<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
=============================================
FORM 8-K/A
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
=============================================
Date of Report (Date of earliest event reported): October 16, 1996
RYKA INC.
-----------------------------
(Exact name of registrant as specified in its charter)
Delaware 0-16611 04-2958132
- ---------------------------- ----------- -------------------
(State or other jurisdiction (Commission (IRS Employer
of incorporation) File Number Identification No.)
555 South Henderson Road
Suite B
King of Prussia, Pennsylvania 19406
-----------------------------------
(Address of principal executive
offices, including zip code)
610-337-2200
------------
Registrant's telephone number, including area code
<PAGE>
The purpose of this amendment is to correct erroneous information which
appeared on page A-4 of RYKA INC.'s Current Report on Form 8-K dated October 16,
1996, with respect to the Weighted average common shares and common equivalent
shares outstanding of RYKA INC. for the year ended December 31, 1993.
Item 5. Other Events.
------------
Effective August 23, 1995, RYKA INC. ("RYKA") notified the accounting firm
of Coopers & Lybrand L.L.P. that the Audit Committee of the Board of Directors
had voted to dismiss the firm as RYKA's independent accountants for the fiscal
year ending December 31, 1995. Coopers & Lybrand L.L.P. had served as RYKA's
independent public accountants for each of the fiscal years ended December 31,
1993 and 1994. In connection with the audits of RYKA's financial statements for
the years ended December 31, 1993 and December 31, 1994, the report for each of
those years included a modification concerning RYKA's ability to continue as a
going concern. In connection with the audits of RYKA's financial statements
for the years ended December 31, 1993 and December 31, 1994, there were no
disagreements with Coopers & Lybrand L.L.P. on any matters of accounting
principles or practices, financial statement disclosure, or auditing scope or
procedures. Coopers & Lybrand L.L.P. did not advise RYKA that it questioned the
fairness, accuracy, or reliability of RYKA's financial statements, management's
representations, internal controls or prior audits.
RYKA filed a Current Report on Form 8-K/A dated August 23, 1995 reporting
the change in RYKA's independent auditors from Coopers & Lybrand L.L.P. to
Margolis & Company P.C.
As a result of the change in accountants, the financial statements of RYKA
for each of the years ended December 31, 1993 and 1994 were re-audited by
Margolis & Company P.C., independent certified public accountants. Such
financial statements, together with the report of Margolis & Company, P.C., are
attached hereto as Annex "A". Such financial statements contain no changes in
reported results of operations or financial position from the financial
statements of RYKA for each of the fiscal years ended December 31, 1993 and 1994
as audited by Coopers & Lybrand L.L.P.
-1-
<PAGE>
ANNEX "A"
---------
FINANCIAL STATEMENTS OF RYKA INC. FOR THE YEARS ENDED
DECEMBER 31, 1995, 1994 AND 1993 AND INDEPENDENT AUDITOR'S
REPORT
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Commission Act
of 1934, the registrant has duly caused this report to be signed on its behalf
by the undersigned hereunto duly authorized.
RYKA, INC.
By: /s/ Michael G. Rubin
------------------------------------
Michael G. Rubin
Chairman and Chief Executive Officer
Date: October 23, 1996
-2-
<PAGE>
INDEX TO FINANCIAL STATEMENTS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
PAGE
----
RYKA INC. AND SUBSIDIARY
Financial Statements For The Years Ended December 31,
- -----------------------------------------------------
1995, 1994 and 1993 and Independent Auditor's Report:
- ----------------------------------------------------
<S> <C>
Independent Auditor's Report - Margolis & Company P.C. A - 2
Consolidated Balance Sheets at December 31, 1995 and 1994 A - 3
Consolidated Statements of Operations - Years Ended
December 31, 1995, 1994 and 1993 A - 4
Consolidated Statements of Stockholders' Equity (Deficiency) -
Years Ended December 31, 1995, 1994 and 1993 A - 5
Consolidated Statements of Cash Flows -Years Ended
December 31, 1995, 1994 and 1993 A - 6
Notes to Consolidated Financial Statements A - 8
</TABLE>
A-1
<PAGE>
INDEPENDENT AUDITOR'S REPORT
Board of Directors and Stockholders
RYKA Inc.
King of Prussia, Pennsylvania
We have audited the consolidated balance sheets of RYKA Inc. and Subsidiary as
of December 31, 1995 and 1994 and the related consolidated statements of
operations, stockholders' equity (deficiency) and cash flows for each of the
three years in the period ended December 31, 1995. 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 respects, the consolidated financial position of RYKA
Inc. and its Subsidiary as of December 31, 1995 and 1994, and the consolidated
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1995 in conformity with generally accepted
accounting principles.
The accompanying financial statements for the year ended December 31, 1995 have
been prepared assuming that RYKA Inc. will continue as a going concern. As more
fully described in Note A, the Company has incurred significant operating losses
since its inception and has an accumulated deficit at December 31, 1995 of
$17,848,484. These conditions raise substantial doubt about the Company's
ability to continue as a going concern. The Company's plans in regard to this
matter are described in Note A. The financial statements do not include any
adjustments to reflect the possible future effects on the recoverability and
classification of assets or the amounts and classification of liabilities that
may result from the outcome of this uncertainty.
MARGOLIS & COMPANY P.C.
Bala Cynwyd, Pennsylvania
June 21, 1996, except for Note P
as to which the date is August 15, 1996
A-2
<PAGE>
RYKA INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31,
1995 1994
----------- -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 77,509 $ 296,226
Accounts receivable, net of allowance for doubtful
accounts of $57,573 in 1995 and $518,875 in 1994 533,490 2,933,994
Inventory 678,319 3,763,835
Prepaid expenses and other current assets 118,294 166,946
---------- ----------
Total current assets 1,407,612 7,161,001
Property and equipment, at cost, net of accumulated depreciation 195,083 173,118
Other assets 500 15,753
---------- ----------
Total assets $1,603,195 $7,349,872
========== ==========
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
<S> <C> <C>
Accounts payable $ 738,865 $ 419,866
Payable to factories - 390,113
Payable to lender - 2,783,464
Payable to factor - 1,286,237
Accrued expenses 111,749 436,203
Due to affiliate 2,043 -
---------- ----------
Total current liabilities 852,657 5,315,883
---------- ----------
Subordinated note payable, affiliate 851,440 -
---------- ----------
Commitments and contingencies
Stockholders' equity (deficiency):
Preferred stock, $0.01 par value, 1,000,000
shares authorized; none issued or outstanding - -
Common stock, $0.01 par value, 70,000,000
shares and 45,000,000 shares authorized at
December 31, 1995 and 1994, respectively; 46,135,326
and 26,474,326 shares issued and outstanding at
December 31, 1995 and 1994, respectively 461,353 264,743
Additional paid-in capital 17,286,229 15,988,253
Accumulated deficit ( 17,848,484) ( 14,219,007)
---------- ----------
Total stockholders' equity (deficiency) ( 100,902) 2,033,989
---------- ----------
Total liabilities and stockholders' equity $1,603,195 $7,349,872
========== ==========
</TABLE>
The notes to consolidated financial statements are an integral part of the above
statement.
A-3
<PAGE>
RYKA INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Year Ended December 31,
1995 1994 1993
----------- ----------- -----------
<S> <C> <C> <C>
Net sales $ 7,538,354 $16,024,991 $14,300,282
Other revenues 75,904 228,508 50,000
------------ ----------- -----------
7,614,258 16,253,499 14,350,282
------------ ----------- -----------
Costs and expenses:
Cost of goods sold 6,581,670 11,399,760 11,199,119
Inventory write-down to lower of
cost or market 586,000 - -
General and administrative
expenses 1,706,165 1,605,688 1,645,553
Provision for losses on doubtful accounts 359,388 130,000 631,835
Sales and marketing expenses 1,591,379 2,265,943 2,085,077
Advertising costs 212,307 338,334 1,162,825
Research and development expenses 359,646 226,271 361,780
Special charges 379,434 - -
------------ ----------- -----------
Total costs and expenses 11,775,989 15,965,996 17,086,189
------------ ----------- -----------
Operating income (loss) ( 4,161,731) 287,503 ( 2,735,907)
------------ ----------- -----------
Other (income) expense:
Interest expense 348,169 805,272 699,231
Interest income ( 6,328) ( 6,354) ( 6,647)
Merger related costs 783,289 - -
Other ( 7,128) - -
------------ ----------- -----------
Total other expenses, net 1,118,002 798,918 692,584
------------ ----------- -----------
Net loss before extraordinary gain ( 5,279,733) ( 511,415) ( 3,428,491)
Extraordinary gain-forgiveness of debt 1,650,256 - -
------------ ----------- -----------
Net loss ($ 3,629,477) ($ 511,415) ($3,428,491)
============ =========== ===========
Net loss per share:
Loss before extraordinary gain ($ 0.15) ($ 0.02) ($ 0.15)
Extraordinary gain 0.05 - -
------------ ----------- -----------
Net loss per share ($ 0.10) ($ 0.02) ($ 0.15)
============ =========== ===========
Weighted average common shares and
common equivalent shares outstanding 34,540,653 24,210,083 23,573,316
============ =========== ===========
</TABLE>
The notes to consolidated financial statements are an integral part of the above
statement.
A-4
<PAGE>
RYKA INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIENCY)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Additional
Common Stock Paid-in Accumulated
Shares Amount Capital Deficit Total
----------- ----------- ----------- ------------ ------------
<S> <C> <C> <C> <C> <C>
Balance at December 31,
1992 23,101,948 $231,019 $14,214,459 ($10,279,101) $ 4,166,377
Issuance of stock for services 24,258 243 30,807 31,050
Exercise of stock options 105,150 1,051 26,127 27,178
Exercise of warrants 490,000 4,900 509,100 514,000
Net loss ( 3,428,491) ( 3,428,491)
----------- ----------- ----------- ------------ ------------
Balance at December 31,
1993 23,721,356 237,213 14,780,493 ( 13,707,592) 1,310,114
Exercise of stock options 197,175 1,972 58,781 60,753
Issuance of stock, net of
offering costs 2,555,795 25,558 1,148,979 1,174,537
Net loss ( 511,415) ( 511,415)
----------- ----------- ----------- ------------ ------------
Balance at December 31,
1994 26,474,326 264,743 15,988,253 ( 14,219,007) 2,033,989
Issuance of stock in connec-
tion with forgiveness of debt 500,000 5,000 120,000 125,000
Issuance of warrants in connec-
tion with forgiveness of debt 5,319 5,319
Issuance of stock and warrants,
net of offering costs 18,320,000 183,200 724,153 907,353
Issuance of stock for services
related to stock offering 40,000 400 9,600 10,000
Issuance of stock for settlement
of employment contract 60,000 600 14,400 15,000
Issuance of warrants to lender
in connection with credit
facility 100,000 100,000
Exercise of stock options 41,000 410 9,838 10,248
Exercise of warrants 700,000 7,000 273,000 280,000
Contributed services 41,666 41,666
Net loss ( 3,629,477) ( 3,629,477)
----------- ----------- ----------- ------------ ------------
Balance at December 31,
1995 46,135,326 $461,353 $17,286,229 ($17,848,484) ($ 100,902)
=========== =========== =========== ============ ============
</TABLE>
The notes to consolidated financial statements are an integral part of the above
statement.
A-5
<PAGE>
RYKA INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Year Ended December 31,
1995 1994 1993
-------- -------- --------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss ($3,629,477) ($ 511,415) ($3,428,491)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Extraordinary item - forgiveness of debt ( 1,650,256) - -
Depreciation and amortization 52,640 45,291 51,142
Provision for losses on accounts receivable 359,388 130,000 631,835
Advertising credits - - 614,217
Capital contributed as services 41,666 - -
Issuance of common stock and warrants
for services 115,000 - 31,050
Loss on disposition of equipment 504 - -
Changes in operating assets and liabilities:
Accounts receivable 2,041,116 ( 274,266) ( 462,934)
Inventory 3,085,516 ( 483,187) ( 20,031)
Prepaid advertising - - 109,243
Prepaid expenses and other current assets 48,652 ( 6,030) 79,595
Accounts payable and accrued expenses 1,070,386 ( 604,145) 1,208,148
Payable to factories ( 390,113) - -
Due to affiliate 2,043 - -
---------- ---------- ----------
Net cash provided by (used in) operating
activities 1,147,065 ( 1,703,752) ( 1,186,226)
---------- ---------- ----------
Cash flows from investing activities:
Acquisitions of equipment ( 90,109) ( 130,895) ( 53,290)
Proceeds from sale of equipment 15,000 - -
Security deposits and other assets 15,253 12,500 ( 6,768)
---------- ---------- ----------
Net cash used in investing activities ( 59,856) ( 118,395) ( 60,058)
========== ========== ==========
</TABLE>
CONTINUED ON NEXT PAGE
A-6
<PAGE>
RYKA INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Year Ended December 31,
1995 1994 1993
-------------- --------------- ---------------
<S> <C> <C> <C>
Cash flows from financing activities:
Increase (decrease) in payable to lender, net ($2,078,730) $ 155,971 ($ 472,507)
Increase (decrease) in payable to factor, net (1,286,237) 786,237 500,000
Proceeds from bridge financing - 300,000 -
Repayment of bridge financing - (300,000) -
Proceeds from notes payable to stockholder - - 125,000
Repayment of notes payable to stockholder - (125,000) (375,000)
Repayments of capital lease obligations - (17,878) (17,795)
Proceeds from exercise of stock options and
warrants 290,248 60,753 541,178
Proceeds from issuance of common stock, net of
issuance costs 917,353 1,174,537 -
Proceeds from subordinated note payable, affiliate 851,440 - -
----------- ---------- ----------
Net cash provided by (used in) financing
activities (1,305,926) 2,034,620 300,876
----------- ---------- ----------
Net increase (decrease) in cash and cash
equivalents (218,717) 212,473 (945,408)
Cash and cash equivalents, beginning of year 296,226 83,753 1,029,161
----------- ---------- ----------
Cash and cash equivalents, end of year $ 77,509 $ 296,226 $ 83,753
=========== ========== ==========
Supplemental disclosure of cash flow information:
Cash paid during the year for interest $ 340,715 $ 303,092 $ 370,945
=========== ========== ==========
Cash paid during the year for income taxes $ - $ - $ -
=========== ========== ==========
Supplemental schedule of noncash investing and
financing activities:
Issuance of common stock in connection with
settlement with Pro-Specs $ 125,000 $ - $ -
=========== ========== ==========
Issuance of warrants in partial settlement of
amounts due creditors $ 5,319 $ - $ -
=========== ========== ==========
Issuance of common stock and warrants for
services $ 145,000 $ - $ -
=========== ========== ==========
</TABLE>
The notes to consolidated financial statements are an integral part of the above
statement.
A-7
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE A - ORGANIZATION AND BASIS OF PRESENTATION
RYKA Inc. ("RYKA"(R) or the "Company"), a Delaware corporation, designs,
develops and markets high-performance athletic footwear specifically for women
to retail outlets primarily located in North America and Europe. Operations
commenced in February, 1987.
The Company's financial statements for the year ended December 31, 1995 have
been prepared on a going concern basis which contemplates the realization of
assets and the settlement of liabilities and commitments in the normal course of
business. The Company has incurred significant recurring losses since its
inception and had an accumulated deficit at December 31, 1995 of $17,848,484.
As described in Note C, the Company was involved in several significant
transactions during 1995, which included the sale of securities, a change in
key management, the establishment of a new loan and security agreement with a
bank, the settlement of debts with secured and unsecured creditors and moving
the Company's principal offices. Without the occurrence of these transactions
or other strategic arrangements, there was substantial doubt that the Company
would be able to remain in business through the third quarter of 1995. Having
accomplished such transactions, management plans to develop and acquire new
merchandise, market and promote the Company's product and expand the workforce
in support of the Company's current plans. To accomplish these goals, the
Company will have to incur substantial expenditures and incur continuing
operating losses during 1996. The Company's working capital at December 31,
1995 will not be sufficient to meet management's objectives in 1996.
Additionally, the Company was in violation of certain financial covenants
required by the loan and security agreement with the Company's principal lender,
at December 31, 1995, although a waiver of default was obtained from the lender
through March 31, 1996 and subsequently through May 31, and July 15, 1996.
Based on the covenant violations covered by the waiver, it is unlikely that the
violations will be cured by July 31, 1996. Accordingly, unless an additional
waiver is obtained, the long-term availability of these funds is uncertain. The
expenditures, described above, were to be funded, in part, through the financing
facility provided by the Company's principal lender. Management is currently
in discussions with another lender to pursue other financing on terms acceptable
to the Company. Based on current discussions with another lender the Company
believes it possible for alternate financing to be obtained although 1) no
definitive agreement has been reached to date, 2) additional equity or
subordinated debt funding would be required as a prerequisite to such lender
financing and 3) there is no assurance that the equity or subordinated debt
funding will be obtained or that the new loan will be finalized. In connection
with the foregoing, and the Company's requirements from time to time, management
plans the sale of additional equity securities and/or the issuance of
subordinated notes, in order to generate sufficient capital resources to assure
continuation of the Company's operations. Management recognizes that the
Company must obtain these or similar additional resources or consider
modifications to its operating plans including reductions in operating costs to
enable it to continue operations. However, no assurance can be given that the
Company will be successful in raising additional capital to support future
operations. Further, there can be no assurance, assuming the Company
successfully raises additional funds and is able to utilize its existing credit
facility or establish a new facility that the Company will achieve profitability
or a positive cash flow (see Note P).
The financial statements do not include any adjustments to reflect the possible
future effect on the recoverability and classification of assets or the amounts
and classifications of liabilities that may result from the outcome of these
uncertainties.
NOTE B - SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation: The consolidated financial statements include the
- ---------------------------
accounts of RYKA Inc. and its wholly owned subsidiary, RYKA GmbH, a German
corporation. During 1994, RYKA GmbH was involuntarily dissolved by the Munich
Trade Register. RYKA GmbH's sole business activity consisted of holding title to
the stylized RYKA and dual parallelogram trademarks, which are both key
trademarks of the Company, and licensing them back to the Company. During 1995,
the Company had legal proceedings in Germany and caused full ownership of such
trademarks to be transferred to the Company from RYKA GmbH. All intercompany
accounts and transactions have been eliminated in consolidation. The Company
currently operates without a subsidiary.
A-8
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- -------------------------------------------------------------------------------
NOTE B - SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
Cash Equivalents: The Company considers highly liquid investments with
- ----------------
maturities at date of purchase of less than three months to be cash equivalents.
Inventory: Inventory, consisting of women's high-performance athletic footwear,
- ---------
is valued at the lower of cost (determined by the first-in, first-out method) or
market.
Equipment: Equipment is stated at cost. Depreciation is provided over the
- ---------
estimated useful lives of the assets, generally five to seven years, using the
straight-line method. Included in these assets are leasehold improvements which
are amortized over the shorter of the useful life of the improvement or the
remaining term of the lease. Expenditures for maintenance and repairs are
expensed as incurred. Upon retirement or other disposition of these assets, the
cost and related accumulated depreciation are removed from the accounts and the
resulting gain or loss, if any, is reflected in results of operations.
Income Taxes: The Company follows the provision of Statement of Financial
- ------------
Accounting Standards No. 109, "Accounting for Income Taxes" (SFAS 109). SFAS
109 requires recognition of deferred income taxes for all temporary differences
between the tax and financial reporting basis of the Company's assets and
liabilities based on enacted tax laws and statutory tax rates applicable to the
periods in which the differences are expected to affect taxable income. SFAS
109 also requires a valuation allowance against net deferred assets if, based
upon available evidence, it is more likely than not that some or all of the
deferred tax assets will not be realized.
Revenue Recognition: Sales, net of discounts, are recognized upon the shipment
- -------------------
of footwear.
Other Revenues: Beginning in 1994, RYKA's independent foreign distributors
- --------------
primarily purchased footwear directly from the Company's overseas manufacturers,
and the Company receives royalty on those purchases. Income from direct
purchases by foreign distributors is included in Other Revenues. In 1993, Other
Revenues consisted of a license fee for the transfer of rights to an
international territory.
Loss Per Share: Loss per share is based on the weighted average number of shares
- --------------
of common stock and dilutive common stock equivalent shares outstanding during
each year. Stock options and warrants are included as common stock equivalents,
using the treasury stock method, in the computation of weighted average shares
outstanding when dilutive.
Reclassifications: Certain 1994 and 1993 balances have been reclassified to
- -----------------
conform with the 1995 financial statement presentation.
Use of Estimates: The presentation of financial statements in conformity with
- ----------------
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Advertising Expense: The Company expenses the cost of advertising the first time
- -------------------
the advertising takes place. At December 31, 1995, $15,982 of advertising
which is to take place in 1996 was reported as an asset and included in prepaid
expenses. Advertising expense was $212,307 for 1995.
Stock Option Plans: The Company accounts for employee stock compensation plans
- ------------------
using the intrinsic value based method of accounting prescribed by Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" (APB
25). Under such method, compensation is measured by the quoted market price of
the stock at the measurement date less the amount, if any, that the employee is
required to pay. The measurement date is the first date on which the number of
shares that an individual employee is entitled to receive and the option or
purchase price, if any, are known.
A-9
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE B - SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
Recently Issued Accounting Standards: In October 1995, the Financial Accounting
- ------------------------------------
Standards Board adopted Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" (SFAS 123). SFAS 123 permits
companies to choose between a "fair value based method of accounting" for
employee stock options or to continue to measure compensation cost for employee
stock compensation plans using the intrinsic value based method of accounting
prescribed by APB 25. The Company intends to continue to use the APB 25 method.
Entities electing to remain with this method, must make pro-forma disclosures of
net income (loss) and earnings (loss) per share, as if the fair value based
method of accounting defined in SFAS 123 had been applied to all awards granted
in fiscal years beginning after December 15, 1994. The Company, as permitted
under SFAS 123, will make such disclosures for 1995 awards in its 1996 annual
financial statements.
NOTE C - SECURITIES PURCHASE AGREEMENT WITH MR ACQUISITIONS, L.L.C.
On January 30, 1995, the Company and L.A. Gear, Inc. announced the execution of
the Agreement and Plan of Merger (the "Merger Agreement") with L.A. Gear, Inc.
and Brands Acquisition Corp., a wholly-owned subsidiary of L.A. Gear, Inc. On
April 27, 1995 L.A. Gear, Inc. notified the Company that it was terminating the
Merger Agreement. On May 17, 1995 the Company received notice of termination of
its financing agreement with Pro-Specs America Corporation ("Pro-Specs")
effective June 16, 1995. Pro-Specs provided the principal source of financing
for the production activities of the Company. Subsequently, the Company
reviewed several financing proposals from possible strategic partners or
financing sources and in June, 1995, MR Acquisitions, Inc. and the Company
entered into a Securities Purchase Agreement (the "Agreement") to provide the
Company with up to $8,000,000 of new financing. The Agreement was subsequently
assigned to MR Acquisitions, L.L.C. ("MR"). The Agreement was consummated on
July 31, 1995 (the "Closing") and the Company received cash proceeds from the
sale of stock and the ability to obtain funds through a new financing facility.
In addition, the Company negotiated substantial debt forgiveness with both
secured and unsecured creditors and established a new management team to operate
the restructured Company.
Following are the significant provisions of the Agreement and financing facility
(the "Transaction") between MR and the Company as set forth in the Agreement
dated June 21, 1995, as amended, the Loan Agreement and Security Agreement (the
"Loan Agreement") dated July 31, 1995, and the settlement of obligations due to
various creditors:
1. Transactions with MR:
MR purchased for consideration of $148,560 a total of 14,800,000 shares of
Common Stock of the Company (10,800,000 shares were delivered at closing and
the balance of 4,000,000 shares were delivered after approval by the
stockholders on November 15, 1995 of an amendment to the Certificate of
Incorporation increasing the number of authorized shares) and a seven year
warrant to purchase an additional 5,100,000 shares of Common Stock for $.01
per share. Further, KPR Sports International, Inc. ("KPR"), an affiliate of
MR, loaned $851,440 to the Company in the form of a secured subordinated loan
with interest at prime plus one percent and with repayment terms coincident
with the revolving credit facility with the principal lender. The Affiliate
has indicated that it does not intend repayment to be made during 1996.
In connection with the bank loan described below, MR is responsible for
making future subordinated loans or capital infusions, or causing the same to
occur, in amounts substantially equal to any losses incurred by the Company
subsequent to the date of the Transaction such that by August 30, 1995
capital funds are maintained at a minimum of $2,000,000, as defined. See Note
C(2) below for information regarding waiver of default related to these
provisions.
A-10
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE C - SECURITIES PURCHASE AGREEMENT WITH MR ACQUISITIONS, L.L.C. - CONTINUED
1. Transactions with MR - continued:
As part of the Transaction, the Company issued a seven year contingent stock
purchase warrant (the "Contingent Warrant"), to MR to purchase up to an
additional 4,000,000 shares of Common Stock for an exercise price of $.01 per
share, of which 461,444 shares are vested. Pursuant to the warrant terms, if
at any time within one year from the date of issuance of the Contingent
Warrant the Company issues a number of shares of Common Stock which results
in the Company having in excess of 50,000,000 shares of Common Stock issued
and outstanding, provided, that any such shares above such 50,000,000 were
issued solely for the purpose of a) inducing a lender to make a loan or loans
to the Company, or b) in connection with an infusion of capital to the
Company, or c) a settlement of debts with the Company's creditors, or d) a
combination thereof, then upon the occurrence of such stock issuance, for
every ten (10) additional shares of Common Stock which are issued, four (4)
of such shares shall vest under the Contingent Warrant to MR, who upon
exercise shall pay an additional one cent ($.01) per share for the issuance
of such additional shares.
MR, through its affiliate, KPR Sports International, Inc. has made available,
to the Company, a letter of credit facility in the amount of $2,000,000. This
facility may be utilized by the Company to, among other things, enter into
purchase transactions for the manufacture of inventory with overseas vendors.
The Company reimbursed MR approximately $125,000 for its costs in connection
with the Transaction.
2. Transaction with principal lender:
In connection with the Transaction, the Company entered into a Loan and
Security Agreement with its principal lender to establish a $4,000,000 asset
based revolving credit facility. The facility makes funds available to the
Company based on a percentage of inventory and accounts receivable, as
defined. Interest on the amounts outstanding will be paid monthly at the rate
of prime plus one percent and the facility is due on demand. As of December
31, 1995, the Company owed $ -0 - under this facility. Interest expense
incurred in connection with this facility was $6,907 for the year ended
December 31, 1995.
The Loan and Security Agreement requires the Company to observe certain
covenants and maintain certain minimum levels of tangible net worth and
leverage. Further, as described above, after August 30, 1995, there is a
requirement for additional subordinated loans or equity infusions in the
event that losses occur subsequent to the date of the Transaction which would
cause capital funds to decrease below $2,000,000, as defined. Such $2,000,000
minimum required the infusion of additional equity or subordinated loans of
approximately $900,000 by December 31, 1995, and, as described below, such
infusion was postponed.
At December 31, 1995, the Company was in default of certain provisions of the
Loan and Security Agreement requiring certain credit and life insurance to be
obtained within prescribed timeframes, losses incurred by the Company
subsequent to the Transaction date to be funded by MR making subordinated
loans or capital infusions, or causing the same to occur (the "Funding
Requirement"), and the covenant requiring establishment and maintenance of
certain minimum tangible net worth. At December 31, 1995 the difference
between the actual minimum tangible net worth amount and the required amount
was approximately $900,000.
The principal lender has waived the defaults, extended the time for the
credit insurance to be obtained, and postponed the Funding Requirement and
minimum tangible net worth requirements, through March 31, 1996, and
subsequently through May 31, 1996 and July 15, 1996 (see Note P).
A-11
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- -------------------------------------------------------------------------------
NOTE C - SECURITIES PURCHASE AGREEMENT WITH MR ACQUISITIONS, L.L.C. - CONTINUED
2. Transaction with principal lender - continued:
The principal lender received a fee of $20,000 upon closing the Transaction,
reimbursement of certain costs and expenses incurred in connection with the
Loan Agreement, and warrants to purchase up to 500,000 shares of the
Company's common stock for an exercise price of $.57 per share. The price was
based upon the average trading price of the stock for the five days before
and after the Closing. The warrant may be exercised for a period of up to
five years after the Transaction date but may not be exercised during the
first twelve months. The value of the warrants was $100,000.
3. Equity transaction - Investors:
In connection with the Transaction, the Company offered for sale, through a
private placement, 4,000,000 shares of Common Stock and the results of the
private placement were as follows:
<TABLE>
<CAPTION>
Shares Placed Proceeds Received
------------- -----------------
<S> <C> <C>
At closing 3,020,000 $255,000
========= ========
Through December 31, 1995 3,520,000 $880,000
========= =======
</TABLE>
As a condition of the private placement, in the event the Company is unable
to register such securities with the Securities and Exchange Commission in a
filing which is effective within 120 days of the Closing, the Company will be
required to remit to the investors $7,500 and warrants to purchase 5,000
shares for each month such registration statement does not become effective,
up to a maximum reduction in stock proceeds of $150,000 and additional
issuance of 100,000 shares of Common Stock. The registration was not
accomplished within the 120 day period, however, waivers have been received
or are being requested from the participants in the private placement through
March 31, 1996 related to the provisions requiring a $7,500 per month
remittance and issuance of warrants. Further, the financial statement impact
at December 31, 1995 would be de minimus. Accordingly, the entire amount of
the proceeds has been recorded as equity in the balance sheet.
From the date of closing of the Transaction until completion of the private
placement, the Company's Chairman and Chief Executive Officer provided a
subordinated bridge loan to the Company. This loan is evidenced by a
promissory note bearing no interest and is due upon receipt by the Company of
the proceeds of the private placement. At December 31, 1995, a total of
$120,000 remained outstanding on such loan. As of December 31, 1995, a total
of 480,000 shares have yet to be sold to investors. Originally, in the event
the private placement was not completed by August 26, 1995, such bridge loan
was to be converted to equity based on the same terms as the private
placement, with the exception of the provisions causing a contingent
reduction in stock proceeds, as described above. The conversion date was
subsequently extended until March 31, 1996. Since the ultimate effect of this
transaction will be to increase the outstanding capital stock of the Company
through the sale of common stock to investors or conversion of the bridge
loan into common stock, the transaction has been given effect to in these
financial statements as if it had been completed. Included in additional
paid-in capital at December 31, 1995 is $120,000 related to the bridge loan
for shares not sold. Further, such shares, although not outstanding, have
been considered as such in the computation of loss per share.
4. Settlement with secured and unsecured creditors:
As required by the Agreement, the Company negotiated the following settlement
arrangements with secured and unsecured creditors:
A-12
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE C - SECURITIES PURCHASE AGREEMENT WITH MR ACQUISITIONS, L.L.C. - CONTINUED
4. Settlement with secured and unsecured creditors - continued:
. Pro-Specs America Corporation:
The Company entered into a Settlement Agreement with Pro-Specs America
Corporation, a lender described more fully in Note E(2), under which
$1,804,734 of secured indebtedness was settled by payment of $1,100,000 in
cash and the issuance of 500,000 shares of Common Stock. These shares of
Common Stock were issued upon approval by the stockholders on November 15,
1995 of an amendment to the Certificate of Incorporation increasing the
number of authorized shares. These shares have been valued at $.25 each or
$125,000 in the aggregate. Pro-Specs was also obligated to certain vendors
pursuant to letters of credit opened on behalf of the Company for the
purchase of approximately $1,000,000 in merchandise to be received in the
future. In connection with the settlement, as a result of separate
negotiations with such vendors, Pro-Specs was released from any obligations
in connection with such letters of credit.
In connection with the foregoing, the Company recognized a gain on
restructuring of this debt in the amount of $579,734 in the third quarter of
1995.
. Other creditors:
In early July 1995, the Company was obligated to various unsecured creditors
in the aggregate amount of approximately $1,250,000. These creditors were
contacted and, generally, given the opportunity to elect one of the following
methods of settlement of the amounts due to them:
. Option A:
Payment in cash of $.08 during July 1995, or in certain cases at a later
date, in full and complete settlement of each dollar owed to the creditor.
. Option B:
Payment in cash of $.03 during July 1995, or in certain cases at a later
date, for each dollar owed to such creditor and the issuance of one warrant
for the purchase of a share of Common Stock of the Company for each $2 due
such creditor. The warrants are exercisable over a 5 year period at an
exercise price of $1.50 per share. The value of each warrant was $.10.
Creditors who were owed approximately $839,000 elected Option A. The Company
made payments to these creditors totaling approximately $68,000 and
recognized a gain of approximately $771,000 in the third quarter of 1995.
Creditors who were owed approximately $98,000 elected Option B. The Company
made payments to these creditors totaling approximately $3,000 and issued
53,192 warrants resulting in a gain of approximately $91,000 recognized in
the third quarter of 1995.
In addition, approximately $315,000 of claims were settled under other
negotiated arrangements requiring the payment of approximately $107,000 in
the aggregate resulting in a gain of approximately $208,000 in the third
quarter of 1995.
Currently the Company is negotiating with creditors who are owed
approximately $31,500.
The settlements with secured and unsecured creditors who were owed
approximately $3,050,000 resulted in a gain of approximately $1,650,000.
A-13
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE C - SECURITIES PURCHASE AGREEMENT WITH MR ACQUISITIONS, L.L.C. - CONTINUED
5. Other matters:
In connection with the Transaction, various other arrangements were made
including the following:
. The lease for the Company's principal operating facility was terminated early
with the payment of rent through August 15, 1995.
. Certain employment arrangements have been modified or new arrangements have
been entered into involving, among other things, the granting of
approximately 700,000 new options for the purchase of the Company's Common
Stock at a price equal to the fair market value at the date of issuance.
. The Company incurred approximately $225,000 of professional fees and other
costs in connection with this Transaction. The amount was paid in cash and
by the issuance of 100,000 warrants valued at $20,000. The warrants are
exercisable over 5 years at a price of $.42 per share.
. A key employment agreement was terminated involving the issuance of 60,000
shares of Common Stock, valued at $.25 per share.
. The Company's Credit and Collection Agreement with Heller Financial Inc., its
factor, described in Note E(1), was modified so that the credit facility
previously provided to the Company was terminated and only collection
services are currently being provided.
. At closing, the Company had 45,000,000 shares of common stock authorized for
issuance. Prior to the Closing, approximately 26,500,000 shares of common
stock were issued and outstanding and approximately 3,600,000 additional
shares of common stock were reserved for issuance of stock options and
warrants unrelated to this Transaction. The stockholders of the Company were
requested to approve and approved an increase in the number of authorized
shares of Common Stock to 70,000,000 at a special meeting on November 15,
1995 in order to enable the Company to issue shares, options and warrants as
a result of the Transaction and to have shares available for future financing
and stock options.
A summary of shares issued and outstanding at December 31, 1995, but which were
pending release prior to stockholders' approval of the amendment to the
certificate of incorporation increasing the number of authorized shares or
otherwise included in the computation of loss per share from the date of the
Transaction, is as follows:
<TABLE>
<S> <C>
Shares purchased by MR in connection with Transaction 4,000,000
Shares for professional fees as reimbursement to MR for Transaction costs 40,000
Shares to Pro-Specs in connection with settlement of secured indebtedness 500,000
Shares as termination of employment contract with former employee 60,000
---------
4,600,000
Remaining shares to be issued pursuant to 4,000,000 shares private placement 480,000
---------
5,080,000
=========
</TABLE>
For purposes of calculating the weighted average number of common and common
equivalent shares outstanding for the computation of loss per share, such
stockholder approval has been assumed as of the date of the Transaction.
A-14
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE D - RELATED PARTY TRANSACTIONS
1. Affiliates of MR Acquisitions, L.L.C. (MR):
The Company relocated to King of Prussia, Pennsylvania in August 1995 where
it conducts its operations and warehouses inventory in a facility subleased
from an affiliate of MR. Terms of the sublease require rental payments of
approximately $4,000 per month for use of these facilities and warehousing
services commencing August 1, 1995 through July 31, 1997. Rent expense
related to this lease totaled $19,792 for the year ended 1995. Any other
cost related to the use of the joint facility or for other services provided
by MR or its affiliates will be charged to the Company on an arms length
basis and will be subject to approval by a special disinterested committee
of the Board of Directors. Rent expense charged to operations in connection
with this lease, as well as other leases, was $58,792, $117,250 and $99,188
in the years ended December 31, 1995, 1994 and 1993, respectively.
KPR Sports International, Inc., an affiliate of MR and an entity owned by
the Chairman and Chief Executive Officer of the Company, has advanced
certain funds to the Company on a temporary basis. Such amounts remaining
outstanding at December 31, 1995, are included in the balance sheet under
current liabilities as due to affiliate.
MR through its affiliate, KPR, has made available to the Company, a letter
of credit facility in the amount of $2,000,000. This facility is used by the
Company to finance the purchase of manufactured inventory with overseas
vendors. At December 31, 1995, letters of credit in the amount of $168,652
were issued by KPR on behalf of the Company. Merchandise inventory received
under the terms of the facility is recorded in the financial statements upon
transfer of title to the Company which, generally, occurs upon payment to
KPR.
As stated in Note C, KPR loaned the Company $851,440 in the form of
subordinated debt.
Included in the statement of operations are sales of $85,254 relating to
footwear sold to KPR yielding a profit of $9,258 to the Company. These goods
were prior season's merchandise which were sold at negotiated terms on an
arms-length basis. KPR did not realize a profit on the ultimate sale of this
merchandise.
The Chairman and Chief Executive Officer of the Company devotes a portion of
his time to the Company's operations and marketing and sales-related
activities for which he does not receive any compensation. The value of
these services for the five months ended December 31, 1995, estimated at
$41,666, was recorded as compensation expense and included as part of
general and administrative expenses in the statement of operations and as a
contribution to capital and included as additional paid-in capital in the
balance sheet.
A-15
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1995 AND 1993
- --------------------------------------------------------------------------------
NOTE D - RELATED PARTY TRANSACTIONS - CONTINUED
1. Affiliates of MR Acquisitions, L.L.C. (MR) - Continued:
A summary of all related party transactions with MR or its affiliate, for
the period July 31, 1995 to December 31, 1995, are as follows :
<TABLE>
<CAPTION>
Amount Amount
Financial Included Included in Amount Included
Nature of Statement Transaction in Due Subordinated Note in Additional
Transactions Classification Amount To Affiliate Payable Affiliate Paid-in Capital
------------ -------------- ----------- --------------- ----------------- ---------------
<S> <C> <C> <C> <C> <C>
Purchase of
Inventory Inventory $256,892
Sale of
Property Property 15,000
Proceeds from Subordinated
Subordinated Note payable
Debt 851,440 $851,440
Sale of
Merchandise Net sales 85,254
Rent General and
Administrative
Expense 19,792
Interest on Interest
Subordinated Expense
Debt 34,555
Temporary Due to
Advances Affiliate 172,591 $ 2,043
Services con- General
tributed to and
Capital Administrative
Expense
and
Additional
Paid-In
Capital 41,666 $41,666
-------- -------- -------
$ 2,043 $851,440 $41,666
======== ======== =======
</TABLE>
2. Other Matters:
Through mid 1995, the Company made available the services of certain
personnel and office space for The R.O.S.E. Fund Inc, formally The RYKA
R.O.S.E. (TM) Foundation (the "Foundation"), a non-profit organization
dedicated to helping end violence against women, which was founded in June
1992 by the then President and Chief Executive Officer of the Company. The
Company had also pledged to make contributions to the Foundation equal to 7%
of its annual pretax profits, with minimum contributions of $10,000 per
quarter beginning January 1, 1993. For the years ended December 31, 1994 and
1993 the minimum contribution of $40,000 has been included in general and
administrative expenses. The Agreement has been terminated and contributions
for 1995 were de minimus.
On December 31, 1993 the Company issued an unsecured Promissory Note (the
"Note") for $125,000 to the then President and Chief Executive Officer of
the Company. The Note bore interest at the prime rate plus 3 1/2% per annum,
and was payable on the earlier of demand or July 1, 1994. As of May 12,
1994, the balance of the Note was repaid in full. In connection with such
loan, 100,000 options were issued to the then President and Chief Executive
Officer. The weighted average interest rate during the period for 1993 and
1992 was 9.5% and 8.19% respectively.
A-16
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE D - RELATED PARTY TRANSACTIONS - CONTINUED
2: Other Matters - Continued:
On March 30, 1992 the Company entered into a Revolving Credit Agreement (the
"Agreement") with the then President and Chief Executive Officer of the
Company. Pursuant to the Agreement, the Company could borrow up to $700,000
for working capital needs. Advances under this Agreement, as amended,
accrued interest at the prime rate plus 3 1/2% per annum, payable on the
earlier of demand or June 30, 1993, and were collateralized by a
subordinated security interest in all assets of the Company. During 1993,
the balance was repaid in full and the Agreement was terminated.
NOTE E - TERMINATED FINANCING AGREEMENTS
1. Accounts Receivable Credit and Collection Agreement:
Effective July 1, 1993 the Company entered into a one-year credit and
collection agreement (the "Factoring Agreement") with Heller Financial, Inc.
(the "Factor"). Under the Factoring Agreement, the Company sold the majority
of its domestic trade accounts receivable to the Factor, which provides
general credit and collection services and also provided credit guarantees
without recourse for certain preapproved customers, except in cases where
there were merchandise returns or merchandise disputes in the normal course
of business. The Factor also purchased nonapproved accounts receivable on a
with recourse basis. The Factor received a commission of 1.125% of purchased
net receivables for the first $10 million of factored volume, after which
time the commission was lowered to 1%.
In November 1993 the Factoring Agreement was amended to establish a
revolving credit facility (the "Facility"), allowing for advances up to the
lesser of 50% of purchased net receivables or $500,000. In March 1994 the
Factoring Agreement was further amended to increase the ceiling on advances
to the lesser of 50% of purchased net receivables or $1,000,000. During May
1994, the Factoring Agreement was further amended to increase the ceiling on
advances to the lesser of 70% of purchased net receivables or $1,500,000.
Interest on advances was charged by the Factor at the prime rate plus 2%. On
February 28, 1995, RYKA further amended the Factoring Agreement to increase
the ceiling on advances to the lesser of 70% or purchased net receivables or
$2,250,000 through April 30, 1995, after which the maximum reverted to
$1,500,000. Advances under the Facility were collateralized by a primary
interest in the accounts receivable of the Company and a secondary interest
in all other assets.
Included in accounts receivable at December 31, 1995 and 1994 was $ -0- and
$2,054,000, of receivables due from Factor of which $ -0- and $654,000,
respectively, were receivables factored with recourse. The Company has
assigned to the Lender, described in Note E(2), seventy percent of all
collections or advances under the Factoring Agreement.
Upon closing of the Transaction with MR, described in Note C, the credit
Facility previously provided to the Company by the factor was terminated and
only collection services are currently being performed.
2. Inventory Financing Agreements:
During 1991 the Company entered into two financing agreements (the "Pro-
Specs Agreements") with Pro-Specs America Corporation ("Pro-Specs"), a
Korean trading company (the "Lender"). Under the amended terms of the Pro-
Specs Agreements the Company could establish, with the prior written consent
of the Lender, revolving letters of credit and banker's acceptances to
finance up to $4 million of footwear purchases. The line was collateralized
by a secondary interest in accounts receivable and a primary interest in the
inventory and other assets of the Company.
The Lender invoiced the Company for costs relating to financing charges,
insurance, letter of credit costs and commissions. These charges added
approximately 8% to the Company's manufactured cost of footwear.
A-17
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE E - TERMINATED FINANCING AGREEMENTS - CONTINUED
2. Inventory Financing Agreements - Continued:
The Company was in default at various times during 1995, 1994 and 1993 on
its payments to the Lender, which required, among other things, that all
drawdowns under the $4 million facility be repaid in full each 120 days. On
November 22, 1994, the Company and the Lender amended the Pro-Specs
Agreements to provide that, effective April 30, 1995, the Pro-Specs
Agreements may be terminated by either party upon 30 days written notice.
The Company was in default on its payments at various times during 1995 and
on May 17, 1995 the Company received notice of termination of the Pro-Specs
Agreements with the Lender, effective June 16, 1995.
Upon closing the Transaction with MR, all obligations under the Pro-Specs
Agreements were settled as described in Note C(4).
NOTE F - INCOME TAXES
For the years ended December 31, 1995, 1994 and 1993 the Company had no
provision for income taxes. The components of the net deferred tax assets at
December 31, 1995 and 1994, respectively, are as follows:
<TABLE>
<CAPTION>
December 31,
1995 1994
---- ----
<S> <C> <C>
Deferred Assets:
Inventory $ 39,088 $ 90,567
Provision for doubtful accounts 23,029 193,514
Net operating loss carryforwards 7,042,668 5,349,399
Other 39,776 38,306
---------- ----------
Gross deferred tax asset 7,144,561 5,671,786
Valuation allowance (7,144,561) (5,671,786)
---------- ----------
Net deferred tax asset $ - $ -
========== ==========
</TABLE>
Due to the uncertainty surrounding the realization of these favorable tax
attributes in future income tax returns, the Company has placed a valuation
allowance against its otherwise recognizable deferred tax assets. As of December
31, 1995 the Company had available net operating loss carryforwards of
approximately $17,606,000 which expire in the years beginning 2002 through 2010.
The use of net operating loss carryforwards may be subject to annual limitations
based on ownership changes of the Company's stock, as defined by Section 382 of
the Internal Revenue Code of 1986.
NOTE G - PROPERTY
Major classes of property, at cost, are as follows:
<TABLE>
<CAPTION>
December 31,
1995 1994
----------- -----------
<S> <C> <C>
Equipment $ 364,969 $ 460,182
Leasehold improvements 7,407 25,066
--------- ----------
372,376 485,248
Less accumulated depreciation and amortization ( 177,293) ( 312,130)
--------- ----------
$195,083 $ 173,118
========= ==========
</TABLE>
As described more fully in Note D(1) the Company relocated in August, 1995. As a
result of the relocation the Company abandoned leasehold improvements which had
an original cost of $25,066 and a net book value of $1,966, and terminated
leases for equipment under capital leases which had an original cost of $85,852
and a net book value of $1,683.
Fully depreciated equipment, furniture and fixtures previously subject to
capital leases retired during 1994 of $82,002 was removed from the accounts.
A-18
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE H - COMMITMENTS AND CONTINGENCIES
In February and March 1995, four purported class actions entitled R. David
Thinly v. RYKA Inc., et al. (February 8, 1995), Robert C. Macauley, IRA v. Poe,
et al. (February 4, 1995), Gordon Fyfe v. Poe et al. (February 14, 1995) and
James Sheeley v. RYKA Inc. et al. (March 13, 1995) were commenced in Delaware
Chancery Court by four alleged stockholders of RYKA against RYKA and the RYKA
Board of Directors relating to the proposed merger with L. A. Gear, Inc. which
was announced by L.A. Gear, Inc. and the Company on January 30, 1995. The
complaints in the Thinly and Sheeley actions also name L.A. Gear, Inc. and its
subsidiary, Brands Acquisition Corp., as defendants. The complaints in the
actions allege, among other things, that the RYKA Board breached its fiduciary
duties to its stockholders by failing to maximize stockholder value and obtain
the best transaction reasonably available for its stockholders in connection
with the anticipated transaction. The complaints in the Thinly and Sheeley
actions sought:
. Injunctive relief against any action which might diminish, or have the effect
of diminishing, stockholder value.
. Unspecified compensatory damages.
. Costs and disbursements, including reasonable attorneys' and experts' fees.
The complaints in the Macauley and Fyfe actions sought:
. Preliminary and permanent injunction against the anticipated transaction.
. An order for the RYKA Board to carry out its fiduciary duties to its
stockholders.
. An accounting of any profits that might be realized by the RYKA Board
through the anticipated transaction.
. Costs and disbursements, including reasonable attorneys' fees.
All of these actions were consolidated under the name In Re RYKA Stockholders
-----------------------
Litigation, Consolidated Civil Action No. 14023. On May 17, 1995, the Court
- ----------
entered an Order and Stipulation of Dismissal in this Action.
The Company is involved in various routine litigation, including litigation in
which the Company is a plaintiff, incident to its business. The Company
believes that the disposition of the routine litigation will not have a material
adverse effect on the financial position of the Company.
NOTE I - EQUITY
The Company is authorized to issue up to 1,000,000 shares of Preferred Stock,
$.01 par value. The 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 stockholders, and may include voting rights
(including the right to vote as a series on particular matters), preferences as
to dividends and liquidation, conversion and redemption rights. No preferred
stock has been issued as of December 31, 1995.
During September through November 1994, the Company raised a total of
$1,174,537, net of offering costs of $218,896, through the sale of 2,555,795
shares of Common Stock in an unregistered offering to overseas investors. In
connection with the unregistered overseas offering, in consideration for their
services, the Company issued to the placement agent a three year non-redeemable
warrant to purchase 150,000 shares of Common Stock at an exercisable price of
$1.00 per share with piggy-back registration rights.
During 1995, the Company was party to several equity transactions as more fully
described in Note C.
A-19
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 1995, 1994 AND 1993
NOTE J - STOCK OPTIONS
Pursuant to option grant letters, but not pursuant to any formal plan ("Non-Plan
Grants"), the Company has issued options to certain individuals to purchase
shares of the Company's Common Stock at prices which approximated fair market
value at the date of grant. The options vest at various times over periods
ranging up to four years and, if not exercised, expire up to ten years after the
date of grant.
The Company also has seven separate stock option plans (the "Plans"). Under the
terms of the 1987 Stock Option Plan, 1988 Stock Option Plan, 1990 Stock Option
Plan, 1992 Stock Option Plan, 1993 Stock Option Plan, 1995 Stock Option Plan and
1995 Non-employee Directors Plan, the Company may grant qualified and
nonqualified options to purchase up to 626,421, 350,000, 750,000, 875,000,
900,000, 1,500,000 and 250,000 shares of Common Stock, respectively, to
employees, Directors and consultants of the Company. The options vest at
various times over periods ranging up to five years. All options have been
granted at not less than the fair market value of the Common Stock as of the
date of grant. The options, if not exercised, expire up to 10 years after the
date of grant.
<TABLE>
<CAPTION>
Number of Shares
----------------
Non-
Non-Plan 1987 1988 1990 1992 1993 1995 employee Price of
Grants Plan Plan Plan Plan Plan Plan Directors Shares
-------- ------- ------- ------- ------- -------- ------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Outstanding at
December 31,
1992 93,321 288,746 152,152 441,000 863,667 $0.25-$1.31
Granted 20,000 532,000 $0.65
Exercised 3,500 2,550 99,000 100 $0.25-$1.25
Canceled 39,500 6,616 3,500 157,000 $0.56-$1.31
------ ------- ------- ------- ------- -------- -----------
Outstanding at
December 31,
1993 93,321 265,746 142,986 338,500 706,567 532,000 $0.25-$1.31
Granted 250,000 67,000 120,000 675,000 350,000 $0.55-$1.06
Exercised 7,335 163,000 25,840 1,000 $0.25-$0.65
Canceled 25,000 50,000 3,300 120,000 508,000 7,500 $0.56-$1.25
------- ------- ------- ------- -------- ------ -----------
Outstanding at
December 31,
1994 318,321 282,746 132,351 175,500 847,727 873,500 $0.25-$1.31
Granted 100,000 10,000 1,200,000 $0.25-$0.47
Exercised 20,000 2,500 18,500 $0.25
Canceled 2,000 11,000 9,167 22,000 $0.25-$0.84
----- ------- ----- ------ -------- ------- --------- ---------- -----------
Outstanding at
December 31,
1995 416,321 251,746 129,851 157,000 838,560 861,500 1,200,000 - $0.25-$1.31
======= ======= ======= ======= ======= ======== =========== =========== ===========
</TABLE>
As of December 31, 1995, options to purchase 247,571 shares, related to Non-Plan
grants, have vested and are exercisable.
As of December 31, 1995, options to purchase 2,383,727 shares have vested and
are exercisable under the Plans. At December 31, 1995, the Company has reserved
4,479,657 shares of Common Stock for potential future issuance under the various
Plan and Non-Plan grants.
During 1994, of the stock options granted in 1992 and 1991, options to purchase
an aggregate of 371,000 and 114,250 shares, respectively, were repriced after
their initial issuance, to fair market value at the date of repricing.
A-20
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE K - COMMON STOCK PURCHASE WARRANTS
In connection with its second public offering, the Company issued warrants that
entitle the underwriter to purchase up to 242,500 shares of Common Stock at
$2.23 per share. These warrants expired unexercised on June 6, 1994.
In connection with its third public offering in July 1990, the Company issued
470,000 warrants (the "Unit Warrants"), each of which entitled the underwriter
to purchase up to one unit at a price of $1.20. Each Unit Warrant consisted of
one share of Common Stock and one Common Stock Purchase Warrant. Each Common
Stock Purchase Warrant entitles the Underwriter to purchase one share of Common
Stock at an exercise price of $1.00 per share. During 1993, 120,000 warrants
and 120,000 Common Stock Purchase Warrants were exercised which resulted in cash
proceeds to the Company of $264,000 and issuance of 240,000 shares of Common
Stock. Prior to modification, these Unit Warrants originally were to expire on
July 16, 1995, but were extended. In advance of the modified expiration date of
August 30, 1995, a total of 350,000 Unit Warrants remained outstanding and their
terms had been modified so that the purchase price of each Unit Warrant had been
reduced to $.45. Through further modification, the exercise price of each of
the Unit Warrants and Common Stock Purchase Warrants was reduced to $.40 and
during August, 1995 the Company received proceeds totaling $280,000 as a result
of the full exercise of these warrants.
In connection with a $3 million line of credit which expired on September 9,
1990, the Company issued its prior lender warrants to purchase 250,000 shares of
Common Stock. During 1993 all of these warrants were exercised, resulting in
cash proceeds to the Company of $250,000 and the issuance of 250,000 shares of
Common Stock.
In connection with the provisions of an investment banking agreement in 1994,
the Company issued warrants that entitle the investment banking firm to purchase
50,000 shares of Common stock at a price of $.60 per share. At December 31,
1995, none of these warrants were exercised. If not exercised, these warrants
will expire on January 3, 2004.
In connection with an unregistered overseas offering of the Company's Common
Stock during 1994, the Company issued warrants to a placement agent to purchase
at total of 150,000 shares of Common Stock at an exercise price of $1.00 per
share. At December 31, 1995, none of these warrants were exercised. If not
exercised, these warrants will expire on September 13, 1997.
In connection with a bridge financing composed of two short term notes of
$150,000 each during July 1994, the Company issued warrants to purchase a total
of 30,000 shares of Common Stock, as adjusted to a total of 38,031 shares based
upon the terms of each of the warrants, at an exercise price of $0.8125 per
share. If not exercised, 19,569 of these warrants will expire on July 14, 1999
and 18,462 will expire on July 25, 1999. These short term loans were
outstanding for approximately 60 and 90 days at the rate of 5% and 6% per thirty
day period, respectively, and were repaid in full as of December 31, 1994.
At December 31, 1995 the following common stock purchase warrants were
outstanding:
<TABLE>
<CAPTION>
Number of Shares Average Exercise Price Expiration Date
---------------- ---------------------- ------------------
<S> <C> <C> <C>
Through December 31, 150,000 $ 1.00 September 13, 1997
1994: 19,569 $0.8125 July 14, 1999
18,462 $0.8125 July 25, 1999
50,000 $ 0.60 January 3, 2004
Related to the Transaction 5,100,000 $ 0.01 July 31, 2002
described in Note C which 4,000,000/(A)/ $ 0.01 July 31, 2002
occurred in 1995: 500,000 $ 0.57 July 31, 2000
100,000 $ 0.42 July 31, 2000
53,192 $ 1.50 July 31, 2000
</TABLE>
/(A)/ Contingent warrant of which 461,444 shares have vested per Note C(1).
A-21
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE L - SIGNIFICANT CUSTOMERS AND CONCENTRATION OF CREDIT RISK
The Company's sales and accounts receivable are primarily with national chain
stores. In 1995 one customer accounted for 20% of the Company's total revenues.
A second and third customer each accounted for 10% of total 1995 revenues. In
1994, one customer accounted for 25% of the Company's total revenues with no
corresponding revenues in 1993. Aggregate sales to five divisions of one major
customer accounted for approximately 16% of 1994 total revenues, and 34% of
total revenues in 1993. A third customer accounted for 10% of total 1994
revenues, with no corresponding sales in 1993. There were no other single
customers or group of customers under common control that accounted for at least
10% of total revenues in 1995, 1994 or 1993.
Accounts receivable for the three significant customers at December 31, 1995 was
approximately $323,000.
Accounts receivable for the three significant customers at December 31, 1994 was
approximately $1,600,000, of which $676,000 was secured by letter of credit and
the remaining $924,000 was purchased by the Factor without recourse.
NOTE M - SPECIAL CHARGES
In connection with the Transaction described in Note C, the related closing of
the Massachusetts facility, and relocation of operations to Pennsylvania, the
Company incurred the following special charges:
<TABLE>
<S> <C>
Professional fees and bank fees related to new credit facility, including
value of warrant to bank $233,231
Temporary housing costs for relocated personnel 21,851
Recruitment and relocation costs related to new management and
personnel 76,318
Start-up and moving costs related to King of Prussia,
PA warehouse and office 48,034
--------
$379,434
========
</TABLE>
NOTE N - NASDAQ LISTING
On July 19, 1995 the Company received an exception from the NASDAQ capital and
surplus listing requirement so that its Common Stock continued to be listed on
the NASDAQ Small Cap Market. The exception expired on September 15, 1995 and
the Company was delisted from NASDAQ. Currently the Common Stock of the Company
is listed on the Over-the-Counter Bulletin Board.
NOTE O - FINANCIAL INSTRUMENTS
The carrying amounts and related fair values of the Company's financial
instruments as of December 31, 1995 are as follows:
<TABLE>
Carrying Fair
Amount Value
------ -------
<S> <C> <C>
Cash and cash equivalents $ 77,509 $ 77,509
======= =======
Subordinated note
payable, affiliate $851,440 $851,440
======= =======
</TABLE>
A-22
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE P - SUBSEQUENT EVENTS
1. Partners Share Success Equity Incentive Plan:
During January 1996, the Board of Directors of the Company approved the
filing of a registration statement with the Securities and Exchange
Commission for the offering of approximately 4.2 million shares of Common
Stock.
The shares will be issued pursuant to the "Partners Share Success" Equity
Incentive Plan to be adopted by RYKA. The purpose of the Program is to
provide an ownership interest in RYKA, through equity incentives, to retail
sales personnel and store management personnel of RYKA's customers to educate
consumers about RYKA's products and to increase the sale of RYKA's products
to consumers.
Under the Program, RYKA currently intends to grant retail sales personnel one
share of RYKA common stock for each pair of RYKA footwear sold and to grant
store management personnel approximately 4 shares of RYKA common stock for
every 10 pairs of RYKA footwear sold by retail sales personnel under their
supervision. RYKA currently expects that the Program will remain in effect
through the Spring of 2000.
The Program will be available to retail sales personnel of customers of RYKA
who agree to participate in the Program and to purchase certain minimum
quantities of RYKA's products.
The Company anticipates that awards of common stock pursuant to the Program
will be accounted for as sales and marketing expense using the fair value of
the equity instrument issued or other consideration, as applicable.
As a result of the proposed merger transaction, the Company decided to
postpone, and may ultimately terminate the offering in connection the
"Partners Share Success Program". If this offering is not consummated, the
deferred registration costs will be charged to expense.
2. 1996 Private Placement:
During May, 1996 the Company's Board of Directors, through a second private
placement (the "1996 Private Placement"), authorized the sale of 10,000,000
shares of the Company's Common Stock during the second and third quarters of
1996. Through August 14, 1996, 10,000,000 shares were placed with proceeds of
$2,500,000.
3. Merger Proposal from KPR Sports International, Inc. and Affiliates:
On July 3, 1996, the Company received a merger proposal from KPR Sports
International, Inc. and certain affiliated companies ("KPR") pursuant to
which KPR would be merged with RYKA. KPR and its affiliates are wholly-owned
by the Chairman and Chief Executive Officer of RYKA. The proposal would
require RYKA to issue approximately 140,000,000 shares of Common Stock to the
stockholder of KPR, in addition to any shares he currently holds or have
rights to through existing warrants. RYKA would be the surviving Company in
the merger. The merger proposal also provides that RYKA would effect a 1 for
20 reverse stock split.
The consummation of the contemplated merger agreement, including the
authorization of additional shares of RYKA's Common Stock and the reverse
stock split, is subject to approval by RYKA's Board of Directors and
Stockholders.
4. Actions at Annual Stockholders Meeting:
On July 8, 1996, the Stockholders approved an increase in the authorized
number of common shares of the Company to 90,000,000 and approved the 1996
Equity Incentive Plan for the issuance and award of up to 2,000,000 shares of
the common stock of the Company.
A-23
<PAGE>
RYKA INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993
- --------------------------------------------------------------------------------
NOTE P - SUBSEQUENT EVENTS - CONTINUED
5. Revolving Credit Agreement with New Lender:
On August 15, 1996, the Company entered into a revolving credit agreement
with a new lender. The agreement has an initial term of one year and
increases the Company's credit facility to $4,500,000, based on certain
advance ratios. The interest rate is prime plus 1/4 %. A sub limit for the
issuance of letters of credit is also provided in the agreement.
The revolving credit facility is collateralized by all of the assets of the
Company and a $2,000,000 personal guaranty by Michael Rubin, the Chairman and
Chief Executive Officer of the Company, and requires the Company to maintain
certain financial covenants related to leverage, net worth and working
capital.
A-24
