------
Equipment and leasehold improvements, net $ 19,140 $ 19,623
================== ==================
</TABLE>
4. SERIES C PREFERRED STOCK
Series C preferred stock is convertible into common stock at the rate
of one share of preferred stock for five shares of common stock through
February 23, 2000, after which date the conversion feature is no longer
applicable. Series C preferred stock has voting rights equal to the
number of shares of common stock into which it is convertible and has a
preference in liquidation over all other series of preferred stock of
$5 per share plus any accumulated but unpaid dividends. Holders of
Series C preferred stock are entitled to 8% cumulative annual dividends
at the rate of $.40 per share; cumulative dividends in arrears as of
September 30, 1999 amount to $2,446 ($4.11 per share). Upon conversion
of Series C preferred stock, cumulative dividends in arrears on
converted shares are no longer payable. The consent of Series C
preferred stockholders is required to modify their present rights or
sell all or substantially all of the Company's assets.
7
<PAGE>
5. EARNINGS PER SHARE
For the three and six months ended September 30, 1999 and 1998,
warrants and options to purchase Common Stock shares of the Company and
convertible preferred stock were outstanding, but were not included in
the computation of Diluted net loss per common share because the
inclusion of these securities would have had an antidilutive effect on
the net loss per common share. As of September 30, 1999, warrants and
options to acquire 784,700 shares of the Company's common stock and
preferred stock convertible into 2,975,155 shares of the Company's
common stock were outstanding. As of September 30, 1998, warrants and
options to acquire 638,925 shares of the Company's common stock and
preferred stock convertible into 2,975,155 shares of the Company's
common stock were outstanding.
Following is a reconciliation of the numerators and denominators of the
Basic and Diluted EPS computations for the periods presented (in
thousands except share data):
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
September 30, September 30,
1999 1998 1999 1998
BASIC EARNINGS PER SHARE ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net loss $ (609) $ (442) $ (1,136) $ (1,073)
Less: Requirement for Preferred Stock
dividends (59) (59) (119) (119)
------------- ------------- ------------- -------------
Loss to Common stockholders $ (668) $ (501) $ (1,255) $ (1,192)
============= ============= ============= =============
Weighted average Common Shares outstanding 13,743,993 13,600,413 13,677,826 13,599,858
============= ============= ============= =============
Net Loss per Common Share $ (0.05) $ (0.04) $ (0.09) $ (0.09)
============= ============= ============= =============
DILUTED EARNINGS PER SHARE
Loss to Common stockholders $ (668) $ (501) $ (1,255) $ (1,192)
Plus: Requirement for Preferred Stock
dividends - - - -
------------- ------------- ------------- -------------
Loss to Common stockholders, as adjusted $ (668) $ (501) $ (1,255) $ (1,192)
============= ============= ============= =============
Weighted average Common Shares outstanding 13,743,993 13,600,143 13,677,826 13,599,858
Effect of dilutive securities:
Stock options and warrants - - - -
Convertible preferred stock - - - -
------------- ------------- ------------- -------------
Weighted average Common Shares
outstanding, as adjusted 13,743,993 13,600,413 13,677,826 13,599,858
============= ============= ============= =============
Net loss per Common Share $ (0.05) $ (0.04) $ (0.09) $ (0.09)
============= ============= ============= =============
</TABLE>
8
<PAGE>
6. ACCOUNTING CHANGES
Accounting for Derivative Instruments and Hedging Activities. In June
1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standard ("SFAS") No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which
establishes accounting and reporting standards for derivative
instruments 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. SFAS No. 133 is effective for all fiscal quarters of fiscal
years beginning after June 15, 1999. In July 1999, the FASB issued SFAS
No. 137, "Accounting for Derivative Instruments and Hedging Activities
- Deferral of the Effective Date for FASB Statement No. 133, an
Amendment of FASB Statement No. 133", which defers the effective date
of SFAS No. 133 to be effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. The Company currently holds no
derivative instruments, nor is it currently participating in hedging
activities. Management does not expect adoption of SFAS No. 133 to have
a material effect on the Company's financial condition, results of
operations or liquidity.
Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use. In March 1998, the American Institute of Certified Public
Accountants ("AICPA") Accounting Standards Executive Committee issued
Statement of Position ("SOP") 98-1, "Accounting for the Costs of
Computer Software Developed or Obtained for Internal Use," which
requires that certain costs, including certain payroll and
payroll-related costs, be capitalized and amortized over the estimated
useful life of the software. The provisions of SOP 98-1 are effective
for fiscal years beginning after December 15, 1998. The Company adopted
the provisions of SOP 98-1 effective April 1, 1999. Adoption of SOP
98-1 did not have a material effect on the Company's financial
condition, results of operations or liquidity.
Reporting on the Costs of Start-up Activities. In April 1998, the AICPA
Accounting Standards Executive Committee issued SOP 98-5, "Reporting on
the Costs of Start-up Activities." SOP 98-5 requires that costs of
start-up activities, including organization costs, be expensed as
incurred. The provisions of SOP 98-5 are effective for fiscal years
beginning after December 15, 1998 and earlier application is
encouraged. The Company adopted the provisions of SOP 98-5 effective
April 1, 1999. Adoption of SOP 98-5 did not have a material effect on
the Company's financial condition, results of operations or liquidity.
7. LINE OF CREDIT AND LONG-TERM DEBT
In July 1998, the Company entered into a Loan and Security Agreement
(Agreement) with a lender which provides for up to $3 million in credit
facilities, secured by all the assets of the Company. This Agreement
is discussed in detail in the section describing Liquidity and Capital
Resources in Item 2 of this report. On October 8, 1999, the lender
informed the Company of its intent to terminate its lending agreement
with the Company, effective December 31, 1999 due to the Company being
in default on certain financial covenants. The Company is seeking
alternate sources of financing to replace this Agreement. However,
there can be no assurance that the Company will be successful, or that
if successful, that it will be able to obtain replacement financing
under favorable terms. Failure to obtain alternative financing would
have a material adverse effect on the Company's financial condition,
results of operations and liquidity.
9
<PAGE>
8. GOING CONCERN
The consolidated financial statements at September 30, 1999 have been
prepared on a going concern basis, which assumes continuity of
operations and realization of assets and liquidation of liabilities in
the ordinary course of business. During the years ended March 31, 1999
and 1998, the Company incurred losses of $2,557,000 and $300,000
respectively. During the six months ended September 30, 1999, the
Company incurred a loss of $1,136,000. During these two fiscal years,
and for the six months ended September 30, 1999, the Company has
experienced declining sales which management believes can be attributed
to increased competition for sales of Spirulina products in all of its
major markets. The major effect of the decrease in sales has been a
decrease in liquidity. Due to the significant decrease in sales and the
decline in working capital, the Company has taken action to reduce
expenditures and obtain additional sources of external financing while
concurrently continuing to diversify its product offerings and explore
opportunities for expanding the markets for its products. Management
believes that this plan may increase revenues and return the Company to
profitability.
The Company's continuation as a going concern is dependent upon its
ability to generate sufficient cash flow to meet its obligations on a
timely basis, to comply with the terms of its financing agreement, to
obtain additional financing or refinancing as may be required, to
attain profitability, or a combination thereof. The Company is seeking
other possible sources of external financing, but unless it is
successful, there may be liquidity shortfalls in future periods. There
can be no assurance that the Company will be successful in obtaining
additional financing or will have sufficient cash resources to support
its continued operations. The accompanying consolidated financial
statements do not include any adjustments that might result from the
outcome of this uncertainty.
10
<PAGE>
CYANOTECH CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This report on Form 10-Q contains forward-looking statements regarding
the future performance of Cyanotech and future events that involve risks and
uncertainties that could cause actual results to differ materially from the
statements contained herein. This document, and the other documents that the
Company files from time to time with the Securities and Exchange Commission,
such as its reports on Form 10-K, Form 10-Q, Form 8-K, and its proxy materials,
contain additional important factors that could cause actual results to differ
from the Company's current expectations and the forward-looking statements
contained herein.
RESULTS OF OPERATIONS
The following table sets forth certain consolidated statement of
operations data as a percentage of net sales for the periods indicated:
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
September 30, September 30,
<S> <C> <C> <C> <C>
1999 1998 1999 1998
------ ------ ------ ------
Net Sales 100.0 % 100.0 % 100.0 % 100.0 %
Cost of product sales 91.6 73.7 87.3 82.4
------ ------ ------ ------
Gross profit 8.4 26.3 12.7 17.6
------ ------ ------ ------
Operating expenses:
Research and development 10.4 16.1 10.4 14.2
General and administrative 22.5 23.4 23.4 20.9
Sales and marketing 12.9 15.9 12.4 15.2
------ ------ ------ ------
Total operating expenses 45.8 55.4 46.2 50.3
------ ------ ------ ------
Loss from operations (37.4) (29.1) (33.5) (32.7)
------ ------ ------ ------
Other income (expense):
Interest income 0.1 0.1 0.1 0.1
Interest expense (3.4) (2.3) (3.4) (2.1)
Other income (expense), net - 0.1 0.1 (0.2)
------ ------ ------ ------
Total other income (expense) (3.3) (2.1) (3.2) (2.2)
------ ------ ------ ------
Loss before income taxes (40.7) (31.2) (36.7) (34.9)
Income taxes - 2.2 - 2.3
------ ------ ------ ------
Net loss (40.7) (29.0) (36.7) (32.6)
Other comprehensive income - - - -
------ ------ ------ ------
Comprehensive loss (40.7) % (29.0) % (36.7) % (32.6) %
====== ====== ====== ======
</TABLE>
11
<PAGE>
SECOND QUARTER OF FISCAL 2000 COMPARED TO SECOND QUARTER OF FISCAL 1999
Net Sales
Net sales for the three month period ended September 30, 1999 were
$1,496,000, a decrease of 2% from $1,525,000 in the comparable period of fiscal
1999. This decrease in net sales is primarily due to reduced sales of bulk
Spirulina products and was partially offset by higher sales of NatuRose(TM)
natural astaxanthin.
International sales represented 45% and 37% of total net sales for the
three month periods ended September 30, 1999 and 1998, respectively. This
increase was primarily due to increased sales of bulk Spirulina tablets to our
largest customer, a European distributor of natural products.
Gross Profit
Gross profit represents net sales less the cost of goods sold, which
includes the cost of materials, manufacturing overhead costs, direct labor
expenses and depreciation and amortization. Gross profit decreased to $126,000
for the three month period ended September 30, 1999, down 69% from $401,000 in
thecomparable period of fiscal 1999. Our gross profit margin decreased to 8%
for the three month period ended September 30, 1999, compared to 26% for the
comparable period of fiscal 1999. This decrease in gross profit margin from the
prior year period is primarily attributable to reduced gross profit on sales of
bulk Spirulina products other than tablets as a result of lower average sales
prices per unit and higher Spirulina production costs resulting from operating
at lower than optimum production levels, offset in part by greater sales of
higher margin bulk Spirulina tablets and slightly higher margins on packaged
consumer products.
Operating Expenses
Operating expenses were $685,000 during the three month period ended
September 30, 1999, a decrease of 19% from $845,000 in the comparable period of
fiscal 1999. This decrease was primarily due to lower costs for all categories
of operating expenses.
Research and Development. Research and development expenses amounted to
$156,000 for the three month period ended September 30, 1999, a decrease of 36%
from $245,000 for the comparable period of fiscal 1999. This decrease from the
prior year was primarily due to lower expenditures related to completing
the improved production technology for natural astaxanthin during fiscal 1999.
General and Administrative. General and administrative expenses
amounted to $337,000 for the three months ended September 30, 1999, a decrease
of 6% from $358,000 for the comparable period of fiscal 1999. This decrease from
the prior year is primarily due to reduced personnel costs resulting from a
downsizing instituted during the fourth quarter of fiscal 1999.
Sales and Marketing. Sales and marketing expenses amounted to $192,000
for the three month period ended September 30, 1999, a decrease of 21% from
$242,000 for the comparable period of fiscal 1999. This decrease from the prior
year is primarily due to reduced personnel, advertising and consulting service
costs dictated by lower revenues.
12
<PAGE>
Other Income (Expense)
There was no material change in other income or expense for the three
month period ended September 30, 1999, as compared to the comparable period of
fiscal 1999.
Income Taxes
A provision for income taxes was not recorded for the three month
period ended September 30, 1999 due to the Company's taxable loss position
compared to an interperiod tax benefit of $34,000 recorded for the comparable
period of fiscal 1999.
Net Loss
The Company recorded a net loss of $609,000 for the three months ended
September 30, 1999, 38% more than the net loss of $442,000 for the comparable
period of fiscal 1999. This increase in net loss is primarily attributable to
lower sales of Spirulina powder and tablets, increased cost of product sales and
the effect of the interperiod tax benefit of $34,000 recorded for the three
months ended September 30, 1998.
SIX MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO SIX MONTHS ENDED SEPTEMBER 30,
1998
Net Sales
Net sales for the six month period ended September 30, 1999 decreased
6% to $3,095,000 from $3,288,000 in the comparable period of fiscal 1999. This
decrease is primarily due to lower sales of packaged consumer products and lower
sales of phycobiliproteins.
International sales represented 48% and 40% of total net sales for the
six month periods ended September 30, 1999 and 1998, respectively.
Gross Profit
Gross profit decreased 32% to $393,000 for the six month period ended
September 30, 1999, from $580,000 in the comparable period of fiscal 1999. Our
gross profit margin decreased to 13% for the six month period ended September
30, 1999, compared to 18% for the comparable period of fiscal 1999. This
decrease in gross profit margin from the prior year period is primarily
attributable to lower average sales prices of bulk Spirulina products other
than tablets and increased Spirulina production costs due to operating at
lower than optimum production levels.
Operating Expenses
Operating expenses were $1,431,000 during the six month period ended
September 30, 1999, a decrease of 14% from $1,655,000 in the comparable period
of fiscal 1999. This decrease was primarily due to decreased research and
development and sales and marketing expenses.
13
<PAGE>
Research and Development. Research and development expenses amounted to
$322,000 for the six month period ended September 30, 1999, a decrease of 31%
from $467,000 for the comparable period of fiscal 1999. This decrease from the
prior year was primarily due to reduced personnel expenditures and lower outside
service expenses related to completing the development of improved production
technology for natural astaxanthin during fiscal 1999.
Sales and Marketing. Sales and marketing expenses amounted to $385,000
for the six month period ended September 30, 1999, a decrease of 23% from
$499,000 for the comparable period of fiscal 1999. This decrease from the prior
year is primarily due to reduced personnel and travel expenses, offset in part
by increased advertising and consulting service costs.
Other Income (Expense)
There was no material change in other income or expense for the six
month period ended September 30, 1999, as compared to the comparable period of
fiscal 1999.
Income Taxes
A provision for income taxes was not recorded for the six month period
ended September 30, 1999 due to the Company's taxable loss position compared to
an interperiod tax benefit of $74,000 recorded for the comparable period of
fiscal 1999.
Net Income (Loss)
The Company recorded a net loss of $1,136,000 for the six months ended
September 30, 1999, compared to $1,073,000 for the comparable period of fiscal
1999. This increase in net loss is primarily attributable to the effect of the
interperiod tax benefit of $74,000 recorded for the six months ended September
30, 1998. The net loss before taxes for the six months ended September 30, 1999
decreased slightly from net loss before taxes recorded for the comparable period
of fiscal 1999.
Variability of Results
The Company has experienced significant quarterly fluctuations in
operating results and anticipates that these fluctuations may continue in future
periods. Future operating results may fluctuate as a result of changes in sales
levels to our largest customers, new product introductions, production
difficulties, weather patterns, the mix between sales of bulk products and
packaged consumer products, start-up costs associated with new facilities,
expansion into new markets, sales promotions, competition, increased energy
costs, the announcement or introduction of new products by competitors, changes
in our customer mix, overall trends in the market for our products, government
regulations and other factors beyond our control. While a significant portion of
our expense levels are relatively fixed, and the timing of increases in expense
levels is based in large part on forecasts of future sales, if net sales are
below expectations in any given period, the adverse impact on results of
operations may be magnified by our inability to adjust spending quickly enough
to compensate for the sales shortfall. We may also choose to reduce prices or
increase spending in response to market conditions, which may have a material
adverse effect on financial condition and results of operations.
14
<PAGE>
The Company's continuation as a going concern is dependent upon its
ability to generate sufficient cash flow to meet its obligations on a timely
basis, to comply with the terms of its financing agreement, to obtain additional
financing or refinancing as may be required, to attain profitability, or a
combination thereof. There can be no assurance that these efforts will be
successful or that the Company will return to generating profit on either a
quarterly or annual basis.
Liquidity and Capital Resources
Our working capital for the six month period ended September 30, 1999
decreased by $469,000 to $448,000 from $917,000 at March 31, 1999. Our cash and
cash equivalents decreased by $102,000 to $221,000 and is primarily attributable
to cash flows of $138,000 used for reduction of long-term debt, $173,000 used
for investment in property and equipment and $52,000 used to reduce revolving
debt, offset in part by cash provided by operating activities of $214,000.
Despite the net loss of $1,136,000, taking into account depreciation
and amortization totaling $656,000, a decrease in inventories of $361,000,
collection of accounts receivable amounting to $165,000 and a Hawaii State
income tax refund of $116,000, cash flows from operating activities for the
first six months of fiscal 2000 amounted to $214,000 compared to cash used in
operating activities of $528,000 in the comparable period of fiscal 1999.
Cash used in investing activities for capital expenditures during the
first six months of fiscal 2000 decreased to $173,000 compared to $289,000 for
the comparable period of fiscal 1999.
Cash used in financing activities during the first six months of fiscal
2000 amounted to $143,000, compared to $235,000 for the comparable period of
fiscal 1999. The primary uses of cash flows in financing activities during the
first six months of fiscal 2000 were for principal payments on long-term debt of
$138,000, principal payments on a capital lease of $67,000 and repayment of
borrowings on a short-term revolving line of credit of $52,000, offset in part
by net proceeds from issuance of common stock and proceeds from issuance
of common stock and the exercise of common stock options totaling $114,000.
In July 1998, the Company entered into a Loan and Security Agreement
(Agreement) with a lender which provides for up to $3 million in credit
facilities, secured by all the assets of the Company. The major components of
the credit facility include working capital loans on a revolving basis, subject
to the availability of eligible accounts receivable and inventory (as defined),
a sub-limit term loan of up to $750,000 (amortized in equal payments of $12,500
over sixty months) secured by eligible machinery and equipment, and a sub-limit
term loan of up to $2 million (amortized over sixty months and subject to the
Company achieving and maintaining specific levels of financial performance) for
the acquisition of new machinery and equipment. The Agreement has a maturity
date of July 31, 2001 with an optional provision for automatic and continuous
renewal for successive, additional terms of one year each. The interest rate on
the credit facility in the absence of a default under the agreement is prime
plus 2.5% (at September 30, 1999, the prime rate was 8.25%) until the Company
achieves certain financial performance levels, at which time the interest rate
will decrease to prime plus 1.25%. Interest is calculated on a base amount of
$1 million or the outstanding loan balance, whichever is greater. The fee for
renewing the Agreement beyond the maturity date of July 31, 2001 is set at 5% of
the aggregate outstanding balance at the end of the initial term of the
agreement.
15
<PAGE>
The Agreement contains certain restrictive covenants which include,
among other things, the maintenance of minimum consolidated net worth, as
defined, and a subjective acceleration clause contingent upon the occurrence of
an event with a material adverse effect on the Company, as defined. On July 13,
1999, the lender gave notice to the Company of a default under the Agreement
because of the uncertainty of the Company's ability to continue as a going
concern. In view of this default, the lender exercised its right under the
Agreement effective July 13, 1999, to increase the interest rate on all
borrowings from prime plus 2.5% to prime plus 5.5%. Consequently, the Company
has classified the aggregate outstanding balance on this Agreement of
$1,517,000, representing outstanding working capital loans on a revolving basis
of $942,000 and an equipment term loan of $575,000, as a current liability in
the consolidated balance sheet at September 30, 1999.
At September 30, 1999, the remaining available credit under the
Agreement was calculated by the lender to be $115,000. This amount excludes the
facility for the acquisition of new machinery and equipment which requires the
Company to maintain a Debt Service Coverage ratio of at least 1.25 : 1 for the
two prior full consecutive quarters. This component, although not currently
available, may increase the availability by an additional $1,368,000, up to the
limit of $3 million for the entire Agreement.
On October 8, 1999, the lender informed the Company of its intent to
terminate the agreement with Cyanotech effective December 31, 1999, and
accelerate the repayment of all outstanding borrowings due to the Company being
in default on certain financial covenants. This default resulted from the "going
concern" opinion issued by the Company's independent auditors for the fiscal
1999 period and the fact that stockholders' equity has dropped below
$20,000,000. The Company is currently seeking alternate sources of financing to
replace this Agreement and has reason to believe it will be successful. However,
there can be no assurance that the Company will be successful, or that if
successful, that it will be able to obtain replacement financing under favorable
terms. Failure to obtain alternative financing would have a material adverse
effect on the Company's financial position, results of operations and liquidity.
The Company has a commitment for an expansion project which was
suspended in February 1998. On June 15, 1999, we reached an agreement with the
project contractor to resume work on the suspended construction project
on or before June 1, 2000. In consideration of this extension of the contract,
the Company has agreed to pay an additional $20,000 at the startup of work
and a surcharge of 1.5% on work not completed by September 30, 1999, and a
surcharge of 4% o n all work not completed by September 30, 2000. If work does
not resume on or before June 1, 2000, then the contract will be considered
to have been terminated by Cyanotech. The Company intends to proceed with the
project per this agreement, pending availability of financing. Assertion by the
contractor of its termination rights would have a material adverse effect on the
Company's financial condition, results of operations and liquidity.
On September 17, 1999, we reached a further agreement with this project
contractor on terms for indefinite suspension or termination of our contract.
This agreement becomes effective only if the suspension agreement dated June 15,
1999, expires without a further agreement to continue the suspension. The
contractor has calculated the remaining balance for work completed under the
contract to be $338,000. If the contract expires without a further agreement to
continue the suspension, we reached a settlement with the contractor to pay
$170,000 for such completed work. In the event we choose to proceed with the
project at a future date, the contractor reserves the right to negotiate for
escalation and remobilization cost increases. If we cannot come to agreement
with the contractor for completion of the project, we may proceed with an
alternate contractor after paying the remaining $168,000 plus interest.
16
<PAGE>
As of September 30, 1999, the credit facilities available to Cyanotech,
as described above, unless supplemented by funds from other sources, would not
be sufficient to finance this construction work. Total costs incurred as of
September 30, 1999 with respect to this pond expansion project approximated
$2,693,000. Failure to comply with its commitments on this project would have a
material adverse effect on the Company's financial condition, results of
operations and liquidity.
In June 1999, we reached a preliminary agreement with Norsk Hydro ASA
("Norsk Hydro") to produce and market NatuRose natural astaxanthin product in a
joint venture that will be owned 51% by Norsk Hydro and 49% by Cyanotech. The
intention of the joint venture is to build and operate a NatuRose production
facility in Kailua-Kona, Hawaii. The Company is continuing to negotiate with
Norsk Hydro to finalize a definitive agreement. The Company's assessment of the
non-impairment of certain long-lived assets as of September 30, 1999, is
predicated on the consummation and commercial success of this joint venture.
Failure to consummate the joint venture arrangement or failure by the joint
venture to achieve expected commercial outcomes may result in the impairment
of such long-lived assets.
The unaudited consolidated financial statements at September 30, 1999
have been prepared on a going concern basis, which assumes continuity of
operations and realization of assets and liquidation of liabilities in the
ordinary course of business. The Company's continuation as a going concern is
dependent upon its ability to generate sufficient cash flow to meet its
obligations on a timely basis, to comply with the terms of its financing
agreement, to obtain additional financing as may be required, to attain
profitability, or a combination thereof. The Company is actively seeking other
possible sources of external financing, but unless it is successful, there may
be liquidity shortfalls in future periods. There can be no assurance that the
Company will be successful in obtaining additional financing or will have
sufficient cash resources to support its continued operations.
YEAR 2000 COMPLIANCE
We have completed a comprehensive review of our computer systems to
identify the systems that could be affected by the "Year 2000" issue and have
developed an implementation plan, to be completed by the end of calendar 1999,
to resolve the issue. We believe that, with modifications to existing software
and converting to new software and hardware, the Year 2000 issue will not pose
significant operational problems for our computer systems as so modified and
converted. The costs of such modifications and conversions are not expected to
exceed $10,000. However, if such modifications and conversions are not completed
in a timely manner, the Year 2000 problem may have a material impact on our
operations.
The primary risks to the Company of Year 2000 problems are those of
business continuity related to reliance on third parties. We are continuing the
review and evaluation of our reliance on other third parties (e.g. utilities
providers, distribution channels, major suppliers and vendors) to determine and
minimize the extent to which our operations may be dependent on such third
parties to remedy the Year 2000 issues in their systems. In addition,
contingency backup plans will be reviewed for each mission critical system, with
the emphasis on operational and production continuity. The Company's business,
operating results and financial condition could be materially adversely
affected, at least for a time, by the failure of its systems or those of other
parties to operate properly beyond 1999.
17
<PAGE>
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We have not entered into any transactions using derivative financial
instruments or derivative commodity instruments and believe that our exposure to
market risk associated with other financial instruments is not material.
OUTLOOK
This outlook section contains a number of forward-looking statements,
all of which are based on current expectations. Actual results may differ
materially. See also the note at the beginning of this Item 2.
The Company continues to experience positive results from the
downsizing and asset management program put in place during the fourth quarter
of fiscal 1999. During the three month period ended September 30, 1999,
inventory levels decreased by approximately $180,000 and the Company continues
to produce Spirulina at 50% of full capacity. We are balancing our production
resources between our primary products and plan to allocate more resources to
natural astaxanthin production in future quarters to meet the anticipated demand
of customers for NatuRose, our natural astaxanthin product for the aquaculture
and animal pigmentation markets and BioAstin(TM), our natural astaxanthin
product for the human nutrition market. During the three months ended September
30, 1999, our gross profit margin on sales of NatuRose improved significantly
due primarily to production efficiencies resulting from the optimization program
begun in the first quarter of this fiscal year on natural astaxanthin
production. We expect these improvements to continue into future periods but
there can be no assurance that the gross profit margin of our natural
astaxanthin products will not be adversely affected by higher production costs
related to operating at lower than optimal production levels. We are continuing
our optimization program targeted at our PhytoDome CCS(TM) processing systems
and production throughput; however, we may experience increased costs related to
production of our natural astaxanthin products in future periods.
In August 1999, we announced that, as a result of our research and
development and optimization efforts, we had developed an improved method for
producing certified organic Spirulina Pacifica. Independent analysis has
indicated that product resulting from use of this new method is higher in
protein, zinc, iron and Gamma Linolenic Acid ("GLA") than our previously
produced certified organic Spirulina. Cyanotech Corporation was the first
company to receive organic certification for Spirulina products, but until now
sales of certified organic Spirulina Pacifica had been limited due to production
capacity. This new system promises to lower certified organic production costs
and increase the yield from our certified organic Spirulina Pacifica production.
The increased yield is allowing Cyanotech to open sales of its certified organic
Spirulina Pacifica to third party formulators for the first time. Currently,
certified organic Spirulina Pacifica is sold only through our Nutrex product
line and certain private label export sales.
Also in August 1999, we announced that our application to sell
BioAstin, our natural astaxanthin product for the human nutrition market, had
been reviewed without objection by the United States Food and Drug
Administration (FDA). With the completion of the FDA review of our new BioAstin
product, Cyanotech can now offer the product for sale and use in the United
States as a human dietary supplement for its antioxidant properties.
Research and development costs are expected to remain constant during
the rest of this fiscal year as we continue to optimize the PhytoDome CCS closed
culture technology for production of our natural astaxanthin products and
continue the research and development activities directed at the genetically
engineered mosquitocide project and the Aldolase Catalytic Antibody 38C2.
18
<PAGE>
Cyanotech's strategy has been, and continues to be, to produce higher
value natural products from microalgae. To continue the implementation of this
strategy, we have broadened our product offerings with the addition of BioAstin,
our natural astaxanthin product for the human nutrition market.
The Company's future results of operations and the other
forward-looking statements contained in this Outlook, in particular the
statements regarding revenues, gross margin, research and development, and
capital spending, involve a number of risks and uncertainties. In addition to
the factors discussed above, among the other factors that could cause actual
results to differ materially are the following: business conditions and growth
in the natural products industry and in the general economy; changes in customer
order patterns, and changes in demand for natural products in general; changes
in weather conditions; competitive factors, such as competing Spirulina
producers increasing their production capacity and their impact on world market
prices for Spirulina; government actions; shortage of manufacturing capacity;
and other factors beyond our control.
Cyanotech believes that it has the product offerings, facilities,
personnel, and competitive and financial resources for continued business
success, but future revenues, costs, margins and profits are all influenced by a
number of factors, as discussed above, all of which are inherently difficult to
forecast.
19
<PAGE>
PART II. OTHER INFORMATION
Item 1. On July 13, 1998, the Company filed a complaint (Case No.
CV98-00600) in United States District Court for the District of
Hawaii ("Court") against Aquasearch, Inc. ("Aquasearch"), seeking
declaratory judgement of patent noninfringement, patent
invalidity and non-misappropriation of trade secrets relating to
closed culture production of astaxanthin. The complaint was filed
in response to assertions by Aquasearch regarding its alleged
intellectual property rights. Aquasearch has answered the
complaint and filed counter claims alleging patent infringement,
trade secret misappropriation, unfair competition and breach of
contract. The Court has granted Cyanotech's motion to amend its
complaint against Aquasearch to add claims of misappropriation of
trade secrets regarding open pond technology, unfair competition
and breach of contract. Motions for partial summary judgement
filed by both parties are pending before the Court. In the
opinion of management, the ultimate disposition of this matter
will not have a material adverse effect on the Company's
consolidated financial position, results of operations or
liquidity.
Item 3. In July 1998, the Company entered into a Loan and Security
Agreement (Agreement) with a lender which is described in detail
in the discussion on Liquidity and Capital Resources in Item 2
of this report. The Agreement contains certain restritive
covenants, which include, among other things, the maintenance of
minimum consolidated net worth, as defined, and an acceleration
clause to take effect on the occurrence of an event with a
material adverse effect on the Company, as defined. On July 13,
1999, the lender declared the Company to be in default under the
Agreement because of the uncertainty of the Company's ability to
continue as a going concern. In view of this default, the lender
exercised its right under the Agreement effective July 13, 1999,
to increase the interest rate on all borrowings from prime plus
2.5% to prime plus 5.5%. On October 8, 1999, the lender informed
the Company of its intent to terminate the agreement with
Cyanotech, effective December 31, 1999 due to the Company being
in on certain financial covenants. This default resulted from
the "going concern" opinion issued by the Company's independent
auditors for the fiscal 1999 period and the fact that
stockholders' equity has dropped below $20,000,000. Consequently,
the Company has classified the aggregate outstanding balance on
this Agreement of $1,517,000, representing outstanding working
capital loans on a revolving basis of $942,000 and an equipment
term loan of $575,000, as a current liability in the consolidated
balance sheet at September 30, 1999. The Company is currently
seeking alternate sources of financing to replace this Agreement
and has reason to believe that it will be successful. However,
there can be no assurance that the Company will be successful,
or that if successful, that it will be able to obtain replacement
financing under favorable terms. Failure to obtain alternative
financing would have a material adverse effect on the Company's
financial position, results of operations and liquidity.
20
<PAGE>
Item 4. Submission of Matters to a Vote of Security Holders
On August 26, 1999, the following matters were submitted to a
vote of stockholders entitled to vote at the Company's Annual
Meeting of Stockholders:
a) The following directors were elected to serve until the next
Annual Meeting or until their successors are elected: Gerald
R. Cysewski, Eric H. Reichl, Ronald P. Scott, John T. Waldron
and Paul C. Yuen, all directors receiving at least 13,727,188
votes and no more than 451,265 votes against or abstaining.
b) Ratification of the selection of KPMG LLP as the Company's
independent auditors for the fiscal year ending March 31,
2000.
For: 14,045,768 Against: 73,215 Abstaining: 59,270
Item 6. Exhibits and Reports on Form 8-K
a) The following exhibits are furnished with this report:
Exhibit 10.1 - Kiewit suspension agreement dated June 15, 1999
(Incorporated by reference to Exhibit 10.14 to
the Company's Annual Report on Form 10-K for
the fiscal year ended March 31, 1999, file no.
0-14602.)
Exhibit 10.2 - Kiewit suspension and termination agreement
dated September 17, 1999
Exhibit 27.1 - Financial Data Schedule
b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter ended
September 30, 1999.
21
<PAGE>
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of
1934, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
CYANOTECH CORPORATION (Registrant)
November 4, 1999 By: /s/Gerald R. Cysewski
- -------------------- ------------------------------
Date Gerald R. Cysewski
Chairman of the Board,
President and Chief Executive Officer
By: /s/Ronald P. Scott
------------------------------
Ronald P. Scott
Executive Vice President - Finance &
Administration
(Principal Financial and
Accounting Officer)
22
September 17, 1999
Cyanotech Corporation
Hawaii Ocean Science Technology Park
73-4460 Queen Kaahumanu Hwy. #102
Kailua-Kona, HI 96740
Attn: Ronald Scott
Executive Vice President
Re: Project Closeout Costs for the Astaxanthin Expansion Project
Kiewit Pacific Co. has measured the work on the Astaxanthin Expansion Project
completed to date and found the contract work to be 64 percent complete
including mobilization and demobilization of plant and equipment. This 64
percent of the Construction Contract represents $2,813,335.00. The contract
amount paid to date is $2,475,000.00 leaving $338,335.00 due on the contract at
this time.
In the interest of maintaining good relations between the Company's, Kiewit
Pacific Co. and Cyanotech Corporation agree that if the current suspension
agreement dated June 15, 1999 expires without a further agreement to continue
the suspension the contract will be closed out and all accounts will be settled
as follows:
1. Cyanotech Corporation to pay Kiewit Pacific Co. $170,000.00 of
the amount remaining due on the contract.
2. In the event Cyanotech Corporation chooses to proceed with the
project at a future date Kiewit Pacific Co. will be allowed to
negotiate reasonable escalation and remobilization costs and
proceed with the contract.
3. If the parties can not come to agreement for the completion of
the work Cyanotech Corporation may proceed with an alternate
contractor after paying Kiewit Pacific Co. the remaining
$168,335.00 due plus interest as allowed by the contract.
If these provisions are acceptable to Cyanotech Corporation please sign the
document and return to our office. As you know we prefer to complete the
contract work and continue to be you contractor for future projects.
Sincerely, Cyanotech Corporation
/s/ Gordon Schwiesow By /s/ Ronald P. Scott
Gordon Schwiesow Its Executive Vice President/CFO
Hawaii Area Manager
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