<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934.
For the quarterly period ended June 30, 2000
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 33-7106-A
NATURADE, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 23-2442709
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(State or other jurisdiction of (I. R. S. Employer
incorporation or organization) Identification No.)
14370 Myford Rd. Irvine, California 92606
-----------------------------------------
(Address of principal executive offices)
(714) 573-4800
--------------
(Registrant's telephone number, including area code)
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
----- -----
Indicate by number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 7,347,389 shares as of
August 1, 2000.
Exhibit Index on Page 20
1
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FORM 10-Q
QUARTERLY REPORT
Quarter Ended June 30, 2000
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE NO.
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<S> <C>
PART I: FINANCIAL INFORMATION
Item 1. Financial Statements
Balance Sheets at June 30, 2000 3
(unaudited) and December 31, 1999 (audited)
Statements of Operations for the three and six month 4
period ended June 30, 2000 (unaudited) and June 30, 1999
(unaudited)
Statements of Cash Flows for the six month periods ended 5
June 30, 2000 (unaudited) and June 30,1999 (unaudited)
Notes to Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition 10
and Results of Operations
PART II: OTHER INFORMATION
Item 1. Legal Proceedings 17
Item 2. Changes in Securities 17
Item 3. Defaults upon Senior Securities 17
Item 4. Submission of Matters to a Vote of Security Holders 17
Item 5. Other Information 17
Item 6. Exhibits and Reports on Form 8-K 18
SIGNATURES 19
</TABLE>
2
<PAGE>
NATURADE, INC.
BALANCE SHEETS
AS OF JUNE 30, 2000 AND DECEMBER 31, 1999
<TABLE>
<CAPTION>
ASSETS
June 30, 2000 December 31, 1999
------------- -----------------
(Unaudited) (Audited)
<S> <C> <C>
Current assets:
Cash and cash equivalents $285,755 $1,056,240
Accounts receivable, net 1,804,395 1,217,323
Inventories 2,088,594 2,225,289
Prepaid expenses and other current assets 521,664 178,603
------------ ------------
Total current assets 4,700,408 4,677,455
Property and equipment, net 302,515 326,317
Other assets 92,014 99,178
------------ ------------
Total assets $5,094,937 $5,102,950
============ ============
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Accounts payable $2,008,074 $2,035,862
Accrued expenses 750,836 547,573
Current portion of long-term debt 2,073,802 2,743,949
------------ ------------
Total current liabilities 4,832,712 5,327,384
Long-term debt, less current maturities 3,862,347 3,778,528
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' DEFICIT:
Common stock, par value $0.0001 per share; authorized, 50,000,000
shares; issued and outstanding, 7,347,389 at June 30, 2000 and
5,349,084 at December 31, 1999 697 535
Preferred stock, par value $0.0001 per share; authorized, 2,000,000
shares; issued and outstanding, 1,250,024 125 125
Additional paid-in capital 11,311,743 9,688,025
Accumulated deficit (14,912,687) (13,691,647)
------------ ------------
Total stockholders' deficit (3,600,122) (4,002,962)
------------ ------------
Total liabilities and stockholders' deficit $5,094,937 $5,102,950
============ ============
</TABLE>
See accompanying notes to financial statements.
3
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NATURADE, INC
STATEMENTS OF OPERATIONS FOR THE THREE MONTHS
AND SIX MONTHS ENDED JUNE 30, 2000 AND 1999
<TABLE>
<CAPTION>
Three Months Three Months Six Months Six Months
Ended Ended Ended Ended
June 30, 2000 June 30, 1999 June 30, 2000 June 30, 1999
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net sales $3,672,249 $2,781,116 $7,058,783 $5,133,924
Cost of sales 1,863,344 1,841,297 3,704,937 3,225,926
----------- ----------- ----------- -----------
Gross profit 1,808,905 939,819 3,353,846 1,907,998
----------- ----------- ----------- -----------
Costs and expenses:
Selling, general and administrative expenses 2,125,607 2,046,663 4,078,724 3,940,948
Depreciation and amortization 39,984 44,665 82,068 91,445
Other operating expense - - - 2,774,000
----------- ----------- ----------- -----------
Total operating costs and expenses 2,165,591 2,091,328 4,160,792 6,806,393
----------- ----------- ----------- -----------
Operating loss (356,686) (1,151,509) (806,946) (4,898,395)
Other expense:
Interest expense 118,351 134,236 388,757 223,487
Other expense (income) 19,344 (110,651) 24,537 (166,916)
----------- ----------- ----------- -----------
Loss before provision for income taxes (494,381) (1,175,094) (1,220,240) (4,954,966)
Provision for income taxes - - 800 2,400
----------- ----------- ----------- -----------
Net loss ($494,381) ($1,175,094) ($1,221,040) ($4,957,366)
=========== =========== =========== ===========
Basic and Diluted Loss per share ($0.07) ($0.22) ($0.18) ($0.93)
=========== =========== =========== ===========
Weighted Average Number of Shares used in Computation 7,347,389 5,349,084 6,622,897 5,342,942
of Basic and Diluted Loss per Share =========== =========== =========== ===========
</TABLE>
See accompanying notes to financial statements
4
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NATURADE, INC
STATEMENTS OF CASH FLOWS FOR THE SIX MONTHS
ENDED JUNE 30, 2000 AND JUNE 30, 1999
<TABLE>
<CAPTION>
Six Months Ended Six Months Ended
June 30, 2000 June 30,1999
---------------- -----------------
(Unaudited) (Unaudited)
<S> <C> <C>
Cash flows from operating activities:
Net (loss) income ($1,221,040) ($4,957,366)
Adjustments to reconcile net (loss) to
net cash used in operating activities:
Depreciation and amortization 82,068 91,445
Provision for bad debt expense (121,903) 161,517
Provision for excess and obsolete inventories (34,916) 214,479
(Gain) on disposition of property and equipment - (331,473)
Writeoff of debt discount 174,481 -
Changes in assets and liabilities:
Accounts receivable (465,169) 82,039
Inventories 171,611 (495,505)
Prepaid expenses and other current assets (382,882) 192,896
Other assets 7,164 10,441
Lawsuit judgement payable 2,774,000
Accounts payable and accrued expenses 175,475 593,443
----------- -----------
Net cash used in operating activities: (1,615,111) (1,664,084)
Cash flows from investing activities:
Purchase of property and equipment (21,316) (186,479)
Proceeds from sale of property and equipment 2,871 2,113,950
----------- -----------
Net cash (used in) provided by investing activities: (18,445) 1,927,471
Cash flows from financing activities:
Net borrowings under line of credit 990,523 985,719
Payments of long-term debt, including capital lease (227,452) (1,973,087)
Proceeds from issuance of debt to related party 100,000 -
Proceeds from sale of stock - 39,853
Proceeds from exercise of stock options/warrants - 1,059
----------- -----------
Net cash provided by (used in) financing activities: 863,071 (946,456)
Net decrease in cash and cash equivalents (770,485) (683,069)
Cash and cash equivalents, beginning of period 1,056,240 842,029
----------- -----------
Cash and cash equivalents, end of period $285,755 $158,960
=========== ===========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
CASH PAID DURING THE PERIOD FOR:
Interest $255,946 $186,457
Taxes $800 $800
</TABLE>
See accompanying notes to financial statements
5
<PAGE>
NATURADE, INC.
Notes to Financial Statements
1. The results of operations for the interim periods shown in this report are
not necessarily indicative of results to be expected for the fiscal year.
In the opinion of management, the information contained herein includes all
adjustments necessary for fair presentation of the financial statements.
All such adjustments are of a normal recurring nature. These financial
statements do not include all disclosures associated with the Company's
annual financial statements on Form 10-K and accordingly, should be read
in conjunction with such statements.
2. Inventories are stated at the lower of weighted average cost or market.
Weighted average cost is determined on a first-in, first-out basis.
Inventories at June 30, 2000 and December 31, 1999 consisted of the
following:
<TABLE>
<CAPTION>
June 30, 2000 December 31, 1999
(Unaudited) (Audited)
------------- -----------------
<S> <C> <C>
Raw Materials $ 219,341 $ 180,174
Finished Goods 2,428,804 2,639,582
---------- ----------
Subtotal 2,648,145 2,819,756
Less: Reserve for Excess and Obsolete Inventories (559,551) (594,467)
---------- ----------
$2,088,594 $2,225,289
</TABLE>
3. As previously reported, on March 11, 1999, a civil judgment (the "PNI
Judgment") was entered against the Company and a co-defendant for a total
of $2,774,000 by the United States Bankruptcy Court for the Northern
District of Texas following trial in a proceeding initiated by the Trustee
(the "PNI Trustee") in the Chapter 7 bankruptcy case of Performance
Nutrition, Inc. ("PNI"). On August 5, 1999, the Bankruptcy Court approved a
settlement agreement between the Company and the PNI Trustee (the
"Settlement Agreement"). The Settlement Agreement provided the Company with
a full release of the Judgment and required the Company to deliver to the
PNI Trustee (1) a cash payment of $1,350,000 which was made in 1999, (2) a
promissory note in the amount of $424,000, of which $70,667 is outstanding
at June 30, 2000, payable over 12 months at 5% interest, and (3) a
contingent promissory note (the obligations under which have lapsed without
payment by the Company). Consequently, the adjusted total cost to the
Company of the settlement is $1,774,000, exclusive of interest on the
promissory note.
6
<PAGE>
4. The Company rents property and equipment under certain noncancellable
operating leases expiring in various years through 2006. Future minimum
commitments under operating leases as of June 30, 2000 are as follows:
<TABLE>
<CAPTION>
Year Amount
---- ------
<S> <C>
2000 (July 1 - December 31) $221,098
2001 435,420
2002 417,113
2003 412,828
2004 399,584
Thereafter 734,052
------------
Total $ 2,620,095
</TABLE>
5. In March 1999, the Company entered into a Finance Agreement (the "Finance
Agreement") with Health Holdings and Botanicals, Inc., a majority
stockholder of the Company ("Health Holdings"). The Finance Agreement
provided that the Company was entitled to borrow up to $1 million at an
interest rate of 8% per annum. The Finance Agreement further provided that
for each dollar borrowed, the Company would issue a warrant to Health
Holdings to purchase three-tenths (0.3) of a share of common stock of the
Company at an exercise price of $2.125 per share. As of June 30, 1999, the
Company had issued 300,000 warrants under the Finance Agreement prior to
the Amendment referred to below. The warrants are exercisable for a period
of ten years commencing on the date of grant.
6. In June 1999, the Finance Agreement was amended (the "Amendment") to
increase the amount of available borrowings to $1.6 million (also at an
interest rate of 8% per annum). The Amendment further provided that for
each dollar borrowed over $1 million, the Company would issue a warrant to
Health Holdings to purchase one-half (1/2) of a share of common stock of
the Company at an exercise price of $1.00 per share. Further, the exercise
price of the 300,000 warrants previously issued under the Finance Agreement
prior to the Amendment was reset to $1.00 per share. All borrowings under
the Finance Agreement were secured by the assets of the Company. All
borrowings made prior to June 1, 1999 were due on March 7, 2000; those made
after May 31, 1999 were scheduled to be due May 31, 2000. As of December
31, 1999, the Company borrowed $1,600,000 under the Finance Agreement and
the Amendment and issued a total of 600,000 warrants to Health Holdings.
The Company recorded the fair value of the warrants issued as a debt
discount and amortized this discount over the life of the debt. The Finance
Agreement further provided that at any time upon written notice, Health
Holdings may convert any portion of the advances into shares of the
Company's common stock at a conversion price equal to the lower of $1.00
per share or the then fair market value of the Company's common stock.
7
<PAGE>
7. In March 2000, Health Holdings converted the entire outstanding balance
under the Finance Agreement of $1,600,000 plus accrued interest of $23,145
into 1,997,717 shares of restricted common stock of the Company based on
the then fair market value of the Company's common stock of $.812.
Effective with this conversion, the Finance Agreement terminated and is no
longer in effect.
8. In August 1999, the Company entered into a Credit Agreement (the "Credit
Agreement") with Health Holdings. The Credit Agreement allows for advances
(the "Advances") of $4 million at an interest rate of 8% per annum with a
due date of July 31, 2004. Interest only payments are required on a
quarterly basis. As of June 30, 2000, the Company has borrowed $3,750,000
under this facility. The Credit Agreement further provides that any time
upon written notice, Health Holdings may convert any portion of the
Advances into shares of the Company's common stock at a conversion price
equal to the lower of $.75 per share or the then fair market value of the
Company's common stock.
9. On January 27, 2000, the Company entered into a three year Credit and
Security Agreement with Wells Fargo Business Credit that allows for maximum
borrowings of up to $3,000,000, based on certain percentages of eligible
accounts receivable and inventories as defined. Amounts due under the
Credit and Security Agreement bear interest at the prime rate plus 1.5%.
Borrowings under the Credit and Security Agreement are collateralized by
substantially all assets of the Company. The Credit and Security Agreement
contains covenants which, among other things, require that certain
financial ratios are met. As of June 30, 2000, the Company borrowed
$1,970,831 under the Credit and Security Agreement and based on eligible
accounts receivables and inventory the additional availability as of June
30, 2000 is approximately $700,000. As of June 30, 2000, the Company was
not in technical compliance with the minimum net income covenant.
10. As part of a restructuring of the Company in 1991, equity holders exchanged
their shares for new common stock and Class A and Class B Warrants. The
Class A Warrants expired at December 31, 1996. The Class B Warrants allowed
for the purchase of one share of common stock for $1.25 per share.
In January 2000, 588 warrants were exercised and the remaining 324,520
unexercised Class B warrants expired.
11. Operating segments are defined as components of an enterprise about which
separate financial information is available that is evaluated regularly by
the Company's chief operating decision-maker, or decision-making group, in
deciding how to allocate resources and in assessing performance.
The Company's reportable operating segments include health food specialty
stores and mass market categories. The Company does not allocate operating
expenses to these segments, nor does it allocate specific assets to these
segments. Therefore, segment information reported includes only sales, cost
of sales and gross profit.
8
<PAGE>
Operating segment data for the three and six months ended June 30, 2000 and
June 30, 1999 was as follows:
<TABLE>
<CAPTION>
Distribution Channels
Health Food Mass Market Total
----------- ----------- -----
<S> <C> <C> <C>
Three months ended June 30, 2000
Sales $ 2,807,918 $ 864,331 $ 3,672,249
Cost of Sales 1,465,433 397,911 1,863,344
----------- ----------- -----------
Gross Profit 1,342,485 466,420 1,808,905
Six months ended June 30, 2000
Sales $ 5,259,745 $ 1,799,038 $ 7,058,783
Cost of Sales 2,794,152 910,785 3,704,937
----------- ----------- ----------
Gross Profit 2,465,593 888,253 3,353,846
Three months ended June 30, 1999
Sales $ 2,691,571 $ 89,545 $ 2,781,116
Cost of Sales 1,793,579 47,718 1,841,297
----------- ----------- ----------
Gross Profit 897,992 41,827 939,819
Six months ended June 30, 1999
Sales $ 4,983,209 $ 150,715 $ 5,133,924
Cost of Sales 3,144,462 81,464 3,225,926
----------- ----------- ----------
Gross Profit 1,838,747 69,251 1,907,998
</TABLE>
Sales are attributed to geographic areas based on the location of the
entity to which the products were sold. Geographic segment data for the
three and six months ended June 30, 2000 and June 30, 1999 is as follows:
<TABLE>
<CAPTION>
United States International Total
------------- ------------- -----
<S> <C> <C> <C>
Three months ended June 30, 2000
Sales $ 3,555,143 $ 117,106 $ 3,672,249
Cost of Sales 1,794,617 68,727 1,863,344
----------- ----------- -----------
Gross Profit 1,760,526 48,379 1,808,905
Six months ended June 30, 2000
Sales $ 6,802,867 $ 255,916 $ 7,058,783
Cost of Sales 3,552,306 152,631 3,704,937
----------- ----------- -----------
Gross Profit 3,250,561 103,285 3,353,846
</TABLE>
9
<PAGE>
<TABLE>
<CAPTION>
United States International Total
------------- ------------- -----
<S> <C> <C> <C>
Three months ended June 30, 1999
Sales $ 2,512,076 $ 269,040 $ 2,781,116
Cost of Sales 1,575,490 265,807 1,841,297
----------- ----------- -----------
Gross Profit 936,586 3,233 939,819
Six months ended June 30, 1999
Sales $ 4,844,001 $ 289,923 $ 5,133,924
Cost of Sales 2,933,495 292,431 3,225,926
----------- ----------- -----------
Gross Profit 1,910,506 (2,508) 1,907,998
</TABLE>
During the three and six months ended June 30, 2000 one customer which
includes six distribution centers accounted for 20.3% and 21.7%,
respectively, of total net sales. During the three and six months ended
June 30, 1999, this same customer accounted for 27.7% and 27%,
respectively, of total net sales.
12. In 1998, the FASB issued SFAS no. 133: " Accounting for Derivatives and
Hedging Activities", which the Company will adopt in fiscal 2001. SFAS No.
133 requires that all derivatives be reported at fair value. Management has
not yet determined the impact of the adoption of SFAS No. 133 on the
financial statements of the Company.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin 101, Revenue Recognition ("SAB 101"). SAB 101
summarizes certain of the SEC staff's views in applying generally
accepted accounting principles to selected revenue recognition issues
in financial statements. Implementation of SAB 101, which was delayed by
the issuance of SAB 101A on March 27, 2000 and SAB 101B on June 26,
2000, is required by the fourth quarter of 2000. The Company is
currently in the process of evaluating the impact, if any, SAB 101 will
have on its consolidated financial position or results of operations.
ITEM 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
This discussion contains "forward looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. Although Naturade, Inc. (the
"Company" or the "Registrant") believes that the expectations reflected in such
forward looking statements are reasonable, such statements are inherently
subject to risk and the Company can give no assurances that such expectations
will prove to be correct. Such forward looking statements involve risks and
uncertainties and actual results could differ from those described herein and
future results may be subject to numerous factors, many of which are beyond the
control of the Company. Such risk factors include, without limitation, the risk
of changes or developments in the regulatory framework or product liability
principles applicable to the Company and its products, and the risk of
consolidation in the distribution channels expected to be used by the Company to
distribute its products. The Company undertakes no obligation to publicly
release the result of any revisions to these forward-looking statements that may
be made to reflect events or circumstances after the date hereof or to reflect
the occurrence of unexpected events.
10
<PAGE>
All comparisons below are for the three and six month period ended June 30, 2000
compared to the three and six months ended June 30, 1999.
RESULTS OF OPERATIONS
Total net sales for the three months ended June 30, 2000 increased $891,133
or 32% to $3,672,249 from $2,781,116 for the three months ended June 30, 1999.
Total net sales for the six months ended June 30, 2000 increased $1,924,859 or
37.5% to $7,058,783 from $5,133,924 for the six months ended June 30, 1999. For
the three months ended June 30, 2000, domestic sales increased $1,043,067 or
41.5% to $3,555,143 from $2,512,076 for the three months ended June 30, 1999 and
for the six months ended June 30, 2000, increased $1,958,866 or 40.4% to
$6,802,867 from $4,844,001 for the six months ended June 30, 1999. For the three
months ended June 30, 2000, international sales decreased $151,934 or 56.5% to
$117,106 from $269,040 for the three months ended June 30, 1999 and for the six
months ended June 30, 2000, decreased $34,007 or 11.7% to $255,916 from $289,923
for the six months ended June 30, 1999.
For the three months ended June 30, 2000, the top 40 customers accounted
for $3.3 million or 89.3% of sales, with 23 health food customers contributing
$2.5 million or 68.7% of sales, 15 mass market customers contributing $662,000
or 18% of sales, and two international customers contributing $96,000 or 2.6% of
sales. For the three months ended June 30, 2000, the Company continued its
rollout of Naturade Total Soy products, with twelve products comprising the
product family contributing $1,102,200 or 30% of sales. Overall, the top 25
products represented $2,334,000 or 64% of sales of which thirteen protein powder
products contributed $1,011,000 or 27.5% of sales, seven Naturade Total Soy
products contributed $983,000 or 26.8% of sales and five Aloe Vera products
represented $340,000 or 9.3% of sales.
Gross profit as a percentage of sales for the three months ended June 30,
2000 increased 15.5% to 49.3% of sales from 33.8% for the three months ended
June 30, 1999. Gross profit as a percentage of sales for the six months ended
June 30, 2000 increased 10.3% to 47.5% of sales from 37.2% for the six months
ended June 30, 1999. The gross profit percentage for the three months ended June
30, 1999 was adversely impacted by a $291,518 inventory write-off for which no
such write-off occurred for the three months ended June 30, 2000. In addition to
this June 30, 1999 inventory write-off, the gross profit percentage for the six
months ended June 30, 1999 was also impacted by the March 1999 sale of $148,164
of raw materials to copackers. Since this sale was at cost, it produced no gross
margin, thus lowering the gross margin for the six months ended June 30, 1999.
11
<PAGE>
Selling, general and administrative expenses for the three months ended
June 30, 2000 increased $78,944 to $2,125,607 or 57.9% of sales from
$2,046,663 or 73.6% for the three months ended June 30, 1999. Selling,
general and administrative expenses for the six months ended June 30, 2000
increased $137,776 to $4,078,724 or 57.8% of sales from $3,940,948 or 76.8%
for the six months ended June 30, 1999.
Within selling, general and administrative expenses for the three
months ended June 30, 2000, variable marketing, commissions and freight out
costs were $605,494, $151,547 and $225,499, respectively, compared to
$312,675, $123,748 and $171,566 for the three months ended June 30, 1999. For
the six months ended June 30, 2000, variable marketing, commissions and
freight out costs were $1,041,526, $294,075 and $440,011, respectively
compared to $742,282, $222,892 and $332,493 for the six months ended June 30,
1999. For the six months ended June 30, 2000, the increase of $299,244 in
variable marketing costs is attributable to costs associated with increased
trade promotions. Commissions and freight out costs as a percent of sales
were 4.1% and 6.1%, respectively, for the three months ended June 30, 2000
compared to 4.4% and 6.2%, respectively, for the three months ended June 30,
1999 and 4.2% and 6.2%, respectively, for the six months ended June 30, 2000
compared to 4.3% and 6.5%, respectively, for the six months ended June 30,
1999. For the three and six months ended June 30, 2000, these higher variable
marketing, commissions and freight-out costs were partially offset by lower
general and administrative expenses resulting in a net selling, general and
administrative expense increase of $78,944 and $137,776, respectively,
compared to the three and six months ended June 30, 1999.
Other operating expense for the six months ended June 30, 1999 consisted of
$2,774,000 relating to the PNI Judgment. See Note 3 to the Financial Statements.
There was no comparable amount for the six months ended June 30, 2000.
Interest expense for the three months ended June 30, 2000 decreased $15,885
compared to the three months ended June 30, 1999 but increased $165,270 for the
six months ended June 30, 2000 compared to the six months ended June 30, 1999.
This increase was due to additional cash interest costs of $14,669 attributable
to borrowings under the Credit Agreement and Finance Agreement and non-cash
interest costs of $150,601 related to the amortization of the debt discount. See
Note 7 to the Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
The Company used cash of $1,615,111 in operating activities in the six
months ended June 30, 2000 compared to $1,664,084 for operating activities for
the six months ended June 30, 1999.
The Company's working capital deficit decreased from ($649,929) at
December 31, 1999 to ($132,304) at June 30, 2000. This decrease was largely
due to the conversion of $1.6 million due to Health Holdings into the
Company's common stock in March 2000. See Note 7 to the Financial Statements.
This increase was offset by the Company's operating losses for the six months
ended June 30, 2000.
12
<PAGE>
Cash used in investment activities during the six months ended June 30,
2000 was $18,445 compared to cash provided by investing activities during the
six months ended June 30, 1999 of $1,927,471.
The Company's cash provided by financing activities was $863,071 for the
six months ended June 30, 2000 compared to cash used in financing activities
of $946,456 for the six months ended June 30, 1999. The June 30, 2000 amount
was the result of an increase in borrowings under the Credit and Security
Agreement and borrowings under the Credit Agreement and the monthly repayment
under the Settlement Agreement. See Note 3 to the Financial Statements.
As of June 30, 2000, the Company was not in technical compliance with
the minimum net income covenant of the Credit and Security Agreement with
Wells Fargo Business Credit requiring that the net income of the Company as
of June 30, 2000 exceed ($900,000). The Company has notified Wells Fargo
Business Credit of the foregoing and is in discussions with Wells Fargo
Business Credit regarding a potential waiver of this covenant. However, there
can be no assurance that the Company will be successful in having this
covenant waived. In such event, Wells Fargo Business Credit would be entitled
to exercise certain remedies under the Credit and Security Agreement
including termination of this agreement.
RISK FACTORS
The short and long-term success of the Company is subject to certain risks,
many of which are substantial in nature. Shareholders and prospective
shareholders in the Company should consider carefully the following risk
factors, in addition to other information contained herein.
Dependence on Current and Ongoing Financing
The Company's success is dependent on its current financing as well as
new financing to support its working capital requirements and fund its
operating losses. Currently, the Company is not in technical compliance with
the minimum net income covenant of the Credit and Security Agreement with
Wells Fargo Business Credit which, if not waived by Wells Fargo Business
Credit, could result in termination of this agreement. See "Management's
Discussion and Analysis of Financing Condition and Results of Operations -
Liquidity and Capital Resources." Although the Company is seeking additional
third party financing, no assurance can be given that the Company will have
access to additional funds or, if funds can be obtained, that the terms on
which they can be obtained will be satisfactory. In such event, the Company's
business and results of operations, and its ability to continue as a going
concern, will be materially adversely affected. See Financial Statement to
the Company's Form 10-K for the fiscal year ended December 31, 1999, Note 1 -
Going Concern.
Impact of Government Regulation
The Company's operations, properties and products are subject to regulation
by various foreign, federal, state and local government entities and agencies,
particularly the U.S. Food and Drug Administration (FDA) and Federal Trade
Commission (FTC). Among other matters, such regulation is concerned with
statements and claims made in connection with the packaging, labeling, marketing
and advertising of the Company's products. The governmental agencies have a
variety of processes and remedies available to them, including initiating
investigations, issuing warning letters and cease and desist orders, requiring
corrective labeling or advertising, requiring consumer redress, seeking
injunctive relief or product seizure, imposing civil penalties and commencing
criminal prosecution.
As a result of the Company's efforts to comply with applicable statutes and
regulations, the Company has from time to time reformulated, eliminated or
relabeled certain of its products and revised certain aspects of its sales,
marketing and advertising programs. The Company may be subject in the future to
additional laws or regulations administered by federal, state or foreign
regulatory authorities, the repeal or amendment of laws or regulations which the
Company considers favorable, such as the Dietary Supplement Health and Education
Act (DSHEA), or more stringent interpretations of current laws or regulations.
The Company is unable to predict the nature of such future laws, regulations,
interpretations or applications, nor can the Company predict what effect
additional governmental regulations or administrative orders, when and if
promulgated, would have on the Company's business in the future. Such future
laws and regulations could, however, require the reformulation of certain
products to meet new standards, the recall or discontinuance of certain products
that cannot be reformulated, the imposition of additional recordkeeping
requirements, expanded documentation of product efficacy, and expanded or
modified labeling and scientific substantiation. Any or all of such requirements
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could have a material adverse effect on the Company's results of operations and
financial condition.
Technological Changes
The Company currently is engaged in developing nutraceuticals, which are
characterized by extensive research efforts and rapid technological progress and
change. New process developments are expected to continue at a rapid pace in
both industry and academia. The Company's future success will depend on its
ability to develop and commercialize its existing product candidates and to
develop new products. There can be no assurance that the Company will
successfully complete the development of any of its existing product candidates
or that any of its future products will be commercially viable or achieve market
acceptance. In addition, there can be no assurance that research and development
and discoveries by others will not render some or all of the Company's programs
or potential product candidates uncompetitive or obsolete.
Dependence on Third-Party Manufacturers
Although the FDA does not currently regulate manufacturing facilities for
nutraceutical products, there can be no assurance that the FDA at some time in
the future will not begin regulating these manufacturing facilities. If the FDA
were to begin regulating the manufacturing facilities for nutraceuticals and if
the manufacturing facilities used by our third-party manufacturers did not meet
those standards, the production of the Company's products will be delayed until
the necessary modifications are made to comply with those standards. If the
manufacturer were unable or unwilling to make the necessary modifications, the
Company would be required to find an alternate source to manufacture its
products.
Competition
The market for nutraceutical products is highly competitive. Many, if not
all, of the Company's competitors have substantially greater capital resources,
research and development capabilities, and manufacturing and marketing
resources, capabilities and experience than the Company. The Company's
competitors may succeed in developing products that are more effective or less
costly than any products that may be developed by the Company.
Dependence on Qualified Personnel
The Company's success is dependent upon its ability to attract and retain
qualified scientific and executive management personnel. To commercialize its
products and product candidates, the Company must maintain and expand its
personnel, particularly in the areas of product sales and marketing. The Company
faces intense competition for such personnel from other companies, academic
institutions, government entities and other research organizations. There can be
no assurance that the Company will be successful in hiring or retaining
qualified personnel. Moreover, managing the integration of such new personnel
could pose significant risks to the Company's development and progress and
increase its operating expenses.
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Product Liability Exposure
Product liability risk is inherent in the testing, manufacture, marketing
and sale of the Company's products and product candidates, and there can be no
assurance that the Company will be able to avoid significant product liability
exposure. The Company may be subject to various product liability claims,
including, among others, that its products include inadequate instructions for
use or inadequate warnings concerning possible side effects and interactions
with other substances. The Company currently maintains a general liability
insurance policy and a product liability insurance policy. There can be no
assurance that the Company will be able to maintain such insurance in sufficient
amounts to protect the Company against such liabilities at a reasonable cost.
Any future product liability claim against the Company could result in the
Company paying substantial damages, which may not be covered by insurance and
may have a material adverse effect on the business and financial condition of
the Company.
Effect of Adverse Publicity
The Company's products consist of vitamins, minerals, herbs and other
ingredients that the Company regards as safe when taken as suggested by the
Company and that various scientific studies have suggested may involve health
benefits. While the Company conducts extensive quality control testing on its
products the Company generally does not conduct or sponsor clinical studies
relating to the benefits of its products. The Company is highly dependent upon
consumers' perception of the overall integrity of its business, as well as the
safety and quality of its products and similar products distributed by other
companies which may not adhere to the same quality standards as the Company. The
Company could be adversely affected if any of the Company's products or any
similar products distributed by other companies should prove or be asserted to
be harmful to consumers or should scientific studies provide unfavorable
findings regarding the effectiveness of the Company's products. The Company's
ability to attract and retain distributors could be adversely affected by
negative publicity relating to it or to other direct sales organization or by
the announcement by any governmental agency of investigatory proceedings
regarding the business practices of the Company or other direct sales
organizations.
Intellectual Property Protection
Our success depends in part on our ability to obtain and maintain patent
protection for our technologies and products, preserve our trade secrets, and
operate without infringing on the property rights of third parties. The
Company's policy is to pursue registrations for all of the trademarks associated
with its key products. The Company relies on common law trademark rights to
protect its unregistered trademarks as well as its trade dress rights. Common
law trademark rights generally are limited to the geographic area in which the
trademark rights generally are limited to the geographic area in which the
trademark is actually used, while a United States federal registration of a
trademark enables the registrant to stop the unauthorized use of the trademark
by any third party anywhere in the United States. The Company intends to
register its trademarks in certain foreign jurisdictions where the Company's
products are sold.
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However, the protection available, if any, in such jurisdictions may not be as
extensive as the protection available to the Company in the United States.
Currently, the Company has received over twenty United States trademarks as
well as California registrations on seven trademarks. The Company also maintains
trademark registrations in over twenty-five foreign countries. To the extent the
Company does not have patents on its products, another Company may replicate one
or more of the Company's products. Litigation may be necessary to enforce our
patent and proprietary rights. Any such litigation could be very costly and
could distract our personnel. We can provide no assurance of a favorable outcome
of any litigation proceeding. An unfavorable outcome in any proceeding could
have a material adverse effect on our business, financial condition and results
of operations.
YEAR 2000 ISSUE UPDATE
Many computer systems and other equipment with embedded chips or processors
in use today were designed and developed using two digits, rather than four, to
specify the year. As a result, such systems will recognize the Year 2000 as "00"
and may assume that the year is 1900 rather than 2000. This is commonly known as
the Year 2000 issue, which could potentially result in a system failure or in
miscalculations causing disruptions of operations, including among other things,
a temporary inability to process transactions, send invoices or engage in other
similar normal business activities.
The Company has implemented a comprehensive program to address Year 2000
issues. The program considers the effect of the Year 2000 on the Company's
internal systems, customers, products and services, and suppliers and other
critical business partners. Implementation of the Company's plan is complete and
the Company believes that all identified potential Year 2000 issues have been
effectively resolved. The cost to identify and resolve Year 2000 issues was not
material to the Company's financial results and has been expensed as incurred or
capitalized where appropriate. There can be no assurance that the Company's Year
2000 program or the programs of critical business partners will be completely
successful, and failure could have a material adverse effect on the Company's
business and results of operations.
At this time we have not experienced any material Year 2000 related
problems with our information systems and computer software, and we have not
experienced any material problems with our key suppliers or customers related to
Year 2000. There has been no material impact on our business, financial
condition or results of operations related to the Year 2000.
RECENTLY ISSUED STATEMENT OF FINANCIAL ACCOUNTING STANDARDS
In 1998, the FASB issued SFAS no. 133: " Accounting for Derivatives and
Hedging Activities", which the Company will adopt in fiscal 2001. SFAS No. 133
requires that all derivatives be reported at fair value. Management has not yet
determined the impact of the adoption of SFAS No. 133 on the financial
statements of the Company.
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin 101, Revenue Recognition ("SAB 101"). SAB 101 summarizes
certain of the SEC staff's views in applying generally accepted accounting
principles to selected revenue recognition issues in financial statements.
Implementation of SAB 101, which was delayed by the issuance of SAB 101A on
March 27, 2000 and SAB 101B on June 26, 2000, is required by the fourth
quarter of 2000. The Company is currently in the process of evaluating the
impact, if any, SAB 101 will have on its consolidated financial position or
results of operations.
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PART II. Other Information
ITEM 1. Legal Proceedings
As previously reported, on March 11, 1999, a civil judgment (the "PNI
Judgment") was entered against the Company and a co-defendant for a total of
$2,774,000 by the United States Bankruptcy Court for the Northern District of
Texas following trial in a proceeding initiated by the Trustee (the "PNI
Trustee") in the Chapter 7 bankruptcy case of Performance Nutrition, Inc.
("PNI"). On August 5, 1999, the Bankruptcy Court approved a settlement agreement
between the Company and the PNI Trustee (the "Settlement Agreement"). The
Settlement Agreement provided the Company with a full release of the Judgment
and required the Company to deliver to the PNI Trustee (1) a cash payment of
$1,350,000 which was made in 1999, (2) a promissory note in the amount of
$424,000, of which $70,667 is outstanding at June 30, 2000, payable over 12
months at 5% interest, and (3) a contingent promissory note (the obligations
under which have lapsed resulting in the termination of this note without
payment by the Company). Consequently, the adjusted total cost to the Company of
the settlement is $1,774,000, exclusive of interest on the promissory note.
ITEM 2. Changes in Securities
NONE
ITEM 3. Defaults upon Senior Securities
NONE
ITEM 4. Submission of Matters to a Vote of Security Holders
NONE
ITEM 5. Other Information
NONE
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ITEM 6. Exhibits & Reports on Form 8-K
<TABLE>
<CAPTION>
Exhibits
Number Description Page
------ ----------- ----
<S> <C> <C>
10.25 Industrial Lease dated as of
December 23, 1998 between the
Company and The Irvine Company 21
27 Financial Data Schedule 22
</TABLE>
Reports on Form 8-K
NONE
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S I G N A T U R E S
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
NATURADE, INC.
--------------
(Registrant)
DATE: August 14, 2000 By /s/ Bill D. Stewart
-----------------------------
Bill D. Stewart
Chief Executive Officer
DATE: August 14, 2000 By /s/Lawrence J. Batina
-----------------------------
Lawrence J. Batina
Chief Financial Officer
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EXHIBIT INDEX
<TABLE>
<CAPTION>
Number Description Page
<S> <C> <C> <C>
10.25 Industrial Lease dated as of
December 23, 1998 between the
Company and The Irvine Company 21
27 Financial Data Schedule 22
</TABLE>
20
