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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-KSB/A
(Mark One)
[X] Annual report under Section 13 or 15(d) of the Securities Exchange Act of
1934 For the fiscal year ended December 31, 1998
[ ] Transition report under Section 13 or 15(d) of the Securities Exchange Act
of 1934 For the transition period from _____________ to ______________
Commission File Number: 0-15324
STAR SCIENTIFIC, INC.
(formerly Eye Technology, Inc.)
(Name of Small Business Issuer in its Charter)
DELAWARE 52-1402131
(State of incorporation) (IRS Employer Identification No.)
16 SOUTH MARKET STREET, PETERSBURG, VIRGINIA 23803
(Address of Principal Executive Offices, Zip Code)
(804) 861-0681
(Issuer's Telephone Number, Including Area Code)
Securities Registered under Section 12(g) of the Exchange Act:
COMMON STOCK, $.01 PAR VALUE
(Title of Class)
Check whether the issuer: (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 X No
--- ---
Check if there is no disclosure of delinquent filers in response to item 405 of
Regulation S-B contained in this form, and no disclosure will be contained, to
the best of registrant's knowledge, in definitive proxy of information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [_]
Issuer's revenues for its most recent fiscal year: $19,445,000.
Aggregate market value of the Common Stock (on an as converted basis) held by
non-affiliates (approximately 10,892,840 shares) computed by reference to the
average bid and asked price of the Common Stock as of April 16, 1999 was
$20,369,610.
Number of shares outstanding of each class of common equity as of April 16,
1999: 52,291,982 shares of Common Stock; 250 shares of Class A Convertible
Preferred Stock; 1,204 shares of Series B Convertible Preferred Stock.
DOCUMENTS INCORPORATED BY REFERENCE: None
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This Annual Report on Form 10-KSB ("Form 10-KSB") contains forward-looking
statements within the meaning of Section 21E of the Securities Exchange Act of
1934, as amended, that reflect the Company's current expectations regarding the
future results of operations, performance and achievements of the Company. These
forward-looking statements are made pursuant to the safe harbor provisions of
the Private Securities Litigation Reform Act of 1995. The Company has tried,
wherever possible, to identify these forward-looking statements by using words
such as "anticipates," "believes," "estimates," "expects," "plans," "intends"
and similar expressions. These statements reflect the Company's current beliefs
and are based on information currently available to it. Accordingly, these
statements are subject to certain risks, uncertainties and contingencies which
could cause the Company's actual results, performance or achievements to differ
materially from those expressed in, or implied by, such statements. These risks,
uncertainties and contingencies include, without limitation, the development and
commercialization of the Company's proprietary process for reducing or virtually
eliminating the tobacco specific nitrosamines in the processing of tobacco leaf,
potential delays in obtaining any necessary governmental approvals of the
Company's proposed cigarette products, market acceptance of the Company's
products, the Company's decision not to join the Master Tobacco Settlement
Agreement, the adoption of required state statutes, and any subsequent
modification of the Master Tobacco Settlement Agreement. The Company undertakes
no obligation to update or revise any such forward-looking statements that may
be made to reflect events or circumstances after the date of this Form 10-KSB or
to reflect the occurrence of unanticipated events.
PART I
ITEM 1. BUSINESS.
GENERAL
Star Scientific, Inc. ("Star" or the "Company") is engaged in: (1) the
development of proprietary scientific technology for the curing of tobacco so as
to prevent or retard the formation of certain toxic carcinogens present in
tobacco and tobacco smoke, namely, the tobacco specific nitrosamines (TSNAs),
(2) the development of less harmful tobacco products which have been cured
pursuant to the Company's patented proprietary process, (3) the manufacture and
sale of discount cigarettes, without additives, and with activated charcoal
filters, and (4) the research and development of tobacco-cessation products.
The Company's primary corporate mission is to demonstrate the
commercial viability of less harmful tobacco products and to encourage other
tobacco manufacturers to utilize and/or license Star's proprietary curing
technology.
The Company has pioneered the development of a high-speed, patented and
economically feasible curing technology process for removing virtually all the
tobacco-specific nitrosamines from tobacco, as well as from second-hand tobacco
smoke.
The Company has exclusive worldwide license under patents and patents
pending relating to methods to prevent the formation of TSNAs in tobacco.
Certain TSNAs are generally regarded by tobacco chemists as the most abundant
and powerful carcinogens in tobacco and tobacco smoke.
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The Company's licensed processes employ the application of an energy source to
tobacco leaf shortly following the harvesting of the leaf and prior to
completion of the curing (drying) process. No chemicals are used. The Company's
processes prevent TSNAs from forming in the tobacco leaf, a natural process
which otherwise occurs during the curing period. Independent tests have
confirmed that Star's processes reduce the amount of TSNAs in tobacco and
tobacco smoke to either undetectable levels or to de minimis levels. The Company
has successfully tested its processes in both Virginia flue-cured and burley
tobacco, the two most prevalent varieties of tobacco used in cigarettes sold in
the United States, and the Company believes that its processes may achieve
similar results on other varieties of tobacco.
PRODUCTS
Discount Cigarettes.
Star manufactures and sells four brands of discount cigarettes -
GUMSMOKE(R), VEGAS(R), SPORT(R), and MAIN STREET(R) through approximately 300
tobacco and food product distributors ("T&F Distributors") throughout the United
States. The cigarettes are sold as "deep discount" products, i.e., at or near
the lowest price range in the wholesale market and, consequently, in the retail
market as well. Star does not engage in extensive advertising or marketing
programs for its cigarette products directly to consumers but, rather, Star
relies primarily upon price and, to a lesser extent, on product appearance and
taste in order to compete in the marketplace. Star's primary advertising focus
is its core of approximately 300 distributors in 48 states. Star has also
engaged in contract manufacturing, i.e., the manufacture of products under
brands owned by others. The production and sale of such products are an
immaterial portion of sales in 1998. Export sales are also immaterial.
In an effort to implement Star's mandate to develop less toxic and less
hazardous tobacco products, Star intends to phase into its discount cigarettes
tobacco which has been cured through its proprietary scientific technology over
the next three years and to utilize activated charcoal filters in all of its
cigarettes.
Tobacco-Flavored Chewing Gum and Lozenges and Chewing Gum Containing Tobacco
Extract.
Star has developed several products containing low-TSNA tobacco as an
ingredient, but has not yet marketed any such products. It has developed both a
chewing gum and a lozenge, each containing low-TSNA tobacco, as products for the
smoking cessation market. The gum/lozenge products contain nicotine, as well as
the MAO-inhibitor known to be present in tobacco. In anticipation of a then
pending legislative proposal to provide the Food and Drug Administration ("FDA")
with new authority to regulate tobacco products, Star submitted and received
approval of an Investigational New Drug application ("IND") for the gum product
from the FDA, Star commenced a Phase I human clinical trial in the second
quarter of 1998 in order to demonstrate the safety of the product for smoking
cessation purposes. Star has also developed lozenges, which contain low-TSNA
tobacco that is added in either a finely-ground powder or liquid extract form to
typical lozenge ingredients. Star has not yet filed an IND application with the
FDA covering lozenges, and in the current regulatory environment it is unlikely
to do so absent a change in that climate. Neither the gum nor the lozenge may be
sold in the United States unless and until the FDA has approved a New Drug
Application ("NDA") for such product, and no assurances can be given when or if
Star might obtain such an approval or that, even
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if such approvals are obtained, whether there will be significant revenues from
the sale of either. Given the uncertain status of the FDA's authority to
regulate tobacco products, it now appears that these tobacco-containing
cessation products would be required to undergo all of the preclinical and
clinical testing required of a new drug product. It seems unlikely at the
present time that undertaking such testing would produce an adequate return on
investment. Star continues to investigate and explore opportunities in Western
and Eastern Europe, and in other countries where regulating authorities appear
to be more receptive to the development of reduced risk and less hazardous
tobacco products.
In January 1998, Star introduced to the market a chewing gum, under the
label GUMSMOKE(TM), which contains an FDA-approved tobacco flavoring but no
tobacco extract. The gum was being promoted by Star as an alternative to smoking
to be chewed when the consumer either is unable to smoke or desires to reduce
the amount of smoking. The gum was test marketed in the United States through
the T&F Distributors, as well as directly to certain large retail chains. The
product was also being distributed in certain countries in Europe through a
single distributor. GUMSMOKE(TM) is a food product for which Star asserts no
health or therapeutic claims and is, therefore, distinguished from the
therapeutic chewing gum described above. Since the product appeared to have
limited market acceptance and Star anticipated potential regulatory issues which
could have been costly to resolve, Star discontinued the development and sale of
that product.
Sale of Processed Tobacco.
Star has to date received only modest revenues from the production and
sale of pilot amounts (approximately 86,000 pounds) of processed tobacco, which
was sold to several major producers in the U.S. and abroad during the 1998
harvest season. Star intends to purchase, treat with its proprietary scientific
technology and sell the processed tobacco during the 1999 tobacco harvest season
(July - October), to manufacturers of tobacco products.
Star has a contract to sell to a major tobacco company 1.2 million
pounds of processed tobacco at $3.00 per pound during the 1999 harvest season.
Products Containing Low-TSNA Tobacco.
Star has developed a cigarette product, currently designated CigRx(TM),
containing Virginia tobacco from which virtually all TSNA has been removed and
utilizing an activated charcoal filter. Although Star can now market such a
product in the United States, existing federal law would preclude Star from
making any health/therapeutic claims for the product, and even disclosure of the
absence of TSNAs might arguably be interpreted as an implied health claim. Star
has chosen to make its data available to the FDA, although it is not required to
do so. Star originally positioned the product so that if approved it would be
sold by physician's prescription only as part of a smoking cessation regimen to
be used by a patient who relapses from his/her cessation effort and who is being
prepared for a subsequent cessation attempt. Based on discussions with the FDA,
it has become apparent that the FDA will neither approve nor disapprove this
product at the present time.
SALES AND MARKETING
Star's four brands of cigarettes are each sold in a variety of sizes
and styles, i.e., king size and 100s, soft pack and hinged box, regular flavor
and menthol, and full flavor, lights and ultra lights.
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Star utilizes its own specified blend of tobaccos in each brand. The blend
consists of Virginia flue- cured, burley and oriental varieties of tobacco,
which is typical of American-style cigarettes. Star does not utilize
"reconstituted" tobacco, which is tobacco leaf which has been cut, combined with
various chemicals and formed into paper-like sheets which are in turn cut and
utilized as filler in the production of cigarettes.
Star uses stylized packaging designs for its four brands of cigarettes.
As is typical in the cigarette industry, Star utilizes different colors, e.g.,
green for menthol, but similar designs, on its packaging to denote different
product styles.
Star does not conduct any consumer advertising and only an
insubstantial amount of trade journal and direct mail advertising. Star does
provide to its distributor customers for redistribution to retailers,
point-of-sale materials such as posters, banners and display racks. Also, Star
produces marketing materials for use by distributors to promote Star cigarettes
to their retail customers.
Star's brands of cigarettes are sold by two full-time in-house
employee-salesmen, augmented by three part-time independent contractor
representatives, all of whom are compensated principally on a commission basis.
Because of Star's limited sales force and advertising and marketing
resources, it is Star's strategy to rely to a large degree upon distributors to
promote and sell Star brands to retail customers. Distributors are generally
able to obtain substantially higher profit margins, albeit lower volume, on
Star's products than on products sold by the four major United States
manufacturers of cigarettes, and therefore they have an incentive to promote
Star's brands. Furthermore, in many markets, Star will grant to a distributor
exclusivity within a defined region for one or more brands, thus giving the
distributor an incentive to promote to retailers Star's brand without being
undercut on a price basis by a competitor. In 1998 Star sold its cigarettes to a
total of approximately 300 distributors located in 48 states. The distributors
maintain state and, where applicable, municipal government tobacco product
licenses, apply cigarette state and/or local tax stamps when needed, and resell
the cigarettes to retailers. Star delivers its products directly to distributors
mainly by common carrier trucks. No one distributor accounted for more than 10%
of Star's revenues in 1998. Star's distributor customers primarily serve
convenience stores, gas stations and other outlets and stores.
COMPETITION
Star's primary competition for conventional cigarettes is from the four
"majors," that is, Philip Morris, the brands of which account for slightly more
than 50% of the cigarette sales in the United States, R.J. Reynolds, Brown &
Williamson and Lorillard, each of which has substantially greater financial and
operating resources than Star. Star also encounters significant competition from
several other United States manufacturers of cigarettes as well as importers of
cigarettes manufactured in foreign countries. Some of these manufacturers and
importers have substantially greater financial and operating resources than
Star.
Star's products compete principally on the basis of price. Generally
speaking, there are three price categories of cigarettes in the United States,
"premium," which includes such brands as Marlboro(R) and Camel(R), "discount" or
"generic," which includes such brands as Doral(R) and GPC(R), and "deep
discount," which as a group account for only a small percentage (less than 3%)
of the United States cigarette market. Each of Star's brands is priced in the
deep discount category. Other
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competitive factors include package design, taste and the amount of marketing
support provided to distributors and retailers. At the consumer level, brand
"loyalty" is also a significant factor.
Star also encounters competition in the sales of smoking cessation
products. Smoking cessation products that are approved for sale in the United
States by the FDA are primarily synthetically-produced nicotine delivery
products designed to wean the patient from nicotine addiction over a period of
time ranging from 30 days to six weeks. Three products, Nicorette(R), a nicotine
chewing gum, and Nicotrol(R) and NicoDerm(R), both transdermal nicotine patches,
constituted 99% of the U.S. market of $398 million in sales in 1996. All of
these products are sold over-the-counter. Recently, Zyban(R), a prescription
drug which, when taken in pill form, chemically acts upon the brain to simulate
the "reward" attributes of nicotine while at the same time decreasing the
craving for nicotine, was introduced to the market in 1997 following FDA
approval. Star understands that sales of Zyban(R) to date have been substantial
and that Zyban(R) is often prescribed by physicians to be used in conjunction
with nicotine delivery products.
Star's principal competitors in the cessation and reduction market
would include Smith Kline Beecham, the McNeil Consumer Division of Johnson &
Johnson, Glaxo-Wellcome and Pharmacia- Upjohn, all of which have capital
resources, research and development staffs, facilities, experience in conducting
clinical trials and obtaining regulatory approvals and experience in
manufacturing and marketing their products which are significantly greater than
those of Star. In addition, there are several companies developing new
technologies aimed at smoking cessation therapies. There are also a number of
consumer products which do not require FDA approval as therapeutic drug products
but which nevertheless are advertised as alternatives to smoking or to help in
the reduction of smoking. For example, at least one of the leading United States
confectionary chewing gum manufacturers has advertised its gum products as an
alternative to cigarettes. There are also several non-tobacco cigarettes
produced with fillers such as lettuce and herbs. In addition to the use of
consumable products for smoking cessation or reduction purposes, medical
practitioners and others have developed a variety of programs intended to assist
a person in withdrawing from nicotine dependence. Treatments used include
psychological counseling, hypnosis, group therapy and behavior modification
techniques. There can be no assurance that Star can overcome regulatory barriers
to marketing its tobacco-containing cessation products or that Star's
competitors will not succeed in developing technologies and products that are
more effective than Star's product candidates, that are safer than Star's
products or that would render Star's products obsolete or non-competitive.
Star's inability to compete successfully may have a material adverse effect on
Star's business, financial condition and results of operations.
PURCHASING
Tobacco used in Star cigarettes is purchased from a recognized leaf
dealer in "cut rag" form, meaning that the tobacco has been cut, processed and
flavored to Star's specifications, and is ready when delivered to Star for the
manufacturing process. In the future, the Company expects to purchase tobacco
directly from tobacco farmers and to erect curing barns on their property to
permit the Company to cure the tobacco using its proprietary technology on site.
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MANUFACTURING
Star manufactures cigarettes at its facility in Petersburg, Virginia.
The tobacco is combined with filters, and paper in a "maker" which produces
finished cigarettes, which in turn are placed in a "packer" which provides
packaging into standard 20-cigarette packs and ten-pack cartons. Star has
sufficient manufacturing capacity at its Petersburg facility to produce its
low-TSNA cigarettes for the foreseeable future.
Amana Company, L.P. ("Amana") is manufacturing the specialized
equipment that incorporates the Company's proprietary technology for processing
tobacco under a 15-year exclusive supply agreement. The Company believes that
Amana has sufficient manufacturing capacity to supply all of the Company's
foreseeable requirements for the specialized equipment.
Chicles Canel's, S.A. de C.V., of San Luis Potosi, Mexico ("Canel's"),
a large gum manufacturing company in Mexico, has produced all sample and
clinical trial quantities of gum and lozenge products for Star. Star, which does
not have an on-going agreement with Canel's, is currently dependent upon Canel's
as a sole supplier of gum and lozenge products. Star may need to identify
alternative manufacturers for the production of these products to reduce its
dependence on Canel's and to ensure that in the event that market demand
increases beyond Canel's capacity, Star would be able to meet such demand.
GOVERNMENT REGULATION
The manufacture and sale of cigarettes and other tobacco products and
of pharmaceutical products are subject to extensive federal and state government
regulations in the United States and by comparable authorities in many foreign
countries. These national agencies and other federal, state and local entities
regulate, among other things, research and development activities and the
testing, manufacture, safety, effectiveness, labeling, storage, record keeping,
approval, advertising and promotion of Star's products.
There are multiple bills pending before the 106th Congress and in
several state legislatures which, if enacted, would significantly change the
United States tobacco industry. Some of these federal bills contain provisions
which would provide substantial federal government funds for smoking cessation
programs and products, as well as incentives to tobacco companies and others to
produce less harmful or reduced-risk tobacco products. Star is unable to predict
what effect, if any, these provisions, if enacted, would have on Star's
technology or the sale of Star's smoking cessation products (if approved by the
FDA) and/or reduced-hazard tobacco products. The Company believes, however, that
any bill that requires manufacturers to reduce or eliminate or disclose
additional known toxic ingredients (other than nicotine or tar levels) in
tobacco could have a beneficial effect on the Company.
FDA Regulation.
The FDA has adopted extensive regulations governing the sale and
advertising of tobacco products designed primarily to discourage the sale to,
and consumption by, adolescents and children. The "major" manufacturers of
tobacco products challenged the authority of the FDA to promulgate such
regulations in the federal courts. A federal District Court upheld the FDA's
authority to
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promulgate such regulations, but ruled that certain of the regulations
restricting advertising were invalid as violative of the constitutional right of
free speech. The United States Court of Appeals affirmed that portions of the
District Court opinion that held the FDA could not regulate tobacco advertising
and ruled that the executive branch of the United States government, in
particular the FDA, does not have any authority to regulate tobacco products
generally, such authority being reserved to Congress. The federal government has
appealed the Appeals Court's ruling and the matter is now pending before the
United States Supreme Court. To the knowledge of Star, the FDA has not attempted
to enforce these regulations, and the tobacco industry, including Star, have
generally operated as if the regulations were not in effect.
It is difficult for Star to predict what effect full implementation of
the FDA regulations referred to in the preceding paragraph would have upon its
conventional cigarette business. Those regulations significantly limit the
manner in which cigarettes may be sold and displayed in retail stores,
requiring, among other restrictions, that cigarettes be kept "behind the
counter" and out of the reach of customers. These point-of-purchase restrictions
would tend to favor the more well-known brand names and disfavor "deep discount"
products which rely more upon the price of the product than on brand loyalty or
brand recognition to generate sales. Consequently, implementation of the
existing FDA regulations would have an adverse affect upon Star's sales of
conventional cigarettes.
The Company has shared its product data with the FDA and plans to
continue to do so, depending only on the FDA's willingness to comment on the
data submitted to it. The Company's decision to share its product data with the
FDA was made with long-term objectives in mind and in light of the uncertainties
in the regulatory environment. The Company believes that the commercial value of
its tobacco curing process will depend upon validation by the scientific and
health care communities. The Company believes that tests and clinical trials
conducted under FDA quality protocols would further its objective of attaining
scientific validation for its technology. It is uncertain, however, whether any
competitive advantage would be achieved by submission of its tobacco-containing
products to the FDA, especially if such submission is not required.
In 1997 Star submitted its initial research plan on GUMSMOKE(TM) gum to
the FDA as a therapeutic drug product for smoking cessation purposes. However,
absent new authority for FDA to regulate products containing tobacco, it now
seems unlikely that any product based in part on a tobacco extract would be
approved by FDA, as that agency is currently configured. As a result, further
development of this product has been suspended.
Bureau of Alcohol, Tobacco and Firearms.
Manufacturers and importers of tobacco products are taxed pursuant to
regulations promulgated by the federal Bureau of Alcohol, Tobacco and Firearms
under authority of the Internal Revenue Code of 1986, as amended. The Company's
tobacco products will continue to be subject to tax under such regulations.
State and Municipal Laws.
The sale of tobacco products is subject to taxation in all fifty
states. In addition, some states permit municipalities to impose an additional
sales tax, and many municipalities do so. The state and municipal taxes are
imposed upon wholesalers and/or retailers but not manufacturers, and therefore
Star
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has no liability for such taxes. Star is required by many states, however, to
report its shipments of cigarettes to distributors/retailers located within
their jurisdiction. Star is aware of at least two states, Massachusetts and
Minnesota, which have recently adopted laws and regulations regarding the
disclosure by manufacturers of certain chemical constituents in their products.
Star intends to fully comply with such laws and believes it will benefit from
such disclosure.
Master Tobacco Settlement Agreement.
In February, the Company's Board of Directors voted unanimously not to
join the Master Tobacco Settlement Agreement ("MSA") among forty-six states,
several U.S. territories and a number of tobacco manufacturers, as a Subsequent
Participating Manufacturer. The MSA and the proposed model statute that each
participating state is obligated to enact as part of the MSA, do not contain any
provisions that reward or encourage companies, like Star, that have sought to
develop and promote safer tobacco products. To rectify this inequality, the
Company proposed an amendment to the MSA that would have recognized its
commitment to R&D over the past several years and would have allowed it to
continue to promote those efforts under the grandfather provisions in the MSA
that apply to Subsequent Participating Manufacturers. The Company was advised,
without receiving any adequate explanation, that the proposed amendment, which
it believed was not only fair but magnanimous, was rejected.
After careful consideration, the Board of Directors determined that it
was not in Star's long term interest to join in the MSA without an acceptable
amendment. As a Non-Participating Manufacturer, Star, absent a successful legal
challenge, some subsequent agreement to modify the MSA or individual state
amendments to the proposed model statutes, could be required to establish escrow
funds under model statutes to be enacted by each participating state that would
be available to pay for tobacco-related judgments or settlements, if claims are
asserted by participating states against Star. These escrow payments could be
substantial. To date, Star has not been named as a party in any tobacco related
litigation. Star is continuing to assess the impact that opting out of the MSA,
and potentially having to fund state-specific escrow accounts, will have on its
ability to fully fund the development of less hazardous tobacco products.
Star has engaged special outside counsel in order to assist the Board
in its continuing evaluation of this situation and/or to be prepared to
challenge, if necessary the enactment of model state statutes, mandated by the
MSA, which may well constitute an unconstitutional "taking" of Star's property,
among other things, in violation of state and/or federal constitutional
protections. The Board of Directors of Star is committed to implementing all
feasible measures to achieve the development and production of safer tobacco. In
an effort to implement Star's mandate to develop less toxic and safer tobacco
products, the Board of Directors ratified management's decision to put activated
charcoal filters on all of its four discount brands of cigarettes within the
next 30 to 45 days. Although this is a more costly approach to cigarette
manufacturing, such approach was highly recommended by respected scientists and
physicians during the recent Food and Drug Symposium on the development of less
toxic tobacco products held at the Georgetown University Medical Center.
Virginia Incentive Rebates.
The Company proposed to the Virginia General Assembly an amendment to
the model state statute. Although the proffered Amendment was not enacted, the
General Assembly and Governor of the Commonwealth of Virginia did, in fact,
provide some relief and assistance to Star indirectly by passing
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legislation which was signed by the Governor that explicitly encourages the
manufacture and sale of "products that reduce the carcinogenic tobacco specific
nitrosamines (TSNAs) levels in tobacco products." That legislation, pursuant to
House Bill 2635 and Senate Bill 1165 (1999), provides that $2,000,000 shall be
made available to the Virginia Economic Development Partnership to provide for
economic development incentive rebates to assist Virginia companies that reduce
the carcinogenic (TSNAs) levels in tobacco products. The Company believes that
it is the only company in Virginia and/or in the U.S. that has comprehensive
patent protection for its proprietary technology to reduce to de minimis levels
the TSNAs in tobacco and tobacco smoke.
Canadian Proposed Regulations for Tobacco Packaging
The Canadian government has recently proposed new regulations that
would require disclosure of the amount of selected toxic constituents, including
TSNAs, in tobacco products sold in Canada. Star believes that the proposed
regulations, which would require disclosure of the levels of TSNAs on cigarette
labels covering 60% of the top of the display panel, could benefit the Company
to the extent that Star or any future licensees market tobacco in Canada. Star
is currently exploring opportunities to enter the Canadian market with its
low-TSNA cigarettes, either directly or through a license granted by Star to a
major tobacco company which markets cigarettes in Canada.
RESEARCH AND DEVELOPMENT
In late 1994, Star commenced research and development activities based
upon newly-conceived technology, which it had licensed from the technology's
inventor, Jonnie R. Williams, for the processing of tobacco so as to eliminate
or reduce to insignificant levels TSNAs. TSNAs are generally recognized by
tobacco chemists to be among the most powerful and abundant carcinogens in
tobacco and tobacco smoke. Star's research and development activities have
focused on (1) perfecting and testing its proprietary methods for processing
tobacco, (2) developing products which incorporate Star's specially-processed
tobacco, including products for the smoking cessation and reduced-risk smoking
markets, (3) establishing a patent position, and (4) developing relationships
with tobacco farmers, as well as the tobacco industry, with a view to the
commercialization of Star's processes.
Star is not aware of any other entity which utilizes a process to
reduce significantly tobacco- specific nitrosamines that are found in cured
tobacco leaf. At least one Swedish Company, Swedish Match Co., has worked with
various varieties of smokeless tobacco under crop management environments in an
effort to reduce the amount of the nitrosamine content in tobacco. The Company
understands that Swedish Match Co. has been successful in those efforts, but not
to the extent of reducing nitrosamines below the level which the Company
understands would be considered inconsequential.
Proprietary Technology.
The process of curing, or drying, tobacco so that it is suitable for
production into tobacco products begins immediately upon harvesting of the
tobacco leaf. The tobacco leaves are brought to enclosed barns or sheds to be
hung or placed on racks. The two principal varieties of tobacco leaf in the
United States are Virginia flue-cured tobacco and burley tobacco, both of which
are typically used in American-made cigarettes to produce what is referred to
as an American blend. Under conventional curing methods with Virginia flue-cured
tobacco, the leaves that are hung to cure are exposed to gas-fired heat, while
with burley tobacco the leaves dry naturally. The curing process for Virginia
flue-cured tobacco takes approximately five days and for burley tobacco a month
or more.
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Star's proprietary curing technology is applicable to Virginia
flue-cured tobacco as well as burley tobacco, and most likely to other varieties
widely used throughout the world. Star's curing process essentially arrests or
eliminates microbial activity that normally occurs during curing, thereby
preventing the production of TSNAs. Star's curing technology does not, however,
alter or affect taste, color or the nicotine content of tobacco. The Company
makes no claim or representation that its proprietary curing process reduces any
harmful chemical constituents in tobacco and/or tobacco smoke other than
tobacco-specific nitrosamines.
Star's proprietary curing technology was conceived by Jonnie R.
Williams and has been licensed to Star in an agreement which grants to Star
certain exclusive worldwide rights with a right of sublicense.
See "Patents, Trademarks and Licenses" below.
It is Star's objective to achieve widespread acceptance of its tobacco
curing technology as a standard for the manufacture of less harmful tobacco
products and as a basis for the use of tobacco in the production of smoking
cessation products.
Star conducted at its own expense a pilot program during the 1998
United States tobacco harvest season (July through October). The purposes of
this program were: (1) to continue to test and perfect Star's curing processes
in quantities and under conditions which will serve as a model for future
operations; (2) to test custom designed equipment; (3) to provide processed
tobacco to major manufacturers in quantities for testing and test market
purposes; and (4) to demonstrate the commercial feasibility of adoption of
Star's processes for widespread use in the production of tobacco products. The
program was operated from a leased facility in Chase City, Virginia, which is
located in the tobacco growing regions of Virginia and North Carolina. The
Company has completed the pilot program and has achieved the objectives
described above.
Star has had extensive discussions with several major tobacco product
manufacturers. Several have purchased samples of its processed tobacco, and it
has been advised by many of the companies that tests conducted by or for the
major manufacturers confirm Star's claim that its processed tobacco is virtually
free of TSNAs.
Development of CigRx(TM)
In 1997 Star voluntarily elected to submit CigRx(TM) to the FDA as a
therapeutic pharmaceutical product with health-related claims to help prevent a
relapse of a patient undergoing a smoking cessation program. Star is not aware
of any other company submitting a tobacco product for FDA clearance. Star's
strategy has since changed, and it will not seek FDA approval for CigRx(TM). The
Company, however, intends to submit data from a recently completed Phase I
clinical study of CigRx(TM) to the FDA for its review and comment.
In October 1998, a Phase I study of CigRx(TM) under an FDA-reviewed
protocol was completed at the Medical College of Virginia under the direction of
Professor William Barr, Chairman of the Department of Pharmaceutics and Director
for the Center for Drug Studies as its principal investigator. The study,
involving male and female subjects, was a 19-day cross-over study designed to
test the in vivo elimination or reduction of nitrosamines following the smoking
of CigRx(TM) cigarettes compared to leading-brand conventional cigarettes. As
measured by the current Federal Trade Commission method,
10
<PAGE> 12
the CigRx(TM) cigarettes used in the study delivered substantially less carbon
monoxide (4.8 milligrams versus 12.2 milligrams) and about half as much tar (7.0
milligrams versus 14.0 milligrams) compared to an average of the best selling
full-flavored cigarettes. It is anticipated that analytical data from the study
will be compiled and analyzed within the next 60 days. The study contrasted
Star's product with conventional brands in terms of breath levels of carbon
monoxide, blood levels of nicotine, and urinary levels of TSNAs. Additional data
has been received from the American Health Foundation pursuant to a contract to
analyze biological specimens obtained in the study. It is anticipated that the
analysis of this data will be completed shortly and publication of the results
will follow.
The Company intends to continue to test CigRx(TM) and similar products.
Since it is unlikely that the product can be formally approved by the FDA as
presently configured, the Company intends in the meantime to proceed with plans
to produce and test market the product, most likely under another name.
Beginning in the last half of 1999, the Company expects to conduct a limited
test market of this product using tobacco processed in the Company's pilot
program described above. Any marketing of products using Star's tobacco produced
with Star's curing technology will not be undertaken until the last months of
1999, since the Company will not have enough tobacco for these purposes until
the 1999 tobacco crop has been harvested.
Star's new cigarette products will be sold without any therapeutic
claims or special disclosures in the United States. However, Canada and other
countries have proposed new regulations that will require manufacturers to
disclose levels of carbon monoxide, tar, nicotine and TSNA.
PRODUCT LIABILITY
In the United States, there have been numerous and well-publicized
lawsuits against the largest manufacturers of cigarettes and other tobacco
products initiated by state and municipal governmental units, health care
providers and insurers, individuals (for themselves and on a class-action basis)
and by others. The legal theories underlying such lawsuits are varied, but are
generally based upon one or more of the following: (1) manufacturer defendants
have deceived consumers about the health risks imposed by tobacco product
consumption; (2) such defendants knew or should have known about various harmful
ingredients of their products and failed to adequately warn consumers about the
potential harmful effects of those ingredients; and (3) such defendants knew of
the addictive attributes of nicotine and have purposefully manipulated their
product ingredients so as to enhance the delivery of nicotine.
Star believes that its risk of liability in any lawsuit of the type
described above, and therefore the risk of being named a defendant in such a
lawsuit, is relatively low because (1) Star has not at any time advertised its
tobacco products to consumers except for point-of-purchase materials; (2) it has
conducted research on the chemical or other constituents of its products only in
the course of trying to reduce the delivery of toxic materials; (3) it does not
own or operate, and has never owned or operated, laboratory or other research
facilities; and (4) Star has not "manipulated" the nicotine content or delivery
of its tobacco products. Moreover, Star brands have been sold for only a
relatively short period of time, i.e., since late 1994, and the volume of sales
has not been substantial in relation to the volume generated by the larger
manufacturers.
Star maintains product liability insurance which is limited to any
claims that tobacco products manufactured by or for Star contain any foreign
object. Such insurance does not cover health-related claims such as those that
have been made against the major manufacturers of tobacco products. Star does
11
<PAGE> 13
not believe that such insurance can currently be obtained. A lawsuit against the
Company based upon claims not covered by its product liability insurance may
have a materially adverse effect upon the financial condition of the Company.
PATENTS, TRADEMARKS AND LICENSES
License Agreement.
Star is the licensee under a license agreement (the "License
Agreement") with the licensor, Regent Court Technologies, a partnership of which
Jonnie R. Williams and Francis E. O'Donnell, Jr., M.D. are partners. The License
Agreement provides, among other things, for the grant of an exclusive,
worldwide, irrevocable license to Star, with the right to grant sublicenses, to
make, use and sell tobacco and products containing tobacco under the licensor's
patent rights and know-how relating to the processes for curing tobacco so as to
eliminate or reduce to insignificant levels tobacco-specific nitrosamines and to
products containing such tobacco of the licensor and its affiliates, whether
such patent rights and know-how are now in existence or hereinafter developed.
This license includes inventions of the licensor and its affiliates during the
term of this Agreement relating to the production, treatment or curing of
tobacco, or a method of manufacturing a product containing tobacco, or of
extracting one or more substances from tobacco for the purpose of incorporating
such substance or substances in a product or products. The only right retained
by the licensor is to conduct research.
The License Agreement may be terminated by Star upon 30 days' written
notice. The License Agreement may also be terminated by the licensor (a) upon a
default in the payment of royalties or a failure to submit a correct accounting
continuing for at least 30 days after written notice, or (b) upon a material
breach of any other obligation of Star under the License Agreement continuing
for at least 60 days after written notice. A material breach may include a
sublicense of the Patent Rights (as defined in the License Agreement) without
obtaining a written agreement of the sublicensee to be obligated to the licensor
under the License Agreement. The licensee is also obligated to provide the
licensor with copies of all patent applications by it relating to the Patent
Rights. For purposes of determining materiality, and provided the nature of the
breach may be determined in material terms, a breach shall be deemed material if
such breach results in a loss of royalties exceeding $100,000.
Star is obligated to pay to the licensor a royalty of 2% on all net
sales of products by it and any affiliated sublicensees, and 6% on all fees and
royalties received by it from unaffiliated sublicensees. The License Agreement
expires with the expiration of the last of any applicable patents. Two United
States patents have been issued, and additional patent applications are pending
in the United States and in approximately 80 foreign jurisdictions.
The License Agreement obligates Star to prosecute and pay for United
States and foreign patent rights. The agreement contains other provisions
typically found in a patent license agreement, such as provisions governing
patent enforcement and the defense of any infringement claims against Star and
its sublicensees. The License Agreement further provides that any obligation or
liability related to patent infringement matters brought against Star will be
borne by Star. Star has agreed to indemnify and defend the licensor and its
affiliates against losses incurred in connection with Star's use, sale or other
disposition of any licensed product or the exercise of any rights under the
License Agreement. The licensor has made no representations to Star in any
documents regarding the efficacy of the licensed technology.
12
<PAGE> 14
Patents and Proprietary Rights.
Star's success in commercially exploiting its licensed tobacco curing
technology depends in large part on the ability of Star to defend issued
patents, to obtain further patent protection for the technology in the United
States and other jurisdictions, to maintain trade secrets, to operate without
infringing upon the patents and proprietary rights of others, and to obtain
appropriate licenses to patents or proprietary rights held by third parties if
infringement would otherwise occur, both in the United States and in foreign
countries. The Company has exclusive rights to two issued patents, and Star has
patent protection covering the technology for reducing the level of TSNAs in
tobacco leaf. Additionally, the Company is an exclusive licensee to a patent
application pending in the United States for additional methods covering the
tobacco curing technology and for products containing low-TSNA tobacco.
Corresponding patent filings have been initiated in numerous foreign countries.
There can be no assurance that patents will issue from any of the pending
applications, that claims allowed will be sufficient to protect the intellectual
property owned or licensed by Star, or that Star or its licensor has or will
develop or obtain the rights to any additional products or processes that are
patentable. In addition, no assurance can be given that any patents issued to or
licensed by Star will not be challenged, invalidated, infringed or circumvented,
or that the rights granted thereunder will provide competitive advantages to
Star.
The patent positions of research and development companies, including
those of Star, are uncertain and involve complex legal and factual questions for
which important legal principles are unresolved. Any conflicts resulting from
third party patent applications and patents could significantly reduce the
coverage of the patents or patent applications licensed to Star and limit the
ability of Star or its licensors to obtain meaningful patent protection. If
patents are issued to other companies that contain competitive or conflicting
claims, Star may be required to obtain licenses to these patents or to develop
or obtain alternative technology. There can be no assurance that Star will be
able to obtain any such license on acceptable terms or at all. If such licenses
are not obtained, Star could be delayed in or prevented from pursuing the
development or commercialization of its products.
Litigation which could result in substantial cost to Star may also be
necessary to enforce any patents to which Star has rights, or to determine the
scope, validity and unenforceability of other parties' proprietary rights which
may affect Star's rights. United States patents carry a presumption of validity
and generally can be invalidated only through clear and convincing evidence.
Star's licensors may also have to participate in interference proceedings
declared by the United States Patent and Trademark Office (the "USPTO") to
determine the priority of an invention, which could result in substantial cost
to Star. There can be no assurance that Star's licensed patents would be held
valid by a court or administrative body or that an alleged infringer would be
found to be infringing. The mere uncertainty resulting from the institution and
continuation of any technology-related litigation or interference proceeding
could have a material adverse effect on Star's business and prospects.
Star may also rely on unpatented trade secrets and know-how to maintain
its competitive position, which it seeks to protect, in part, by confidentiality
agreements with employees, consultants, suppliers and others. There can be no
assurance that these agreements will not be breached or terminated, that Star
will have adequate remedies for any breach, or that Star's trade secrets will
not otherwise become known or be independently discovered by competitors.
13
<PAGE> 15
SALE OF OPHTHALMIC BUSINESS
As a result of the poor results of its ophthalmic business, the Company
sold its ophthalmic business, effective as of December 30, 1998. The purchaser
assumed most of the liabilities of the Company's ophthalmic business. The
purchaser deposited into escrow 250,000 shares of the Company's common stock to
secure the payment of these liabilities.
EMPLOYEES
As of December 31, 1998, the Company had approximately 100 full-time
employees. From time to time, the Company engages temporary personnel to augment
its regular employee staff. The Company utilizes from time to time the services
of consultants and independent contractors to provide key functions that might
otherwise be provided by Company-employed personnel. The Company's success
depends in large part on its ability to attract and retain highly qualified
scientific, technical, management and marketing personnel. Competition for such
personnel is intense and there can be no assurance that the Company will be able
to attract and retain the personnel necessary for the development and operation
of its business. The loss of the services of key personnel could have a material
adverse effect on the Company's business.
ITEM 2. PROPERTIES.
The Company's executive offices and manufacturing facilities are
located in Petersburg, Virginia. The Company owns such facilities which consist
of a 50,000 square foot, four-story manufacturing building and 3,000 square
foot, single-story office and storage building. The Company leases a 10,000
square foot warehouse in Petersburg, Virginia, about one mile from its
manufacturing facilities, pursuant to a month-to-month lease. The warehouse is
used for storing and shipping conventional cigarette products. The Company also
leases a single office at the Biotechnology Office Park of the Medical College
of Virginia in Richmond, Virginia, on a tenancy-at-will basis.
The Company has leased seven acres of land and an approximately 50,000
square foot building thereon in Chase City, Virginia, for the processing of
tobacco utilizing the Company's proprietary methods to prevent the formation of
tobacco-specific nitrosamines. The lease is for a term of ten years, expiring in
2008. The Company has an option to purchase the property at any time during the
term of the lease.
The Company considers its facilities adequate for the purposes for
which they are used.
ITEM 3. LEGAL PROCEEDINGS.
The Company is not involved in any material legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The annual meeting of stockholders of the Company (the "Meeting") was
held on December 15, 1998. At the Meeting, the stockholders voted upon a number
of proposals, each of which is summarized below, along with the votes cast for
and against each such proposal, votes withheld or abstaining therefrom and
broker non-votes.
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<PAGE> 16
ELECTION OF DIRECTORS. At the Meeting, the stockholders elected the
following persons to the Board of Directors of the Company until the date of the
annual stockholders meeting in the calendar year set forth opposite the name of
each such person:
<TABLE>
<CAPTION>
VOTES BROKER
NAME TERM VOTES FOR AGAINST ABSTAINING NON-VOTES
---- ---- ---------- ------- ---------- ---------
<S> <C> <C> <C> <C> <C>
Malcolm L. "Mac" Bailey 1999 10,991,769 0 435,021 0
James A. McNulty 1999 10,991,769 0 435,021 0
Jonnie R. Williams 2000 10,987,469 0 439,321 0
Robert J. DeLorenzo, M.D., Ph.D. 2001 10,991,769 0 435,021 0
Leo S. Tonkin 2001 10,991,769 0 435,021 0
</TABLE>
AMENDMENT OF CERTIFICATE OF INCORPORATION CHANGING THE CORPORATE NAME.
At the Meeting, the stockholders of the Company voted on and approved an
amendment to the Certificate of Incorporation of the Company to change the
corporate name of the Company to Star Scientific, Inc. 11,379,359 votes were
cast for such proposal, 36,821 votes were cast against or withheld, with 10,610
votes abstaining and no broker non-votes.
1998 STOCK OPTION PLAN. At the Meeting, the stockholders of the Company
voted on and approved the 1998 Stock Option Plan, attached hereto as Exhibit
10(x) and incorporated herein by reference (the "Plan"). The Plan authorizes the
Compensation Committee of the Board of Directors to grant options to purchase up
to an aggregate of 4,000,000 shares of Common Stock of the Company to executive
officers, key employees, non-employee directors and consultants of the Company.
10,981,807 votes were cast for such proposal, 428,643 votes were cast against or
withheld, with 16,340 votes abstaining and no broker non-votes.
AMENDMENT OF CERTIFICATE OF INCORPORATION INCREASING THE NUMBER OF
AUTHORIZED SHARES OF COMMON STOCK TO 100,000,000. At the Meeting, the
stockholders of the Company voted on and approved an amendment to the
Certificate of Incorporation of the Company to increase the number of authorized
shares of Common Stock of the Company from 10,000,000 to 100,000,000. The
additional shares of Common Stock are to be available for (i) conversion of the
Company's Series B Preferred Stock issued in connection with the "reverse
acquisition" of the Company by Star Tobacco and Pharmaceuticals, Inc. In
February 1998, conversion of other outstanding shares of the Company's Series B
Preferred Stock and outstanding shares of the Company's Class A Preferred Stock,
(ii) exercise of employee and director stock options and outstanding warrants,
and (iii) future financings and such other corporate purposes as may be
determined by the Board of Directors. 10,973,097 votes were cast for such
proposal, 440,000 votes were cast against or withheld, with 13,693 votes
abstaining and no broker non-votes.
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<PAGE> 17
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Common Stock of the Company is traded in the over-the-counter
market and is quoted on the Electronic Bulletin Board under the symbol "STSI."
Set forth below are the high and low bid prices (which reflect prices between
dealers and do not include retail markup, markdown or commission and may not
represent actual transactions) for each full quarterly period during 1997 and
1998, as reported by the National Quotation Bureau. From time to time, during
the periods indicated, trading activity in the Company's stock was infrequent.
No dividends have ever been declared by the Company. As of March 31, 1999, there
were approximately 575 record holders of the Company's Common Stock.
<TABLE>
<CAPTION>
QUARTER ENDED HIGH BID LOW BID
------------- -------- -------
<S> <C> <C>
03-31-97 $ 0.21875 $ 0.09375
06-30-97 $ 0.21875 $ 0.01563
09-30-97 $ 0.035 $ 0.01
12-31-97 $ 0.01 $ 0.01
03-31-98 $ 5.9375 $ 0.01
06-30-98 $ 5.625 $ 3.00
09-30-98 $ 3.50 $ 1.4375
12-31-98 $ 3.50 $ 1.375
03-31-99 $ 2.375 $ 1.625
</TABLE>
The closing bid and asked prices on April 16, 1999, were $1.8125 and
$1.9375, respectively.
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<PAGE> 18
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
The following discussion and analysis of operating results of the
Company and of the liquidity and capital resources of the Company at December
31, 1998 should be read in conjunction with the consolidated financial
statements of the Company and the notes thereto.
RESULTS OF OPERATIONS - FISCAL 1998 COMPARED TO FISCAL 1997
Net sales for 1998 of $19,445,000, consisting almost entirely of the
sale of Star-brand cigarettes (GUMSMOKE(R), VEGAS(R), MAIN STREET(R) and
SPORT(R)) were approximately equal to 1997 sales of $20,763,000. Sales in 1997
included sales to Swisher (a long-time private brand customer) of $3,872,000.
There were no sales to Swisher in 1998. However, fourth quarter 1998 sales of
$8,666,000 compared favorably with the prior year's fourth quarter sales of
$3,613,553, and was a result of the Company's efforts in expanding the base of
distributors in order to take advantage of the anticipated roll-out in 1999 of
the Company's products to include a phase-in of the TSNA-free tobacco. The
Company received its patent in September 1998, after which the sales force
accelerated its plan to increase its distribution channel. In 1998, sales from
contract manufacturing, i.e. the manufacturing of products under brand names
owned and marketed by others, was $1,251,000, compared to $3,872,000 in 1997.
Export sales in 1997 and 1998 were not material.
Cost of goods sold, as a percentage of net sales volume, was 39% in
1998 versus 48% in 1997. Profit margins on contract manufacturing are slightly
higher than the margins on Star-brand cigarettes. In 1998, profit margins
increased because of December 1998 price increases on Star-brand cigarettes, a
factor that affected positively the sales of the entire cigarette manufacturing
industry.
Marketing and distribution expenses increased slightly from $1,111,000
in 1997 to $1,199,000 in 1998. Star does not incur any significant expense in
this category with respect to contract manufacturing customers; almost all of
such expense is incurred with respect to Star-brand cigarettes.
In 1996, the Company spent approximately $2 million in marketing and
distribution expenses, or 5.8% of sales; in 1997, this line item decreased to
$1,111,000, and was 5.4% of sales. In 1998, the marketing and distribution
expenses were $1,199,000, reflecting 6.2% of sales.
General and administrative expenses increased from $1,425,000 in 1997
to $3,174,000 in 1998, primarily as a result of the legal and accounting costs
associated with the public company issues, including the hiring of additional
personnel.
Research and development expense represents primarily expenditures
related to the development of Star's proprietary technology for the processing
of tobacco so as to prevent the formation of tobacco- specific nitrosamines, but
also expenses for the development of a tobacco-flavored, non-nicotine chewing
gum which Star is no longer developing. Star does not maintain its own research
laboratories or other physical assets for research and development; it is
dependent upon the services of third parties for these services. Similarly, it
does not employ a scientific staff and instead relies upon scientific and
medical consultants and third-party service providers. Expenditures in this
category include payments for such consultants, contract research organizations,
laboratory testing, research grants, raw materials, equipment, legal and
regulatory fees, including expenses for the filing and prosecution of patents,
and allocations of management personnel and general and administrative expenses.
This category includes payments of
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<PAGE> 19
$400,000 in 1998 and $565,000 in 1997, respectively, to Jonnie R. Williams, the
inventor of Star's proprietary technology for the processing of tobacco.
Net interest expense was $238,000 in 1998 and $235,000 in 1997,
consisting primarily of interest incurred in connection with a bank revolving
line of credit, the borrowing levels of which were determined by levels of
accounts receivable and inventory. The Company had several injections of capital
during 1998, thereby reducing costs associated with borrowing.
The increased loss in 1998 can be attributed to several factors,
including the expenses associated with the public Company, and research and
development costs incurred. The Company has emphasized throughout the last
several years its commitment to develop safer tobacco products, and the
resources needed to continue that effort, while lower in 1998 than 1997,
resulted in the issuance of the first patent ever for the production of
nitrosamine-free tobacco. In addition, the sale of the ophthalmic business in
December 1998 resulted in a charge to earnings for the discontinued operations
of $751,000. This was in addition to a loss on the disposal (sale) of the
ophthalmic business of $221,000. The Company also either wrote off or disposed
of various pieces of equipment no longer used in the tobacco business, resulting
in a charge to earnings of $425,316. The extraordinary gain of $252,000 is a
result of various settlements with the Company's creditors, reached prior to the
reverse acquisition in February 1998.
LIQUIDITY AND CAPITAL RESOURCES
The Company improved its balance sheet during 1998 through various
means. While the last quarter of 1998 generated 45% of the year's sales, it also
enabled the Company to establish a line of credit under customary industry
terms, and allowed the Company to bring virtually all of its vendors current by
year's end. The balance sheet also reflects only the assets and liabilities of
the tobacco business, since the sale of the ophthalmic business was effected as
of December 30, 1998.
In addition, one of the Company's principal shareholders periodically
loaned funds to the Company during 1998, with no interest, totaling $715,000,
all of which was repaid by December 31, 1998.
Throughout 1997, Star maintained, and was dependent upon, a bank
revolving line of credit with the level of borrowings being determined by levels
of accounts receivable and inventory, with a limit of 1.5 million dollars. The
loan was secured by a first security interest on accounts receivable and
inventory. Star was in default of certain financial and other covenants under
its loan agreement, but not in payments. In early July 1998, the loan and
security position were assigned to another bank, the term was extended to
January 1, 1999, and the existing defaults were waived. The bank loan is
guaranteed by certain major stockholders. The balance of this loan at December
31, 1998 was zero.
The Company established a line of credit with a bank in December 1998
in the amount of $1 million, secured by accounts receivable, as well as the
personal guaranty of two of the Company's major shareholders. As of December 31,
1998, there was no outstanding balance on the newly established line.
In February and March, 1998, Star sold in a private placement 2.9
million shares of common stock for 1.45 million dollars, most of which was
contributed to the capital of Star. In July 1998, Star sold in a private
placement the equivalent of five million shares of common stock for 2.5 million
dollars, most of which was contributed to the capital of Star. To partially
offset the dilutive effect of this latter sale of stock, certain controlling
stockholders of Star contributed to Star the equivalent of 3.75 million shares
of Star's Common Stock.
18
<PAGE> 20
In September 1998, the Company sold the equivalent of one million
shares in a private placement at $1.00 per share.
Star may require additional capital financing in order to continue its
activities beyond 1998 with respect to the research, development and
commercialization of its proprietary methods to prevent the formation of
tobacco-specific nitrosamines in tobacco and Star's products which utilize
tobacco which has been processed with such methods. Star will seek additional
equity funds for these purposes.
There can be no assurances that Star will be successful in obtaining
additional capital financing, as described above.
YEAR 2000 ISSUES
The Company has made an assessment of its information technology
systems relating to year 2000 issues at Star's Virginia facilities. The
assessment resulted in the development of a preliminary plan to prepare Star for
year 2000 readiness. The plan includes replacement of certain hardware systems
and the upgrading or replacement of software applications. The costs for
implementation of Star's plan is in the $50,000-$60,000 range; all such costs
have been expensed as incurred. Implementation has been substantially completed
and the domestic operations of Star have not been materially disrupted by the
implementation process.
Star has contacted key vendors to obtain assurances that the operations
of a key vendor, as they affect Star, will not be interrupted because of year
2000 issues. Star has received assurances from some but not all of the vendors
and therefore has not completed this process. Star does not rely upon vendors
for products or services that are data-dependent and believes that its customers
are not data-dependent with respect to the purchasing and reselling of products
such as those sold by Star. Therefore, Star believes that the failure of its
vendors to be compliant with Year 2000 issues will not cause a material
interruption in Star's business operations. Any such interruption, however,
would likely have a material adverse effect upon the operations of Star.
ITEM 7. FINANCIAL STATEMENTS.
This information is contained on Pages F-1 through F-18 hereof and is
incorporated into Part I of this report by reference.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS AND FINANCIAL DISCLOSURE.
The information required by this item with respect to the change in the
Company's principal independent accountants (1) from Price Waterhouse LLP to
Olsen, Thielen & Co., Ltd., effective March 5, 1998, has been previously
reported in the Company's Current Report on Form 8-K dated March 30, 1998, (2)
from Olsen, Thielen & Co., Ltd. to Keiter, Stephens, Hurst, Gary & Shreaves,
P.C., effective September 4, 1998, has been previously reported in the Company's
Current Report on Form 8-K/A dated September 16, 1998, and (3) from Keiter,
Stephens, Hurst, Gary & Shreaves, P.C. to Aidman, Piser & Company, effective
January 15, 1999, has been previously reported in the Company's Current Report
on Form 8-K dated January 15, 1999.
19
<PAGE> 21
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT
DIRECTORS AND EXECUTIVE OFFICERS
Set forth below are the names, ages and positions of the Board of
Directors and Executive Officers, as well as certain information furnished by
them as to their business experience for the last five years. All of the
incumbent Directors were elected in December of 1998 to their respective
classes.
<TABLE>
<CAPTION>
Director Term as
Name Age Since Director Expires Position
---- --- ----- ---------------- --------
<S> <C> <C> <C> <C>
Robert J. DeLorenzo, M.D., Ph.D. 50 February 1998 2001 Chairman of the Board and Chief
(Class Three) Executive Officer
Malcolm L. "Mac" Bailey 55 May 1998 1999 President and Director
(Class One)
Jonnie R. Williams 43 September 1998 2000 Chief Operating Officer,
(Class Two) Executive Vice President and
Director
James A. McNulty 48 December 1998 1999 Chief Financial Officer
(Class One) and Director
Leo S. Tonkin 62 October 1998 2001 Director
(Class Three)
Paul H. Lamb 66 - - President, Star Tobacco and
Pharmaceutical, Inc.
(subsidiary)
</TABLE>
20
<PAGE> 22
Robert J. DeLorenzo, M.D., Ph.D. has served as Chief Executive Officer
of the Company since October 1998 and as a director since February 1998. Since
1985, he has served as the Neurologist-in-Chief and Professor of Pharmacology
and Toxicology at the Medical College of Virginia Hospitals, Professor and
Chairman, Neurology at the Medical College of Virginia ("MCV"), and Director,
Molecular Neurobiology Laboratories at MCV. Since 1992, Dr. DeLorenzo has also
served as Professor, Biochemistry and Molecular Biophysics at MCV. Dr. DeLorenzo
received a Ph.D. in neuropharmacology from Yale University Graduate School, an
M.D. from Yale University School of Medicine and an M.P.H. from the Yale School
of Epidemiology and Public Health.
Malcolm L. "Mac" Bailey has served as the President of the Company
since October 1998 and as a director since May 1998. Mr. Bailey is the owner of
the second-largest tobacco growing operation in the Commonwealth of Virginia and
has been the owner and President of Golden Leaf Tobacco Company, a tobacco leaf
dealer, for over 20 years. Since 1994, Mr. Bailey has also been owner and
President of S&M Brands, Incorporated, a manufacturer of cigarettes. Mr. Bailey
is also President of the Virginia Agricultural Growers Association, a trade
association which includes approximately 85% of the flue-cured tobacco farms in
Virginia.
Jonnie R. Williams has served as the Company's Chief Operating Officer
and Executive Vice President since October 1998 and as a Director since
September 1998. He has been Director of Product Development and Director of
Marketing of Star Tobacco and Pharmaceuticals, Inc. ("Star") since 1994. Mr.
Williams is a principal stockholder of the Company and, until February 6, 1998,
when the Company acquired all of the capital stock of Star, was a principal
stockholder of Star. Mr. Williams, a co-founder of Star, is also the co-inventor
of the proprietary tobacco-curing process for the removal or virtual elimination
of tobacco-specific nitrosamines ("TSNAs") which has been exclusively licensed
to the Company. Since the late 1980's, Mr. Williams has been owner and President
of Jonnie R. Williams Venture Capital Company, an entity engaged in providing
venture capital financing to start-up businesses.
James A. McNulty, has been Chief Financial Officer of the Company since
October 1998. He is a certified public accountant with over 25 years of
experience in accounting, auditing, tax planning, management consulting and
litigation support. From 1989 to 1997, Mr. McNulty was a principal of McNulty &
Company, a certified public accounting firm in Tampa, Florida. In 1997, Mr.
McNulty co-founded and is the Chairman of the Board of BusinessLinks
International, Inc., a company specializing in interactive sales training. In
addition, Mr. McNulty is a Director of Pinnacle Group Holdings, Inc. (Real
Estate and Entertainment venue).
Leo S. Tonkin is a director of the Washington Workshops Foundation
which he founded in 1967. The Foundation is a non-profit educational institution
for high school and junior high students focusing on the federal government and
congress. Mr. Tonkin has served in a variety of capacities addressing
educational concerns, including serving as a member of the White House
Conference on Youth in 1971, and as Special Assistant to the Chairman of the
United States House of Representatives Select Committee on Crime in 1972. Mr.
Tonkin has served as the chairman of the board of trustee of St. Thomas Aquinas
College, New York and as trustee of Immaculata College, Washington, D.C. Mr.
Tonkin received a J.D. from Harvard Law School and an A.B. from Johns Hopkins
University.
Paul H. Lamb has been President of Star Tobacco and Pharmaceuticals,
Inc. ("Star Tobacco") since December 1998. He was previously a consultant or
employee of Star Tobacco for more than five years.
21
<PAGE> 23
From 1958 to 1986, Mr. Lamb was employed by Brown and Williamson Tobacco
Corporation and was responsible for engineering and maintenance of the
Petersburg facility now owned by Star Tobacco. He received a B.S. in Civil
Engineering from the Virginia Military Institute.
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
Section 16(a) of the Securities Exchange Act of 1934, as amended,
requires the Company's officers and directors and persons who own more than 10%
of a registered class of the Company's equity securities to file reports of
ownership and changes in ownership with the Securities and Exchange Commission
(the "SEC"). Officers, directors and greater than 10% beneficial owners are
required by SEC regulations to furnish the Company with copies of all Section
16(a) forms they file. Based solely on a review of the copies of the forms
furnished to the Company, or written representations that no Forms 5 were
required, the Company believes that during the fiscal year ended December 31,
1998 all Section 16(a) filing requirements applicable to its officers, directors
and greater than 10% beneficial owners were complied with, except that Mr.
Bailey, who became a Director of the Company on May 19, 1998 and the President
of the Company on October 16, 1998, filed a Form 3 on November 12, 1998.
ITEM 10. EXECUTIVE COMPENSATION
EXECUTIVE COMPENSATION
The following table sets forth, for the fiscal years ended December 31,
1996, 1997 and 1998, the compensation paid to the Company's Chief Executive
Officer and to the Company's other four most highly compensated executive
officers whose salary and bonus exceeded $100,000 in 1998 (the "Named Executive
Officers"):
22
<PAGE> 24
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
ANNUAL COMPENSATION COMPENSATION AWARDS
-------------------------- ------------------------
RESTRICTED SECURITIES
OTHER ANNUAL STOCK UNDERLYING ALL OTHER
SALARY BONUS COMPENSATION AWARD OPTIONS COMPENSATION
NAME AND PRINCIPAL POSITION YEAR ($) ($) ($) ($) (#) ($)
--------------------------- ---- -------- ------- ------------- ---------- ---------- ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Robert J. DeLorenzo.............. 1998 -- -- -- -- -- --
Chief Executive Officer (1)......
Malcolm L. Bailey................ 1998 $ 60,000 -- -- -- -- --
President (2)
Jonnie R. Williams............... 1998 $400,000 -- -- -- -- --
Chief Operating Officer and 1997 -- -- $565,000(4) -- -- --
Executive Vice President; 1996 -- -- $387,500(4) -- -- --
Director of Product Development
and Marketing of Star Tobacco
and Pharmaceuticals, Inc. (3)
James A. McNulty................. 1998 $29,423 $80,000 -- $20,833 -- $15,000(6)
Chief Financial Officer (5)
Paul H. Lamb..................... 1998 $67,000 -- -- -- --
President of Star Tobacco and 1997 $64,500 -- -- -- --
Pharmaceuticals, Inc. 1996 $64,500 -- -- -- --
(subsidiary)(7)
</TABLE>
- - ---------------------
(1) Dr. DeLorenzo became Chief Executive Officer in October 1998. The
Company did not provide during 1998 for the payment of any compensation
to Dr. DeLorenzo (other than reimbursement of out-of-pocket expenses)
for the performance of his duties as Chief Executive Officer of the
Company
(2) Mr. Bailey became President in October 1998.
(3) Mr. Williams became Chief Operating Officer and Executive Vice
President in October 1998.
(4) Prior to its acquisition of the Company in February 1998, Star Tobacco
and Pharmaceuticals, Inc. was a Subchapter S corporation and paid
management fees to Mr. Williams in 1997 and 1996.
(5) Mr. McNulty became Chief Financial Officer in October 1998.
(6) Represents reimbursement for temporary housing in Petersburg, Virginia.
(7) Mr. Lamb became President of Star Tobacco and Pharmaceuticals, Inc. in
December 1998.
OPTION GRANTS IN LAST FISCAL YEAR
There were no options granted in the 1998 fiscal year to the Company's
executive officers.
EXERCISE OF OPTION AND YEAR-END VALUES
None of the Named Executive Officers held any options as of December
31, 1998.
23
<PAGE> 25
EMPLOYMENT AGREEMENTS
Pursuant to an executive employment agreement entered into on April 12,
1999 between the Company and Mr. McNulty, Mr. McNulty serves as the Company's
Chief Financial Officer for a term that is deemed to have begun on October 15,
1998 and which expires on October 15, 1999, subject to renewal for successive
one year terms at the option of the Company. Under the terms of his employment
agreement, Mr. McNulty is entitled to an annual base salary of $200,000, subject
to increases at the discretion of the Board of Directors, and reimbursement of
his expenses for temporary housing in Petersburg, Virginia, not to exceed
$20,000. Mr. McNulty's employment agreement also provides that in the event that
Mr. McNulty is terminated by the Company without cause (as defined in his
employment agreement) or Mr. McNulty terminates his employment with the Company
for good reason (as defined in his employment agreement), Mr. McNulty will
receive a severance payment equal to 12 months of Mr. McNulty's then current
base salary. Mr. McNulty's employment agreement is terminable by either the
Company or Mr. McNulty upon 30 days' notice.
Effective October 15, 1998, Mr. McNulty was awarded 100,000 shares of
restricted Common Stock that vest on January 31, 2000 so long as he is still
employed by the Company. In addition, Mr. McNulty was granted an option to
purchase 200,000 shares of Common Stock at an exercise price of $2.00 per share
under the Company's 1998 Stock Option Plan, as amended. The option will be fully
vested on January 31, 2000, subject to acceleration or termination and the
Company's repurchase rights under certain circumstances in connection with the
termination of Mr. McNulty's employment.
DIRECTOR COMPENSATION
During 1998 the Directors received no compensation for their services
on the Board of Directors or any committee of the Board of Directors. Directors
are reimbursed for their reasonable out-of-pocket expenses associated with
attending Board of Directors and committee meetings.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The table below sets forth as of April 16, 1999 certain information
with respect to the beneficial ownership of the Company's Common Stock, Class A
Preferred Stock and Series B Preferred Stock by each beneficial owner of more
than 5% of each class of the Company's voting securities, each Director and the
Named Executive Officer and all Directors and Officers and significant personnel
of the Company as a group. Shares of Class A Preferred Stock are convertible
into shares of Common Stock at a rate of 80 shares of Common Stock for each
share of Class A Preferred Stock. Shares of Series B Preferred Stock are
convertible into shares of Common Stock at a rate of 3,280 shares of Common
Stock for each share of Series B Preferred Stock. Consequently, shares of Common
Stock shown in the table include shares of Common Stock into which the shares of
Class A Preferred Stock and Series B Preferred Stock are convertible. Shares of
Common Stock, Class A Preferred Stock and Series B Preferred Stock all vote as
one class, except as otherwise provided by applicable law. Holders of Common
Stock are entitled to one vote for each share held, holders of Class A Preferred
Stock are entitled to 80 votes for each share held, and holders of Series B
Preferred Stock are entitled to 500 votes for each share held.
24
<PAGE> 26
<TABLE>
<CAPTION>
PERCENTAGE OF VOTING
NAME AND ADDRESS OF INDIVIDUAL OR POWER OF COMMON AMOUNT AND AMOUNT AND
IDENTIFY AMOUNT OF COMMON STOCK VOTING AS A PERCENTAGE OF CLASS A PERCENTAGE OF SERIES B
OF GROUP STOCK SEPARATE CLASS PREFERRED STOCK PREFERRED STOCK
-------- ----- -------------- --------------- ---------------
<S> <C> <C> <C> <C>
GREATER THAN 5% STOCKHOLDERS
Regent Court Technologies, LLC(1) 34,012,064 65.31% 0 0
709 The Hamptons Lane 0% 0%
Chesterfield, MO 63017
Prometheus Pacific Growth Fund, LDC 5,502,640 10.56% 0 0
(3) 0% 0%
P.O. Box 1062
George Town, Grand Cayman, B.W.I.
Edward Tucker (4) 20,000 * 250 0
55 Union Avenue 100% 0%
Sudbury, MA 01776
MFC Merchant Bank SA (5) 200,080 * 0 61
6, Cours de Rive 0% 100%
P. O. Box 3540
1211 Geneva 3
DIRECTORS AND EXECUTIVE OFFICERS
Jonnie R. Williams (2) 32,632,805 62.66% 0 0
16 S. Market Street 0% 0%
Petersburg, VA 23803
Robert J. DeLorenzo (6) 499,999 * 0 0
M.D., Ph.D., M.P.H. 0% 0%
Medical College of Virginia
MCV Box 980599
Richmond, VA 23298
Malcolm L. Bailey (7) 282,000 * 0 0
16 S. Market Street 0% 0%
Petersburg, VA 23803
James A. McNulty (8) 0 0 0 0
16 S. Market Street 0% 0%
Petersburg, VA 23803
Leo S. Tonkin (9) 50,000 * 0 0
c/o Washington Workshops 0% 0%
Foundation
3222 N St. N.W., Suite 340
Washington, D.C. 20007
All Directors and Executive Officers 33,464,804 64.26% 0 0
(5 Persons) 0% 0%
</TABLE>
- - -----------------------------------
* Represents beneficial ownership of less than one percent.
(1) Includes 34,012,064 shares of Common Stock issued upon conversion of 10,369
shares of Series B Preferred Stock.
(2) Includes 2,268,362 shares of Common Stock issued upon a conversion of
691.5740 shares of Series B Preferred Stock owned by a trust for the
benefit of the children of Jonnie R. Williams. All shares are beneficially
owned indirectly through Regent Court Technologies, LLC.
(3) Includes 3,000,000 shares of Common Stock and 2,502,640 shares of Common
Stock issued upon conversion of 763 shares of Series B Preferred Stock.
(4) Assuming all 250 shares of Class A Preferred Stock were converted into
Common Stock, Mr. Tucker would hold 20,000 shares of Common Stock,
representing less than one percent of the voting power of the Common Stock.
(5) Assuming all 61 shares of Series B Preferred Stock were converted into
Common Stock, MFC Merchant Bank SA would hold 200,080 shares of Common
Stock, representing less than one percent of the voting power of the Common
Stock.
(6) Includes 200,000 shares of Common Stock and 199,999 shares of Common Stock
issued upon conversion of 60.9756 shares of Series B Preferred Stock.
Excludes 1,000,000 shares of Common Stock which are subject to options that
are not vested or exercisable within 60 days of April 16, 1999.
(7) Includes 82,000 shares of Common Stock issued upon conversion of 25 shares
of Series B Preferred Stock. Also includes 200,000 shares of Common Stock
which are subject to an option that is fully vested.
(8) Excludes (a) 100,000 shares of restricted Common Stock that vest on October
15, 1999, and (b) 200,000 shares of Common Stock which are subject to an
option that is not vested or exercisable within 60 days of April 16, 1999.
(9) Includes 50,000 shares of Common Stock which are subject to an option that
is fully vested.
25
<PAGE> 27
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The Company paid to Golden Leaf Tobacco Company, a company owned by Mr.
Bailey, approximately $158,000 in 1998 for the purchase of tobacco leaf and for
services related to the Company's pilot project for its processed tobacco and
$32,000 in 1997 for the purchase of tobacco leaf.
During 1998 and 1997, Mr. Williams made loans to the Company on a
short-term basis at the minimum level of interest provided for by the Internal
Revenue Service. These loans amounted to $710,000 in 1998 and $265,000 in 1997.
All of such loans were repaid in full during the year in which they were made.
The Company acquired its Petersburg facility in June 1995 from a
partnership comprised of Francis E. O'Donnell, Jr., M.D., Jonnie R. Williams and
Paul Lamb, for a note in the principal amount of $300,000, which was
subsequently reissued as three notes of $100,000 each payable to Dr. O'Donnell,
a trust, for the benefit of Mr. Williams' children and Mr. Lamb. The notes to
Dr. O'Donnell and Williams' Children trust were paid in February 1998. Principal
payments of $15,000 have been made on the note to Mr. Lamb, including a $10,000
principal payment in December 1998. As of December 31, 1998, the principal
balance of the note to Mr. Lamb was $85,000.
Mr. Williams and Dr. O'Donnell have a jointly owned airplane. The
Company has utilized the airplane for business travel throughout the United
States and to Mexico to client locations that are not near airports with
regularly scheduled or frequent commercial airline services. Payments made by
the Company with respect to aircraft expenses were $185,000 in 1998 and $238,750
in 1997, and are billed at cost.
The Board of Directors has adopted a policy that any future
transactions with affiliates of the Company will be on terms no less favorable
to the Company than are reasonably available from unrelated third parties and
shall have been approved by a majority of the Company's directors who do not
have a material interest in the transaction.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
NUMBER DESCRIPTION
- - ------ -----------
2.01 Asset Purchase Agreement between Star Scientific, Inc., a Delaware
Corporation and Eyetech, LLC, a Minnesota Limited Liability Company, by
Robert J. Fitzsimmons, an individual residing in St. Paul, Minnesota,
dated December 30, 1998(1)
2.02 Escrow Agreement between Star Scientific, Inc., a Delaware Corporation,
Eyetech, LLC, a Minnesota Limited Liability Company and Robert J.
Fitzsimmons, an individual residing in St. Paul, Minnesota, and Jonnie
R. Williams and Vincent Ellis as Escrow Agents, dated February 16,
1999, and effective December 30, 1998(1)
3.01 Restated Certificate of Incorporation(2)
3.02 Certificate of Amendment of Restated Certificate of Incorporation,
dated March 25, 1993, and effective April 2, 1993(3)
3.03 Certificate of Amendment of Restated Certificate of Incorporation,
dated March 25, 1993, and effective April 2, 1993(3)
26
<PAGE> 28
3.04 Certificate of Amendment of Certificate of Incorporation, dated
December 15, 1998(4)
3.05 Bylaws of the Company as Amended to Date(2)
4.01 Option to Purchase Shares of Common Stock to Samuel P. Sears, Jr.,
dated December 1, 1993(5)
4.02 Certificate of Designations, Preferences and Rights of Class A
Convertible Preferred Stock(6)
4.03 Certificate of Designation of Series B Convertible Preferred Stock(3)
4.04 Option to Purchase Shares of Common Stock to Robert J. Fitzsimmons,
dated February 28, 1994(5)
10.01 Employment Agreement between Robert J. Fitzsimmons and Eye Technology,
Inc., dated November 1, 1989(7)
10.02 Lease Agreement for lease of offices and manufacturing space in St.
Paul, Minnesota, dated August 1990(8)
10.03 First Amendment to Lease Agreement for lease of offices and
manufacturing space in St. Paul, Minnesota(2)
10.04 License Agreement between Eye Technology, Inc. and Ioptex Research,
Inc., dated September 28, 1990(8)
10.05 Addendum to License Agreement between Eye Technology, Inc. and Ioptex
Research, Inc., dated January 13, 1994(9)
10.06 License Agreement between Eye Technology, Inc. and OII International,
Inc., dated January 31, 1997(10)
10.07 Equipment Lease Agreement between Eye Technology, Inc. and Noel G.
Bissonette, dated August 31, 1990(8)
10.08 Joint Venture Agreement between Eye Technology, Inc., Kera-Metrics,
Inc., and the Stockholders of Kera-Metrics, Inc., dated November 27,
1992(2)
10.09 Distribution Agreement between Kera-Metrics Corporation and Eye
Technology, Inc., dated November 27, 1992(2)
10.10 Promissory Note from Eye Technology, Inc. to Burns & Levinson, dated
June 4, 1993(9)
10.11 Consulting and License Agreement between Eye Technology, Inc. and Paul
Fyfe, dated October 29, 1993(9)
10.12 Accounts Receivable Financing Agreement between the Company and
Republic Acceptance Corporation, dated June 2, 1994(5)
27
<PAGE> 29
10.13 Security Agreement between the Company and Republic Acceptance
Corporation, dated June 2, 1994(5)
10.14 Security Agreement between Eye Technology International, Inc. and
Republic Acceptance Corporation, dated June 2, 1994(5)
10.15 Guaranty of Payment for Existing and/or Future Indebtedness between Eye
Technology International, Inc. and Republic Acceptance Corporation,
dated June 2, 1994(5)
10.16 Amendment to Agreement between the Company and Microprecision
Instrument Company, Inc., dated December 31, 1994(5)
10.17 Amendment to Agreement between the Company and Microprecision
Instrument Company, Inc., dated March 28, 1995(5)
10.18 Stock Exchange Agreement between the Company and the stockholders of
Star Tobacco and Pharmaceuticals, Inc., dated February 6, 1998(11)
10.19 License Agreement between Star Tobacco and Pharmaceuticals, Inc., as
Licensee and Regent Technologies, Jonnie R. Williams, and Francis E.
O'Donnell, J.R. , M.D., as Licensor, dated January 5, 1998(12)
10.20 Letter Agreement between the Company and MFC Merchant Bank S.A., dated
July 6, 1998(13)
10.21 Exclusive Supply Agreement between Star Tobacco and Pharmaceutical,
Inc. and Amana Company, L.P., dated August 18, 1998(13)
10.22 Purchase and Sale Agreement between Prometheus Pacific Growth Fund LDC,
a Cayman Island Limited Duration Company, and Eye Technology, Inc., a
Delaware Corporation, dated July 10, 1998(14)
10.23 Amendment No. 1 to License Agreement between Regent Court Technologies,
Jonnie R. Williams, Francis E. O'Donnell, J.R., M.D. and Star Tobacco
and Pharmaceuticals, Inc., dated August 3, 1998(15)
10.24 1998 Stock Option Plan(16)
10.25 Executive Employment Agreement between the Company and James A.
McNulty, dated April 12, 1999, and effective October 15, 1998
16.01 Response Letter from Price Waterhouse LLP, dated April 10, 1998(17)
16.02 Response Letter from Olsen, Thielen & Co., Ltd, dated September 15,
1998(18)
16.03 Response Letter from Keiter, Stephens, Hurst, Gary & Shreaves, dated
January 20, 1999(19)
21 Subsidiaries of the Company(16)
23 Consent of Independent Public Accountants
28
<PAGE> 30
27 Financial Data Schedule
(b) REPORTS ON FORM 8-K
None
- - -----------------------
(1) Filed as Exhibit to the Company's Current Report on Form 8-K dated
March 2, 1999
(2) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1992
(3) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1996
(4) Filed as Exhibit to the Company's Current Report on Form 8-K dated
January 15, 1999
(5) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1994
(6) Filed as Exhibit to the Company's Current Report on Form 8-K dated June
7, 1993
(7) Filed as Exhibit to the Company's Annual Report on Form 10-K for fiscal
year ended December 31, 1989
(8) Filed as Exhibit to the Company's Annual Report on Form 10-K for fiscal
year ended December 31, 1990
(9) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1993
(10) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1997
(11) Filed as Exhibit to the Company's Current Report on Form 8-K dated
February 19, 1998
(12) Filed as Exhibit to the Company's Quarterly Report on Form 10-QSB for
quarterly period ended March 31, 1998
(13) Filed as Exhibit to the Company's Quarterly Report on Form 10-QSB for
quarterly period ended September 30, 1998
(14) Filed as Exhibit to the Company's Current Report on Form 8-K dated July
15, 1998
(15) Filed as Exhibit to the Company's Current Report on Form 8-K dated
September 11, 1998
(16) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for the
fiscal year ended December 31, 1998
(17) Filed as Exhibit to the Company's Current Report on Form 8-K/A dated
April 10, 1998
(18) Filed as Exhibit to the Company's Current Report on Form 8-K/A dated
September 16, 1998
(19) Filed as Exhibit to the Company's Current Report on Form 8-K dated
January 15, 1999
29
<PAGE> 31
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant
caused this Report to be signed on its behalf by the undersigned, thereunto duly
authorized.
STAR SCIENTIFIC, INC.
(Registrant)
By: /s/ Robert J. DeLorenzo
-----------------------------------------------------
Robert J. DeLorenzo, Chairman of the Board and
Chief Executive Officer (Principal Executive Officer)
Date: April 30, 1999
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
By: /s/ Robert J. DeLorenzo
-----------------------------------------------------
Robert J. DeLorenzo, Chairman of the Board and
Chief Executive Officer (Principal Executive Officer)
Date: April 30, 1999
By: /s/ James A. McNulty
-----------------------------------------------------
James A. McNulty, Chief Financial Officer and
Director (Principal Financial and Accounting Officer)
Date: April 30, 1999
By: /s/ Malcolm L. Bailey
-----------------------------------------------------
Malcolm L. Bailey, President and Director
Date: April 30, 1999
By: /s/ Jonnie R. Williams
-----------------------------------------------------
Jonnie R. Williams, Chief Operating Officer, Executive
Vice President and Director
Date: April 30, 1999
By: /s/ Leo S. Tonkin
-----------------------------------------------------
Leo S. Tonkin, Director
Date: April 30, 1999
<PAGE> 32
STAR SCIENTIFIC, INC.
Index to Consolidated Financial Statements
<TABLE>
<CAPTION>
Description Page(s)
----------- -------
<S> <C>
Independent Auditors' Report F-2
Balance Sheet as of December 31, 1998 F-3
Statements of Operations
for the Years Ended December 31, 1998 and 1997 F-4
Statements of Stockholders' Deficit
for the Years Ended December 31, 1998 and 1997 F-5
Statements of Cash Flows
for the Years Ended December 31, 1998 and 1997 F-6
Notes to Financial Statements F-8 - F-20
</TABLE>
F-1
<PAGE> 33
Independent Auditors' Report
To the Board of Directors and Stockholders of
Star Scientific, Inc. and Subsidiaries
Petersburg, Virginia
We have audited the accompanying consolidated balance sheet of Star Scientific,
Inc. and Subsidiaries (formerly known as Eye Technology, Inc. and Subsidiaries)
as of December 31, 1998 and the related consolidated statements of operations,
stockholders' deficit, and cash flows for the year then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit. The financial statements of Star Scientific, Inc. and Subsidiaries
for the year ended December 31, 1997 were audited by other auditors whose report
dated March 24, 1998, expressed an unqualified opinion on those statements.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
As discussed in Note 13, the Company elected not to join in the Master
Settlement Agreement ("MSA") among forty-six states, several U.S. territories
and a number of tobacco manufacturers, as a Subsequent Participating
Manufacturer. The ultimate impact of opting out of the "MSA" on the Company's
future operations is not presently determinable.
In our opinion, the consolidated 1998 financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
Star Scientific, Inc. and Subsidiaries as of December 31, 1998 and the
consolidated results of their operations and their cash flows for the year then
ended in conformity with generally accepted accounting principles.
/s/ Aidman, Piser & Company, P.A.
March 26, 1999
(except for Note 8 for which the date is April 12, 1999)
Tampa, Florida
F2
<PAGE> 34
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
DECEMBER 31, 1998
<TABLE>
<S> <C>
ASSETS
Current assets:
Cash $ 102,695
Accounts receivable:
Trade, net of $95,636 allowance for
doubtful accounts 1,497,457
Other 68,271
Inventories 636,456
Prepaid expenses and other current
assets 197,401
-----------
Total current assets 2,502,280
Property, plant and equipment, net 1,704,569
Intangibles, net of $162,045 accumulated
amortization 135,928
Notes receivable, net of $27,400
allowance for uncollectible accounts 92,379
-----------
$ 4,435,156
===========
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Current maturities of notes payable $ 379,082
Accounts payable, trade 2,516,658
Federal excise taxes payable 876,875
Accrued expenses 646,115
-----------
Total current liabilities 4,418,730
Notes payable, less current maturities 611,584
-----------
Total liabilities 5,030,314
Commitments and contingencies
Redeemable preferred stock (Series A,
convertible, 250 shares issued and
outstanding, at liquidation value) 44,000
-----------
Stockholders' deficit:
Common stock(A) 98,198
Preferred stock(B) 143
Additional paid-in capital 6,668,392
Accumulated deficit (7,326,724)
Unearned compensation (79,167)
-----------
Total stockholders' deficit (639,158)
-----------
$ 4,435,156
===========
</TABLE>
(A) ($.01 par value, 100,000,000 shares authorized, 9,819,740 shares issued and
outstanding)
(B) (Series B, convertible; 15,000 shares authorized, 14,086 shares issued and
outstanding)
See notes to consolidated financial statements.
F3
<PAGE> 35
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
Net sales $ 19,445,491 $ 20,763,856
Less:
Cost of goods sold 7,669,428 10,033,330
Excise taxes on products 8,837,868 7,810,720
------------ ------------
Gross profit 2,938,195 2,919,806
------------ ------------
Operating expenses:
Marketing and distribution expenses 1,198,757 1,111,420
General and administrative expenses 3,173,991 1,425,299
Research and development 1,377,657 2,134,656
------------ ------------
Total operating expenses 5,750,405 4,671,375
------------ ------------
Operating loss (2,812,210) (1,751,569)
------------ ------------
Other expenses:
Interest expense (net of interest income;
1998, $17,167; 1997, $21,073) (237,946) (234,928)
Loss on disposal of assets (425,316) --
------------ ------------
(663,262) (234,928)
------------ ------------
Loss from continuing operations (3,475,472) (1,986,497)
Discontinued operations:
Loss from discontinued operations (no applicable
income taxes) (751,080) --
Loss on disposal of business segment (no
applicable income taxes) (221,290) --
------------ ------------
Loss before extraordinary item (4,447,842) (1,986,497)
Extraordinary gain from extinguishment of
debt (no applicable income taxes) 251,767 --
------------ ------------
Net loss $ (4,196,075) $ (1,986,497)
============ ============
Basic and diluted loss per common share:
Continuing operations $ (.42) $ (.58)
Discontinued operations (.12) --
Extraordinary gain .03 --
------------ ------------
Net loss $ (.51) $ (.58)
============ ============
Weighted average shares outstanding 8,327,345 3,435,190
============ ============
Pro forma presentation applicable to conversion
from S Corporation to C Corporation:
Net income before pro forma income tax expense $ (1,986,497)
Pro forma income tax expense --
Pro forma net loss $ (1,986,487)
------------
Pro forma basic loss per share $ (.58)
============
</TABLE>
See notes to consolidated financial statements.
F4
<PAGE> 36
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
Preferred Stock Common Stock
------------------ ------------------
Series B Additional Unearned
------------------ Paid-In Accumulated Treasury Compen-
Shares Amount Shares Amount Capital Deficit Shares Amount sation
-------- -------- --------- -------- ---------- ----------- ---------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balances, January 1, 1997 -- $ -- 200 $383,557 $ 16,320 $ (988,004) -- $ -- $ --
Collection of note receivable
Conversion of note payable to
equity 923,499
Capital contribution 64,788
Net loss for the year (1,986,497)
Distributions (156,148)
-------- -------- --------- -------- ---------- ----------- ---------- -------- --------
Balances, December 31, 1997 -- -- 200 383,577 1,004,607 (3,130,649) -- -- --
Conversion of debt to equity 1,402,550 14,026 483,623
Reverse merger and reorganization 3,434,990 (349,205) (117,577)
Stock issued pursuant to merger 13,831 138 (138)
Mandatory redeemable preferred
stock converted to common 232,000 2,320 229,680
Increase of Series A Preferred
Stock to Redemption value (19,000)
Exchange of common stock for
preferred 305 3 -- (3) (1,000,000) --
Shares gifted to company and
retired (1,144) (11) 11
Issuance of common stock pursuant
to private placements 763 8 4,400,000 44,000 3,905,992 1,000,000 --
Issuance of preferred stock
pursuant to private placements 304 3 999,997
Stock issuance costs (220,000)
Stock issued for current and
future services 25 2 300,000 3,000 294,758 (79,167)
Conversion of debt to equity -- -- 50,000 500 106,442
Net loss for the year (4,196,075)
-------- -------- --------- -------- ---------- ----------- ---------- -------- --------
Balances, December 31, 1998 14,086 $ 143 9,819,740 $ 98,198 $6,668,392 $(7,326,724) -- -- (79,167)
======== ======== ========= ======== ========== =========== ========== ======== ========
<CAPTION>
Notes
Receivable
Stockholders Total
-------------- -----------
<S> <C> <C>
Balances, January 1, 1997 $ (250,000) $ (838,127)
Collection of note receivable 250,000 250,000
Conversion of note payable to
equity 923,499
Capital contribution 64,788
Net loss for the year (1,986,497)
Distributions 156,148)
-------------- -----------
Balances, December 31, 1997 -- (1,742,485)
Conversion of debt to equity 497,649
Reverse merger and reorganization (466,782)
Stock issued pursuant to merger --
Mandatory redeemable preferred
stock converted to common 232,000
Increase of Series A Preferred
Stock to Redemption value (19,000)
Exchange of common stock for
preferred --
Shares gifted to company and
retired --
Issuance of common stock pursuant
to private placements 3,950,000
Issuance of preferred stock
pursuant to private placements 1,000,000
Stock issuance costs (220,000)
Stock issued for current and
future services 218,593
Conversion of debt to equity 106,942
Net loss for the year (4,196,075)
-------------- -----------
Balances, December 31, 1998 -- $ (639,158)
============== ===========
</TABLE>
See notes to consolidated financial statements.
F5
<PAGE> 37
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
Operating activities:
Net loss $(4,196,075) $(1,986,497)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation 359,135 355,292
Amortization of intangibles and other
non-cash charges 610,077 68,385
Increase in allowance for doubtful accounts 27,400 --
Loss on fixed asset disposal 425,316 --
Compensation and consulting fee expense
resulting from issuance of common stock and
warrants 325,535 --
Extraordinary gain on extinguishment of debt (251,766)
Increase (decrease) in cash resulting from
changes in:
Accounts receivable, trade (722,289) 540,248
Accounts receivable, other (68,271) --
Inventories (31,064) 1,011,439
Prepaid expenses (164,137) 24,324
Accounts payable (57,582) 458,300
Federal excise taxes payable 517,092 (178,086)
Accrued expenses 561,007 (52,093)
----------- -----------
Net cash provided by (used in) operating activities (2,665,622) 241,312
----------- -----------
Investing activities
Collections of notes receivable 1,915 19,045
Purchases of property and equipment (454,888) (3,530)
Proceeds from disposal of property and equipment 175,000 --
Purchases of intangible assets (48,815) --
----------- -----------
Net cash provided by (used in) investing
activities (326,788) 15,515
----------- -----------
</TABLE>
Continued
F6
<PAGE> 38
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
STATEMENT OF CASH FLOWS (CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
1998 1997
----------- -----------
<S> <C> <C>
Financing activities:
Payments on line of credit, net (1,095,801) (266,334)
Proceeds from notes payable -- 300,000
Payments on notes payable (550,023) (198,788)
Proceeds from sale of stock 4,950,000 64,788
Stockholder distributions -- (156,148)
Stock offering costs paid (220,000) --
----------- -----------
Net cash provided (used in) by financing
activities 3,084,176 (256,482)
----------- -----------
Increase in cash 91,766 345
Cash, beginning of year 10,929 10,584
----------- -----------
Cash, end of year $ 102,695 $ 10,929
=========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest $ 254,713 $ 230,370
=========== ===========
Supplemental schedule of noncash investing and
financing activities:
Repayment of related party note payable with
related party note receivable $ -- $ 759,489
=========== ===========
Conversion of related party note payable to equity $ -- $ 923,499
=========== ===========
Conversion of redeemable preferred stock to equity $ 232,000 $ --
=========== ===========
Notes payable reduced by proceeds from
equipment sale $ 255,000 $ --
=========== ===========
Acquisition (reverse merger):
Fair value of assets acquired $ 1,237,238 $ --
Liabilities assumed (2,001,688) --
----------- -----------
Excess assigned to goodwill $ 764,450 $ --
=========== ===========
</TABLE>
See notes to consolidated financial statements.
F7
<PAGE> 39
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
Organization and basis of presentation:
Star Scientific, Inc. and Subsidiaries was formerly known as Eye
Technology, Inc. and Subsidiaries (the "Company"). During December
1998, the Company changed its name to Star Scientific, Inc.
On February 6, 1998, the Company and its subsidiaries, entered into a
stock exchange agreement with the stockholders of Star Tobacco and
Pharmaceuticals, Inc. ("Star"), a privately owned corporation. Under
the agreement, Star stockholders exchanged all of their common stock
for 13,831 shares of Series B Preferred Stock, par value $.01 per
share. When converted, this stock would equal 45,365,680 shares of
common stock, or approximately 90% of the outstanding common stock of
the Company and its subsidiaries as of the conversion date.
Accounting Principles Board Opinion No. 16 states that presumptive
evidence of the acquiring corporation in combinations effected by an
exchange of stock is obtained by identifying the former common
stockholder interest of a combining company which either retains or
receives the larger portion of the voting rights in the combined
corporation. That corporation should be treated as the acquirer unless
other evidence clearly indicates that another corporation is the
acquirer. As the former stockholders of Star hold the larger portion of
the voting rights of the combined corporation, the transaction has been
recorded as a reverse acquisition with Star as the accounting acquirer.
In a reverse acquisition, the accounting acquirer is treated as the
surviving entity, even though the registrant's legal existence does not
change. The accounting acquirer treats the merger as a purchase
acquisition. As a result, the merger has been recorded using the
historical cost basis for the assets and liabilities of Star, as
adjusted, and the estimated fair value of the Company's and its
subsidiaries assets and liabilities. The excess of the Company's and
its subsidiaries' liabilities assumed over assets acquired amounted to
$764,450 and was assigned to goodwill which was being amortized over
five years on a straight line basis (see Note 2 for disposal of this
business segment).
The accompanying consolidated financial statements include the accounts
of Star, and the Company and its Subsidiaries. All intercompany
accounts and transactions have been eliminated. The results of
operations of the Company are included in the accompanying consolidated
financial statements from the date of acquisition.
F8
<PAGE> 40
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
The following summarized pro forma information assumes the acquisition
had occurred as of January 1, 1997.
<TABLE>
<CAPTION>
1998 1997
------------------ ------------------
<S> <C> <C>
Net sales $ 20,134,099 $ 22,097,287
Operating loss $ (3,299,669) $ (2,252,324)
Net loss $ (4,209,784) $ (2,316,688)
Loss per share:
Basic and diluted $ (.51) $ (.67)
</TABLE>
Nature of business:
Star has been engaged since 1991 in the manufacture and sale of tobacco
products. Since 1994, Star has engaged in extensive research and
development activities relating to (1) the development of proprietary
scientific technology for the curing of tobacco so as to prevent or
retard the formation of certain toxic carcinogens present in tobacco
and tobacco smoke, namely, the tobacco specific nitrosamines, (2) the
development of less harmful tobacco products which have been cured
pursuant to the Company's patented proprietary process, and (3) the
development of tobacco-smoking cessation products. The Company is also
engaged in the manufacture and sale of discount cigarettes, without
additives, and with activated charcoal filters. Through the year ended
December 31, 1997, the Company had not yet marketed or received any
revenues from products developed from its research and development
activities.
During 1997, Star had sales to one customer which represented
approximately 19% of net sales. There were no sales to this customer in
1998.
Advertising Costs:
Advertising costs are expensed as incurred and are included in
marketing and distribution expenses. For the years ended December 31,
1998 and 1997, advertising costs were $38,000 and $60,000,
respectively.
Use of estimates:
Management uses estimates and assumptions in preparing financial
statements in accordance with generally accepted accounting principles.
Those estimates and assumptions affect the reported amount of assets
and liabilities, the disclosure of contingent assets and liabilities,
and the reported revenues and expenses. Actual results could vary from
the estimates that were used.
F9
<PAGE> 41
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
Fair value of financial instruments:
Financial instruments consist of cash, short-term trade receivables and
payables for which the current carrying amounts approximate fair value.
Additionally, the borrowing rates currently available to the Company
approximate the rates for debt agreements with similar terms and
average maturities.
Inventories:
Inventories are valued at the lower of cost or market. Cost is
determined on the first-in, first-out (FIFO) method.
Property, plant and equipment:
Property, plant and equipment are recorded at cost. Depreciation is
computed by the straight-line method over the estimated useful lives of
three to seven years for office equipment and machinery and equipment
and thirty-nine years for buildings and improvements.
Intangibles:
Intangibles consist primarily of trademarks and packaging design costs.
Intangibles are amortized by the straight-line method over a period of
15 years for trademarks and 5 years for packaging design costs.
Income taxes:
Star has been an S Corporation since August 1, 1991 for federal income
tax purposes. Accordingly, the taxable income or loss of Star has been
"passed-through" to its stockholders, and they have been subject to the
tax on any income earned by the Company.
As more fully described in Note 1, Star had a change in ownership and
merged with the Company, which caused the income tax status of Star to
change. Management believes that Star was no longer eligible for S
corporation status effective February 6, 1998. As a C corporation, Star
will be responsible for income taxes payable resulting from earnings
subsequent to February 6, 1998. Additionally, under the provisions of
Financial Accounting Standards Board ("FASB") Statement No. 109,
Accounting for Income Taxes, deferred tax assets and liabilities are
computed based on the difference between the financial statement and
tax bases of assets and liabilities using currently enacted tax rates.
F10
<PAGE> 42
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
Credit risk:
Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of cash and accounts
and notes receivables.
The Company maintains its cash balances in three financial
institutions, including approximately $64,000 in one foreign bank. Each
of the balances in the two domestic banks are insured by the Federal
Deposit Insurance Corporation up to $100,000.
Trade accounts receivable result from sales of tobacco products to its
various customers throughout the United States. Credit is extended to
customers after an evaluation for credit worthiness; however, the
Company does not require collateral or other security from customers.
Notes receivable are unsecured, but management believes they are
collectible in the ordinary course of business.
Employee stock-based compensation:
The Company accounts for compensation costs associated with stock
options and warrants issued to employees under the provisions of
Accounting Principle Board Opinion No. 25 ("APB 25") whereby
compensation is recognized to the extent the market price of the
underlying stock exceeds the exercise price of the option at the date
of grant. The Company has adopted the disclosure provisions of
Financial Accounting Standard No. 123 - Accounting for Stock-Based
Compensation ("FAS 123"), which requires disclosure of compensation
expense that would have been recognized if the fair-value based method
of determining compensation had been used for all arrangements under
which employees receive shares of stock or equity instruments (warrants
and options).
Research and development costs:
Research and development costs are charged to expense when incurred.
F11
<PAGE> 43
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
Net loss per common share:
In 1997, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 128, Earnings Per Share. SFAS No. 128 replaced the previously
reported primary and fully diluted earnings per share with basic and
diluted earnings per share. Unlike primary earnings per share, basic
earnings per share excludes any dilutive effects of options, warrants
and convertible securities.
Diluted earnings per share is very similar to the previously reported
fully diluted earnings per share. Basic earnings per share is computed
using the weighted-average number of common shares outstanding during
the period. Diluted earnings per share is computed using the
weighted-average number of common shares and potential common shares
outstanding during the period. Potential common shares are excluded
from the computation if their effect is antidilutive.
Basic loss per common share was computed using the weighted-average
number of common shares outstanding. Potential common shares
outstanding were excluded as their effect was antidilutive.
2. DISCONTINUED OPERATIONS:
On December 30, 1998, the Company completed the sale of its opthalmic
and intraocular business. As a result thereof, the Company has recorded
an after tax loss on the disposal of $221,290. Results of operations of
the discontinued business segment have been classified as discontinued
operations from the date of the Eye Tech acquisition in February 1998
through December 31, 1998.
Net sales and loss from discontinued operations are as follows:
<TABLE>
<S> <C>
Net sales $ 629,715
-------------
Operating losses $ 751,080
-------------
Income taxes -
-------------
Loss from discontinued operations $ 751,080
-------------
Loss on disposal $ 221,290
-------------
</TABLE>
F12
<PAGE> 44
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
3. INVENTORIES:
Inventories consist of the following:
<TABLE>
<S> <C>
Raw materials $ 329,238
Packaging materials 262,467
Finished goods 44,751
------------
$ 636,456
============
</TABLE>
4. PROPERTY, PLANT AND EQUIPMENT:
Property, plant and equipment consists of the following:
<TABLE>
<S> <C>
Land $ 172,572
Buildings and improvements 269,484
Machinery and equipment 2,377,228
Office equipment 116,074
------------
2,935,358
Less accumulated depreciation 1,230,789
------------
$ 1,704,569
============
</TABLE>
5. NOTES RECEIVABLE:
Notes receivable consists of the following:
Note receivable from an unrelated entity.
Interest at 9.25%, due upon demand. $ 54,807
Note receivable from an unrelated entity.
Interest at 8.00%, due in monthly
installments of $600 through November, 2001. 64,972
------------
119,779
Less allowance for doubtful accounts 27,400
------------
$ 92,379
============
6. LINE OF CREDIT:
The Company has a revolving line of credit agreement with a bank that
provides up to $1,000,000 for working capital requirements with
interest charged monthly on outstanding amounts at 9.875%. Amounts
borrowed are collateralized by the accounts receivable. At December 31,
1998, there were no borrowings under the line of credit agreement.
F13
<PAGE> 45
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
7. NOTES PAYABLE:
Notes payable consists of the following:
<TABLE>
<S> <C>
Note payable, bank due in monthly
installments of $3,111, including interest
at prime plus 1%, to 2001; secured by real
property and guaranteed by certain
stockholders. 275,393
Term note payable, finance company, due in
monthly installments of $21,047, including
interest at 10.15% through September 2001;
secured by manufacturing equipment. 362,247
Term note payable, finance company, due in
monthly installments of $7,262, including
interest at 9.31% through October 2001;
secured by manufacturing equipment. 216,292
Term note payable, finance company, due in
monthly installments of $1,206, including
interest at 8.95% through January 2002;
secured by manufacturing equipment. 40,622
Term note payable due in 1999. Interest at
9.5% is payable monthly. 85,000
Other 11,112
---------
990,666
Less current maturities 379,082
---------
$ 611,584
=========
</TABLE>
The annual maturities of notes payable are as follows:
<TABLE>
<CAPTION>
Year ending December 31
-----------------------
<S> <C>
1999 $ 379,082
2000 274,939
2001 333,373
2002 3,272
----------
$ 990,666
==========
</TABLE>
F14
<PAGE> 46
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
8. STOCKHOLDERS' EQUITY:
Increase in authorized common stock:
During the year ended December 31, 1998, the Company increased its
authorized shares of common stock from 10,000,000 shares to 100,000,000
shares.
Preferred stock:
Class A:
The Company has authorized 4,000 shares of $.01 par value Class A
Convertible Redeemable preferred stock. Each share of the Preferred
Stock is convertible into 80 shares of common stock of the Company at
the option of the holder and has voting rights equal to the number of
common shares issuable if converted. The Preferred Stock has the right
to share in dividends declared on the Company's common stock and has
certain liquidation preferences.
The Preferred Stock must be redeemed by the Company on June 30, 2000 at
$100 per share. Redemption of the Preferred Stock may be accelerated,
at the option of the holder or the Company, upon the Company's receipt
of cumulative proceeds from the sale of shares of qualifying capital
stock, as defined, of not less than $500,000. In the event of
acceleration, the Preferred Stock would be redeemable at a price of
$176 per share at December 31, 1998, and increasing at a rate of 8%
each July 1 thereafter. The carrying value of the Preferred Stock
reflects the additional acceleration premium as the Company has raised
funds in excess of the defined amounts.
Series B:
During the year ended December 31, 1998, the Company authorized 15,000
shares of $.01 par value Series B Preferred Stock. The stock bears
discretionary dividends at $150 per share annually. The stock is
redeemable at the Company's option at $3,000 per share, plus unpaid
accrued dividends, on or after December 31, 2022. The stock is
convertible into common stock at the holders' option prior to December
31, 2002 at 3,280 shares of common for each share of Series B
Preferred. Holders of Series B Preferred Stock are entitled to 500
votes for each share held.
F15
<PAGE> 47
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
8. STOCKHOLDERS' EQUITY, CONTINUED:
Common stock warrants:
Common stock warrants issued, redeemed and outstanding during the year
ended December 31, 1998 are as follows:
<TABLE>
<S> <C>
Issued in connection with private placement
of stock, exercise price of $2 per share,
expiring September 2000 (remaining
contractual life 1.75 years). 1,000,000
----------
Warrants issued and outstanding at
December 31, 1998 1,000,000
==========
</TABLE>
No warrants were exercised or forfeited during 1998.
Stock option plan:
In 1998, the Company adopted the 1998 Stock Option Plan (the "Plan")
which provides for grants of options to those officers, key employees,
directors and consultants whose substantial contributions are essential
to the continued growth and success of the Company. The Plan provides
for grants of both qualified and non-qualified stock options to
purchase up to 4,000,000 shares at a purchase price equal to the fair
market value on the date of grant in the case of qualified options
granted to employees. The Company amended the Plan on April 12, 1999.
There were no options outstanding as of December 31, 1998. The
following options were granted simultaneous with the amendment of the
plan.
<TABLE>
<CAPTION>
Exercise
Price Expiration Number
-------- ---------- ---------
<S> <C> <C> <C>
Issued to officers and directors
for past and future services $ 2.00 March 1, 2009 800,000
Issued to a director for past
services $ 1.00 March 1, 2009 200,000
Issued to employees for past
services $ 2.00 March 1, 2009 15,000
---------
1,015,000
=========
</TABLE>
F16
<PAGE> 48
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
9. INCOME TAXES:
At December 31, 1998 the Company had a net operating loss carryforward
of approximately $4,000,000 expiring in 2013. No provision for income
taxes has been reflected in the accompanying consolidated statements of
operations since a valuation allowance has been established for the net
deferred tax benefit of $1,400,000 because it is not possible to
determine the recoverability of such tax benefits.
The provision for income taxes varies from that which would be expected
based upon applying the statutory federal rate to pre-tax accounting
loss as follows:
<TABLE>
<CAPTION>
1998 1997
--------- ----------
<S> <C> <C>
Statutory federal rate (35)% (35)%
Increase in deferred tax asset valuation
allowance 35% 35%
--------- ----------
Effective rate 0% 0%
========= ==========
</TABLE>
F17
<PAGE> 49
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
10. RELATED PARTY TRANSACTIONS:
The Company has entered into certain transactions with companies and
trusts that are owned by members of management and stockholders. The
following is a summary of significant related party transactions for
the years ended December 31, 1998 and 1997.
<TABLE>
<CAPTION>
1998 1997
------------ ------------
<S> <C> <C>
Management fee expense - 565,000
Business travel - aircraft expenses 185,544 238,750
Debt Repayment 215,000 -
</TABLE>
Effective January 1, 1998, Star has entered into a license agreement
with a partnership owned by certain principal stockholders wherein Star
has the exclusive world-wide rights to produce and sell tobacco
products with TSNA (tobacco specific nitrosamines) - free tobacco. In
connection with this agreement, Star is obligated to pay royalties
equal to 2% of all product sales (less certain costs) and 6% of any
royalty income earned from sublicensing (less certain costs). There
were no sales of this product in 1998 and, as such, no royalties are
due.
11. EMPLOYEE BENEFIT PLAN:
In 1995, the Company became the sponsor of a defined contribution
retirement plan under Section 401(K) of the Internal Revenue Code. The
plan covers all employees who meet certain eligibility and
participation requirements. Participants may contribute up to 15% of
their compensation. The Company may make an annual discretionary
contribution. The Company made no contribution for 1998 or 1997.
F18
<PAGE> 50
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
12. LEASES:
The following represents the future minimum rental payments required
under operating leases (primarily for vehicles) that have initial or
remaining noncancellable lease terms in excess of one year as of
December 31, 1998.
<TABLE>
Year ending December 31, Amount
------------------------ ------------
<S> <C>
1999 $ 104,013
2000 6,808
------------
$ 110,821
============
</TABLE>
Lease expense for all leases, including leases with terms of less than
one year, amounted to approximately $107,000 and $170,000 for the years
ended December 31, 1998 and 1997, respectively.
13. CONTINGENT LIABILITIES:
Master settlement agreement:
In February 1999, the Company's Board of Directors voted unanimously
not to join the Master Tobacco Settlement Agreement ("MSA") among
forty-six states, several U.S. territories and a number of tobacco
manufacturers, as a Subsequent Participating Manufacturer. The MSA and
the proposed model statutes that each participating state is obligated
to enact as part of the MSA, do not contain any provisions that reward
or encourage companies like Star that have sought to develop and
promote safer tobacco products. To rectify this inequality, the Company
proposed an amendment to the MSA that would have recognized its
commitment to research and development over the past several years and
would have allowed it to continue to promote those efforts under the
grandfather provisions in the MSA that apply to Subsequent
Participating Manufacturers. The Company was subsequently advised that
its proposal was rejected.
After careful consideration, the Board of Directors determined that it
was not in Star's long term interest to join in the MSA without an
acceptable amendment. As a Non-Participating Manufacturer, Star, absent
a successful legal challenge, some subsequent agreement to modify the
MSA or individual state amendments to the proposed model statutes,
could be required to establish escrow funds under model statutes to be
enacted by each participating state that would be available to pay for
tobacco-related judgments or settlements, if claims are asserted by
participating states against Star. These escrow payments could be
substantial. To date, Star has not been named as a party in any tobacco
related litigation. Star is continuing to assess the impact that opting
out of the MSA, and potentially having to fund state-specific escrow
accounts, will have on its future business operations.
F19
<PAGE> 51
STAR SCIENTIFIC, INC. AND SUBSIDIARIES
NOTES TO FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997
14. RISKS AND UNCERTAINTIES:
The Company has incurred losses from operations and has a net working
capital and equity deficit. These factors are due in part to the
Company's significant investment in research and development activities
as well as legal, regulatory and consulting fees resulting from matters
related to the Master Settlement Agreement discussed in Note 13. The
major stockholders of the Company have agreed to financially support
the operations of the entity and have the ability to do so.
F20
<PAGE> 52
CONSENT OF INDEPENDENT CERTIFIED ACCOUNTANTS
Star Scientific, Inc. and Subsidiaries
Petersburg, Virginia
As independent certified public accountants for Star Scientific, Inc. and
Subsidiaries, we hereby consent to the use in this Form 10-KSB/A Annual Report
for Star Scientific, Inc. and Subsidiaries of our report included herein, which
has a date of March 26, 1999, except for note 8 as to which the date is April
12, 1999, relating to the consolidated balance sheet of Star Scientific, Inc.
and Subsidiaries as of December 31, 1998 and the related consolidated statements
of operations, cash flows, and stockholders' equity for the year then ended.
/s/ Aidman, Piser & Company, P.A.
Tampa, Florida
April 30, 1999
F21
<PAGE> 53
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
NUMBER DESCRIPTION
- - ------ -----------
<S> <C>
2.01 Asset Purchase Agreement between Star Scientific, Inc., a
Delaware Corporation and Eyetech, LLC, a Minnesota Limited
Liability Company, by Robert J. Fitzsimmons, an individual
residing in St. Paul, Minnesota, dated December 30, 1998(1)
2.02 Escrow Agreement between Star Scientific, Inc., a Delaware
Corporation, Eyetech, LLC, a Minnesota Limited Liability
Company and Robert J. Fitzsimmons, an individual residing in
St. Paul, Minnesota, and Jonnie R. Williams and Vincent Ellis
as Escrow Agents, dated February 16, 1999, and effective
December 30, 1998(1)
3.01 Restated Certificate of Incorporation(2)
3.02 Certificate of Amendment of Restated Certificate of
Incorporation, dated March 25, 1993, and effective April 2,
1993(3)
3.03 Certificate of Amendment of Restated Certificate of
Incorporation, dated March 25, 1993, and effective April 2,
1993(3)
3.04 Certificate of Amendment of Certificate of Incorporation,
dated December 15, 1998(4)
3.05 Bylaws of the Company as Amended to Date(2)
4.01 Option to Purchase Shares of Common Stock to Samuel P. Sears,
Jr., dated December 1, 1993(5)
4.02 Certificate of Designations, Preferences and Rights of Class A
Convertible Preferred Stock(6)
4.03 Certificate of Designation of Series B Convertible Preferred Stock(3)
4.04 Option to Purchase Shares of Common Stock to Robert J.
Fitzsimmons, dated February 28, 1994(5)
10.01 Employment Agreement between Robert J. Fitzsimmons and Eye
Technology, Inc., dated November 1, 1989(7)
10.02 Lease Agreement for lease of offices and manufacturing space
in St. Paul, Minnesota, dated August 1990(8)
10.03 First Amendment to Lease Agreement for lease of offices and
manufacturing space in St. Paul, Minnesota(2)
10.04 License Agreement between Eye Technology, Inc. and Ioptex
Research, Inc., dated September 28, 1990(8)
10.05 Addendum to License Agreement between Eye Technology, Inc. and
Ioptex Research, Inc., dated January 13, 1994(9)
10.06 License Agreement between Eye Technology, Inc. and OII
International, Inc., dated January 31, 1997(10)
</TABLE>
<PAGE> 54
<TABLE>
<S> <C>
10.07 Equipment Lease Agreement between Eye Technology, Inc. and
Noel G. Bissonette, dated August 31, 1990(8)
10.08 Joint Venture Agreement between Eye Technology, Inc.,
Kera-Metrics, Inc., and the Stockholders of Kera-Metrics,
Inc., dated November 27, 1992(2)
10.09 Distribution Agreement between Kera-Metrics Corporation and
Eye Technology, Inc., dated November 27, 1992(2)
10.10 Promissory Note from Eye Technology, Inc. to Burns & Levinson,
dated June 4, 1993(9)
10.11 Consulting and License Agreement between Eye Technology, Inc.
and Paul Fyfe, dated October 29, 1993(9)
10.12 Accounts Receivable Financing Agreement between the Company
and Republic Acceptance Corporation, dated June 2, 1994(5)
10.13 Security Agreement between the Company and Republic Acceptance
Corporation, dated June 2, 1994(5)
10.14 Security Agreement between Eye Technology International, Inc.
and Republic Acceptance Corporation, dated June 2, 1994(5)
10.15 Guaranty of Payment for Existing and/or Future Indebtedness
between Eye Technology International, Inc. and Republic
Acceptance Corporation, dated June 2, 1994(5)
10.16 Amendment to Agreement between the Company and Microprecision
Instrument Company, Inc., dated December 31, 1994(5)
10.17 Amendment to Agreement between the Company and Microprecision
Instrument Company, Inc., dated March 28, 1995(5)
10.18 Stock Exchange Agreement between the Company and the
stockholders of Star Tobacco and Pharmaceuticals, Inc., dated
February 6, 1998(11)
10.19 License Agreement between Star Tobacco and Pharmaceuticals,
Inc., as Licensee and Regent Technologies, Jonnie R. Williams,
and Francis E. O'Donnell, J.R. , M.D., as Licensor, dated
January 5, 1998(12)
10.20 Letter Agreement between the Company and MFC Merchant Bank
S.A., dated July 6, 1998(13)
10.21 Exclusive Supply Agreement between Star Tobacco and
Pharmaceutical, Inc. and Amana Company, L.P., dated August 18,
1998(13)
10.22 Purchase and Sale Agreement between Prometheus Pacific Growth
Fund LDC, a Cayman Island Limited Duration Company, and Eye
Technology, Inc., a Delaware Corporation, dated July 10,
1998(14)
</TABLE>
<PAGE> 55
<TABLE>
<S> <C>
10.23 Amendment No. 1 to License Agreement between Regent Court
Technologies, Jonnie R. Williams, Francis E. O'Donnell, J.R.,
M.D. and Star Tobacco and Pharmaceuticals, Inc., dated August
3, 1998(15)
10.24 1998 Stock Option Plan(16)
10.25 Executive Employment Agreement between the Company and James
A. McNulty, dated April 12, 1999, and effective October 15,
1998
16.01 Response Letter from Price Waterhouse LLP, dated April 10,
1998(17)
16.02 Response Letter from Olsen, Thielen & Co., Ltd, dated
September 15, 1998(18)
16.03 Response Letter from Keiter, Stephens, Hurst, Gary & Shreaves,
dated January 20, 1999(19)
21 Subsidiaries of the Company(16)
23 Consent of Independent Public Accountants
27 Financial Data Schedule
</TABLE>
- - -----------------------------
(1) Filed as Exhibit to the Company's Current Report on Form 8-K dated
March 2, 1999
(2) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1992
(3) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1996
(4) Filed as Exhibit to the Company's Current Report on Form 8-K dated
January 15, 1999
(5) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1994
(6) Filed as Exhibit to the Company's Current Report on Form 8-K dated June
7, 1993
(7) Filed as Exhibit to the Company's Annual Report on Form 10-K for fiscal
year ended December 31, 1989
(8) Filed as Exhibit to the Company's Annual Report on Form 10-K for fiscal
year ended December 31, 1990
(9) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1993
(10) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for
fiscal year ended December 31, 1997
(11) Filed as Exhibit to the Company's Current Report on Form 8-K dated
February 19, 1998
(12) Filed as Exhibit to the Company's Quarterly Report on Form 10-QSB for
quarterly period ended March 31, 1998
(13) Filed as Exhibit to the Company's Quarterly Report on Form 10-QSB for
quarterly period ended September 30, 1998
(14) Filed as Exhibit to the Company's Current Report on Form 8-K dated July
15, 1998
(15) Filed as Exhibit to the Company's Current Report on Form 8-K dated
September 11, 1998
(16) Filed as Exhibit to the Company's Annual Report on Form 10-KSB for the
fiscal year ended December 31, 1998
(17) Filed as Exhibit to the Company's Current Report on Form 8-K/A dated
April 10, 1998
(18) Filed as Exhibit to the Company's Current Report on Form 8-K/A dated
September 16, 1998
(19) Filed as Exhibit to the Company's Current Report on Form 8-K dated
January 15, 1999
<PAGE> 1
EXHIBIT 10.25
STAR SCIENTIFIC, INC.
EXECUTIVE EMPLOYMENT AGREEMENT
THIS EXECUTIVE EMPLOYMENT AGREEMENT (this "Agreement") is entered into
as of April 12, 1999, by and between STAR SCIENTIFIC, INC., a Delaware
corporation (the "Company"), and JAMES A. MCNULTY ("Executive").
RECITALS
A. The Company is engaged in the research, development and
commercialization of smoking cessation products and reduced-risk smoking
products, and the manufacture and sale of cigarettes.
B. The Company wishes to continue to employ Executive and to have the
benefit of his skills and services, and Executive wishes to continue employment
with the Company, as Chief Financial Officer of the Company on the terms and
subject to the conditions set forth herein.
AGREEMENT
NOW, THEREFORE, the parties hereto hereby agree as follows:
1. EMPLOYMENT AND DUTIES.
(a) POSITION. The Company hereby employs Executive, and Executive
hereby accepts employment with the Company, as Chief Financial Officer of the
Company.
(b) DUTIES. Executive agrees to devote his best efforts to perform all
duties assigned to him by the Board of Directors of the Company (the "Board of
Directors") and by Jonnie R. Williams, Chief Operating Officer of the Company,
in a trustworthy, businesslike and loyal manner.
(c) REPORTING. Executive shall report to the Board of Directors.
(d) PLACE OF EMPLOYMENT. Executive shall perform the services required
by this Agreement at the Company's offices in Petersburg, Virginia.
(e) CHANGE OF DUTIES. The duties of Executive may be modified from time
to time by the mutual consent of the Company and Executive without resulting in
a rescission of this Agreement. The mutual written consent of the Company and
Executive shall constitute execution of that modification. Notwithstanding any
such change, the employment of Executive shall be construed as continuing under
this Agreement as so modified.
(f) DEVOTION OF TIME TO COMPANY'S BUSINESS. During the Term of this
Agreement (as such term is defined in Section 1(g) hereof), Executive agrees (i)
to devote his entire productive time, ability and attention to the business of
the Company during normal working hours, (ii) not to engage in any other
business duties or business pursuits whatsoever, (iii) whether directly or
indirectly, not to render any services of a commercial or professional nature to
any individual, trust, partnership, company, corporation, business,
<PAGE> 2
organization, group or other entity (each, a "Person"), whether for compensation
or otherwise, without the prior written consent of the Board of Directors, and
(iv) whether directly or indirectly, not to acquire, hold or retain more than a
one percent (1%) interest in any business competing with or similar in nature to
the business of the Company or any of its Affiliates (as such term is defined
below); provided, however, the expenditure of reasonable amounts of time for
litigation support, book project, charitable, professional educational or
professional activities or, subject to the foregoing, the making of passive
personal investments shall not be deemed a breach of this Agreement or require
the prior written consent of the Company if those activities do not materially
interfere with the services required of Executive under this Agreement. For
purposes of this Agreement, "Affiliates" shall mean any Person that, directly or
indirectly through one or more intermediaries, controls or is controlled by, or
is under common control with, the Company.
(g) TERM. Unless sooner terminated as provided in Section 4 hereof, the
term of this Agreement shall be deemed to have commenced on October 15, 1998 and
shall continue for a term of eighteen (18) months (the "Initial Term"), and
shall be renewable for successive one (1) year terms (each, a "Renewal Term") at
the option of the Company. Notice of renewal or, if applicable, the Company's
option not to renew, shall be given to Executive in writing at least one hundred
twenty (120) days prior to the end of the Initial Term or the applicable Renewal
Term, as the case may be. The Initial Term, together with any Renewal Terms
shall be referred to in this Agreement as the "Term of this Agreement."
(h) OBSERVANCE OF COMPANY RULES, REGULATIONS AND POLICIES. Executive
shall duly, punctually and faithfully perform and observe any and all rules,
regulations and policies which the Company may now or hereafter reasonably
establish governing the conduct of its business or its employees to the extent
such rules, regulations and policies are not in conflict with this Agreement.
Executive shall promptly provide written notice to the Board of Directors of any
such apparent conflict of which Executive becomes aware.
2. COMPENSATION.
(a) BASE SALARY. During the Term of this Agreement, the Company shall
pay to Executive a base salary of two hundred thousand dollars ($200,000) per
year (the "Base Salary"), subject to increase from time to time in the good
faith discretion of the Board of Directors, payable in arrears on a regular
basis in accordance with the Company's standard payroll procedures in effect at
the time of payment.
(b) DISCRETIONARY BONUS. In addition to the Base Salary, the Company
shall pay to Executive such bonuses based on Executive's performance as the
Board of Directors shall determine from time to time in its sole discretion.
(c) SIGNING BONUS. In order to induce Executive to enter into this
Agreement, effective December 31 1998, Executive shall be entitled to a signing
bonus in the amount of eighty thousand dollars ($80,000) which shall be paid to
Executive on or before June 30, 1999.
(d) RESTRICTED STOCK GRANT. In order to encourage Executive's
contribution to the successful performance of the Company, Executive shall be
granted as of June 30, 2000, a total
<PAGE> 3
of one hundred thousand (100,000) shares of Common Stock of the Company (the
"Restricted Stock") subject to the conditions and restrictions set forth in a
restricted stock award agreement substantially in the form attached hereto as
Exhibit A, which agreement shall provide that restrictions shall lapse and
Executive shall become vested as to all such shares of Restricted Stock on
January 31, 2000.
(e) STOCK OPTION.
(i) NON-QUALIFIED STOCK OPTION. The parties acknowledge and
agree that, as additional incentive to Executive, Executive shall be granted,
immediately upon execution of this Agreement, a non-qualified stock option (the
"Option") to purchase two hundred thousand (200,000) shares of Common Stock of
the Company at an exercise price of Two Dollars ($2.00) per share pursuant to an
option agreement on the Company's standard form under its 1998 Stock Option Plan
(the "Plan"). Subject to the forfeiture provision and repurchase right of the
Company described below, the option agreement shall provide that:
(ii) VESTING. The Option shall be fully vested on October 15,
1999.
(iii) TERMINATION. To the extent not then fully vested, the
Option shall immediately terminate upon the earlier to occur of (A) March 1,
2009, (B) the effective date of termination of this Agreement by the Company for
Cause (as such term in defined in Section 4(c) hereof) or by the Executive
without Good Reason (as such term in defined in Section 4(f) hereof), or (C) the
date of notice by the Company to Executive that, in the good faith determination
of the Board of Directors, Executive has breached his covenant not to compete
contained herein.
(iv) ACCELERATED TERMINATION AND FORFEITURE OF OPTION; COMPANY
REPURCHASE RIGHT. On the effective date of termination of this Agreement by the
Company for Cause or by the Executive without Good Reason, or as of the date of
notice by the Company to Executive that, in the good faith determination of the
Board of Directors, Executive has breached his covenant not to compete contained
herein, as the case may be, (A) the Option shall immediately terminate and
revert to the Company (including all vested but unexercised shares subject to
the Option); and (B) any and all shares issued upon exercise of the Option on or
prior to such effective date of termination or date of notice shall be subject
to a repurchase right in favor of the Company at a purchase price equal to the
exercise price of such shares.
(f) INCENTIVE PLANS. In addition to all other benefits and compensation
provided by this Agreement, Executive shall be eligible to participate in such
of the Company's equity, compensation and incentive plans as are generally
available to any of the management executives of the Company, including without
limitation any executive and performance bonus or incentive plans.
(g) VACATION. Executive shall be entitled to such annual vacation time
with full pay as the Company may provide in its standard policies and practices
for any other management executives; provided, however, that in any event
Executive shall be entitled to a minimum of fourteen (14) days annual paid
vacation time.
<PAGE> 4
(h) DIRECTORS AND OFFICERS LIABILITY INSURANCE. Executive shall be
entitled to continued participation in, and have the benefit of, directors and
officers liability insurance to the same extent such coverage is provided to the
Company's other management executives.
(i) HOUSING ALLOWANCE. The Company will reimburse Executive for his
reasonable and documented expenses for temporary housing in Petersburg,
Virginia, not to exceed Twenty Thousand Dollars ($20,000).
(j) AUTOMOBILE. The Company will furnish Executive with an automobile
and will reimburse Executive all reasonable costs and expenses relating to
Executive's use of the automobile, including without limitation, amounts
incurred for insurance, gas and general maintenance and repairs.
(k) MOBILE TELEPHONE. Executive shall have use of a wireless mobile
telephone of his choice and the Company will be responsible for payment of all
business usage charges and all usual operational and maintenance expenses
associated with the use by Executive of such telephone.
(l) OTHER BENEFITS. Executive shall participate in and have the
benefits of all present and future vacation, holiday, paid leave, unpaid leave,
life, accident, disability, dental, vision and health insurance plans, pension,
profit-sharing and savings plans and all other plans and benefits which the
Company now or in the future from time to time makes available to any of its
management executives.
(m) WITHHOLDING. The parties shall comply with all applicable
withholding requirements in connection with all compensation payable to
Executive.
3. EXPENSE REIMBURSEMENT.
(a) GENERAL BUSINESS EXPENSES. The Company shall reimburse Executive
for all business travel and other out-of-pocket expenses reasonably incurred by
Executive in the course of performing his duties hereunder this Agreement. All
reimbursable expenses shall be appropriately documented and shall be in
reasonable detail and in a format and manner consistent with the Company's
expense reporting policy, as well as applicable federal and state tax record
keeping requirements.
(b) PROFESSIONAL EDUCATIONAL EXPENSES AND FEES. In addition, the
Company shall reimburse Executive for (i) all reasonable expenses incurred for
continuing education courses required to maintain Executive's professional
status as a certified public accountant, and (ii) all reasonable professional
fees and dues associated with Executive's professional status as a certified
public accountant.
4. TERMINATION AND RIGHTS ON TERMINATION. This Agreement shall terminate
upon the occurrence of any of the following events:
(a) DEATH. Upon the death of Executive, in which event the Company
shall, within thirty (30) days of receiving notice of such death, pay
Executive's estate all salary then due and payable
<PAGE> 5
and all accrued vacation pay and bonuses, if any, in each case payable or
accrued through the date of death. Executive's estate shall not be entitled to
any severance compensation.
(b) DISABILITY. Upon the mental or physical Disability (as such term is
defined below) of Executive, in which event the Company shall, within thirty
(30) days following the determination of Disability, pay Executive all salary
then due and payable and all accrued vacation pay and bonuses, if any, in each
case payable or accrued through the date of determination. For purposes of this
Agreement, "Disability" shall mean a physical or mental condition, verified by a
physician designated by the Company, which prevents Executive from carrying out
one or more of the material aspects of his assigned duties for at least ninety
(90) consecutive days, or for a total of ninety (90) days in any six (6) month
period. Executive shall not be entitled to any severance compensation.
(c) TERMINATION BY THE COMPANY FOR CAUSE. Upon delivery by the Company
to Executive of a written notice terminating this Agreement for Cause (as such
term is defined below), which notice shall be supported by a reasonably detailed
statement of the relevant facts and reasons for termination, in which event the
Company shall, within thirty (30) days following such termination, pay Executive
all salary then due and payable through the date of termination. Executive shall
not be entitled to any severance compensation or any accrued vacation pay or
bonuses. For purposes of this Agreement, "Cause" shall mean:
(i) Executive shall have intentionally engaged in unfair
competition with the Company, intentionally induced any employee or any
significant customer, contractor, supplier, representative or distributor of the
Company to breach any contract with the Company, intentionally made an
unauthorized disclosure of material confidential information of the Company,
committed an act of dishonesty, fraud, embezzlement or theft or otherwise
engaged in misconduct with respect to the property, business or affairs of the
Company, or deliberately disregarded the rules, regulations and policies of the
Company, in any such event in such a manner as to cause material loss, damage or
injury to, or otherwise materially endanger or, in the sole judgment of the
Board of Directors, materially and adversely affect, the property, reputation,
operations or employees of the Company;
(ii) Executive shall have materially breached this Agreement
and such breach shall have continued for a period of ten (10) days after
delivery of written notice from the Company specifying such breach;
(iii) Executive shall have been grossly negligent in the
performance of his duties hereunder, intentionally not performed or misperformed
any of such duties, or refused to abide by or comply with the directives of the
Board of Directors, which action shall have continued for a period of ten (10)
days after delivery of written notice from the Company demanding such action
cease or be cured;
(iv) Executive shall have been found guilty of, or has plead
nolo contendere to, the commission of a felony offense or other crime involving
moral turpitude; or
(v) Executive shall have abused alcohol or drugs (legal or
illegal) that, in the sole judgment of the Board of Directors, materially
impairs Executive's ability to perform his duties hereunder.
<PAGE> 6
(d) TERMINATION BY THE COMPANY WITHOUT CAUSE. Thirty (30) days after
delivery by the Company to Executive of a written notice terminating this
Agreement for any reason without cause, in which event the Company shall, within
thirty (30) days following the effective date of termination, pay Executive a
lump sum equal to (i) all salary then due and payable and all accrued vacation
pay and bonuses, if any, in each case payable or accrued through the effective
date of termination, plus (ii) as severance compensation, an amount equal to
twelve (12) months of Executive's then Base Salary.
(e) VOLUNTARY TERMINATION BY EXECUTIVE. Thirty (30) days after delivery
by Executive to the Company of a written notice terminating this Agreement for
any reason without cause, in which event the Company shall, within thirty (30)
days following the effective date of termination, pay Executive all salary then
due and payable through the date of termination. Executive shall not be entitled
to any severance compensation or any accrued vacation pay or bonuses.
(f) TERMINATION BY EXECUTIVE FOR GOOD REASON. Thirty (30) days after
delivery by Executive to the Company of a written notice terminating this
Agreement for Good Reason (as such term is defined below), in which event the
Company shall, within thirty (30) days following the effective date of
termination, pay Executive such amounts in such manner as provided for in
Section 4(d) hereof. For purposes of this Agreement, "Good Reason" shall mean:
(i) The assignment of Executive to any duties inconsistent
with, or any adverse change in, Executive's positions, duties, responsibilities,
functions or status with the Company, or the removal of Executive from, or
failure to reelect Executive to, any of such positions; provided, however, that
a change in Executive's positions, duties, responsibilities, functions or status
that Executive shall agree to in writing shall not be an event of Good Reason or
give rise to termination under this Section 4(f);
(ii) A reduction by the Company of Executive's Base Salary
without his written consent;
(iii) The failure by the Company to continue in effect for
Executive any material benefit available to any of the management executives of
the Company, including without limitation, any retirement, pension or incentive
plans, life, accident, disability or health insurance plans, equity or cash
bonus plans or savings and profit sharing plans, or any action by the Company
which would adversely affect Executive's participation in or reduce Executive's
benefits under any of such plans or deprive Executive of any fringe benefit
enjoyed by Executive; or
(iv) Any other material breach by the Company of this
Agreement which is not cured within twenty (20) days of delivery of written
notice thereof by Executive to the Company.
(g) EFFECT OF TERMINATION; OPTIONS. All rights and obligations of the
Company and Executive under this Agreement shall cease as of the effective date
of termination, except that the obligations of the Company under this Section 4
and Executive's obligations under Sections 5 and 6 hereof shall survive such
termination in accordance with their respective terms. In addition,
notwithstanding anything to the contrary contained herein or in any agreement
with respect thereto, upon termination of Executive's employment pursuant to
this Section 4, all equity options, restricted
<PAGE> 7
equity grants and similar rights held by Executive with respect to securities of
the Company, including without limitation the Option, shall, to the extent not
then fully vested, immediately terminate and revert to the Company.
(h) NO TERMINATION BY MERGER, TRANSFER OF ASSETS OR DISSOLUTION. This
Agreement shall not be terminated by any dissolution of the Company resulting
from either merger or consolidation in which the Company is not the consolidated
or surviving corporation or other entity or transfer of all or substantially all
of the assets of the Company. In such event, the rights, benefits and
obligations herein shall automatically be deemed to be assigned to the surviving
or resulting corporation or other entity or to the transferee of the assets, as
the case may be, with the consent of Executive.
5. RESTRICTION ON COMPETITION.
(a) COVENANT NOT TO COMPETE. During the Term of this Agreement and for
a period of twelve (12) months from the termination of this Agreement, Executive
shall not, without the prior written consent of the Company, either directly or
indirectly, for himself or on behalf of or in conjunction with any other Person
(i) own, manage, operate, control, be employed by, participate in, render
services to, or be associated in any manner with the ownership, management,
operation or control of, any business similar to the type of business conducted
by the Company or any of its Affiliates within any of the geographic territories
in which the Company or any of its Affiliates conducts business, (ii) solicit
business of the same or similar type being carried on by the Company or any of
its Affiliates from any Person known by Executive to be a customer of the
Company or any of its Affiliates, whether or not Executive had personal contact
with such Person during and by reason of Executive's employment with the
Company, or (iii) endeavor or attempt in any way to interfere with or induce a
breach of any contractual relationship that the Company or any of its Affiliates
may have with any employee, customer, contractor, supplier, representative or
distributor.
(b) NO BREACH FOR ACTIVITIES DEEMED NOT COMPETITIVE. It is further
agreed that, in the event that Executive shall cease to be employed by the
Company and enter into a business or pursue other activities that, at such time,
are not in competition with the Company or any of its Affiliates, Executive
shall not be chargeable with a violation of this Section 5 if the Company
subsequently enters the same (or a similar) competitive business or activity. In
addition, if Executive has no actual knowledge that his actions violate the
terms of this Section 5, Executive shall not be deemed to have breached the
restrictive covenants contained herein if, promptly after being notified by the
Company of such breach, Executive ceases the prohibited actions.
(c) SEVERABILITY. The covenants in this Section 5 are severable and
separate, and the unenforceability of any specific covenant shall not affect the
provisions of any other covenant. If any provision of this Section 5 relating to
the time period or geographic area of the restrictive covenants shall be
declared by a court of competent jurisdiction to exceed the maximum time period
or geographic area, as applicable, that such court deems reasonable and
enforceable, such time period or geographic area shall be deemed to be, and
thereafter shall become, the maximum time period or largest geographic area that
such court deems reasonable and enforceable and this Agreement shall
automatically be considered to have been amended and revised to reflect such
determination.
<PAGE> 8
(d) FAIR AND REASONABLE. Executive has carefully read and considered
the provisions of this Section 5 and, having done so, agrees that the
restrictive covenants in this Section 5 impose a fair and reasonable restraint
on Executive and are reasonably required to protect the interests of the
Company, its Affiliates and their respective officers, directors, employees and
stockholders. It is further agreed that the Company and Executive intend that
such covenants be construed and enforced in accordance with the changing
activities, business and locations of the Company throughout the term of these
covenants.
6. CONFIDENTIAL INFORMATION.
(a) CONFIDENTIAL INFORMATION. Executive hereby agrees to hold in strict
confidence and not to disclose to any third party any of the valuable,
confidential and proprietary business, financial, technical, economic, sales
and/or other types of proprietary business information relating to the Company
or any of its Affiliates (including all trade secrets) in whatever form, whether
oral, written, or electronic (collectively, the "Confidential Information"), to
which Executive has, or is given (or has had or been given), access during the
course of his employment with the Company. It is agreed that the Confidential
Information is confidential and proprietary to the Company because such
Confidential Information encompasses technical know-how, trade secrets, or
technical, financial, organizational, sales or other valuable aspects of the
business and trade of the Company or its Affiliates, including without
limitation, technologies, products, processes, plans, clients, personnel,
operations and business activities. This restriction shall not apply to any
Confidential Information that (a) becomes known generally to the public through
no fault of the Executive, (b) is required by applicable law, legal process, or
any order or mandate of a court or other governmental authority to be disclosed,
or (c) is reasonably believed by Executive, based upon the advice of legal
counsel, to be required to be disclosed in defense of a lawsuit or other legal
or administrative action brought against Executive; provided, however, that in
the case of clause (b) or (c), Executive shall give the Company reasonable
advance written notice of the Confidential Information intended to be disclosed
and the reasons and circumstances surrounding such disclosure, in order to
permit the Company to seek a protective order or other appropriate request for
confidential treatment of the applicable Confidential Information.
(b) RETURN OF COMPANY PROPERTY. In the event of termination of
Executive's employment with the Company for whatever reason or no reason, (a)
Executive agrees not to copy, make known, disclose or use, any of the
Confidential Information without the Company's prior written consent, and (b)
Executive or Executive's personal representative shall return to the Company (i)
all Confidential Information, (ii) all other records, designs, patents, business
plans, financial statements, manuals, memoranda, lists, correspondence, reports,
records, charts, advertising materials and other data or property delivered to
or compiled by Executive by or on behalf of the Company or its respective
representatives, vendors or customers that pertain to the business of the
Company or any of its Affiliates, whether in paper, electronic or other form,
and (iii) all keys, credit cards, vehicles and other property of the Company.
Executive shall not retain or cause to be retained any copies of the foregoing.
Executive hereby agrees that all of the foregoing shall be and remain the
property of the Company and the applicable Affiliates and be subject at all
times to their discretion and control.
<PAGE> 9
7. CORPORATE OPPORTUNITIES.
(a) DUTY TO NOTIFY. During the Term of this Agreement, in the event
that Executive shall become aware of any business opportunity related to the
business of the Company, Executive shall promptly notify the Board of Directors
of such opportunity. Executive shall not appropriate for himself or for any
other Person other than the Company (or any Affiliate) any such opportunity
unless, as to any particular opportunity, the Board of Directors fails to take
appropriate action within thirty (30) days. Executive's duty to notify the Board
of Directors and to refrain from appropriating all such opportunities for thirty
(30) days shall neither be limited by, nor shall such duty limit, the
application of the general laws relating to the fiduciary duties of an agent or
employee.
(b) FAILURE TO NOTIFY. In the event that Executive fails to notify the
Board of Directors or so appropriates any such opportunity without the express
written consent of the Board of Directors, Executive shall be deemed to have
violated the provisions of this Section notwithstanding the following:
(i) The capacity in which Executive shall have acquired such
opportunity; or
(ii) The probable success in the hands of the Company of such
opportunity.
8. NO PRIOR AGREEMENTS. Executive hereby represents and warrants to the Company
that the execution of this Agreement by Executive, his employment by the
Company, and the performance of his duties hereunder will not violate or be a
breach of any agreement with a former employer, client or any other Person.
Further, Executive agrees to indemnify and hold harmless the Company and its
officers, directors and representatives for any claim, including, but not
limited to, reasonable attorneys' fees and expenses of investigation, of any
such third party that such third party may now have or may hereafter come to
have against the Company or such other persons, based upon or arising out of any
noncompetition agreement, invention, secrecy or other agreement between
Executive and such third party that was in existence as of the effective date of
this Agreement. To the extent that Executive had any oral or written employment
agreement or understanding with the Company, this Agreement shall automatically
supersede such agreement or understanding, and upon execution of this Agreement
by Executive and the Company, such prior agreement or understanding
automatically shall be deemed to have been terminated and shall be null and
void.
9. REPRESENTATION. Executive acknowledges that he (a) has reviewed this
Agreement in its entirety, (b) has had an opportunity to obtain the advice of
separate legal counsel prior to executing this Agreement, and (c) fully
understands all provisions of this Agreement.
10. ASSIGNMENT; BINDING EFFECT. Executive understands that he has been selected
for employment by the Company on the basis of his personal qualifications,
experience and skills. Executive agrees, therefore, that he cannot assign or
delegate all or any portion of his performance under this Agreement. This
Agreement may not be assigned or transferred by the Company without the prior
written consent of Executive. Subject to the preceding two sentences, this
Agreement shall be binding upon, inure to the benefit of, and be enforceable by
the parties hereto and their respective heirs, legal representatives,
successors, and assigns. Notwithstanding the foregoing, if Executive accepts
employment with an Affiliate, unless Executive and his new employer agree
otherwise in
<PAGE> 10
writing, this Agreement shall automatically be deemed to have been assigned to
such new employer (which shall thereafter be an additional or substitute
beneficiary of the covenants contained herein, as appropriate), with the consent
of Executive, such assignment shall be considered a condition of employment by
such new employer, and references to the "Company" in this Agreement shall be
deemed to refer to such new employer.
11. COMPLETE AGREEMENT; WAIVER; AMENDMENT. This Agreement is not a promise of
future employment. Executive has no oral representations, understandings or
agreements with the Company or any of its officers, directors or representatives
covering the same subject matter as this Agreement. This Agreement is the final,
complete and exclusive statement and expression of the agreement between the
Company and Executive with respect to the subject matter hereof and thereof, and
cannot be varied, contradicted, or supplemented by evidence of any prior or
contemporaneous oral or written agreements. This Agreement may not be later
modified except by a further writing signed by a duly authorized officer of the
Company and Executive, and no term of this Agreement may be waived except by
writing signed by the party waiving the benefit of such term.
12. NOTICE. All notices, requests, demands and other communications required or
permitted to be given under this Agreement shall be in writing and shall be
given or made by personally delivering the same to or sending the same by
prepaid certified or registered mail, return receipt requested, or by reputable
overnight courier, or by facsimile machine to the party to which it is directed
at the address set out on the signature page to this Agreement or at such other
address as such party shall have specified by written notice to the other party
as provided in this Section, and shall be deemed to be given if delivered
personally at the time of delivery, or if sent by certified or registered mail
as herein provided three (3) days after the same shall have been posted, or if
sent by reputable overnight courier upon receipt, or if sent by facsimile
machine as soon as the sender receives written or telephonic confirmation that
the facsimile was received by the recipient and such facsimile is followed the
same day by mailing by prepaid first class mail.
13. SEVERABILITY; HEADINGS. If any portion of this Agreement is held invalid or
inoperative, the other portions of this Agreement shall be deemed valid and
operative and, so far as is reasonable and possible, effect shall be given to
the intent manifested by the portion held invalid and inoperative. This
severability provision shall be in addition to, and not in place of, the
provisions of Section 5(c) above. The Sections headings herein are for reference
purposes only and are not intended in any way to describe, interpret, define or
limit the extent or intent of this Agreement or of any part hereof.
14. EQUITABLE REMEDY. Because of the difficulty of measuring economic losses to
the Company as a result of a breach of the restrictive covenants set forth in
Sections 5 and 6 hereof, and because of the immediate and irreparable damage
that would be caused to the Company for which monetary damages would not be a
sufficient remedy, it is hereby agreed that in addition to all other remedies
that may be available to the Company at law or in equity, the Company shall be
entitled to specific performance and any injunctive or other equitable relief as
a remedy for any breach or threatened breach of the aforementioned restrictive
covenants.
15. ARBITRATION. Any unresolved dispute or controversy arising under or in
connection with this Agreement shall be settled exclusively by arbitration
conducted in accordance with the rules of the American Arbitration Association
then in effect. The arbitrators shall not have the authority to add
<PAGE> 11
to, detract from, or modify any provision hereof nor to award punitive damages
to any injured party. A decision by a majority of the arbitration panel shall be
final and binding. Judgment may be entered on the arbitrators' award in any
court having jurisdiction. The arbitration proceeding shall be held in the city
where the principal office of the Company is located. Notwithstanding the
foregoing, the Company shall be entitled to seek injunctive or other equitable
relief, as contemplated by Section 14 hereof, from any court of competent
jurisdiction, without the need to resort to arbitration. Should judicial
proceedings be commenced to enforce or carry out this provision or any
arbitration award, the prevailing party in such proceedings shall be entitled to
reasonable attorneys' fees and costs in addition to other relief.
16. GOVERNING LAW. This Agreement shall in all respects be construed according
to the laws of the Commonwealth of Virginia, without regard to its conflict of
laws principles.
17. COUNTERPARTS. This Agreement may be executed in any number of counterparts,
each of which may be executed by less than all of the parties to this Agreement,
each of which shall be enforceable against the parties actually executing such
counterparts, and all of which together shall constitute one instrument.
18. SIGNATURES. The parties shall be entitled to rely upon and enforce a
facsimile of any authorized signatures as if it were the original.
<PAGE> 12
IN WITNESS WHEREOF, the parties hereto have executed this Agreement as
of the date first above written.
COMPANY: EXECUTIVE:
STAR SCIENTIFIC, INC.
By:
(Signature) JAMES A. MCNULTY
6204 Greenwick Drive
Glen Allen, Virginia 23060
(Print Name and Title)
Star Scientific, Inc.
16 South Market Street
Petersburg, Virginia 23803
<PAGE> 1
EXHIBIT 23
CONSENT OF INDEPENDENT CERTIFIED ACCOUNTANTS
Star Scientific, Inc. and Subsidiaries
Petersburg, Virginia
As independent certified public accountants for Star Scientific, Inc. and
Subsidiaries, we hereby consent to the use in this Form 10-KSB/A Annual Report
for Star Scientific, Inc. and Subsidiaries of our report included herein, which
has a date of March 26, 1999 relating to the consolidated balance sheet of Star
Scientific, Inc. and Subsidiaries as of December 31, 1998 and the related
consolidated statements of operations, cash flows, and stockholders' equity for
the year then ended.
AIDMAN, PISER & CO.
Tampa, Florida
April 30, 1999
