SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended July 31, 1998
Commission File Number 001-09703
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SKOLNIKS, INC.
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(Name of Small Business Issuer in Its Charter)
DELAWARE 13-3074492
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(State of incorporation) (I.R.S. Employer Identification No.)
7755 E. Gray Road, Scottsdale, Arizona 85260 (602) 443-9640
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(Address, including zip code, and telephone number, including
area code, of issuer's executive offices)
Securities registered pursuant to Section 12(b) of the Exchange Act: None
Securities registered pursuant to Section 12(g) of the Exchange Act:
Common Stock, par value $.001 per share
Series A Cumulative Convertible Preferred Stock, par value $.01 per share
SKNS-M Warrants to purchase Common Stock, par value
$.001 per share (Expired 6/7/98)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes [X] No [ ]
Check if there is no disclosure of delinquent filers pursuant to item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ ]
State issuer's revenue for its most recent fiscal year: $1,685,378
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State the aggregate market value of the voting and non-voting common equity held
by non-affiliates computed by reference to the price at which the common equity
was sold, or the average bid and asked prices of such common equity, as of a
specified date within the past 60 days: As of September 18, 1998 - $442,607. For
purposes of this computation, all executive officers, directors and 10%
beneficial owners of the registrant are deemed to be affiliates. Such
determination should not be deemed an admission that such executive officers,
directors, or 10% beneficial owners are, in fact, affiliates of the registrant.
Check whether the issuer has filed all documents and reports required to be
filed by Section 12, 13 or 15(d) of the Exchange Act after the distribution of
securities under a plan confirmed by a court.
Yes [ ] No [X]
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: As of September 18, 1998 - 9,328,176
shares of common stock, par value $.001 per share (the "Common Stock"), and 0
shares of M Warrants, par value $.001 per share.
Documents incorporated by reference: None.
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SKOLNIKS, INC.
ANNUAL REPORT ON FORM 10-KSB
FOR THE FISCAL YEAR ENDED JULY 31, 1998
TABLE OF CONTENTS
Page
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PART I
ITEM 1. BUSINESS................................................. 1
ITEM 2. PROPERTIES............................................... 6
ITEM 3. LEGAL PROCEEDINGS........................................ 6
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS...... 6
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS.......................... 7
ITEM 6. SELECTED FINANCIAL DATA; MANAGEMENT'S DISCUSSION
AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS............................................ 8
ITEM 7. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.............. 11
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE...................... 11
PART III
ITEM 9. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT;
COMPLIANCE WITH SECTION 16(a) OF THE SECURITIES
EXCHANGE ACT OF 1934..................................... 12
ITEM 10. EXECUTIVE COMPENSATION................................... 14
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT........................................... 17
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS........... 18
PART IV
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K......................... 18
SIGNATURES ............................................................. 19
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS.............................. F-1
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PART I
ITEM I. BUSINESS
GENERAL
Currently, the Company produces and markets fresh and frozen bagels,
breadsticks, sub rolls, and other specialty breads and rolls. The Company
markets and distributes its products to distributors, retailers, food service
operations, and restaurants. The Company produces its products in a plant
located in Scottsdale, Arizona.
In January 1995, certain creditors filed an Involuntary Petition under
Chapter 11 of the United States Bankruptcy Code against the Company in the
United States Bankruptcy Court for the Western District of Oklahoma (Case No.
95-10206LN). The Court confirmed a Plan of Reorganization at the Confirmation
Hearing held on July 10, 1996, in the United States Bankruptcy Court in the
Western District of Oklahoma. The Company fulfilled all its obligations under
the Plan of Reorganization by funding the Creditors' Trust with a cash payment
of $800,000 and a Common Stock issuance of 500,000 shares on December 18, 1996.
The Court issued a Final Decree in connection with the Company's Reorganization
in Bankruptcy on October 8, 1998.
The Company filed its last annual report on Form 10-KSB for the year
ended July 31, 1997 on April 22, 1998 and its last quarterly report on Form
10-QSB for the quarter ended April 30, 1998 on October 30, 1998. This report as
well as this year's quarterly reports were filed subsequent to the due date. The
late filing of this 10KSB and the Forms 10QSB for the quarters ended October 31,
1997, January 31, 1998, and April 30, 1998 was due to changes in personnel and
administrative processes. The Company is working to correct the problem and
anticipates the timely filing of its reports for fiscal 1999.
MARKETING OPERATIONS
The Company is in the process of implementing an aggressive strategy to
secure incremental business from retail grocery chains, multi-unit restaurant
operations, convenience store chains, and club stores. The results to date have
yielded successful product introductions with major customers in each trade
channel noted. A program to expand nationally was tested in fiscal 1997 however
the transportation costs associated with this sales and marketing effort proved
prohibitive from a competitive pricing standpoint. Therefore, the Company has
focused its current new business efforts towards the larger metropolitan markets
in the southwest.
MANUFACTURING OPERATIONS
The Company currently operates a manufacturing plant in Scottsdale,
Arizona that produces bagels, breadsticks, sub rolls, and other specialty breads
and rolls for restaurants and retail and wholesale outlets. The Company's
facility is capable of producing product with a wholesale value of $15,000 per
day. The Company currently operates at approximately 50% of capacity. The
Company is capable of increasing its production without investment in new
equipment by increasing the number of shifts of operation.
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Despite the relative age of most of the operating equipment, a
preventive maintenance program and periodic repairs by equipment professionals
has kept operational efficiency at an acceptable level. The breakdown of certain
key equipment components could negatively impact the Company's ability to meet
customer orders on a timely basis. In addition, there can be no assurance that
the Company will be able to obtain financing for any replacement machinery.
However, new baking equipment was added in September 1998 with loans obtained
from certain Board members and one shareholder.
CUSTOMERS
The Company conducts a major portion of its business with one customer.
For the year ended July 31, 1998, revenue from this customer amounted to
approximately $708,000 or 42% of total revenue. Total accounts receivable for
this customer at July 31, 1998 was approximately $59,000 or 45% of total trade
receivables. For the fiscal year ended July 31, 1997, revenue from this customer
amount to approximately $687,300 or 47% of total revenue. Total accounts
receivable for this customer at July 31, 1997 was approximately $56,300 or 47%
of total trade receivables.
EMPLOYEES
As of September 16, 1998, the Company employed approximately 30 people,
of whom one is employed as executive personnel, four as sales/administrative
personnel, three in bakery production management, six delivery personnel
including a driver supervisor and the remaining 16 are employed in manufacturing
operations. The Company's employees are not covered by a collective bargaining
agreement. The Company considers its employee relations to be good.
COMPETITION
Sales of bread and roll products and other baked goods are subject to
competition, which is intense. There are several national, regional, and local
manufacturers of bread and roll products with which the Company competes in
marketing to restaurants and other retail and wholesale outlets. The Company
attempts to compete with such competitors by providing consistent supplies of
quality products at competitive prices. The Company also believes that product
innovation is an important factor in competing in the wholesale business.
REGULATION
The Company is subject to regulation by health, sanitation, safety, and
fire agencies of the state and municipality in which the manufacturing plant is
located. The Company is also subject to regulation by other local governmental
bodies with respect to zoning, land use, and environmental factors. The Company
is subject to the Fair Labor Standards Act that governs such matters as minimum
wages, overtime, and other working conditions.
TRADEMARKS
The Company owns certain trademarks and has been granted federal
registration of the marks. The Company is currently evaluating and updating the
status of its registrations.
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SPECIAL CONSIDERATIONS
THE FOLLOWING FACTORS, IN ADDITION TO THOSE DISCUSSED ELSEWHERE IN THIS
REPORT, SHOULD BE CAREFULLY CONSIDERED IN EVALUATING THE COMPANY AND ITS
BUSINESS.
REORGANIZATION IN BANKRUPTCY
In January 1995, certain creditors filed an Involuntary Petition under
Chapter 11 of the United States Bankruptcy Code against the Company in the
United States Bankruptcy Court for the Western District of Oklahoma (Case No.
95-10206LN). At a hearing held in Bankruptcy Court on March 20, 1995, the
Company agreed to an order for relief under Chapter 11 of the United States
Bankruptcy Code. The Court confirmed a Plan of Reorganization at the
Confirmation Hearing held on July 10, 1996, in the United States Bankruptcy
Court in the Western District of Oklahoma. The Company fulfilled all its
obligations under the Plan of Reorganization by funding the Creditors' Trust
with a cash payment of $800,000 and a Common Stock issuance of 500,000 shares on
December 18, 1996. The Court issued a Final Decree in connection with the
Company's Reorganization in Bankruptcy on October 8, 1998.
UNQUALIFIED REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANT
The report by the Company's independent certified public accountants on
the Company's financial statements for the year ended July 31, 1998, states that
the Company has suffered recurring losses from operations and has a working
capital deficit and deficit in equity that raise substantial doubt about the
Company's ability to continue as a going concern. In addition, the report notes
that the Preferred Stock of the Company has a total liquidation preference and
accumulated dividends of approximately $1,987,000, which may effect the
Company's ability to raise funds. See "Item 6. Selected Financial Data;
Management's Discussion and Analysis of Financial Condition and Results of
Operations."
LIMITED AUTHORIZED SHARE CAPITAL, LIQUIDATION PREFERENCE AND ACCUMULATED
DIVIDENDS.
The Company has authorized 10,000,000 shares of Common Stock. At
September 16, 1998, 9,328,176 shares of Common Stock were outstanding. In
addition, at September 16, 1998, warrants to purchase 7,857,009 shares of Common
Stock and 427,328 shares of Preferred Stock convertible into Common Stock were
outstanding. At September 16, 1998, the holders of warrants to purchase
7,409,009 shares of Common Stock had agreed to refrain from exercising their
warrants until the Company's authorized share capital is increased. In addition,
the purchasers of 531,000 shares of Common Stock have agreed to waive the
receipt of such shares until the Company's authorized share capital is
increased. Unless the Company's shareholders increase the Company's authorized
share capital, the Company would be unable to raise any additional funding
through the issuance of Common Stock.
The Company's Preferred Stock has a total liquidation preference of
approximately $1,423,002 and accumulated dividends of approximately $564,073,
payable in shares of Preferred Stock. The Company is unable to predict the
effect that the liquidation preference and accumulated dividends may have on the
Company's ability to raise capital in the future.
CAPITAL REQUIREMENTS
The Company is experiencing a shortfall in available cash. The
Company's continued viability is dependent upon its ability to generate cash
from operations or obtain additional financing sufficient to meet its current
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and future needs. The Company currently is incurring operating losses and does
not have a bank line of credit. There can be no assurance that additional
financing will be available to the Company on acceptable terms, if at all. Any
inability by the Company to obtain additional financing, if required, may have a
material adverse effect on the operations of the Company.
GOVERNMENT REGULATION
The Company's operations are subject to federal, state, and local laws
and regulations governing health, sanitation, environmental matters and safety,
as well as wages, hiring, and employment practices. The Company believes it has
all licenses and approvals necessary to the operation of the business, and that
its operations are materially in compliance with applicable laws and
regulations.
ATTRACTION AND RETENTION OF KEY PERSONNEL
The Company's success will depend, in large part, upon its ability to
attract and retain qualified personnel, of which there can be no assurance.
RIGHTS TO ACQUIRE SHARES UPON EXERCISE OF WARRANTS
A total of 7,857,009 shares of the Company's Common Stock have been
reserved for issuance upon exercise of warrants granted by the Company. During
the terms of such warrants, the holders thereof will have the opportunity to
profit from an increase in the market price of the Company's Common Stock should
such increase occur. The existence of such warrants may adversely affect the
terms on which the Company can obtain additional financing in the future, and
the holders of such warrants can be expected to exercise such warrants at a time
when the Company, in all likelihood, would be able to obtain additional capital
by offering shares of Common Stock on terms more favorable to it than those
provided by the exercise of such warrants. Holders of warrants to purchase
7,409,009 shares of Common Stock have agreed to refrain from exercising their
warrants until the Company's authorized share capital is increased.
PENNY STOCK RULES
The Company securities currently are quoted in the over-the-counter
market. Unless an exclusion from the definition of a "penny stock" under the
Exchange Act is available, any broker engaging in a transaction in the Company's
Common Stock is required to provide any customer with a risk disclosure
document, disclosure of market quotations, if any, disclosure of the
compensation of the broker-dealer and its salesperson in the transaction, and
monthly account statements showing the market value of the Company's securities
held in the customer's accounts. The bid and offer quotation and compensation
information must be provided prior to effecting the transaction and must be
contained on the customer's confirmation. Brokers subject to the "penny stock"
rules when engaging in transactions in the Company's securities are likely to be
less willing to engage in such transactions, thereby making it more difficult
for purchasers of the Company's Common Stock to dispose of their securities.
POSSIBLE VOLATILITY OF STOCK PRICE
The trading price of the Company's Common Stock in the public
securities market could be subject to wide fluctuations in response to quarterly
variations in operating results of the Company or its competitors, actual or
anticipated announcements of technological innovations or new product
developments by the Company or its competitors, changes in analysts' estimates
of the Company's financial performance, developments or disputes concerning
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proprietary rights, regulatory developments, general industry conditions,
worldwide economic and financial conditions, and other events and factors.
During certain periods, the stock markets have experienced extreme price and
volume fluctuations. Prices for many stocks fluctuate widely, frequently for
reasons unrelated to the operating performance of such issuing companies. These
broad market fluctuations and other factors may adversely affect the market
price of the Company's Common Stock.
SHARES ELIGIBLE FOR FUTURE SALE
Sales of substantial amounts of Common Stock in the public market could
adversely affect prevailing market prices. Of the 9,328,176 shares of Common
Stock currently outstanding, approximately 7,768,176 shares are eligible for
resale in the public market without restriction or further registration unless
held by an "affiliate" of the Company, as that term is defined under the
Securities Act of 1933, as amended (the "Securities Act"). The approximately
1,560,000 remaining outstanding shares of Common Stock currently are eligible
for sale in the public market, subject to compliance with the requirements of
Rule 144 under the Securities Act. The Company also has the authority to issue
additional shares of preferred stock. The issuance of such shares could result
in the dilution of the voting power of outstanding shares of Common Stock and
could have a dilutive effect on earnings per share.
LACK OF DIVIDENDS
The Company has never paid any cash dividends on its Common Stock and
does not anticipate that it will pay cash dividends in the foreseeable future.
Instead, the Company intends to apply any earnings to the expansion and
development of its business. The Company accrues a dividend payable in shares of
Preferred Stock. At July 31, 1998, the accrued dividend was approximately
$564,073.
POSSIBLE ISSUANCE OF PREFERRED STOCK
The Company is authorized to issue up to 2,000,000 shares of Serial
Preferred Stock, par value $0.01 per share, of which 427,328 shares are
currently outstanding. The Serial Preferred Stock may be issued in one or more
series, the terms of which may be determined at the time of issuance by the
Board of Directors, without further action by the Company's shareholders, and
may include voting rights, preferences as to dividends and liquidation,
conversion and redemption rights and sinking fund provisions as determined by
the Board of Directors. Although the Company has no present plans to issue
additional shares of Serial Preferred Stock, the issuance of Serial Preferred
Stock in the future could adversely affect the rights of the holders of the
Company's securities, and therefore, reduce the value of the Company's
securities. In particular, specific rights granted to future holders of Serial
Preferred Stock could be used to restrict the Company's ability to merge with or
sell its assets to a third party, thereby preserving control of the Company by
the present owners.
YEAR 2000 COMPLIANCE
Many currently installed computer systems and software products are
coded to accept only two-digit entries to represent years in the date code
field. Computer systems and products that do not accept four-digit year entries
will need to be upgraded or replaced to accept four-digit entries to distinguish
years beginning with 2000 from prior years. The Company has evaluated the Year
2000 issue as it relates to its entire internal computer system. The Company
took measures over the past year to bring its computer hardware and software
programs to Year 2000 compliance. Certain additional steps are required to
complete this process. The Company believes these additional steps will be
completed at a cost of less than $1,000 and will be expensed as incurred. Upon
completion, the hardware and software of its computer system will be Year 2000
compliant.
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The Company has also determined that its bakery equipment processors
are Year 2000 compliant. Bakery equipment evaluated includes ovens, breadstick
and bagel equipment, compressors, and thermostats.
There can be no assurance that computer systems operated by third
parties with which the Company systems' interface will otherwise be compliant on
a timely basis with Year 2000 requirements. Any failure of the Company's
computer system or the systems of third parties to timely achieve Year 2000
compliance could have a material adverse effect on the Company's business,
financial condition, and operating results.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
Certain statements and information contained in this Report,
particularly under the headings "Business," "Special Considerations," and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," concerning future, proposed, and anticipated activities of the
Company, certain trends with respect to the Company's revenue, operating
results, capital resources, and liquidity or with respect to the markets in
which the Company competes or the bakery industry in general, and other
statements contained in this Report regarding matters that are not historical
facts are forward-looking statements, as such term is defined in the Securities
Act. Forward-looking statements, by their very nature, include risks and
uncertainties, many of which are beyond the Company's control. Accordingly,
actual results may differ, perhaps materially, from those expressed in or
implied by such forward-looking statements. Factors that could cause actual
results to differ materially include those discussed elsewhere under Item 1,
"Business - Special Considerations."
ITEM 2. DESCRIPTION OF PROPERTY
The Company's executive offices and production facility are located in
a 16,800 square feet located at 7755 E. Gray Road, Scottsdale, Arizona 85260
under a lease that expires on March 31, 1999, with a five-year renewal option.
Current monthly rental for this property is $9,200; the renewal option provides
for an increase to $11,148 per month. The Company believes that these facilities
are adequate for its reasonably anticipated needs however other options are
being explored in order to generate costs savings and transportation
efficiencies.
ITEM 3. LEGAL PROCEEDINGS
There are no pending legal matters.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters brought to vote of security holders during fiscal
1997 or fiscal 1998.
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PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
At July 31, 1997 and 1998, the Company had outstanding approximately
9,072,489 and approximately 9,328,176 shares of Common Stock respectively,
682,918 and 0 M Warrants (expired July 1998), and 532,271 and 427,328 shares of
Preferred Stock, respectively. The Company's Common Stock is quoted on the
over-the-counter (pink sheets) market. The following table sets forth the high
and low closing bid prices for the Company's Common Stock for the periods
indicated. Bid prices represent prices between dealers and do not include retail
markups, markdowns, or commissions and do not necessarily reflect actual
transactions.
COMMON STOCK
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HIGH LOW
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FISCAL 1998
First Quarter............. $0.180 0.030
Second Quarter............ 0.125 0.010
Third Quarter............. 0.093 0.010
Fourth Quarter............ 0.150 0.010
FISCAL 1997
First Quarter............. $0.625 $0.063
Second Quarter............ 0.625 0.063
Third Quarter............. 0.625 0.063
Fourth Quarter............ 0.625 0.125
As of September 18, 1998 there were approximately 295 holders of record
of the Company's Common Stock. The Company believes that there are in excess of
2,000 holders of beneficial interest of its Common Stock.
The Company has never declared a cash dividend on its Common Stock. The
Board of Directors presently intends to retain all earnings for use in the
Company's business, and therefore, does not anticipate paying any cash dividends
in the foreseeable future. The Company does accrue a dividend payable in shares
of Preferred Stock. At July 31, 1998, the accrued dividend was approximately
$564,073. In addition, the Preferred Stock has a liquidation preference of
$1,423,002 plus all unpaid undeclared dividends in arrears.
During fiscal 1998, the Company issued approximately 104,943 shares of
Common Stock upon conversion of shares of its Preferred Stock and 60,000 shares
of Common Stock upon conversion of Notes Payable. The Company issued the Common
Stock without registration under the Securities Act of 1933, as amended, (the
"Securities Act"), in reliance on Section 3(a)(9) of the Securities Act.
In fiscal 1998, the Company issued notes in an aggregate amount of
$516,000 and granted warrants in connection therewith, to purchase an aggregate
of 3,004,000 shares of Common Stock in exchange for cash in the amount of
$516,000 to members of the Company's Board of Directors and to one shareholder
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of the Company. The Company issued the notes and warrants without registration
under the Securities Act in reliance on Sections 4(2) and/or 4(6) of the
Securities Act.
During fiscal 1998, the Company issued warrants to purchase 400,000
shares of Common Stock to officers and directors of the Company. The Company
issued the warrants without registration under the Securities Act in reliance on
Section 4(2) of the Securities Act.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA; MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
SELECTED CONSOLIDATED FINANCIAL DATA
The following selected consolidated financial data for the fiscal years
ended July 31, 1998 and 1997 have been derived from the Company's audited
consolidated financial statements. The selected consolidated financial data
should be read in conjunction with, and are qualified by reference to, the
Company's Consolidated Financial Statements and Notes thereto and "Management
Discussion and Analysis of Financial Condition and Results of Operations"
included elsewhere in this Report.
YEAR ENDED JULY 31,
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1998 1997
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(in thousands, except
per share amounts)
STATEMENT OF OPERATIONS DATA:
Product sales (net) ......................... $ 1,685 $ 1,457
Plant operating Costs ....................... 1,649 1,504
Income (loss) from operations ............... (356) (480)
Other income (expense) ...................... (110) (74)
Income (loss) before extraordinary item...... (466) (554)
Extraordinary item .......................... 0 3,527
Net income (loss) ........................... (466) 2,973
Basic earnings (loss) per share:
Before extraordinary item ................. (0.07) (0.07)
After extraordinary item .................. (0.07) 0.37
Diluted earnings (loss) per share:
Before extraordinary item ................. (0.07) (0.06)
After extraordinary item .................. (0.07) 0.35
Weighted average shares outstanding ......... 9,200,604 8,014,441
AS OF JULY 31,
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1998 1997
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(IN THOUSANDS)
BALANCE SHEET DATA:
Cash and cash equivalents.................... 32 0
Working capital (deficit).................... (114) (268)
Total assets................................. 484 478
Total shareholders' equity (deficit)......... (1,157) (721)
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS
AND RESULTS OF OPERATIONS
STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
The statements contained in this Report on Form 10-KSB that are not
purely historical are forward-looking statements within the meaning of Section
27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act
of 1934, including statements regarding the Company's "expectations,"
"anticipation," "intentions," "beliefs," or "strategies" regarding the future.
Forward-looking statements include statements regarding revenue, margins,
expenses, and earnings analysis for fiscal 1999 and thereafter; future products
or product development; the Company's product development strategy; and
liquidity and anticipated cash needs and availability. All forward-looking
statements included in this Report are based on information available to the
Company on the date of this Report, and the Company assumes no obligation to
update any such forward-looking statement. It is important to note that the
Company's actual results could differ materially from those in such
forward-looking statements. Among the factors that could cause actual results to
differ materially are the factors discussed in Item 1, "Business -Special
Considerations."
GENERAL
The Company operates one production plant in Scottsdale, Arizona, where
it produces bagels, breadsticks, sub rolls, and other specialty breads and
rolls. Product sales consist of sales to distributors, retailers, food service
operations, and restaurants.
Costs and expenses include plant operating costs and general and
administrative expense. Plant operating costs are the cost of plant sales and
consist of the portion of overall costs of producing product in the Company's
plant allocable to products sold to third parties. General and administrative
expenses include management payroll, wholesale selling expenses, corporate
administrative expense, office operating expenses, and depreciation of office
furniture and equipment.
The Company is currently focusing its business operations on the
production, manufacture, and distribution of its bagels, breadsticks, and baked
products to restaurants and retail and wholesale customers. Management believes
that this strategy will generate sales without incurring additional significant
expenditures. The Company is exploring third party sources of funding in order
to facilitate the implementation of its new business strategy. To date, the
Company has been successful in negotiating payment terms with its major vendors.
RESULTS OF OPERATIONS
YEAR ENDED JULY 31, 1998 ("FISCAL 1998") COMPARED TO YEAR ENDED
JULY 31, 1997 ("FISCAL 1997")
Product sales were $1,685,378 in fiscal 1998 compared to $1,457,063 in
fiscal 1997, an increase of approximately 16%. The $228,000 increase can be
attributed to the addition of a full time salesperson and focused sales strategy
plan.
Plant operating costs were $1,649,247 in fiscal 1998 compared to
$1,504,398 in fiscal 1997, an increase of approximately 10%. This increase was
due primarily to increased production.
General and administrative expenses decreased to $392,075 in fiscal
1998 from $433,073 in fiscal 1997. This 9% decrease was due primarily to an
effective cost reduction program.
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Overall operating expenses increased to $2,041,322 in fiscal 1998 from
$1,937,471 in fiscal 1997. This increase was due primarily to increased
production, marketing expenses, and professional fees offset by an effective
cost reduction program.
The Company incurred a net loss before extraordinary item of $465,885
in fiscal 1998 compared to a net loss of $554,406 in fiscal 1997.
The Company's net income after extraordinary item was $2,972,567 in
fiscal 1997 due to the forgiveness of debt upon emerging from bankruptcy of
approximately $3,526,973.
YEAR ENDED JULY 31, 1997 ("FISCAL 1997") COMPARED TO YEAR ENDED
JULY 31, 1996 (UNAUDITED) ("FISCAL 1996")
Product sales were $1,457,063 in fiscal 1997 compared to $1,448,370 in
fiscal 1996, an increase of approximately 2%
Plant operating costs were $1,504,398 in fiscal 1997 compared to
$1,448,370 in fiscal 1996, a increase of approximately 4%. This increase was due
primarily to increased packaging costs, raw materials, and maintenance and
repairs.
General and administrative expenses increased from $357,840 in fiscal
1996 to $433,073 in fiscal 1997. This increase was due primarily to increased
commissions and legal and professional fees.
Overall operating expenses increased from $1,806,210 in fiscal 1996 to
$1,937,471 in fiscal 1997. This increase was due primarily to increased
packaging costs, raw materials, commissions and legal and professional fees.
The Company incurred a net loss of $554,406 for fiscal 1997 compared to
a net loss before extraordinary item of $470,049 in fiscal 1996.
The Company's net income after extraordinary item was $2,972,567 in
fiscal 1997 due to the forgiveness of debt upon emerging from bankruptcy of
approximately $3,526,973.
LIQUIDITY AND CAPITAL RESOURCES
At July 31, 1998, the Company had a working capital deficit of $113,697
compared to $268,070 at July 31, 1997. The decrease in the deficit resulted
primarily from an increase in net cash used in operating activities and extended
maturity dates on the new notes payable.
At July 31, 1996, the Company had a working capital deficit of
$4,757,693 and decreased to $268,070 at July 31, 1997. The decrease of the
deficit in the fiscal year 1997 resulted primarily from the settlement of
liabilities subject to compromise in the Bankruptcy Court. The Company's Plan of
Reorganization was confirmed by the United States Bankruptcy Court for the
Western District of Oklahoma. In accordance with the Plan, the Company raised $1
million through the sale of one million shares of Common Stock. The creditors'
trust received a net cash payment of $800,000 and 500,000 shares of Common
Stock. As a result of this reorganization, approximately $4,300,000 of debts
were relieved in bankruptcy. The Court issued a Final Decree in connection with
the Company's Reorganization in Bankruptcy on October 8, 1998.
10
<PAGE>
Although the Company's net loss from operations decreased in fiscal
1998 as compared to fiscal 1997, net cash used in operating activities increased
to $480,377 in fiscal 1998 from $409,401 in fiscal 1997. Such increase in the
amount of cash used in operating activities in fiscal 1998 resulted primarily
from increased production expenses and marketing costs offset in part by the
Company's cost reduction program.
In fiscal 1998, net cash used in investing activities was $4,066
compared to net cash used in investing activities in fiscal 1997 of $82,148.
Investing activities in fiscal 1998 was for labeling equipment used in
production.
In fiscal 1998, net cash provided by financing activities was $516,000
compared to net cash provided by financing activities of $478,078 in fiscal
1997. In fiscal 1997, the net cash provided by financing activities included
proceeds from the issuance of common stock in an amount of $1,132,750, proceeds
from borrowings of debt in an amount of $160,000, and payments on debt including
the creditors' committee in an amount of $814,670. The net cash provided by
financing activities for fiscal 1998 was composed only of proceeds from
borrowings of debt in the amount of $516,000.
The Company has improved relations with its trade vendors and as of
September 18, 1998, all major trade vendors have extended favorable payment
terms. As of July 31, 1998, the Company was not in default on payments to trade
vendors. However, the Company has not made any payments on notes payable in an
aggregate amount of $20,005 as they mature. All such obligations have been
classified as current as of July 31, 1998. In addition, the Company is in
arrears on dividends on its Preferred Stock in the amount of $564,073, payable
in shares of Preferred Stock.
As of July 31, 1998, the Company's sources of external financing were
limited. It is not expected that the internal sources of liquidity will improve
until net cash is provided by operating activities, and, until such time, the
Company will rely upon external sources for liquidity. The Company has not
established any lines of credit or any other significant financing arrangements
with any third party lenders. There can be no assurance that the Company will be
able to obtain additional financing on reasonable terms, if at all. From March
1995 through September 1998, certain members of the Company's Board of Directors
and four stockholders have loaned an aggregate of $1,291,005 to the Company in
exchange for promissory notes and warrants in the aggregate of 4,674,009
warrants to purchase shares of the Company's Common Stock.
The report by the Company's independent certified public accountants on
the Company's financial statements for the year ended July 31, 1998, states that
the Company has suffered recurring losses from operations and has a working
capital deficit and deficit in equity that raise substantial doubt about the
Company's ability to continue as a going concern. In addition, the report notes
that the Preferred Stock of the Company has a total liquidation preference and
accumulated dividends of approximately $1,987,000, which may effect the
Company's ability to raise funds.
ITEM 7. FINANCIAL STATEMENTS
Reference is made to the financial statements, the report thereon, the
notes thereto, and the supplemental data commencing on page F-1 of this Report,
which financial statements, report notes and data are incorporated by reference.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
11
<PAGE>
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
The following table sets forth certain information with respect to the
Company's Directors and Executive Officers:
NAME AGE POSITION
---- --- --------
Louis F. Pignatelli 51 Chairman of the Board
Russell K. Swartz 53 President, Chief Executive Officer,
and Director
Gary D. Mallery 59 Chief Financial Officer, Secretary
and Director
W. Sam Dennis 54 Director
Dennis DesLauriers 54 Director
Nicholas A. Fegen 39 Director
Ronald Russell, Sr. 64 Director
LOUIS F. PIGNATELLI has served as a director of the Company since
February 1995. On July 18, 1997, Mr. Pignatelli was elected Chairman of the
Board. For the past six years, Mr. Pignatelli has been a principal in the law
firm of Pignatelli, Liston, and Mertes, P.C., Rock Falls, Illinois. Mr.
Pignatelli is a graduate of the University of Notre Dame and received a Juris
Doctorate degree from the University of Illinois in 1971.
RUSSELL K. SWARTZ has served as President of the Company since December
1997 and as a director since August 1998. Mr. Swartz joined the Company in May
1997 after a successful career in the packaged goods and food industries with
The Dial Corp., Universal Foods, and General Host Corp.'s Cudahy Foods Division.
Mr. Swartz is a faculty associate at Arizona State University-West Campus where
he teaches in the College of Business. Mr. Swartz holds a Bachelor of Science
degree in Food Science from University of Massachusetts and an MBA from Babson
College.
GARY D. MALLERY has served as a director of the Company since March
1995, and as Chief Financial Officer since March 1995. From January through June
1997, Mr. Mallery served as acting Chairman of the Board. Prior thereto, from
1986 to 1993, Mr. Mallery served as the managing partner of the Deloitte &
Touche LLP office located in Baltimore, Maryland. Mr. Mallery received a
Bachelor of Science degree in Business Statistics and a Master of Science degree
in Accounting from the University of Oregon in 1968. Mr. Mallery is a Certified
Public Accountant.
W. SAM DENNIS has served as a director of the Company since January
1997. Dr. Dennis has been a physician practicing radiology in Houston, Texas
since 1980. Dr. Dennis received his M.D. from Baylor College of Medicine in
1976.
DENNIS DESLAURIERS has served as a director of the Company since
January 1997. Mr. DesLauriers is Executive Vice President of Armour
Swift-Eckrich, a Division of Con Agra, the largest food company in the United
States. Mr. DesLauriers is responsible for all domestic operations in the United
12
<PAGE>
States as well as all International Sales of Armour Swift-Eckrich. Prior to
this, Mr. DesLauriers served as President of the Butterball Turkey Company. Mr.
DesLauriers has had over 20 years of experience with Armour Swift-Eckrich. In
addition, for the last five years, Mr. DesLauriers has participated privately in
acquisitions and business turnarounds. Mr. DesLauriers is a graduate of the
Culinary Institute of America and attended Southeastern Massachusetts
University.
NICHOLAS A. FEGEN has served as a director of the Company since
February 1995 and acted as Chairman of the Board and Chief Executive Officer
from February 1995 through January 1997 during the Company's transition out of
bankruptcy. In February 1997, the State of Iowa charged Mr. Fegen with 12 counts
of securities fraud. In July 1997, the Iowa District Court for Dallas County
entered an order deferring judgment and placing Mr. Fegen on probation for a
period of two years. In addition, Mr. Fegen was ordered to pay a civil
contribution of $2,000 to the Walnut Creek Little League.
RONALD RUSSELL, SR. has served as a director of the Company since
January 1997. Mr. Russell is a real estate developer in St. Charles, Illinois.
Directors hold office until the next annual meeting of the Company's
stockholders and the election and qualification of successors. Officers hold
office at the discretion of the Board of Directors.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act") requires the Company's directors and officers, and persons who
own more than 10 percent of a registered class of the Company's equity
securities, to file reports of ownership and changes in ownership with the
Securities and Exchange Commission (the "SEC"). Officers, directors, and greater
than 10 percent shareholders are required by SEC regulations to furnish the
Company with copies of all Section 16(a) forms they file. Based solely upon the
Company's review of the copies of such forms received by it during the fiscal
year ended July 31, 1998 and inquiry of related parties, and representations
that no other reports were required, the Company believes that each person who,
at any time during such fiscal year, was a director, officer, or beneficial
owner of more than 10 percent of the Company's Common Stock complied with all
Section 16(a) filing requirements during such fiscal year except that (i) Dennis
DesLauriers filed a late report on Form 5 covering one late Form 4 transaction;
(ii) Louis F. Pignatelli filed a late report on Form 4 covering one transaction
and has informed the Company that he will be filing a late report on Form 5
covering three late Form 4 transactions; (iii) W. Sam Dennis filed a late report
on Form 5 covering three late Form 4 transactions; (iv) Russell K. Swartz filed
a late report on Form 5 covering one late Form 3 transaction and one late Form 4
transaction each occurring in fiscal 1997; and (v) Ronald Russell, Sr. has
informed the Company that he will be filing a late report on Form 5 covering one
late Form 3 transaction and ten late Form 4 transactions.
13
<PAGE>
ITEM 10. EXECUTIVE COMPENSATION
SUMMARY OF CASH AND OTHER COMPENSATION
The following table sets forth certain information concerning the
compensation for the fiscal years ended July 31, 1998 and 1997 earned by the
Company's prior Chief Executive Officers and by the Company's current Chief
Executive Officer (the "Named Officers"). No other officer of the Company
received compensation of $100,000 or more during fiscal 1998.
SUMMARY COMPENSATION TABLE
- --------------------------------------------------------------------------------
LONG TERM
COMPENSATION
SECURITIES
ANNUAL COMPENSATION UNDERLYING
NAME AND PRINCIPAL POSITION YEAR SALARY($)(1) BONUS($) WARRANTS(#)(2)
- --------------------------- ---- ------------ -------- --------------
Nicholas A. Fegen 1998 $ -- $ --
Prior President and Chief 1997 96,923 10,000 --
Executive Officer
Gary D. Mallery 1998 25,721 -- --
Prior President and Current 1997 40,000 -- --
Chief Financial Officer
Russell K. Swartz 1998 75,000 -- 50,000
President and 1997 20,192 -- 50,000
Chief Executive Officer
- ----------
(1) The Company offers its employees, including officers, medical insurance
benefits.
(2) The exercise price of all stock warrants granted were equal to or greater
than the fair market value of the Company's Common Stock on the date of
grant.
14
<PAGE>
WARRANT GRANTS
The following table provides information on stock warrants granted to
the Company's Named Officers during the fiscal year ended July 31, 1998.
<TABLE>
<CAPTION>
WARRANTS GRANTS IN LAST FISCAL YEAR
INDIVIDUAL GRANTS
- ----------------------------------------------------------------------------------------
NUMBER OF SECURITIES % OF TOTAL WARRANTS EXERCISE
UNDERLYING WARRANTS GRANTED TO EMPLOYEES PRICE EXPIRATION
NAME GRANTED (#) IN FISCAL YEAR ($/SHARE) DATE
---- ----------- -------------- --------- ----
<S> <C> <C> <C> <C>
Russell K. Swartz (1) 100,000 100% $0.375 2002
</TABLE>
- ----------
(1) These warrants were part of a grant of 150,000 in fiscal 1997 of which
50,000 were vested and reported on the Company's Form 10KSB for the fiscal
year ended July 31, 1997. They were granted at or above the fair value of
the shares on the date of grant and have a 5-year term. One third of the
warrants vested at the date of award, May 1, 1997, one third vested on May
1, 1998, and the remaining one third vests on May 1, 1999 if the recipient
has continues to serve as an employee for the Company. Mr. Swartz has
waived his right to exercise these warrants until the authorized share
capital has been increased.
FISCAL YEAR-END WARRANT VALUES
The following table provides information on the value of the Company's
Named Officers unexercised warrants at July 31, 1998.
WARRANT VALUES AS OF JULY 31, 1998
- --------------------------------------------------------------------------------
NUMBER OF SECURITIES UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED WARRANTS AT IN-THE MONEY WARRANTS AT FISCAL
FISCAL YEAR-END (#) YEAR-END ($)(1)
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---- ----------- ------------- ----------- -------------
Russell K. Swartz 100,000 50,000 $ 0 $ 0
Gary D. Mallery 150,000 150,000 $ 0 $ 0
- ----------
(1) Calculated based upon the average bid and ask price as reported on the over
the counter market on September 24, 1998 of $0.066 per share.
15
<PAGE>
DIRECTOR COMPENSATION
Directors are compensated for their services by the grant of Common
Stock Purchase Warrants. It is anticipated that Directors of the Company will
continue to be compensated by the grant of Common Stock Purchase Warrants from
time to time as authorized by the Board of Directors.
Subsequent to the period covered by this report, on August 14, 1998,
Mr. Swartz was granted 300,000 Common Stock warrants exercisable at $.10
expiring August 14, 2003, one half of these warrants vest immediately and one
half in two years assuming continual service on the Board. Mr. Swartz has agreed
not to exercise his Common Stock Purchase Warrants until the Company's
shareholders have voted to increase the number of authorized shares of Common
Stock.
16
<PAGE>
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth certain information regarding the shares
of the Company's outstanding Common Stock beneficially owned as of September 18,
1998 by (i) each of the Company's directors and executive officers, (ii) all
directors and executive officers as a group, and (iii) each other person who is
known by the Company to own beneficially or exercise voting or dispositive
control over more than 5% of the Company's Common Stock.
NUMBER OF SHARES APPROXIMATE
NAME AND ADDRESS AND NATURE OF PERCENTAGE OF
OF BENEFICIAL OWNER(1) BENEFICIAL OWNERSHIP(2) OUTSTANDING SHARES(2)
- ---------------------- ----------------------- ---------------------
DIRECTORS AND EXECUTIVE OFFICERS:
Louis F. Pignatelli(3) 485,000 5.2%
Gary D. Mallery(4) 2,500 *
W. Sam Dennis(5) 852,998 9.1%
Dennis DesLauriers(6) -- --
Nicholas A. Fegen(7) 24,000 *
Ronald Russell, Sr.(8) 1,257,500 13.5%
Russell Swartz (9) -- --
All directors and officers
as a group (six persons) 2,621,998 28.1%
- ----------
* Less than 1% of outstanding shares of Common Stock
(1) Each person named in the table has sole voting and investment power with
respect to all Common Stock beneficially owned by him or her, subject to
applicable community property law, except as otherwise indicated. Except as
otherwise indicated, each of such persons may be reached through the
Company at 7755 E. Gray Road, Scottsdale, Arizona 85260.
(2) The percentages shown are calculated based upon 9,328,176 shares of Common
Stock outstanding on September 18, 1998. The numbers and percentages shown
include the shares of Common Stock actually owned as of September 18, 1998
and the shares of Common Stock that the identified person or group had the
right to acquire within 60 days of such date. In calculating the
percentage of ownership, all shares of Common Stock that the identified
person or group had the right to acquire within 60 days of September 18,
1998 upon the exercise of options or warrants are deemed to be outstanding
for the purpose of computing the percentage of the shares of Common Stock
owned by such person or group, but are not deemed to be outstanding for
the purpose of computing the percentage of the shares of Common Stock
owned by any other person. Members of the Board of Directors have agreed
not to exercise any Warrants until the Company's authorized share capital
is increased. Therefore, these warrants were not deemed to be outstanding
for the purpose of calculating the percentage of shares of Common Stock
owned.
(3) Represents 485,000 shares of Common Stock and does not include 1,366,000
shares issuable upon exercise of Common Stock Purchase Warrants held by Mr.
Pignatelli.
(4) Represents 2,500 shares of Common Stock and does not include 300,000 shares
issuable upon exercise of Common Stock Purchase Warrants held by Mr.
Mallery.
(5) Represents 852,998 shares of Common Stock and does not include 2,136,000
shares issuable upon exercise of Common Stock Purchase Warrants held by Dr.
Dennis.
(6) Does not include 316,000 shares issuable upon exercise of Common Stock
Purchase Warrants held by Mr. DesLauriers.
(7) Represents 24,000 shares of Common Stock and does not include 600,000
shares issuable upon exercise of Common Stock Purchase Warrants held by Mr.
Fegen.
(8) Represents 1,257,500 shares of Common Stock and does not include 1,776,000
shares issuable upon exercise of Common Stock Purchase Warrants held by Mr.
Russell.
(9) Does not include 450,000 shares issuable upon exercise of Common Stock
Purchase Warrants held by Mr. Swartz.
17
<PAGE>
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
From March 1995 through October 1998, members of the Board of Directors
have loaned the Company $1,231,000. In connection with these loans, the Board
members have been issued warrants to purchase 1,350,000 shares at $0.50,
1,524,000 shares at $0.25, 920,000 shares at $0.125, and 600,000 shares at
$0.10.
The Board members were issued warrants to purchase 2,100,000 shares at
$0.375 and 300,000 at $0.10 upon joining the Board. The members of the Company's
Board have each agreed to refrain from exercise of any warrants until the
Company's authorized share capital is increased.
PART IV
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
2 Certificate of Owner and Merger (1)
2.1 Second Amended Plan of Reorganization and Disclosure
Statement (4)
2.2 Modification of Second Amended Plan of Preorganization (4)
3.1 Certificate of Incorporation, as amended, (included as annex
to Exhibit 2); Amendment to Certificate of Incorporation (1)
3.2 Bylaws, as amended (1)
4 Amended Certificate of Designations, Preferences, and Rights
of Series A Convertible Preferred Stock (2)
4.6 Warrant Agreement covering 506,250 Common Stock Purchase
Warrants (M Warrants) (3)
27 Financial Data Schedule
- ----------
(1) Filed as exhibit to Registrant's Form S-18 Registration Statement (No.
33-16869) which is incorporated herein by reference.
(2) Incorporated by reference to the Registration Statement on Form S-1 of the
Registrant as filed with the SEC on March 8, 1993 (File No. 33-59116)
(3) Incorporated by reference to the Registration Statement on Form S-1 of the
Registrant as filed with the SEC on March 1, 1993 (File No. 33-58858).
(4) Incorporated by reference to the Form 10-KSB of the Registrant for the
fiscal year ended July 31, 1997 as filed with the SEC on April 22, 1998
(File No. 0-9703).
(b) EXHIBITS REPORTS ON FORM 8-K
None
18
<PAGE>
SIGNATURES
In accordance with 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.
SKOLNIKS, INC.
Date: 12/9/98 /s/ Russell K. Swartz
-------------------------------------
Russell K. Swartz, President,
Chief Executive Officer, and Director
In accordance with the 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 date indicated.
SIGNATURE CAPACITY DATE
/s/ Louis F. Pignatelli
- -------------------------- Chairman of the Board December 11, 1998
Louis F. Pignatelli
/s/ Russell K. Swartz
- -------------------------- President, Chief Executive December 11, 1998
Russell K. Swartz Officer, and Director
/s/ Gary D. Mallery
- -------------------------- Chief Financial Officer December 11, 1998
Gary D. Mallery (Principal Financial and
Accounting Officer)
/s/ W. Sam Dennis
- -------------------------- Director December 11, 1998
W. Sam Dennis
- -------------------------- Director
Dennis DesLauriers
- -------------------------- Director
Nicholas A. Fegen
- -------------------------- Director
Ronald Russell, Sr.
19
<PAGE>
SKOLNIKS, INC.
FINANCIAL STATEMENTS
YEARS ENDED JULY 31, 1998 AND 1997
CONTENTS
Page
----
Independent auditor's report F-1
Consolidated Financial Statements
Balance Sheets F-2
Statements of operations F-3
Statements of stockholders' equity F-4
Statements of cash flows F-5
Notes to financial statements F-6 - F-12
<PAGE>
To the Board of Directors
Skolniks, Inc.
Scottsdale, Arizona
INDEPENDENT AUDITOR'S REPORT
We have audited the accompanying consolidated balance sheets of
Skolniks, Inc. and subsidiary as of July 31, 1998 and 1997, and the related
consolidated statements of operations, shareholders' deficit and cash flows for
the years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material aspects, the financial position of Skolniks,
Inc. and subsidiary as of July 31, 1998 and 1997, and the results of their
operations and their cash flows for the years then ended in conformity with
generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed in Note
1 to the financial statements, the Company has suffered recurring losses from
operations and has a working capital deficit and deficit in equity that raise
substantial doubt about its ability to continue as a going concern. Management's
plans in regard to these matters are described in Note 1. In addition, the
preferred stock of the Company has a total liquidation preference and
accumulated dividends of approximately $ 1,987,000 which may effect the
Company's ability to raise funds (see Note 10). The financial statements do not
include any adjustments that might result from the outcome of these
uncertainties.
TOBACK CPAs, P.C.
Phoenix, Arizona
October 29, 1998
F-1
<PAGE>
SKOLNIKS, INC.
CONSOLIDATED BALANCE SHEETS
JULY 31, 1998 AND 1997
ASSETS
1998 1997
---- ----
Current assets:
Cash $ 31,625 $ 68
Accounts receivable, net of allowance
for doubtful accounts of $4,000 and
$15,000, respectively (Note 7) 130,519 104,234
Inventories (Note 4) 36,322 41,397
Other (Note 5) 58,139 30,365
------------ ------------
Total current assets 256,605 176,064
Property and equipment, net (Notes 6 and 7) 227,672 301,931
------------ ------------
$ 484,277 $ 477,995
============ ============
LIABILITIES AND SHAREHOLDERS' DEFICIT
Current liabilities:
Accounts payable $ 59,203 $ 201,197
Accrued liabilities 291,094 192,932
Notes payable - related parties (Note 7) 20,005 50,005
------------ ------------
Total current liabilities 370,302 444,134
Notes payable - related parties (Note 7) 1,271,000 755,000
------------ ------------
Total liabilities 1,641,302 1,199,134
============ ============
Commitments and contingencies (Notes 9 and 10)
Shareholders' deficit:
Series A Convertible Preferred Stock, $ 01 par
value, 2,000,000 shares authorized; shares
issued and outstanding: July 1998, 427,328
and 1997, 532,271 (Note 10) 4,273 5,323
Common Stock, $.001 par value, 10,000,000
shares authorized; shares issued and
outstanding, July 1998, 9,328,176 and
1997, 9,072,489 (Note 10) 9,328 9,072
Additional paid-in capital 21,118,835 21,088,042
Accumulated deficit (21,386,920) (20,921,035)
------------ ------------
(254,484) 181,402
Treasury stock, at cost (902,541) (902,541)
------------ ------------
Total shareholders' deficit (1,157,025) (721,139)
------------ ------------
$ 484,277 $ 477,995
============ ============
The accompanying notes are an
integral part of these financial statements.
F-2
<PAGE>
SKOLNIKS, INC.
CONSOLIDATED
STATEMENTS OF OPERATIONS
YEARS ENDED JULY 31, 1998 AND 1997
1998 1997
---- ----
Revenue:
Product sales (net) $1,685,378 $1,457,063
---------- ----------
Expenses:
Plant operating costs 1,649,247 1,504,398
General and administrative expenses 392,075 433,073
---------- ----------
2,041,322 1,937,471
---------- ----------
Loss from operations (355,944) (480,408)
Other income (expense):
Interest expense (109,941) (73,998)
---------- ----------
Loss before extraordinary item (465,885) (554,406)
Extraordinary item - debt forgiveness -- 3,526,973
---------- ----------
Net income (loss) $ (465,885) $2,972,567
========== ==========
Per common share information:
Basic earnings per share
Loss before extraordinary item $ (0.07) $ (0.07)
Extraordinary item -- 0.44
---------- ----------
Net income (loss) $ (0.07) $ 0.37
========== ==========
Diluted earnings per share
Loss before extraordinary item $ (0.07) $ (0.06)
Extraordinary item -- .41
---------- ----------
Net income (loss) $ (0.07) $ .35
========== ==========
Weighted average shares outstanding $9,200,604 $8,014,411
========== ==========
The accompanying notes are an integral
part of these financial statements.
F-3
<PAGE>
SKOLNIKS, INC.
CONSOLIDATED
STATEMENTS OF SHAREHOLDERS' (DEFICIT)
YEARS ENDED JULY 31, 1998 AND 1997
1998 1997
---- ----
Preferred Stock:
Beginning of period $ 5,323 $ 5,433
Conversion to common stock (1,050) (110)
------------ ------------
End of period 4,273 5,323
------------ ------------
Common stock:
Beginning of period 9,072 6,956
Conversion from preferred stock 105 11
Issuance of common stock -- 2,105
Other adjustments 151 --
------------ ------------
End of period 9,328 9,072
------------ ------------
Additional paid-in capital:
Beginning of period 21,088,042 19,957,299
Issuance of common stock -- 1,130,644
Preferred stock converted to common stock 945 99
Other adjustments 29,848 --
------------ ------------
End of period 21,118,835 21,088,042
------------ ------------
Accumulated deficit:
Beginning of period (20,921,035) (23,893,604)
Net loss (465,885) 2,972,567
Other -- 2
------------ ------------
End of period (21,386,920) (20,921,035)
------------ ------------
Treasury stock:
Beginning and end of period (902,541) (902,541)
------------ ------------
Total shareholders' deficit $ (1,157,025) $ (721,139)
============ ============
Shares of treasury stock held at end of period 119,712 119,712
============ ============
The accompanying notes are an integral
part of these financial statements.
F-4
<PAGE>
SKOLNIKS, INC.
CONSOLIDATED
STATEMENTS OF CASH FLOWS
YEARS ENDED JULY 31, 1998 AND 1997
1998 1997
---- ----
Cash flows from operation activities:
Net income (loss) $(465,885) $ 2,972,567
Adjustments to reconcile net income (loss)
to net cash used in operating activities:
Depreciation and amortization 78,324 74,731
Loss on disposition of property, equipment, and
leasehold improvements -- 57
Increase in trade accounts receivables, net of
allowance (26,285) (10,659)
Decrease (increase) in inventories 5,075 (18,500)
Decrease (increase) in other current assets (27,774) 3,905
Decrease in accounts payable (141,994) (9,679)
Increase in accrued liabilities 98,162 105,150
Debt forgiveness -- (3,526,973)
--------- -----------
Total adjustments (14,492) (3,381,968)
--------- -----------
Net cash used in operating activities (480,377) (409,401)
--------- -----------
Cash flows from investing activities:
Acquisition of property and equipment (4,066) (82,148)
--------- -----------
Net cash used in investing activities (4,066) (82,148)
--------- -----------
Cash flows from financing activities:
Payments on debt
-- (14,671)
Payments to Creditors' Committee -- (800,000)
Proceeds from borrowings of debt 516,000 160,000
Proceeds from issuance of Common Stock -- 1,132,749
--------- -----------
Net cash provided by financing
activities 516,000 478,078
--------- -----------
Net increase (decrease) in cash and cash equivalents 31,557 (13,471)
Cash, beginning of period 68 13,539
--------- -----------
Cash, end of period $ 31,625 $ 68
========= ===========
Supplemental Disclosure for Cash Flow Information:
Cash paid for interest was approximately $500 and $2,000 for
1998 and 1997, respectively.
Supplemental Disclosure of Noncash Financing Activities:
Common Stock issued upon conversion of debt was $30,000 in 1998.
The accompanying notes are an integral
part of these financial statements.
F-5
<PAGE>
SKOLNIKS, INC.
NOTES TO FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION:
Skolniks, Inc. (the "Company), operates a manufacturing plant in
Scottsdale, Arizona. The Company manufactures bagels, breadsticks and
other bakery products for use by restaurants and unrelated food
service operations, such as supermarkets and convenience stores. Sales
are made directly to stores, restaurants, and distributors.
The financial statements of the Company have been prepared on the basis of
principles applicable to a continuing business. The basis presumes the
realization of assets and the settlement of liabilities in the
ordinary course of business. The Company's ability to operate as a
continuing business is dependent upon the attainment of future
profitable operations and/or the Company's ability to acquire
additional capital or other forms of financing. The accompanying
financial statements do not reflect any adjustments relating to the
recoverability and classification of recorded asset amounts or amounts
or classification of liabilities that might be necessary should the
Company be unable to continue as a going concern.
During 1998 and 1997, the Company incurred operating losses of $355,944 and
$480,408, respectively. In addition, the Company has a deficit in
working capital of $113,697 and $268,070 for 1998 and 1997,
respectively, and a deficit in equity for both years. The significance
of the combined losses with the deficits in working capital and equity
raises substantial doubt about the Company's ability to continue as a
going concern.
Management is pursuing new business opportunities, primarily in the
geographic Southwest, with customers in the retail grocery,
convenience store, vending, military, food service and club store
segments. In addition, new customers are being added for daily
deliveries of fresh bread products within the Arizona market. While
the product line presently includes bagels, breadsticks and Italian
specialty breads, a line of upscale European Artisian breads has been
developed and is being introduced. Management is also considering the
opportunity to acquire, merge, or strategically align with other
synergistic baked goods or food manufacturers for enhanced product
offerings, geographic coverage, and customer leverage.
At a hearing held in bankruptcy court on March 20, 1995, the Company
agreed to an order for relief under Chapter 11 of the United States
Bankruptcy Code. The Company submitted a plan to the bankruptcy court,
which was approved. The plan was mailed to the creditors and
shareholders May 2, 1996. The Court confirmed the plan of
reorganization at the Confirmation Hearing held on July 10, 1996, at
the United States Bankruptcy Court in the Western District of
Oklahoma. The Company completed all requirements under the Plan of
Reorganization on December 18, 1996, by making a cash payment of
$800,000 and issuing 500,000 shares of Common Stock to the Creditor's
Trust. The Court issued a Final Decree in connection with the
Company's Reorganization in Bankruptcy on October 8, 1998.
F-6
<PAGE>
SKOLNIKS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The more significant accounting policies of the Company are as follows:
PRINCIPLES OF CONSOLIDATION:
The accompanying consolidated financial statements include the accounts of
Skolniks, Inc. and its wholly owned subsidiary. All intercompany
accounts and transactions have been eliminated in consolidation.
CASH EQUIVALENTS:
Cash equivalents include liquid investments purchased with an original
maturity of three months or less.
INVENTORIES:
Inventories, consisting of raw materials, finished goods, paper and
supplies are valued at the lower of cost (first-in, first-out method)
or market.
PROPERTY AND EQUIPMENT AND DEPRECIATION:
Property and equipment are recorded at cost and are depreciated and
amortized using the straight-line method over their estimated useful
life as follows:
Furniture and equipment 5 - 10 years
Leasehold improvements 10 years, not to exceed the remaining life of the
lease.
When properties are retired or otherwise disposed of, the cost and related
accumulated depreciation are removed from the accounts with any
resulting gain or loss reflected in income. Maintenance and repairs
are expensed in the year incurred.
INCOME TAXES:
Deferred income taxes are recognized for the tax consequences in future
years of differences between the tax bases of assets and liabilities
and their financial reporting amounts at each year end based on
enacted tax laws and statutory tax rates applicable to the periods in
which the differences are expected to affect taxable income. Valuation
allowances are established when necessary to reduce deferred tax
assets to the amount expected to be realized. Income tax benefit
(expense) is the tax receivable (payable) for the period and the
change during the period in deferred tax assets and liabilities.
F-7
<PAGE>
SKOLNIKS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, CONTINUED:
INCOME (LOSS) PER SHARE OF COMMON STOCK:
Basic earnings per share excludes dilution and is computed by dividing
income (loss) available to common shareholders by the weighted-average
number of common shares outstanding for the period. Diluted earnings
per share reflects the potential dilution that could occur if
securities or other contracts to issue common shares were exercised or
converted into common shares or resulted in the issuance of common
shares that then shared in the earnings of the Company. The
calculation of diluted income (loss) per share assumes the dilutive
effect of the Company's Convertible Preferred Stock converted into
Common Stock at the later of the beginning of the year or issue date.
During a loss period, the conversion of this Preferred Stock to Common
Stock has an antidilutive effect.
ADVERTISING:
The Company expenses advertising costs at the first time that advertising
takes place. For the year ended July 31, 1998 and 1997, advertising
expense was approximately $22,000 and $1,500, respectively.
FAIR VALUE OF FINANCIAL INSTRUMENTS:
The following methods and assumptions were used in estimating fair values:
Notes payable - related party: The carrying amounts of the Company's
borrowings under its notes payable-related party, as well as
short-term borrowings, are presented at present value, which
approximates fair value.
ACCOUNTING ESTIMATES:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and their reported amounts of
revenues and expenses during the reporting periods. Actual results
could differ from those estimates.
F-8
<PAGE>
SKOLNIKS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
3. LIABILITIES SETTLED IN BANKRUPTCY DURING 1997 CONSIST OF THE FOLLOWING:
Trade Accounts Payable $3,201,120
Unsecured notes payable 185,588
Leases payable 714,265
Subordinated debentures 226,000
----------
4,326,973
Payment to Creditors' Trust 800,000
----------
Debt Forgiveness $3,526,973
==========
4. INVENTORIES:
The components of inventory are as follows:
1998 1997
---- ----
Raw Materials $29,458 $35,506
Finished Goods 6,864 5,891
------- -------
$36,322 $41,397
======= =======
5. OTHER CURRENT ASSETS:
Other current assets consist of the following:
1998 1997
---- ----
Prepaid Expenses $55,954 $30,365
Employee Advances 2,185 --
------- -------
$58,139 $30,365
======= =======
6. PROPERTY AND EQUIPMENT:
Property and equipment consist of the following:
1998 1997
---- ----
Furniture and equipment $ 769,036 $ 764,970
Leasehold improvements 119,809 119,809
--------- ---------
888,845 884,779
Less: accumulated
depreciation (661,173) (582,848)
--------- ---------
$ 227,672 $ 301,931
========= =========
Depreciation and amortization expense for the years ended July 31, 1998 and
1997 amounted to approximately $78,000 and $75,000, respectively.
F-9
<PAGE>
SKOLNIKS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
7. NOTES PAYABLE - RELATED PARTIES:
CURRENT NON-CURRENT
PORTION PORTION COLLATERAL
------- ------- ----------
Board Members: $ 690,000 Machinery
25,000 Accounts Receivable
-- 516,000 Unsecured
Shareholders 7,500 Accounts Receivable
$ 12,505 12,500 Office Equipment
7,500 20,000 Unsecured
-------- ----------
$ 20,005 $1,271,000
======== ==========
Interest rates on outstanding notes payable balances are 10% and 12% for
current and non-current amounts respectively.
The current portion of notes payable - related parties have reached their
maturity dates and are in delinquent status.
8. INCOME TAXES:
At July 31, 1998 the Company had available approximately $20 million of
net operating loss carryforwards available for both financial
statement and federal income tax purposes. These carryforwards expire
through 2018.
9. LEASES:
The Company leases its manufacturing facility under an operating lease
agreement expiring March 31, 1999, with an option to renew for five
years. Rent expense under the operating lease was approximately
$112,000 for 1998 and 1997, respectively.
Minimum rental commitments for the period of August 1 through March 31,
1999 is approximately $73,000.
10. SHAREHOLDERS' EQUITY:
The Company is authorized to issue 2 million shares of Preferred Stock,
$.01 par value. The Board of Directors of the Company is authorized,
without action by the shareholders, to issue Preferred Stock from time
to time in one or more series and to fix, for each series, the number
of shares, designation, dividend rights, voting rights, redemption
provisions, conversion rights, liquidation preferences, and any other
rights and restrictions.
F-10
<PAGE>
SKOLNIKS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
10. SHAREHOLDERS' EQUITY, CONTINUED:
The Board of Directors authorized the issuance of Series A Convertible
Preferred Stock in 1992. Holders of Series A Convertible Preferred
Stock are entitled to cumulative, semi-annual dividends at the
semi-annual rate of $.165 per share. Such dividends must be paid
before the payment of any dividends on Common Stock. Dividends on the
Preferred Stock are payable, when declared by the Board of Directors,
on August 1 and February 1 of each year and are payable in Preferred
Stock of the same series for any six-month period in which net income
before tax is less than 150 percent of the dividend due and otherwise
will be payable in cash. Under Delaware law, the Company is permitted
to pay dividends only out of surplus (net assets in excess of stated
capital), or in the event there is no surplus, then out of net profits
for the year in which the dividends are declared. The total
accumulated dividends through July 31, 1998 were approximately
$564,000, payable in shares of Preferred Stock.
In liquidation, holders of Preferred Stock will have a preference over
the holders of Common Stock equal to the highest Exchange Price per
share plus all accrued and unpaid dividends, whether declared or
undeclared. The Preferred Stock has a liquidation preference of
approximately $1,987,000 at July 31, 1998, which was not relieved in
bankruptcy. This preference, together with other factors, may have a
significant effect on the Company's ability to raise any additional
capital through Common and Preferred Stock offerings.
The Company may redeem the Preferred Stock, in whole or part, beginning
one year after the date of issuance upon payment of a redemption price
of $3.67 per share, plus all accrued and unpaid dividends, whether
declared or undeclared.
Commencing one year after the date of issuance, the holders of Preferred
Stock will be entitled to convert each share of the Preferred Stock
into one share of Common Stock subject to adjustment in certain
specified circumstances. The Company is required to reserve from
authorized but unissued Common Stock a sufficient number of shares to
effect conversion of the Preferred Stock issued.
The Preferred Stock is non-voting. Therefore, unless otherwise specified
under Delaware law, on all matters submitted to a vote of the
shareholders, including the election of Directors, holders of Common
Stock will decide the matters.
F-11
<PAGE>
SKOLNIKS, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
10. SHAREHOLDERS' EQUITY, CONTINUED:
WARRANTS:
Warrants to purchase one share of Common Stock outstanding at July 31, 1998
are approximately as follows:
NUMBER OF WARRANTS EXERCISE PRICE EXPIRATION DATE
------------------ -------------- ---------------
8,000 $ 6.000 May 1999
175,000 2.000 July 1999
450,000 1.000 2000
805,000 0.500 2000
625,000 0.500 2001
2,250,000 0.375 2002
1,524,000 0.250 2002
920,000 0.125 2003
1,100,000 0.100 2003
As of July 31, 1998, holders of warrants to purchase approximately
7,409,000 shares of Common Stock have agreed to refrain from
exercising their warrants until the Company's authorized shares
capital is increased.
11. RELATED PARTIES:
SinceMarch 1995 through August 1998, members of the Board of Directors
have loaned the Company $1,231,000. In connection with these loans,
the Board members have been issued warrants to purchase a total of
4,394,000 shares of Common Stock: 1,350,000 at $.50, 1,524,000 at
$.25, 920,000 at $.125, and 600,000 at $.10. Also, the Board members
were issued warrants to purchase 2,100,000 shares at $.375 and 300,000
shares at $.10 upon joining the Board as compensation for their
services on the Board.
12. MAJORITY CUSTOMERS:
The Company conducts a major portion of its business with certain
customers, three of which individually account for more than 62% of
total revenues. For the year ended July 31, 1998, revenues from these
customers amounted to approximately $708,000, $170,000 and $170,000 or
42%, 10% and 10%, respectively, of total revenues. Total accounts
receivable from these customers at July 31, 1998, amounts to
approximately $59,000, $21,000 and $6,800 or 45%, 16% and 5%,
respectively, of the total trade accounts receivable balance.
F-12
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<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUL-31-1998
<PERIOD-START> AUG-01-1997
<PERIOD-END> JUL-31-1998
<CASH> 31,625
<SECURITIES> 0
<RECEIVABLES> 134,519
<ALLOWANCES> 4,000
<INVENTORY> 36,322
<CURRENT-ASSETS> 256,605
<PP&E> 888,845
<DEPRECIATION> 661,172
<TOTAL-ASSETS> 484,277
<CURRENT-LIABILITIES> 370,302
<BONDS> 0
0
4,273
<COMMON> 9,328
<OTHER-SE> (1,170,626)
<TOTAL-LIABILITY-AND-EQUITY> 484,277
<SALES> 1,685,378
<TOTAL-REVENUES> 1,685,378
<CGS> 1,649,247
<TOTAL-COSTS> 2,041,322
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 109,941
<INCOME-PRETAX> (465,885)
<INCOME-TAX> 0
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (465,885)
<EPS-PRIMARY> (.07)
<EPS-DILUTED> (.07)
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