<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
[X] Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarterly period ended July 31, 1997
OR
[ ] Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from________________to_______________
Commission file number:33-06827-LA
SEQUESTER HOLDINGS, INCORPORATED
-----------------------------------------------------------------
(Exact name of small business issuer as specified in its charter)
<TABLE>
<S> <C>
Nevada 95-4532103
- -------------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. employer
incorporation or organization number) identification number)
2835 Townsgate Road, Suite 110, Westlake Village, CA 91361
- ---------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
</TABLE>
Registrant's telephone number, including area code: (805) 494-6687
not applicable
-----------------------------------------------------------------------------
(former, name, address, and former fiscal year, if changed since last report)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
--- ---
State the number of shares outstanding of each of the Registrant's classes of
common equity, as of the latest practicable date.
<TABLE>
<CAPTION>
Outstanding at
Class of Common Stock August 31, 1997
--------------------- ---------------
<S> <C>
$.002 par value 19,167,411
</TABLE>
Transitional Small Business Disclosure Format Yes No X
--- ---
Number of sequentially numbered pages in the document: 29
<PAGE> 2
FORM 10-QSB
Securities and Exchange Commission
Washington, D.C. 20549
SEQUESTER HOLDINGS, INCORPORATED
Index
<TABLE>
<CAPTION>
Page
----
<S> <C>
PART 1 - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets at F-3
July 31, 1997 (unaudited) and January 31, 1997
Consolidated Statements of Operations for the three F-4
months and the six months ended July 31, 1997 (unaudited)
and 1996 (unaudited)
Consolidated Statement of Stockholders' Investment F-5
for the six months ended July 31, 1997 (unaudited)
Consolidated Statement of Cash Flows F-6
for the six months ended July 31, 1997 (unaudited)
and 1996 (unaudited)
Notes to Consolidated Financial Statements F-7
Item 2. Management's Discussion and Analysis or Plan of 19
Operations.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 28
Item 2. Changes in Securities 28
Item 6. Exhibits and Reports on Form 8-K 28
Signatures 29
</TABLE>
<PAGE> 3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SEQUESTER HOLDINGS, INCORPORATED
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
ASSETS
JULY 31, 1997 JANUARY 31, 1997
------------- ----------------
(Unaudited)
<S> <C> <C>
CURRENT ASSETS:
Cash (including restricted cash of $79,168 as of July 31, 1997) $ 119,294 $ 409,117
Accounts receivable, net 412,385 195,337
Accounts receivable - other, net -- 5,650
Due from officers and employees 11,705 6,117
Inventory 1,955,816 2,148,390
Other 1,173 7,173
------------ -----------
Total current assets 2,500,373 2,771,784
------------ -----------
PROPERTY AND EQUIPMENT, net 70,808 101,256
------------ -----------
OTHER ASSETS:
Deposits 23,828 4,888
Intangibles, net 1,944 2,074
------------ -----------
Total other assets 25,772 6,962
------------ -----------
Total assets $ 2,596,953 $ 2,880,002
============ ===========
LIABILITIES AND STOCKHOLDERS' INVESTMENT
CURRENT LIABILITIES:
Accounts payable 1,154,475 $ 1,086,183
Accrued expenses 428,483 300,420
Accrued advertising 110,000 225,849
Commissions payable 43,512 37,544
FTC payable 104,168 125,000
Loans from stockholders -- 356,999
------------ -----------
Total current liabilities 1,840,638 2,131,995
------------ -----------
Commitments and contingencies (see Notes)
STOCKHOLDERS' INVESTMENT
Convertible Preferred stock, par value $1,000 per share; 5000 shares 460,000 375,000
authorized; issued and outstanding 460 series A as of July 31, 1997
and 375 series A as of January 31, 1997
Common stock, par value $.002 per share; 25,000,000 shares 36,335 29,247
authorized; issued and outstanding 18,167,411 shares as of July 31,1997
and 14,623,725 shares as of January 31, 1997
Additional paid in capital 10,249,090 9,341,004
Accumulated deficit (8,820,610) (7,857,673)
Prepaid advertising and consulting fees (1,168,500) (1,139,571)
------------ -----------
Total stockholders' investment 756,315 748,007
------------ -----------
Total liabilities and stockholders' investment $ 2,596,953 $ 2,880,002
============ ===========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
<PAGE> 4
SEQUESTER HOLDINGS, INCORPORATED
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND SIX MONTHS ENDED JULY 31, 1997 AND 1996
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
--------------------------------- ---------------------------------
JULY 31, 1997 JULY 31, 1996 JULY 31, 1997 JULY 31, 1996
-------------- ------------- ------------- -------------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
<S> <C> <C> <C> <C>
Net Revenues $ 291,341 $ 456,102 $ 552,016 $ 1,572,361
Cost of Goods Sold 127,353 387,281 223,782 693,497
------------ ------------ ------------ ------------
Gross Profit 163,988 68,821 328,234 878,864
------------ ------------ ------------ ------------
Operating Expenses:
Advertising -- 220,988 317,828 257,507
Selling and marketing 164,088 243,695 358,053 441,305
General and administrative 263,707 471,518 613,403 978,917
------------ ------------ ------------ ------------
427,795 936,201 1,289,284 1,677,729
------------ ------------ ------------ ------------
Loss from Operations (263,807) (867,380) (961,050) (798,865)
------------ ------------ ------------ ------------
Non - Operating Income (Expense)
Interest expense -- (26,303) (5,142) (57,912)
Interest income 1,356 -- 5,055 --
Litigation Settlements, net -- -- -- 765,482
Payments to Officer and Stockholder -- -- -- (70,143)
------------ ------------ ------------ ------------
1,356 (26,303) (87) 637,427
------------ ------------ ------------ ------------
Loss before Income Taxes (262,451) (893,683) (961,137) (161,438)
Provision for Income Taxes -- -- 1,800 1,600
------------ ------------ ------------ ------------
Net Loss ($ 262,451) ($ 893,683) ($ 962,937) ($ 163,038)
============ ============ ============ ============
Weighted average shares of
Common Stock Outstanding: 17,654,754 13,511,170 16,461,754 14,762,189
============ ============ ============ ============
Net Loss per share: ($ 0.01) ($ 0.07) ($ 0.06) ($ 0.01)
============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
<PAGE> 5
SEQUESTER HOLDINGS, INCORPORATED
CONSOLIDATED STATEMENT OF STOCKHOLDERS' INVESTMENT
FOR THE SIX MONTHS ENDED JULY 31, 1997
<TABLE>
<CAPTION>
Preferred Stock Common Stock
---------------------------- ----------------------------
Number of shares Par value Number of shares Par value
---------------- --------- ---------------- ---------
<S> <C> <C> <C> <C>
Balance January 31, 1997 375 $ 375,000 14,623,725 $ 29,247
Issuance of convertible
preferred stock in
private placement 375 375,000 -- --
Conversion of preferred
stock (290) (290,000) 1,626,444 3,253
Issuance of common stock
for consulting services -- -- 1,000,000 2,000
Common stock retired,
consulting services -- -- (150,000) (300)
Issuance of common stock
in litigation settlement -- -- 20,000 40
Conversion of debt to
common stock -- -- 1,047,242 2,095
Net loss for six months
ended July 31, 1997 -- -- -- --
Amortization of prepaid
advertising and consulting
fees -- -- -- --
Balance July 31, 1997
==== ========= =========== ========
(Unaudited) 460 $ 460,000 18,167,411 $ 36,335
==== ========= =========== ========
<CAPTION>
Total
Additional Accumulated Equity Stockholder's
Paid In Capital Deficit Reductions Investment
--------------- ----------- ---------- -------------
<S> <C> <C> <C> <C>
Balance January 31, 1997 $ 9,341,004 ($7,857,673) ($1,139,571 $ 748,007
Issuance of convertible
preferred stock in
private placement (56,250) -- -- 318,750
Conversion of preferred
stock 286,747 -- --
Issuance of common stock
for consulting services 310,500 -- (312,500) --
Common stock retired,
consulting services -- -- -- (300)
Issuance of common stock
in litigation settlement 25,584 -- -- 25,624
Conversion of debt to
common stock 341,505 -- -- 343,600
Net loss for six months
ended July 31, 1997 -- ($ 962,937) -- (962,937)
Amortization of prepaid
advertising and consulting
fees -- -- 283,571 283,571
Balance July 31, 1997
============ =========== =========== =========
(Unaudited) $ 10,249,090 ($8,820,610 ($1,168,500 $ 756,315
============ =========== =========== =========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
<PAGE> 6
SEQUESTER HOLDINGS, INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JULY 31, 1997 AND 1996
<TABLE>
<CAPTION>
1997 1996
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES: (Unaudited) (Unaudited)
<S> <C> <C>
Net Loss ($962,937) ($ 163,038)
Adjustments to reconcile Net Loss
to net cash used in operating activities:
Depreciation and amortization 314,150 194,419
Stock issued for advertising and other services -- 67,500
Litigation settlements 25,624 (479,762)
--------- ----------
(623,163) (380,881)
--------- ----------
(Increase) / decrease in current assets:
Accounts receivable, net (216,986) (130,781)
Inventory 192,574 84,912
Other current assets 6,000 65,281
Increase / (decrease) in current liabilities:
Accounts payable 68,292 (466,590)
Accrued expenses 128,063 (110,228)
Accrued advertising (115,849) (70,095)
Commissions payable 5,968 17,910
FTC payable (20,832) --
--------- ----------
47,230 (609,591)
--------- ----------
Net cash used in operating activities (575,933) (990,472)
--------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Deposits (18,940) (131,296)
--------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Retirement of common stock (300) (7,600)
Proceeds from sale of common stock -- 2,094,891
Proceeds from sale of preferred stock 318,750 --
Note payable -- (286,517)
Loans from stockholders (13,400) (134,449)
--------- ----------
Net cash provided by financing activities 305,050 1,666,325
NET INCREASE (DECREASE) IN CASH (289,823) 544,557
CASH, BEGINNING BALANCE 409,117 48,279
--------- ----------
CASH, ENDING BALANCE $ 119,294 $ 592,836
========= ==========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
<PAGE> 7
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
1. DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
SeQuester Holdings, Incorporated ("the Company"), formerly KCD Holdings
Incorporated, was incorporated in the state of Nevada on February 13, 1986. The
Company's activities from inception until 1993 consisted primarily of reviewing
possible business opportunities and acquisitions, and maintaining the business
entity. The Company had only nominal net assets and no operational activities
from the fiscal years 1986 through 1993 and all expenses incurred were solely
related to maintaining the entity and reviewing potential business
opportunities.
The Company is a holding company which operates primarily through its
wholly-owned subsidiary, SeQuester Incorporated ("SeQuester"), formerly KCD
Incorporated, which was incorporated in November 1993. The Company is a
distributor and marketer of technologically advanced health products. The
Company currently markets dietary aid products under the names SeQuester(R),
ChromaQuest(TM) and PhytoQuest(TM). These products are sold to national drug and
food chain retailers, wholesalers and mass merchandisers throughout the United
States using several of the nation's largest food brokerage firms.
In October 1994, in connection with the issuance of 14,100,000 shares of its
common stock, $0.002 par value, which consisted of 100,000 shares to the
stockholders of the Company for cancellation of indebtedness then outstanding
and 14,000,000 shares to the stockholders of SeQuester when unrestricted shares
were trading at approximately $1.00 per share, the Company acquired 100% of the
ownership of SeQuester, as a reverse merger. The stock exchange was recorded as
a recapitalization of SeQuester using the Company's historical cost. SeQuester,
which is engaged in the business of marketing and distributing dietary aids,
commenced its operations in February 1994. For financial reporting purposes, the
operations of SeQuester have been included in the accompanying consolidated
financial statements since that date.
The Company's activities through 1995 consisted primarily of the development and
marketing of its dietary supplement product, SeQuester(R) 1. In December 1995,
the Company introduced an appetite suppressant, SeQuester(R) 2 and a chromium
based dietary supplement, ChromaQuest(TM) in addition to SeQuester(R) 1.
Additionally, the Company introduced its fourth product, PhytoQuest(TM), in
October 1996. It is composed of phytosterols, which in recent research shows
potential to inhibit the gastrointestinal absorption of cholesterol. To date,
the Company has developed access to major domestic retail, pharmacy and mass
merchandiser chains in the United States.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities at the date of the
financial statements, and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
Certain reclassifications were made to the 1996 consolidated financial statement
presentation to conform with the 1997 consolidated financial statement
presentation.
F-7
<PAGE> 8
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
The accompanying consolidated financial statements of the Company and its
subsidiary have been prepared in accordance with generally accepted accounting
principles for interim financial information and with the instructions to Form
10-QSB. Certain notes and other information have been condensed or omitted from
the interim financial statements presented in this report. Accordingly, they do
not include all of the information and footnotes required by generally accepted
accounting principles for complete financial statements. In the opinion of
management, the financial statements reflect all adjustments considered
necessary for a fair presentation. The results of operations for the six months
ended July 31, 1997 are not necessarily indicative of the results to be expected
for the full year. For further information, refer to the financial statements
and footnotes thereto included in the Company's Annual Report on Form 10- KSB
for the year ended January 31, 1997 as filed with the Securities and Exchange
Commission. All significant intercompany balances and transactions have been
eliminated in consolidation.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) Revenue Recognition -- The Company recognizes revenue from wholesalers,
distributors and retailers at the time of shipment, net of sales returns and
allowances. The Company maintains a reserve for returns which management
considers adequate to cover estimated losses. In determining the reserve to be
maintained, management evaluates many factors including items which may be
resold and historical loss experience. The reserve for returns was $398,705 at
July 31, 1997 and $207,215 at January 31, 1997 which has been recorded as
accrued expenses.
Significant customers accounting for 57% of revenues for the six months ended
July 31, 1997 include Walgreens 15%, Wal-Mart Stores 14%, Rite Aid Corp. 11%,
Target Stores 9%, and Eckerd Drug 8%.
Significant customers accounting for 57% of revenues for the six months ended
July 31, 1996 include American Drug Stores 19%, Wal-Mart Stores 18%, Revco D.S.
Inc. 12% and Eckerd Drug 8%.
(b) Fair Value of Financial Instruments and Credit Risk -- The carrying value of
cash, receivables and payables approximates their fair values due to the
relatively short maturity of these instruments.
(c) Allowance for Doubtful Accounts -- In determining the allowance to be
maintained, management evaluates many factors including industry and historical
loss experience. The allowance for doubtful accounts is maintained at an amount
management deems adequate to cover estimated losses. The allowance for doubtful
accounts was $62,820 at July 31, 1997 and $47,820 at January 31, 1997 for trade
receivables and was $5,650 at July 31, 1997 for other receivables.
(d) Advertising -- The Company expenses advertising costs as incurred.
F-8
<PAGE> 9
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
(e) Inventory -- Inventory is valued at the lower of cost or market value. Cost
is determined using the first-in, first-out method. Inventory consisted of:
<TABLE>
<CAPTION>
July 31, 1997 January 31, 1997
------------- ----------------
<S> <C> <C>
Product Units $ 1,801,959 $ 2,030,635
Packaging and Product Displays 204,782 212,035
Shipping Supplies 9,186 10,666
Consignment 157 16,589
----------- -----------
2,016,084 2,269,925
Less: Allowance for Obsolescence (60,268) (121,535)
----------- -----------
$ 1,955,816 $ 2,148,390
=========== ===========
</TABLE>
The allowance for obsolescence is maintained at an amount management deems
adequate to cover unsaleable inventory. In determining the allowance to be
maintained, management evaluates many factors including alternate uses and a
specific review for items no longer saleable.
(f) Property and Equipment -- The Company records property and equipment at cost
and depreciates it over the useful life of the asset using the straight-line
method of depreciation. Renewals and betterments are capitalized while repairs
and maintenance are charged to expense. Leasehold improvements are amortized
over their expected useful life, or the term of the lease, whichever is shorter.
Estimated useful lives are as follows:
<TABLE>
<S> <C>
Product Tooling 2 years
Machinery and Equipment 5-10 years
Furniture and Fixtures 5 years
Computer Equipment 5 years
</TABLE>
(g) Income Taxes -- Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases at enacted rates when such amounts are expected to be
realized or settled.
(h) Loss Per Common Share -- Loss per common share is based on the weighted
average number of common shares outstanding. Common share equivalents have not
been considered in determining the weighted average number of shares outstanding
as their effect would either be antidilutive or result in no material dilution
of earnings per share.
(i) Risks and Uncertainties -- In the normal course of business, the Company is
subject to certain risks and uncertainties as follows:
- The Company's primary source of revenue had been from a single
product, SeQuester(R) 1; however, the Company introduced two new dietary aid
products in December 1995
F-9
<PAGE> 10
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
(SeQuester(R) 2 and ChromaQuest(TM)) and introduced a fourth product,
PhytoQuest(TM) in October 1996.
- The Company has a significant accumulated deficit and has incurred
substantial losses from operations for the period from inception through July
31, 1997.
- The marketing of the Company's products is subject to the rules and
regulations of the Federal Trade Commission.
- The Company provides its product on unsecured credit to most of its
customers, the majority of which are national retail outlets.
(j) The Company accounts for stock-based employee compensation as prescribed by
APB Opinion 25, and has adopted the disclosure provisions of FAS 123. FAS 123
requires pro forma disclosures of net income and earnings per share as if the
fair value based method of accounting for stock-based awards had been applied.
The adoption of FAS 123 disclosure provisions has no effect on either the
Company's balance sheet or its results of operations.
3. REALIZATION OF ASSETS
The accompanying financial statements have been prepared in conformity with
generally accepted accounting principles which contemplate continuation of the
Company as a going concern. However, the Company has incurred net losses from
inception to July 31, 1997 of $8,820,610 including a loss of $962,937 for the
six months ended July 31, 1997 and net losses of $1,852,365 and $4,317,833
during the fiscal years ended January 31, 1997 and 1996, respectively. The
continuing losses have adversely affected the liquidity of the Company. Losses
are expected to continue for the immediate future. The Company faces continuing
significant business risks, including but not limited to, its ability to
maintain vendor and supplier relationships by making timely payments when due.
In view of the matters described in the preceding paragraph, recoverability of a
major portion of the recorded asset amounts shown in the accompanying balance
sheet is dependent upon continued operations of the Company, which in turn is
dependent upon the Company's ability to raise additional capital, obtain
financing and to succeed in its future operations. The financial statements do
not include any adjustments relating to the recoverability and classification of
recorded asset amounts or amounts and classification of liabilities that might
be necessary should the Company be unable to continue as a going concern.
Management has taken the following steps to revise its operating and financial
requirements, which it believes are sufficient to provide the Company with the
ability to continue as a going concern. Management devoted considerable effort
during the six months ended July 31, 1997 and the fiscal year ended January 31,
1997, towards (i) obtaining additional equity financing (ii) settlement of
remaining litigation matters (iii) reduction of salaries and general and
administrative expenses and
F-10
<PAGE> 11
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
(iv) rebuilding its marketing campaign. In addition, subsequent to January 31,
1997, the Company sold additional shares of preferred stock and exchanged debt
for equity; however, there are no assurances that private capital will continue
to be available.
4. REVENUES
In the normal course of business during the six month periods ended July 31,
1997 and 1996, the Company granted its customers a variety of discounts. The
discounts granted were as follows:
<TABLE>
<CAPTION>
1997 1996
---------- ----------
<S> <C> <C>
Gross Revenues $1,078,683 $2,066,439
---------- ----------
Discounts:
Refunds and Returns $ 459,925 $ 131,779
Introductory and Promotional 27,826 120,633
Co-op Advertising 25,607 202,137
Other 13,309 39,529
---------- ----------
Total Discounts $ 526,667 $ 494,078
---------- ----------
Net Revenues $ 552,016 $1,572,361
========== ==========
</TABLE>
5. PROPERTY AND EQUIPMENT
<TABLE>
<CAPTION>
July 31, 1997 January 31, 1997
------------- ----------------
<S> <C> <C>
Product Tooling $ 43,900 $ 43,900
Machinery and Equipment 79,280 79,280
Furniture and Fixtures 6,231 6,231
Computer Equipment 31,198 31,198
Leasehold Improvements 54,291 54,291
-------- ---------
214,900 214,900
Less: Accumulated Depreciation (144,092) (113,644)
-------- ---------
$ 70,808 $ 101,256
======== =========
</TABLE>
6. LOAN RECEIVABLE FROM OFFICER AND STOCKHOLDER
On February 1, 1995 the Company agreed to loan Clark Holcomb, the President of
the Company at that time, up to the principal amount of $2,000,000, from the
Company's cash flow from operations, with interest payable at the rate of 8% per
annum on the unpaid balance. The loan was payable on demand upon sixty days
prior notice. In consideration for the loan, Mr. Holcomb agreed and acted to
retire 2,000,000 shares of the Company's common stock owned by him and further
agreed to personally
F-11
<PAGE> 12
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
guarantee and collateralize certain advertising agreements and future borrowings
by the Company up to the principal balance of the loan. No salary was paid or
accrued for Mr. Holcomb for the twelve months ended January 31, 1996. As of
January 31, 1996, the balance of principal and interest receivable on this loan
of $2,145,964 was determined to be uncollectible and was expensed during the
twelve months ended January 31, 1996. In April 1996, Mr. Holcomb retired
3,800,000 shares of Company common stock personally owned by him in further
satisfaction of the Company's outstanding loan receivable from him which was
$2,223,707 at that date. An additional $70,143 was expensed during the three
months ended April 30, 1996.
7. LOANS PAYABLE TO STOCKHOLDERS
In March 1997, the Company entered into an agreement with certain stockholders
to convert the outstanding principal balance of their loans as of March 31,
1997, which was $343,600, to 1,047,242 restricted common shares of Company
stock. The principal balance of such loans was converted at a price 25% below
the closing bid price of the Company's common stock as of March 31, 1997
(approximately $0.328). These restricted shares were issued in May 1997 and
contain certain registration rights.
8. INCOME TAXES
No provision was made for Federal income tax since the Company has significant
net operating loss carryforwards. Through January 31, 1997, the Company incurred
net operating losses for tax purposes of approximately $6,596,000. Differences
between financial statement and tax losses consist primarily of amortization,
allowance for doubtful accounts, and termination of sub-chapter S status for a
subsidiary in connection with a merger in October, 1994. The net operating loss
carryforwards may be used to reduce taxable income through the year 2011. Net
operating loss carryforwards for the State of California are approximately
$2,735,000 and are generally available to reduce taxable income through the year
2001. Net operating loss carryforwards for the State of New Jersey are
approximately $1,027,000 and are generally available to reduce taxable income
through 2003. The availability of the Company's net operating loss carryforwards
are subject to limitation if there is a 50% or more positive change in the
ownership of the Company's stock. During the three taxable years ended January
31, 1997, the Company incurred a 50% or more change in ownership. Therefore, the
availability of the Company's net operating loss carryforwards is limited. The
provision for income taxes consists of the California and New Jersey state
minimum taxes imposed on corporations.
The gross deferred tax asset balance as of January 31, 1997 was approximately
$2,577,000. A 100% valuation reserve has been established against the deferred
tax assets, as the utilization of the loss carryforwards can not reasonably be
assured.
9. CONTRACTS AND AGREEMENTS
F-12
<PAGE> 13
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
(a) Advertising Agreement -- In May 1995, the Company entered into an agreement
with Premiere Radio Networks ("Premiere") for bartered advertising in the amount
of $1,000,000. As consideration for this advertising, the Company issued 200,000
shares of restricted common stock to Premiere. As of July 31, 1997, $96,254 of
unused advertising is currently available in connection with this agreement.
(b) Supply and Packaging Agreements -- In April 1996, the Company entered into a
five year supply agreement with a major manufacturer to provide dietary
supplements for resale within the United States and Canada. This agreement also
provides exclusive rights for the Company to sell products to certain retail
stores and wholesalers. In addition, in April 1996, the Company entered into a
five year packaging agreement which covers a significant portion of the
Company's packaging requirements.
(c) Employment Agreements -- The Company has entered into Employment
Agreements with its officers and key executives.
The Company entered into an Employment Agreement with Bonnie Richards, effective
July 1, 1995 whereby Ms. Richards was engaged as the Vice President of the
Company. Ms. Richards receives an annual base salary equal to $100,000. Ms.
Richards has accepted a temporary salary reduction to $60,000 per annum.
Effective October 15, 1995, the Company entered into an Employment agreement
with Wellington Ewen. Mr. Ewen was engaged as the Company's Chief Financial
Officer at an annual salary of $90,000. Mr. Ewen has accepted a temporary salary
reduction to $75,000 per annum.
Clark M. Holcomb is employed by the Company as the Director of Sales and
Marketing, effective March 25, 1996. Mr. Holcomb is entitled to an annual base
salary of $100,000; a sales incentive equal to 2% of net sales over the prior
base quarter; provided that, the Company has net income during the subject
quarter; and an equity incentive equal to the sales incentive, and subject to
the same conditions, based on the average bid price during the subject quarter.
(d) Stock Compensation Plan -- In March 1997, the Company established the 1997
Stock Plan ("Plan") and reserved 3,000,000 shares of Company common stock for
issuance to key employees and consultants under the Plan with a grant limit per
participant of 1,750,000 shares. Pursuant to the Plan, the Company granted an
aggregate of 1,500,000 non-qualified stock options during the three months ended
April 30, 1997. On July 31, 1997, the Company canceled previously issued options
and granted an equal amount of options to the same key employees and consultants
at fair market value on that date which was $0.12 per share.
The exercise price for all options granted was fair market value on the date of
grant. All such options vest on the date of grant, contain registration rights,
and terminate 10 years from date of grant. No options have been exercised
through July 31, 1997.
F-13
<PAGE> 14
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
(e) Other Agreements -- In January 1997 (amended in March 1997), the Company
entered into an agreement with Mike Ditka to render services as a performer in
television commercials endorsing Company products and to provide other marketing
services for a one-year period. In consideration for his services, Mr. Ditka
received (i) a cash payment of $75,000 in January 1997 and (ii) 1,000,000 shares
of the Company's restricted common stock in March 1997.
(f) Leases -- The Company leases its office and warehouse facilities in Westlake
Village, California under noncancelable operating leases, both of which expire
in December 1997. The office facility lease agreement contains a provision for a
single five year renewal option at the expiration of the lease. The Company also
leases warehouse space on a month to month basis in Pine Brook, New Jersey. Rent
expense incurred under all of these lease agreements is approximately $9,500 per
month.
10. STOCKHOLDERS' INVESTMENT
(a) Common Stock -- In June 1996, the Company entered into a stock purchase
agreement pursuant to which the Company agreed to issue a maximum of 1,000,000
shares of common stock offered at a price per share equal to the lesser of (i)
50% below the closing bid price of the Company's common stock or (ii) $2.00 per
share. During the period June 1996 through January 31, 1997, 695,027 shares were
issued for net proceeds of $1,192,022. Upon completion of this agreement, the
Company agreed to issue, to the placement agent, 300,000 warrants to purchase
common stock at the offering price. These warrants will have a five year life
and contain certain registration rights. In addition, upon completion of this
agreement, the Company agreed to enter into certain investment relationship
agreements for a one year period which provide for aggregate payments of $4,000
per month and the issuance of an aggregate of 200,000 warrants to purchase
common stock at the offering price. These warrants will have a five year life
and contain certain registration rights.
In connection with an agreement with a consultant to provide certain
advertising, design and marketing services, the Company also entered into a
common stock purchase agreement. Under the terms of the stock purchase
agreement, the Company was obligated to issue up to an aggregate of 250,000
shares of Company common stock at a purchase price of par value through August
1998. In August 1996, the Company issued 150,000 shares under this agreement.
The shares were subject to repurchase by the Company at par value for a period
of two years from date of purchase. In April 1997, this common stock agreement
was canceled and the previously issued shares thereunder were returned to the
Company and retired.
In February 1997, the Company issued 20,000 shares of common stock and paid
$11,858 in cash in settlement of fees due to a former attorney.
The Company is contingently liable to issue up to an aggregate of 540,000 shares
of restricted common stock in connection with certain common stock purchase
agreements. The Company has claims which partially offset these obligations.
F-14
<PAGE> 15
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
(b) Warrants -- The public warrants outstanding were issued as part of a 250,000
unit offering in August 1987. Each unit was offered at $0.75 and consisted of
one share of common stock, four "A" warrants, four "B" warrants, and four "C"
warrants.
In May 1997, the Company extended the date within which the outstanding warrants
of the Company could be exercised to June 30, 1998 and reduced the exercise
price. Exercise of the extended warrants is subject to an effective registration
statement with the Securities and Exchange Commission. The outstanding warrants
of the Company at July 31, 1997 are as follows:
<TABLE>
<CAPTION>
Warrant Class Amount Outstanding Exercise Price
------------- ------------------ --------------
<S> <C> <C>
A 398,850 $ 0.25
B 488,600 0.375
C 488,600 0.50
---------
1,376,050
</TABLE>
No warrants were exercised during the six months ended July 31, 1997 or the
twelve months ended January 31, 1997.
The Company has an additional 300,000 warrants outstanding to purchase common
stock at $2.50 per share. These warrants have a five year life and contain
certain registration rights.
(c) Preferred Stock -- In January 1997, the Company authorized issuance of a
series of 5,000 shares of Convertible Preferred Stock and designated an initial
issuance of 750 shares of Series A Convertible Preferred Stock with a par value
of $1,000 per share. Upon any liquidation, dissolution or winding up of the
Company, whether voluntary or involuntary, the holders of Series A Shares shall
be entitled, before any distribution or payment is made upon any shares of
common stock or any preferred stock junior in rank to the Series A Shares, to be
paid an amount per share equal to the liquidation value (the "Liquidation
Value"). The per share Liquidation Value of the Series A Shares on any date is
equal to the sum of the following: (i) $1,000, plus (ii) an amount equal to any
accrued and unpaid dividends from the issuance date. In January 1997, the
Company sold 375 shares and in February 1997 sold an additional 375 shares to
two accredited investors receiving gross proceeds of $750,000. The Company paid
placement and finder's fees aggregating 15% of the gross proceeds in connection
with this financing.
The Series A Shares are convertible into the Company's common stock, in phases
following the date of issuance (the "Closing Date"). The Series A Shares are
entitled to a 6% cumulative dividend payable in common stock at the time of
conversion and all of the Series A Shares are subject to a mandatory 12 month
conversion feature. One-third of the Series A Shares are convertible into common
stock at any time 45 days after the Closing Date; an additional one-third
(two-thirds cumulatively) are convertible into common stock at any time 60 days
after the Closing Date; and an additional one-third (the entire amount
cumulatively) are convertible into common stock at any time 75 days after the
Closing Date. The number of common shares issuable upon conversion of the
F-15
<PAGE> 16
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
Series A Shares equals the par value of the Series A Shares plus accrued
dividends through the date of conversion divided by the lesser of (i) 70% of the
"Market Price" (the 5 day average closing bid for the common stock for the 5
business days immediately preceding the conversion date); or (ii) 100% of the 5
day average closing bid for the common stock for the 5 business days immediately
preceding the Closing Date. Provided, that, for any conversions of the Series A
Shares occurring after the 89th day following the Closing Date the conversion
rate will be the lesser of (i) 65% of the Market Price; or (ii) 100% of the 5
day average closing bid for the common stock for the 5 business days immediately
preceding the Closing Date.
During April 1997, an aggregate of 190 shares of outstanding preferred stock
were converted into 914,438 shares of Company common stock. During May 1997, an
aggregate of 100 shares of outstanding preferred stock were converted into
712,006 shares of Company common stock.
In August 1997, the Company entered into an agreement with the convertible
preferred stockholders to (i) delay conversion of the remaining 460 outstanding
series A preferred shares through November 30, 1997 and (ii) offer to sell to
the Company the remaining 460 outstanding series A preferred shares at par value
at any time through November 30, 1997. As consideration for this agreement, the
Company agreed to issue an aggregate of 300,000 shares of restricted common
stock to such preferred stockholders.
11. LITIGATION
The Company is involved in several legal actions. In the opinion of the
management, the Company has adequate legal defenses with respect to these
actions, as noted below:
Federal Trade Commission
The advertising and promotion of the Company's products is subject to regulation
by the Federal Trade Commission ("FTC") under the Federal Trade Commission Act
("FTCA"). Among other requirements, the FTC requires that all claims made in
advertising be truthful and substantiated in accordance with standards that have
been developed by the FTC. The Company's advertising claims for its SeQuester(R)
1 product were recently the subject of inquiry by the Seattle Regional Office of
the FTC which alleged that previous claims for the SeQuester(R) 1 product were
false and/or unsubstantiated in violation of the FTCA. On December 18, 1996, the
Company's Board of Directors approved a proposed administrative consent order
which, was given final approval by the FTC on June 16, 1997, and requires the
Company to pay $150,000 to the FTC over a twelve-month period and maintain
adequate substantiation for future advertising claims. The consent order also
requires Clark M. Holcomb, a former officer and director of the Company and
Bonnie L. Richards, a current officer and director of the Company, to maintain
adequate substantiation for the future advertising claims and imposes joint and
several liability for the $150,000 payment to the FTC between the Company and
Ms. Richards. The Company has pledged and transferred to an escrow account
$125,000 in cash and has issued a security agreement which covers $25,000 of
inventory to secure the payment of the indebtedness to the FTC. The Company, Mr.
Holcomb and Ms. Richards will be subject to substantial
F-16
<PAGE> 17
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
monetary penalties in the event of non-compliance with the consent order. Such
penalties, if imposed, could have a material adverse effect on the Company.
KCD Holdings, Incorporated vs. Peter D. Bistrian and Horowitz, Cutler & Beam
In December 1995, the Company entered into a Management Consulting Agreement
("Consulting Agreement") with Peter D. Bistrian Consulting, Inc. ("PBC") for
management and marketing consulting services. As compensation for the foregoing
consulting services, PBC received 225,000 shares of the Company's common stock
(the "Consulting Shares"). The Company acted to register the offer and sale of
the Consulting Shares on Form S-8 which was filed in January 1996. In January
1996, the Company terminated the Consulting Agreement as a result of PBC's use
of the Company's confidential information for PBC's own benefit. The Company
requested in such notice of termination that PBC immediately return the
Consulting Shares for cancellation and that PBC immediately cease and desist
from trading in the Company's securities. Notwithstanding the Company's notice,
it appears that PBC subsequently acted to sell a substantial portion of the
Consulting Shares in the open market which was in violation of a lock-up
agreement prohibiting the sale of the Consulting Shares. In an attempt to
resolve this matter in an expeditious manner, and to secure the Consulting
Shares for cancellation, the Company entered into a conditional settlement
agreement, contingent upon the return to the Company of all of the Consulting
Shares, which required PBC to deliver the Consulting Shares to an escrow account
maintained by the law firm of Horowitz, Cutler & Beam ("HC&B") for delivery to
the Company. In February 1996, HC&B delivered 155,200 of the 225,000 Consulting
Shares to the Company. In May of 1996, the Company filed a Complaint in the
Superior Court of the State of California for the County of Los Angeles against
PBC; Peter D. Bistrian; HC&B; M. Richard Cutler; Gateway Financial Group, Inc.
("GFG"); and Lisa Paige for breach of written contract; legal malpractice;
intentional misrepresentation; negligent misrepresentation; securities fraud;
conversion; constructive fraud; breach of fiduciary duty; insider trading;
breach of covenant of good faith and fair dealing; and violation of the
racketeering influenced and corrupt organizations act. On May 12, 1997,
defendant GFG filed a cross-complaint against the Company, the Company's former
President and other parties for equitable indemnity; partial indemnity and
declaratory relief. The Company reached a settlement with all of the named
defendants in which the foregoing defendants would pay the Company the aggregate
sum of $230,000 to settle this action and the GFG cross-complaint with respect
to all named defendants and cross-defendants.
David J. Krizman vs. KCD Incorporated, et. al.
In April 1997, David Krizman, individually and as attorney in fact, sued the
Company and the Company's former President, Clark M. Holcomb, in the United
States Bankruptcy Court for the Central District of California. The Complaint
alleges that the Company breached a written contract by failing to transfer
shares of the Company's common stock owned by Mr. Holcomb to the plaintiff. It
is the Company's position that it has no obligation or liability to plaintiff in
connection with this matter other than to facilitate the transfer of the shares
in the ordinary course of business in compliance with applicable securities laws
and orders applicable to Mr. Holcomb. The Company intends to respond to the
Complaint accordingly and to vigorously defend this action.
F-17
<PAGE> 18
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
Geotermica, Ltd. vs. SeQuester Holdings Incorporated, et. al.
In September 1997, Geotermica, Ltd. filed an action against the Company and its
current and former directors, as individuals, in the Superior Court of
California for the County of Los Angeles. The Complaint alleges causes of action
for breach of contract; interference with contract and contractual relations;
and misrepresentation. The Complaint is based upon a purported interest
Geotermica Ltd. held in a license agreement by and between the Company and
Effective Health, Inc. and the Company's alleged failure to recognize
Geotermica's purported interest therein. The Company has previously settled its
action against Effective Health, Inc. and its parent company, Interactive
Medical Technologies, Ltd., concerning the Company's obligations under the
license agreement, which were deemed satisfied in full per the terms of the
settlement. The Company believes that the allegations contained in the complaint
are without merit and intends to respond to the Complaint accordingly and to
vigorously defend this action.
In April 1996, the Company settled certain advertising litigation resulting in a
gain of $845,482 and settled certain litigation, resulting in a loss of $80,000,
regarding a former sales broker in order to avoid the costs inherent in
defending the action. In August 1996, the Company settled certain litigation
regarding a license agreement and royalties with Effective Health Inc., a
wholly-owned subsidiary of Interactive Medical Technologies Ltd., which resulted
in a net gain of $151,245. In December 1996, the Company approved a proposed
administrative consent order with the FTC regarding alleged unsubstantiated
advertising claims which would require the Company to pay $150,000 to the FTC.
In February 1997, the Company settled certain other disputed and doubtful claims
for the sum of $24,000 to avoid further litigation costs inherent in defending
the action.
Except as otherwise specifically indicated above, management believes that the
Company does not have any material liability for any lawsuits, settlements,
judgments or fees of defense counsel which have not been paid or accrued as of
July 31, 1997.
As there is no assurance that the Company will prevail in any of the foregoing
lawsuits, the Company may incur substantial expense in connection with this
litigation. Any unfavorable settlement or judgment against the Company, in which
the Company is a defendant, could have a material adverse effect upon the
financial condition and operational results of the Company.
12. SUBSEQUENT EVENTS
(a) In August 1997, the Company entered into a financial advisory agreement with
Nova Bancorp USA wherein the Company will seek to raise additional capital in
the approximate amount of $5,000,000 through an anticipated institutional
private placement. The financial advisory agreement terminates on December 30,
1997 and no assurance can be given that the Company will be successful in
obtaining additional capital on satisfactory terms or at all.
(b) In August 1997, the Company restated its Consulting Agreement and Stock Plan
with a consultant, dated February 1, 1996 to extend the term of such agreement
for three a (3) year period
F-18
<PAGE> 19
SEQUESTER HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JULY 31, 1997 AND JANUARY 31, 1997
commencing August 1, 1997 and issued 1,000,000 shares of registered Company
common stock to such consultant.
F-19
<PAGE> 20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
General
SeQuester Holdings, Incorporated ("the Company"), formerly KCD Holdings
Incorporated, was incorporated in the state of Nevada on February 13, 1986. The
Company's activities from inception until 1993 consisted primarily of reviewing
possible business opportunities and acquisitions, and maintaining the business
entity. The Company had only nominal net assets and no operational activities
from the fiscal years 1986 through 1993 and all expenses incurred were solely
related to maintaining the entity and reviewing potential business
opportunities.
The Company is a holding company which operates primarily through its
wholly-owned subsidiary, SeQuester Incorporated ("SeQuester"), formerly KCD
Incorporated, which was incorporated in November 1993. The Company is a
distributor and marketer of technologically advanced health products. The
Company currently markets dietary aid products under the names SeQuester(R),
ChromaQuest(TM) and PhytoQuest(TM). These products are sold to national drug and
food chain retailers, wholesalers and mass merchandisers throughout the United
States using several of the nation's largest food brokerage firms.
In October 1994, the Company acquired 100% of the ownership of
SeQuester in a reverse merger by issuing 14,100,000 shares of its common stock,
$0.002 par value, which consisted of 100,000 shares to the stockholders of the
Company for cancellation of indebtedness then outstanding and 14,000,000 shares
to the stockholders of SeQuester when unrestricted shares were trading at
approximately $1.00 per share. The stock exchange was recorded as a
recapitalization of SeQuester using the Company's historical cost. SeQuester,
which is engaged in the business of marketing and distributing dietary aids,
commenced its operations in February 1994.
The Company's activities through 1995 consisted primarily of the
development and marketing of its dietary supplement product, SeQuester(R) 1. In
December 1995, the Company introduced an appetite suppressant (SeQuester(R) 2)
and a chromium based dietary supplement (ChromaQuest(TM)) in addition to
SeQuester(R) 1. Additionally, the Company introduced its fourth product,
PhytoQuest(TM), in October 1996. It is composed of phytosterols, which in recent
research shows potential to inhibit the gastrointestinal absorption of
cholesterol. The preceding products are collectively known as the SeQuester(R)
brand products. To date, the Company has developed access to major domestic
retail, pharmacy and mass merchandiser chains in the United States.
The weight loss industry represents an estimated 1 billion dollars in
revenues. Millions of Americans begin diets every year and buy diet supplements.
The primary target for the Company's SeQuester(R) brand products
appears to be relatively sophisticated females, 24 to 49 years old with a
history of weight loss efforts. These women are interested in products that are
natural, sensible and effective in aiding their struggle to lose unwanted fat.
They understand that reduced caloric intake is part of any effective weight loss
plan and they are inclined to use the product as directed.
19
<PAGE> 21
Market leaders in the weight reduction industry include Dexatrim(TM)
and Accutrim(TM), along with several additional smaller product marketers.
Market research indicates that there is a substantial market for
dietary supplements that are natural, drug-free products. SeQuester(R) 1 and
ChromaQuest(TM) do not contain any diuretics, stimulants, or drugs. SeQuester(R)
2, an appetite suppressant, does not contain any caffeine, diuretic, or sodium.
SeQuester(R) 2 is an FDA approved over-the-counter drug formulation for appetite
control to aid weight reduction, containing Phenylpropanolamine Hydrochloride.
PhytoQuest(TM) contains plant sterols. All of the ingredients comprising the
SeQuester(R) 1 product are included in published Food and Drug Administration
guidelines for ingredients generally recognized as safe ("GRAS").
ChromaQuest(TM), consists of a synergistic combination of 5 different sources of
Chromium, as well as Amino Acids, Vitamin C and Potassium. Chromium is an
essential trace mineral which is necessary for proper carbohydrate metabolism.
Results of Operations
The Company commenced operations for the marketing and distribution of
its SeQuester(R) products in the first calendar months of 1994. Certain costs
and necessary expenditures have been incurred that have delayed results on
sales, such as sales travel calls and re-visits to wholesalers, brokers and
retailers across the nation, as well as a national media advertising campaign.
The results of these efforts have brought the Company's SeQuester(R) products to
national attention.
For the three month period ended July 31, 1997 compared to the three month
period ended July 31, 1996:
Revenues are derived from sales of the dietary fat sequestrant product,
an appetite suppressant, a chromium based dietary supplement and a phytosterol
based dietary supplement all under the name SeQuester(R). Gross Revenues for the
three months ended July 31, 1997 decreased to $506,542 from $825,697 for the
three months ended July 31, 1996 or a 39% decrease.
Gross Revenues have been reduced for a variety of discounts to provide
Net Revenues of $291,341 for the three months ended July 31, 1997 and $456,102
for the three months ended July 31, 1996 or a 36% decrease. The decrease is
attributed to a decrease in sales and an increase in returns. The decrease in
sales is due to a lack of adequate financing to continue the Company's
advertising campaign. The increase in the refunds and returns resulted primarily
from (i) return of dated products which had remained unsold by retailers and
which could not be resold, (ii) disposal by retailers of unsaleable products and
(iii) a reserve recorded for estimated sales returns.
20
<PAGE> 22
<TABLE>
<CAPTION>
Three Months Ended
--------------------------------------
July 31, 1997 July 31, 1996
---------------- ----------------
$ % $ %
------- --- ------- ---
<S> <C> <C> <C> <C>
Gross Revenues 506,542 100 825,697 100
Discounts:
Refunds and Returns 199,033 39 117,897 14
Introductory and Promotional 8,717 2 79,020 10
Co-op Advertising 2,018 -- 152,838 19
Other 5,433 1 19,840 2
------- --- ------- ---
Total Discounts 215,201 42 369,595 45
------- --- ------- ---
Net Revenues 291,341 58 456,102 55
======= === ======= ===
</TABLE>
Gross Profits are comprised of Net Revenues less direct costs of
products, packaging and services. The Cost of Goods Sold of the dietary products
for the three month period ended July 31, 1997 was $127,353 or 44% of Net
Revenues which provided a Gross Profit of $163,988 or 56% of Net Revenues. For
the three month period ended July 31, 1996, the Cost of Goods Sold was $387,281
or 85% of Net Revenues, which provided a Gross Profit for the first three month
period of the previous year of $68,821 or 15% of Net Revenues. The increase in
Gross Profit percent resulted from a decrease in promotional discounts, co-op
advertising allowances and other discounts offset by an increase in returns. In
addition, during the three months ended July 31, 1997, the Company experienced
increased sales of higher margin products and certain obsolete display units
were repackaged and sold.
<TABLE>
<CAPTION>
Three Months Ended
--------------------------------------
July 31, 1997 July 31, 1996
---------------- ----------------
$ % $ %
------- --- ------- ---
<S> <C> <C> <C> <C>
Net Revenues 291,341 100 456,102 100
Cost of Goods Sold 127,353 44 387,281 85
------- --- ------- ---
Gross Profit 163,988 56 68,821 15
======= === ======= ===
</TABLE>
Advertising expenses consist of a multi-media advertising campaign
which includes TV and radio, signage and other displays. Selling and Marketing
expenses consist of sales commissions and salaries, coupon redemption,
warehouse, freight, supplies and travel expenses. General and administrative
expenses consist of salaries and benefits of officers and staff, accounting,
legal and other professionals, rent and occupancy costs, bad debt expense,
travel expenses and other administrative costs.
21
<PAGE> 23
There was no advertising expense for the three months ended July 31,
1997 compared with $220,988 for the same three months of 1996 due to lack of
adequate financing to continue the Company's advertising campaign. The Company
is currently evaluating its marketing programs and anticipates a new advertising
campaign commencing in the second half of 1997 as funding becomes available.
Selling and Marketing expenses decreased to $164,088 for the three
months ended July 31, 1997 from $243,695 for the same three months of 1996. The
Company experienced decreases in sales commissions and freight due to a
reduction in sales and decreases in payroll and travel expenses for the 1997
period which were partially offset by increases in consulting expenses.
General and Administrative expenses decreased to $263,707 for the three
months ended July 31, 1997 from $471,518 for the same three months of 1996. The
Company experienced decreases in legal fees, salaries, bad debt expense, travel
and office expenses, which were partially offset by increases in shareholder
expense and consulting fees.
There was no interest expense for the three months ended July 31, 1997
compared to $26,303 for the same three months of 1996. Interest expense for the
1997 period reflects no principal balances on short term loans from stockholders
which were converted to equity as of March 31, 1997.
Interest income of $1,356 for the three months ended July 31, 1997 is
the result of interest earned on a certificate of deposit of $100,000 which the
Company had pledged as collateral and subsequently cashed and transferred to an
escrow account in accordance with the terms of a consent order with the Federal
Trade Commission.
The net loss for the three month period ended July 31, 1997 of $262,451
was incurred principally as a result of a decrease in sales and an increase in
returns. The net loss for the three month period ended July 31, 1996 of $893,683
was the result of reduced sales combined with a continuation of fixed co-op
advertising costs and an increase in returns.
Net loss per common share was $0.01 for the three months ended July 31,
1997 and $0.07 for the three months ended July 31, 1996 based on the weighted
average shares of common stock outstanding.
For the six month period ended July 31, 1997 compared to the six month period
ended July 31, 1996:
Revenues are derived from sales of the dietary fat sequestrant product,
an appetite suppressant, a chromium based dietary supplement product and a
phytosterol-based dietary supplement all under the name SeQuester(R). Gross
revenues for the first six months ended July 31, 1997 were $1,078,683 vs.
$2,066,439 for the six months ended July 31, 1996 or a 48% decrease.
22
<PAGE> 24
Gross Revenues have been reduced for a variety of discounts to provide
Net Revenues of $552,016 for the six months ended July 31, 1997 and $1,572,361
for the six months ended July 31, 1996 or a 65% decrease. The decrease is
attributed to a decrease in sales and an increase in returns. The decrease in
sales is due to a lack of adequate financing to continue the Company's
advertising campaign. The increase in refunds and returns resulted primarily
from (i) return of dated products which had remained unsold by retailers and
which could not be resold, (ii) disposal by retailers of unsaleable products and
(iii) a reserve recorded for estimated sales returns.
<TABLE>
<CAPTION>
Six Months Ended
------------------------------------------
July 31, 1997 July 31, 1996
------------- -------------
% %
<S> <C> <C> <C> <C>
Gross Revenues $1,078,683 100 $2,066,439 100
---------- --- ---------- ---
Discounts:
Refunds and Returns $ 459,925 43 $ 131,779 6
Introductory and Promotional 27,826 3 120,633 6
Co-op Advertising 25,607 2 202,137 10
Other 13,309 1 39,529 2
Total Discounts $ 526,667 49 $ 494,078 24
---------- --- ---------- ---
Net Revenues $ 552,016 51 $1,572,361 76
========== === ========== ===
</TABLE>
Gross profits are comprised of Net Revenues less direct costs of
products, packaging and services. The Cost of Goods Sold of the dietary product
for the six month period ended July 31, 1997 was $223,782 or 41% of Net Revenues
which provided a Gross Profit of $328,234 or 59% of Net Revenues. For the six
month period ended July 31, 1996, the Cost of Goods Sold was $693,497 or 44% of
Net Revenues, which provided a Gross Profit for the first six month period of
the previous year of $878,864 or 56% of Net Revenues. The increase in Gross
Profit percent resulted from a decrease in promotional discounts, co-op
advertising allowances and other discounts offset by an increase in returns. In
addition, during the six months ended July 31, 1997, the Company experienced
increased sales of higher margin products and certain obsolete display units
were repackaged and sold.
<TABLE>
<CAPTION>
Six Months Ended
-----------------------------------------
July 31, 1997 July 31, 1996
------------- -------------
$ % $ %
<S> <C> <C> <C> <C>
Net Revenues 552,016 100 1,572,361 100
Cost of Goods Sold 223,782 41 693,497 44
------- --- --------- ---
Gross Profit 328,234 59 878,864 56
======= === ========= ===
</TABLE>
23
<PAGE> 25
Advertising expenses consist of a multi-media advertising campaign
which includes TV and radio, signage and other displays. Selling and marketing
expenses consist of sales commissions and salaries, coupon redemption,
warehouse, freight, supplies and travel expenses. General and administrative
expenses consist of salaries and benefits of officers and staff, accounting,
legal and other professionals, rent and occupancy costs, bad debt expense,
travel expenses and other administrative costs.
Advertising expense increased to $317,828 for the six months ended July
31, 1997 from $257,507 for the first six months of 1996. Advertising expenses
for the first six months ended July 31, 1997 included testing of TV spot
commercials in selected markets and utilization of prepaid radio barter
advertising. Lack of adequate financing curtailed continuance of the TV
scheduling during this period. The Company is currently evaluating all of its
marketing programs and anticipates significant advertising expenses during the
second half of 1997 as funding becomes available.
Selling and Marketing expenses decreased to $358,053 for the six months
ended July 31, 1997 from $441,305 for the first six months of 1996. The Company
experienced decreases in sales commissions and freight due to a reduction in
sales and decreases in travel expenses for the 1997 period. The decreases were
partially offset by increases in salaries and consulting fees. Selling and
marketing expenses are expected to increase during the second half of 1997.
General and Administrative expenses decreased to $613,403 for the six
months ended July 31, 1997 from $978,917 for the same six months of 1996. The
Company experienced decreases in legal fees, salaries, bad debt expense, travel
and office expenses, which were partially offset by increases in shareholder
expense and consulting fees.
Interest expense decreased to $5,142 for the six months ended July 31,
1997 from $57,912 for the same six months of 1996. Interest expense for the 1997
period reflects reduced principal balances on short term loans from stockholders
which were converted to equity as of March 31, 1997.
In April 1996, the Company settled certain advertising litigation
resulting in a gain of $845,482 and settled certain litigation, resulting in a
loss of $80,000, regarding a former sales broker in order to avoid the costs
inherent in defending the action.
In April 1996, Clark Holcomb resigned as a Director and President of
the Company and retired 3,800,000 shares of Company common stock personally
owned by him in satisfaction of the Company's outstanding loan receivable from
him in the amount of $2,223,707. As of January 31, 1996, the balance of
principal interest receivable on this loan was $2,145,964 which was expensed for
the twelve months ended January 31, 1996. An additional $70,143 was expensed
during the six months ended July 31, 1996.
Interest income of $5,055 for the six months ended July 31, 1997 is the
result of interest earned on a certificate of deposit of $100,000 which the
Company had pledged as collateral and
24
<PAGE> 26
subsequently cashed and transferred to an escrow account in accordance with the
terms of a consent order with the Federal Trade Commission.
The provision for income taxes is the minimum for the States of New
Jersey and California Franchise taxes. No provision was made for Federal income
tax since the Company has net operating loss carryforwards.
The net loss for the six month period ended July 31, 1997 of $962,937
was incurred principally as a result of a decrease in sales, an increase in
returns and a related decrease in gross profit. The net loss for the six month
period ended July 31, 1996 of $163,038 was the result of a gain on settlement of
certain advertising litigation which was offset by a loss from operations.
Net loss per common share was $0.06 for the six months ended July 31,
1997 and $0.01 for the six months ended July 31, 1996 based on the weighted
average shares of common stock outstanding.
Liquidity and Capital Resources
Since inception, the Company has received capital for operations and
development from private investors in the Company's securities, issuance of
private party debt, loans from stockholders and financing from factors as well
as revenues from operations. Through July 31, 1997, revenues from operations
have been insufficient to satisfy operating expenses, product development and
legal costs. The Company, therefore has been dependent on the private placement
of securities and loans from private investors and stockholders.
The Company faces continuing significant business risks, including but
not limited to, its ability to maintain vendor and supplier relationships by
making timely payments when due. The accompanying financial statements have been
prepared assuming that the Company will continue as a going concern. The
financial statements do not include any adjustments relating to the
recoverability and classification of asset carrying amounts or the amount and
classification of liabilities that might result should the Company be unable to
continue as a going concern.
There are no assurances that private capital will continue to be
available or that revenues from operations will increase to meet the Company's
cash needs, particularly as these needs relate to funding manufacturing costs
and advertising campaigns and the development of new products which the Company
believes represents its most significant long-term growth opportunities.
As shown in the accompanying financial statements, the Company has
incurred net losses from inception to July 31, 1997 of $8,820,610 including a
net loss of $962,937 for the six months ended July 31, 1997 and net losses of
$1,852,365 and $4,317,833 during the fiscal years ended January 31, 1997 and
1996, respectively.
Management devoted considerable effort during the six months ended July
31, 1997 and the fiscal year ended January 31, 1997 towards (i) obtaining
additional equity financing (ii) settlement of
25
<PAGE> 27
remaining litigation matters (iii) reduction of salaries and general and
administrative expenses and (iv) rebuilding its marketing campaign.
Management has reduced its administrative expenses and anticipates
growth of revenues from its SeQuester(R) products during the second half of
1997. The Company introduced an appetite suppressant and a chromium based
dietary supplement in December, 1995 and a phytosterol based dietary supplement
in October 1996.
In January 1997, the Company authorized issuance of a series of 5,000
shares of Convertible Preferred Stock and designated an initial issuance of 750
shares of Series A Convertible Preferred Stock with a par value of $1,000 per
share. Upon any liquidation, dissolution or winding up of the Company, whether
voluntary or involuntary, the holders of Series A Shares shall be entitled,
before any distribution or payment is made upon any shares of common stock or
any preferred stock junior in rank to the Series A Shares, to be paid an amount
per share equal to the liquidation value (the "Liquidation Value"). The per
share Liquidation Value of the Series A Shares on any date is equal to the sum
of the following: (i) $1,000, plus (ii) an amount equal to any accrued and
unpaid dividends from the issuance date. In January 1997, the Company sold 375
shares and in February 1997 sold an additional 375 shares to two accredited
investors receiving gross proceeds of $750,000. The Company paid placement and
finder's fees aggregating 15% of the gross proceeds in connection with this
financing.
The Series A Shares are convertible into the Company's common stock, in
phases following the date of issuance (the "Closing Date"). The Series A Shares
are entitled to a 6% cumulative dividend payable in common stock at the time of
conversion and all of the Series A Shares are subject to a mandatory 12 month
conversion feature. One-third of the Series A Shares are convertible into common
stock at any time 45 days after the Closing Date; an additional one-third
(two-thirds cumulatively) are convertible into common stock at any time 60 days
after the Closing Date; and an additional one-third (the entire amount
cumulatively) are convertible into common stock at any time 75 days after the
Closing Date. The number of common shares issuable upon conversion of the Series
A Shares equals the par value of the Series A Shares plus accrued dividends
through the date of conversion divided by the lesser of (i) 70% of the "Market
Price" (the 5 day average closing bid for the common stock for the 5 business
days immediately preceding the conversion date); or (ii) 100% of the 5 day
average closing bid for the common stock for the 5 business days immediately
preceding the Closing Date. Provided, that, for any conversions of the Series A
Shares occurring after the 89th day following the Closing Date the conversion
rate will be the lesser of (i) 65% of the Market Price; or (ii) 100% of the 5
day average closing bid for the common stock for the 5 business days immediately
preceding the Closing Date.
During April 1997, an aggregate of 190 shares of outstanding preferred
stock were converted into 914,438 shares of Company common stock. During May
1997, an aggregate of 100 shares of outstanding preferred stock were converted
into 712,006 shares of Company common stock.
In August 1997, the Company entered into an agreement with the
convertible preferred stockholders to (i) delay conversion of the remaining 460
outstanding
26
<PAGE> 28
series A preferred shares through November 30, 1997 and (ii) offer to sell to
the Company the remaining 460 outstanding series A preferred shares at par value
at any time through November 30, 1997. As consideration for this agreement, the
Company agreed to issue an aggregate of 300,000 shares of restricted common
stock to such preferred stockholders.
As of March 31, 1997, the Company owed stockholders $343,600 of
principal balance on notes. In March 1997, the Company entered into an agreement
with these stockholders to convert the outstanding principal balance of such
loans as of March 31, 1997 to 1,047,242 restricted common shares of Company
stock. The principal balance of such loans were converted at a price 25% below
the closing bid price of the Company's common stock as of March 31, 1997
(approximately $0.328). These restricted shares were issued in May 1997 and
contain certain registration rights.
As of July 31, 1997, the Company's working capital position increased
to $659,735 from $639,789 at January 31, 1997. Increases in current assets
include increases in accounts receivable of $216,986 offset by decreases in cash
of $289,823, inventory of $192,574 and other assets of $6,000. Changes in
current liabilities include increases in accounts payable of $68,292, accrued
expenses of $128,063 and commissions payable of $5,968, and decreases in FTC
payable of $20,832 and accrued advertising of $115,849. Notes payable and loans
from stockholders decreased $356,999. Current assets decreased a net of $271,411
and current liabilities decreased a net of $291,357 for the six months ended
July 31, 1997. The net loss for the six months ended July 31, 1997 of $962,937
was reduced by non-cash charges for depreciation and amortization of $314,150
and issuance of stock of $25,624 in connection with settlement of litigation to
reconcile to net cash used in operating activities.
In August 1997, the Company entered into a financial advisory agreement
with Nova Bancorp USA wherein the Company will seek to raise additional capital
in the approximate amount of $5,000,000 through an anticipated institutional
private placement. The financial advisory agreement terminates on December 30,
1997 and no assurance can be given that the Company will be successful in
obtaining additional capital on satisfactory terms or at all.
The Company currently has no firm commitments for material capital
expenditures. The Company does not anticipate that future compliance with
existing environmental and occupational safety regulations will have a
significant impact on its financial condition or future operating results.
The Company does not believe that general inflation would have a
material effect on its operations.
Included in this Item 2. "Management's Discussion and Analysis or Plan
of Operation" are certain forward-looking statements reflecting the Company's
current expectations. Although the Company believes that its expectations are
based on reasonable assumptions, there can be no assurance that the Company's
financial goals or expectations will be realized. Numerous factors (such as the
availability of capital and the effectiveness of advertising) may affect the
Company's actual results and may cause results to differ materially from those
expressed in forward-looking statements made by the Company.
27
<PAGE> 29
PART II. OTHER INFORMATION
Item 1. - Legal Proceedings:
The Company is involved in several legal actions. For a description of this
litigation and certain other pending legal matters involving the Company, refer
to the Company's Form 10-QSB - Part I for the six months ended July 31, 1997
which are incorporated herein by reference.
Item 2. - Changes in Securities:
In March 1997, the Company entered into an agreement with certain stockholders
to convert the outstanding principal balance of their loans as of March 31,
1997, which was $343,600, to 1,047,242 restricted common shares of Company
stock. The principal balance of such loans were converted at a price 25% below
the closing bid price of the Company's common stock as of March 31, 1997
(approximately $0.328). These restricted shares were issued in May 1997 and
contain certain registration rights. The stockholders to whom the shares were
issued are "accredited investors" as defined in Regulation D promulgated under
the 1933 Act. The Company relied upon the exemptions from registration contained
in Sections 4(2) and 4(6) of the 1933 Act, on the basis that the offer and sale
of the shares did not involve any public offering. All of the foregoing shares
were issued with the appropriate restrictive legend.
Item 6. - Exhibits and Reports on Form 8-K:
(b) On May 20, 1997, the Company filed a report on Form 8-K, which
reported under Items 6 and 7 of such form.
On June 30, 1997, the Company filed a report on Form 8-K,
which reported under Item 5 of such form.
(27) Financial Data Schedule (included only in EDGAR filing).
28
<PAGE> 30
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
SEQUESTER HOLDINGS,
INCORPORATED (Registrant)
Dated September 8, 1997 By: /s/ Wellington A. Ewen
---------------------------
Wellington A. Ewen
President
Pursuant to the requirements of Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ Wellington A. Ewen President, Principal Accounting Officer, September 8, 1997
- --------------------------- and Director
Wellington A. Ewen
/s/ Bonnie L. Richards Vice President, Secretary, and Director September 8, 1997
- ---------------------------
Bonnie L. Richards
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM (A) THE
BALANCE SHEETS AND STATEMENT OF OPERATIONS AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH (B) 10-QSB FOR THE SIX MONTHS ENDED JULY 31, 1997.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> JAN-31-1998
<PERIOD-START> FEB-01-1997
<PERIOD-END> JUL-31-1997
<CASH> 119,294
<SECURITIES> 0
<RECEIVABLES> 492,560
<ALLOWANCES> 68,470
<INVENTORY> 1,955,816
<CURRENT-ASSETS> 2,500,373
<PP&E> 214,900
<DEPRECIATION> 144,092
<TOTAL-ASSETS> 2,596,953
<CURRENT-LIABILITIES> 1,840,638
<BONDS> 0
0
460,000
<COMMON> 36,335
<OTHER-SE> 259,980
<TOTAL-LIABILITY-AND-EQUITY> 2,596,953
<SALES> 552,016
<TOTAL-REVENUES> 552,016
<CGS> 223,782
<TOTAL-COSTS> 223,782
<OTHER-EXPENSES> 1,284,229
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 5,142
<INCOME-PRETAX> (961,137)
<INCOME-TAX> 1,800
<INCOME-CONTINUING> (962,937)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (962,937)
<EPS-PRIMARY> (.06)
<EPS-DILUTED> (.06)
</TABLE>
