<PAGE>
FORM 10-QSB/A
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
---------------
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended Commission File Number
June 30, 1998 000-22279
- ------------------ ----------------------
ADVANTAGE MARKETING SYSTEMS, INC.
----------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
Oklahoma 73-1323256
--------------------------- ----------------------------------
(State or Other Jurisdiction (IRS Employer Identification Number)
of Incorporation or Organization)
2601 N.W. Expressway, Suite 1210W, Oklahoma City, Oklahoma 73112
----------------------------------------------------------------------------
(Address of Principal Offices) (Zip Code)
(405) 842-0131
----------------------------------------------------------------------------
(Registrant's Telephone Number, Including Area Code)
Indicate by check mark whether the Registrant (i) has filed all reports
required to be filed by Section 13, or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports) and (ii) has been subject to
such filing requirements for the past 90 days. Yes X No
--- ---
Indicate the number of shares outstanding of each of the issuer's classes of
Common Stock, as of the latest practicable date.
Common Stock, $.0001 Par Value 4,183,383
- ------------------------------ ----------------------------
Title of Class Number of Shares outstanding
at June 30, 1998
Exhibit Index appears on page 22.
---
Page 1 of 23
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
QUARTERLY REPORT ON FORM 10-QSB/A
FOR THE THREE MONTHS ENDED JUNE 30, 1998
TABLE OF CONTENTS
Part I - Financial Information
Condensed Consolidated Balance Sheets ........................ 3
Condensed Consolidated Statements of Income .................. 4
Condensed Consolidated Statements of Cash Flows .............. 5
Notes to Condensed Consolidated Financial Statements ......... 7
Management's Discussion and Analysis of Financial
Condition and Results of Operations .......................... 15
Part II - Other Information ............................................ 22
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
Certain statements under the caption "Management's Discussion and Analysis
of Financial Condition and Results of Operations" constitute "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933,
as amended, and Section 21E of the Securities Exchange Act of 1934, as
amended. Certain, but not necessarily all, of such forward-looking statements
can be identified by the use of forward-looking terminology such as
"anticipates," "believes," "expects," "may," "will," or "should" or other
variations thereon, or by discussions of strategies that involve risks and
uncertainties. The actual results of the Company or industry results may be
materially different from any future results expressed or implied by such
forward-looking statements. Factors that could cause actual results to differ
materially include general economic and business conditions; the ability of
the Company to implement its business and acquisition strategies; changes in
the network marketing industry and changes in consumer preferences;
competition; availability of key personnel; increasing operating costs;
unsuccessful advertising and promotional efforts; changes in brand awareness;
acceptance of new product offerings; and changes in, or the failure to comply
with, government regulations (especially food and drug laws and regulations);
the ability of the Company to obtain financing for future acquisitions; and
other factors.
Chambre-Registered Trademark-, Spark of Life-Registered Trademark-, Young at
Heart-Registered Trademark-, Co-Clenz-Registered Trademark-, Stay 'N
Shape-Registered Trademark-, Sine-eze-Registered Trademark- and
ToppFast-Registered Trademark- are registered trademarks of the Company, and
Choc-Quilizer-TM- is a trademark of Tinos, L.L.C.
Page 2
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
JUNE 30, 1998 AND DECEMBER 31, 1997
(UNAUDITED)
<TABLE>
JUNE 30, DECEMBER 31,
ASSETS 1998 1997
------ -------- ------------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents. . . . . . . . . . . . $ 5,627,220 $ 5,775,276
Receivables - net of allowance of $31,200 and
$25,800, respectively. . . . . . . . . . . . . 193,510 184,915
Receivable from affiliate. . . . . . . . . . . . 305,811 14,124
Commission advances. . . . . . . . . . . . . . . 10,404 59,268
Inventory. . . . . . . . . . . . . . . . . . . . 740,295 812,125
Deferred income taxes. . . . . . . . . . . . . . 79,224 85,224
Other assets . . . . . . . . . . . . . . . . . . 108,239 68,432
----------- -----------
Total current assets . . . . . . . . 7,064,703 6,999,364
RECEIVABLES. . . . . . . . . . . . . . . . . . . . 66,104 15,079
RECEIVABLE FROM AFFILIATE. . . . . . . . . . . . . -- 40,656
PROPERTY AND EQUIPMENT, Net. . . . . . . . . . . . 882,267 695,896
GOODWILL, Net. . . . . . . . . . . . . . . . . . . 1,650,655 1,700,909
COVENANTS NOT TO COMPETE, Net. . . . . . . . . . . 484,572 518,791
DEFERRED INCOME TAXES. . . . . . . . . . . . . . . 167,642 354,693
OTHER ASSETS . . . . . . . . . . . . . . . . . . . 118,452 10,918
----------- -----------
TOTAL. . . . . . . . . . . . . . . . . . . . . . . $10,434,395 $10,336,306
----------- -----------
----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES:
Accounts payable . . . . . . . . . . . . . . . . $ 405,636 $ 202,220
Accrued commissions and bonuses. . . . . . . . . 329,492 325,077
Accrued other expenses . . . . . . . . . . . . . 97,078 183,921
Notes payable. . . . . . . . . . . . . . . . . . 23,987 26,304
Capital lease obligations. . . . . . . . . . . . 98,443 118,801
----------- -----------
Total current liabilities. . . . . . 954,636 856,323
LONG-TERM LIABILITIES:
Notes payable. . . . . . . . . . . . . . . . . . 87,446 82,440
Capital lease obligations. . . . . . . . . . . . 144,823 221,148
----------- -----------
Total liabilities . . . . . . . . . 1,186,905 1,159,911
----------- -----------
COMMITMENTS AND CONTINGENCIES (Note 5)
STOCKHOLDERS' EQUITY:
Preferred stock - $.0001 par value; authorized
5,000,000 shares; none issued. . . . . . . . . . -- --
Common stock - $.0001 par value; authorized
495,000,000 shares; issued 4,261,883 and
4,249,383 shares, respectively . . . . . . . . 426 425
Paid-in capital. . . . . . . . . . . . . . . . . 10,180,109 10,180,109
Notes receivable for exercise of options . . . . (74,000) (74,000)
Accumulated deficit. . . . . . . . . . . . . . . (615,372) (930,139)
----------- -----------
Total capital and accumulated
deficit. . . . . . . . . . . . . . 9,491,163 9,176,395
Less cost of treasury stock (78,500 shares,
common). . . . . . . . . . . . . . . . . . . . (243,673) --
----------- -----------
Total stockholders' equity . . . . . 9,247,490 9,176,395
----------- -----------
TOTAL. . . . . . . . . . . . . . . . . . . . . . . $10,434,395 $10,336,306
----------- -----------
----------- -----------
</TABLE>
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
Page 3
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
FOR THE PERIODS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
<TABLE>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
------------------------- ------------------------
1998 1997 1998 1997
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Net sales. . . . . . . . . . . . . . . . . . . . . $3,169,292 $2,696,645 $5,870,023 $4,745,416
Cost of sales. . . . . . . . . . . . . . . . . . . 2,101,416 1,950,258 3,791,236 3,415,086
---------- ---------- ---------- ----------
Gross profit . . . . . . . . . . . . . . . . . 1,067,876 746,387 2,078,787 1,330,330
Marketing, distribution and administrative
expenses . . . . . . . . . . . . . . . . . . . . 895,224 645,185 1,750,924 1,139,139
---------- ---------- ---------- ----------
Income from operations . . . . . . . . . . . . 172,652 101,202 327,863 191,191
Other income:
Interest, net. . . . . . . . . . . . . . . . . . . 72,152 5,183 139,236 1,007
Other income . . . . . . . . . . . . . . . . . . . 38,614 3,463 40,720 4,115
---------- ---------- ---------- ----------
Total other income . . . . . . . . . . . . . . 110,766 8,646 179,956 5,122
---------- ---------- ---------- ----------
INCOME BEFORE TAXES. . . . . . . . . . . . . . . . 283,418 109,848 507,819 196,313
TAX EXPENSE. . . . . . . . . . . . . . . . . . . . 107,868 41,698 193,051 74,520
---------- ---------- ---------- ----------
NET INCOME . . . . . . . . . . . . . . . . . . . . $ 175,550 $ 68,150 $ 314,768 $ 121,793
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Net income per common share. . . . . . . . . . . . $ .04 $ .03 $ .07 $ .05
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Net income per common share - assuming dilution. . $ .04 $ .02 $ .07 $ .04
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Weighted average common shares outstanding . . . . 4,188,509 2,390,692 4,217,894 2,390,692
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
Weighted average common shares outstanding -
assuming dilution . . . . . . . . . . . . . . . . 4,718,210 3,395,362 4,596,763 3,357,545
---------- ---------- ---------- ----------
---------- ---------- ---------- ----------
</TABLE>
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
Page 4
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
<TABLE>
JUNE 30, JUNE 30,
1998 1997
---------- -----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income. . . . . . . . . . . . . . . . . . . $ 314,768 $ 121,793
Adjustments to reconcile net income to net
cash provided by (used in) operating
activities:
Depreciation and amortization. . . . . . . 176,025 94,839
Deferred taxes . . . . . . . . . . . . . . 193,051 72,521
Gain on sale of other assets . . . . . . . (35,920) --
Changes in assets and liabilities which
provided (used) cash:
Receivables and commission advances . . (10,756) (126,340)
Inventory . . . . . . . . . . . . . . . 71,830 (317,416)
Accounts payable and accrued expenses . 209,458 (21,321)
---------- -----------
Net cash provided by (used in)
operating activities. . . . . . . 918,456 (175,924)
---------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment . . . . . . (277,922) (83,531)
Purchase of Chambre' International, Inc.. . . . -- (51,340)
Purchase of assets pursuant to SNSI Asset
Purchase . . . . . . . . . . . . . . . . . . . -- (1,274,441)
Advances to affiliate . . . . . . . . . . . . . (305,811) --
Repayment of receivable from affiliate. . . . . 54,780 6,390
Purchase of other assets. . . . . . . . . . . . (100,498) (72,940)
---------- -----------
Net cash used in investing
activities . . . . . . . . . . . (629,451) (1,475,862)
---------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock. . . . . -- 2,234,357
Proceeds from notes payable . . . . . . . . . . 37,727 40,980
Purchase of treasury stock. . . . . . . . . . . (243,673) --
Payment of deferred offering costs. . . . . . . (89,627) (133,862)
Principal payment on notes payable. . . . . . . (40,416) (5,398)
Principal payment on capital lease obligations. (101,072) (42,219)
---------- -----------
Net cash (used in) provided by
financing activities . . . . . . (437,061) 2,093,858
---------- -----------
NET (DECREASE) INCREASE IN CASH. . . . . . . . . . (148,056) 442,072
CASH AND CASH EQUIVALENTS, BEGINNING . . . . . . . 5,775,276 169,569
---------- -----------
CASH AND CASH EQUIVALENTS, ENDING. . . . . . . . . $5,627,220 $ 611,641
---------- -----------
---------- -----------
(Continued)
</TABLE>
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
Page 5
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
<TABLE>
JUNE 30, JUNE 30,
1998 1997
-------- -----------
<S> <C> <C>
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest . . . . . $19,691 $ 11,688
Cash paid during the period for income taxes . . . -- 1,999
Noncash financing and investing activities:
Property and equipment acquired by capital
lease. . . . . . . . . . . . . . . . . . . . . 4,389 69,094
SNSI Asset Purchase:
Fair value of assets acquired . . . . . . . . . -- (84,063)
Fair value of covenant not to compete . . . . . -- (500,000)
Purchase price in excess of tangible assets
acquired and covenant not to compete . . . . . -- (1,490,378)
Fair value of common stock issuance . . . . . . -- 800,000
-------- -----------
Cash paid to purchase SNSI assets.. . . . . . . $ -- $(1,274,441)
-------- -----------
-------- -----------
Acquisition of Chambre' International, Inc.:
Fair value of assets acquired . . . . . . . . . -- (84,802)
Fair value of covenant not to compete . . . . . -- (20,000)
Purchase price in excess of tangible assets
acquired and covenant not to compete . . . . . -- (179,325)
Fair value of common stock issuance . . . . . . -- 84,000
Liabilities assumed . . . . . . . . . . . . . . -- 148,787
-------- -----------
Cash paid to purchase Chambre' International,
Inc. . . . . . . . . . . . . . . . . . . . . $ -- $ (51,340)
-------- -----------
-------- -----------
(Concluded)
</TABLE>
SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
Page 6
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
1. UNAUDITED INTERIM FINANCIAL STATEMENTS
The unaudited condensed financial statements and related notes have been
prepared pursuant to the rules and regulations of the Securities and
Exchange Commission. Accordingly, certain information and footnote
disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been omitted
pursuant to such rules and regulations. The accompanying condensed
financial statements and related notes should be read in conjunction with
the audited consolidated financial statements of the Company, and notes
thereto, for the year ended December 31, 1997.
The information furnished reflects, in the opinion of management, all
adjustments, consisting of normal recurring accruals, necessary for a fair
presentation of the results of the interim periods presented. Operating
results of the interim period are not necessarily indicative of the amounts
that will be reported for the year ending December 31, 1998. Certain
reclassifications have been made to prior period balances to conform with
the presentation for the current period.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION- The condensed consolidated financial
statements include the accounts of Advantage Marketing Systems, Inc. and
its wholly owned subsidiaries, Miracle Mountain International, Inc. and
Chambre' International, Inc. (the "Company"). All significant intercompany
accounts have been eliminated.
NATURE OF BUSINESS - The Company markets a product line of consumer
oriented products in the weight management, dietary supplement and personal
care categories that are produced by various manufacturers. The Company
sells its product line through a network of full and part-time independent
distributors developed by the Company.
The Company also sells supplies and materials to its independent
distributors.
USE OF 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 the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
REVENUE RECOGNITION - The Company recognizes revenue upon shipment of
products, training aids and promotional material to the independent
distributors.
SALES RETURNS - All of the Company's products include a customer
satisfaction guarantee. Company products may be returned within 30 days of
purchase for a full refund or credit toward the purchase of another Company
product. The Company also has a buy-back policy where by it will
repurchase products sold to an independent distributor (subject to a
restocking fee) provided that the distributor resigns from the Company and
returns the product within 12 months of original purchase in marketable
condition. For the
Page 7
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
three months ended June 30, 1998 and 1997 and the six months ended
June 30 1998 and 1997, the cost of products returned to the Company
is included in net sales and at each period was two percent, four
percent, three percent and three percent of gross sales, respectively.
ADVERTISING - The Company expenses advertising related to the Company as
incurred. Total advertising expense for the three months ended June 30,
1998 and 1997 and the six months ended June 30, 1998 and 1997 was $5,596,
$4,347, $7,112 and $14,531, respectively.
CASH AND CASH EQUIVALENTS - Cash and cash equivalents consist of cash in
banks and all short-term investments with initial maturities of three
months or less.
INVENTORY - Inventory consists of consumer product inventory, and training
and promotional material such as video tapes, cassette tapes and paper
supplies held for sale to customers and independent distributors.
Inventory is stated at the lower of cost or market. Cost is determined on
a first-in, first-out method.
INTANGIBLES - Intangible assets consist of goodwill and covenants not to
compete. Goodwill represents the excess of cost over the fair value of the
net assets acquired pursuant to the Miracle Mountain International, Inc.
("MMI"), Chambre' International, Inc. ("CII") and Stay 'N Shape
International, Inc. ("SNSI") acquisitions. The Company amortizes goodwill
from the acquisition of MMI over seven years and from the acquisitions of
CII and SNSI over twenty years. Covenants not to compete are being
amortized over the life of the contracts. The net amount of goodwill
arising from the MMI, CII and SNSI acquisitions at June 30, 1998 was
$83,697, $166,624 and $1,400,334, respectively. The net amount of goodwill
arising from the MMI, CII and SNSI acquisitions at June 30, 1997 was
$101,383, $176,965 and $1,474,853, respectively. Goodwill amortization for
the three months ended June 30, 1998 and 1997 was $25,127 and $22,022,
respectively. Goodwill amortization for the six months ended June 30, 1998
and 1997 was $50,254 and $27,772, respectively. Covenant amortization for
the three months ended June 30, 1998 and 1997, was $15,110 and $15,027,
respectively. Covenant amortization for the six months ended June 30, 1998
and 1997, was $32,220 and $19,211, respectively.
PROPERTY AND EQUIPMENT - Property and equipment are stated at cost or, in
the case of leased assets under capital leases, at the fair value of the
leased property and equipment, less accumulated depreciation and
amortization. Property and equipment are depreciated using the straight-
line method over the estimated useful lives of the assets of three to seven
years. Assets under capital leases and leasehold improvements are
amortized over the lesser of the term of the lease or the life of the
asset.
LONG-LIVED ASSETS - Management of the Company assesses recoverability of
its long-lived assets, including goodwill, whenever events or changes in
circumstances indicate that the carrying value of the asset may not be
recoverable through undiscounted future cash flows generated by that asset.
FAIR VALUE DISCLOSURE - The Company's financial instruments include cash
and cash equivalents, receivables, short-term payables, notes payable and
capital lease obligations. The carrying amounts of cash and cash
equivalents, receivables and short-term payables approximate fair value
due to their short-term nature. The carrying amounts of notes payable and
capital lease obligations approximate fair value based on borrowing rates
currently available to the Company.
EARNINGS PER SHARE - In 1997, the Company adopted the Financial Accounting
Standards Board ("FASB") Statement of Financial Accounting Standards
("SFAS") No. 128, EARNINGS PER SHARE, and has restated earnings per share
for all periods presented in accordance with that Statement. Earnings per
common share is computed based upon net income divided by the weighted
average number of common shares outstanding during each period. Earnings
per common share - assuming dilution is computed based upon net income
divided by the weighted average number of common shares outstanding during
each period adjusted for the effect of dilutive potential common shares
calculated using the treasury stock method. The
Page 8
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
following is a reconciliation of the common shares used in the
calculations of earnings per common share and earnings per common
share - assuming dilution:
<TABLE>
INCOME SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
----------- ------------- ---------
<S> <C> <C> <C>
Weighted average common shares outstanding:
For the three months ended June 30, 1998:
Earnings per common share:
Income available to common stockholders . . . $175,550 4,188,509 $.04
----
Earnings per common share - assuming dilution:
Options . . . . . . . . . . . . . . . . . . . . -- 529,701
-------- ---------
Income available to common stockholders
plus assumed conversions . . . . . . . . . . $175,550 4,718,210 $.04
-------- --------- ----
For the three months ended June 30, 1997:
Earnings per common share:
Income available to common stockholders . . . $ 68,150 2,390,692 $.03
----
Earnings per common share - assuming dilution:
Options . . . . . . . . . . . . . . . . . . . -- 978,456
Warrants. . . . . . . . . . . . . . . . . . . -- 26,214
-------- ---------
Income available to common stockholders
plus assumed conversions . . . . . . . . . . $ 68,150 3,395,362 $.02
-------- --------- ----
Weighted average common shares outstanding: . . . .
For the six months ended June 30, 1998:
Earnings per common share:
Income available to common stockholders . . . $314,768 4,217,894 $.07
----
Earnings per common share - assuming dilution:
Options . . . . . . . . . . . . . . . . . . . -- 378,869
-------- ---------
Income available to common stockholders
plus assumed conversions . . . . . . . . . . $314,768 4,596,763 $.07
-------- --------- ----
For the six months ended June 30, 1997:
Earnings per common share:
Income available to common stockholders . . . $121,793 2,390,692 $.05
----
Earnings per common share - assuming dilution:
Options . . . . . . . . . . . . . . . . . . . -- 948,526
Warrants. . . . . . . . . . . . . . . . . . . -- 18,327
-------- ---------
Income available to common stockholders
plus assumed conversions. . . . . . . . . . . . $121,793 3,357,545 $.04
-------- --------- ----
</TABLE>
Page 9
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
Options to purchase 130,000 shares of common stock ranging from $3.60 to
$6.00 per share were outstanding at June 30, 1998 but were not included in
the computation of earnings per common share - assuming dilution because
the options' exercise price was greater than the average market price of
the common shares during the period. There were no antidilutive options to
purchase shares of common stock at June 30, 1997.
Warrants to purchase 2,092,211 shares ranging from $3.40 to $5.40 were
outstanding at June 30, 1998, but were not included in the computation of
earnings per common share - assuming dilution because the warrants'
exercise price was greater than the average market price of the common
shares during the period. There were no antidilutive warrants to purchase
shares of common stock at June 30, 1997.
RECENTLY ISSUED ACCOUNTING STANDARDS - In February 1998, the FASB issued
SFAS No. 132, EMPLOYERS' DISCLOSURES ABOUT PENSIONS AND OTHER
POSTRETIREMENT BENEFITS, which revises employers' disclosures about pension
and other postretirement benefit plans. The new statement will not have
any impact on the Company's consolidated financial statements.
In June 1998, the FASB issued SFAS No. 133, ACCOUNTING FOR DERIVATIVE
INSTRUMENTS AND HEDGING ACTIVITIES, which establishes accounting and
reporting standards for derivative instruments. The adoption of SFAS 133
would not have any present impact on the Company's consolidated financial
statements. This statement is effective for all fiscal quarters beginning
after June 15, 1999.
INCOME TAXES - The Company uses an asset and liability approach to account
for income taxes. Deferred income taxes are recognized for the tax
consequences of temporary differences and carryforwards by applying enacted
tax rates applicable to future years to differences between the financial
statement amounts and the tax bases of existing assets and liabilities. A
valuation allowance is established if, in management's opinion, it is more
likely than not that some portion of the deferred tax asset will not be
realized.
3. STOCKHOLDERS' EQUITY
COMMON STOCK - On March 4, 1998, the Company announced that it intends to
repurchase up to $1 million of the Company's Common Stock in the open
market for cash. In connection with such repurchase, the Company filed
with the Securities and Exchange Commission pursuant to Section 13(e)(1) of
the Securities Exchange Act of 1934, as amended, an Issuer Tender Offer
Statement on March 4, 1998. As of June 30, 1998, the Company has
repurchased 78,500 shares of the Common Stock at a total cost of $243,673.
The additional number of shares of the Common Stock that may be purchased
by the Company is not determinable as of June 30, 1998 and will depend upon
a number of factors, including the market price of the Common Stock and the
amount of funds utilized for repurchase on each date of repurchase.
The Company's policy is to retain earnings to support the expansion of its
operations. The Board of Directors of the Company does not intend to pay
cash dividends on the Common Stock in the foreseeable future. Any future
cash dividends will depend on future earnings, capital requirements, the
Company's financial condition and other factors deemed relevant by the
Board of Directors.
Page 10
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
COMMON STOCK OPTIONS AND OTHER WARRANTS - The following table summarizes
the Company's stock option and other warrants activity for the three months
and six months ended June 30, 1998:
<TABLE>
THREE WEIGHTED- SIX WEIGHTED-
MONTHS AVERAGE MONTHS AVERAGE
ENDED EXERCISE ENDED EXERCISE
JUNE 30, 1998 PRICE JUNE 30, 1998 PRICE
------------- -------- ------------- --------
<S> <C> <C> <C> <C>
Options and other warrants
outstanding,
beginning of period . . . . 1,402,083 $2.28 1,439,583 $2.28
Options granted
during the period . . . . . 24,750 $3.00 24,750 $3.00
Options exercised
during the period . . . . . 12,500 $2.00 12,500 $2.00
Options canceled
during the period . . . . . -- $2.00 37,500 $2.00
--------- ---------
Options and other warrants
outstanding, end of period . 1,414,333 $2.30 1,414,333 $2.30
--------- ---------
--------- ---------
</TABLE>
COMMON STOCK WARRANTS - As of January 8, 1998, the Company reduced the
exercise price of the 1997-A Warrants from $12.00 to $3.40 and extended the
exercise period from January 31, 1999 to November 6, 2002 to make them
correspond more closely to the Redeemable Common Stock Purchase Warrants.
As of January 6, 1998, the exercise price of the Redeemable Common Stock
Purchase Warrants was adjusted from $5.40 to $3.40 representing 120
percent of the average daily closing price of the Company's common stock
for the preceding 20-day period as prescribed in the prospectus of the
Units Offering. There was no expense recognized in the Company's
financial statements relating to either of the warrant exercise price
reductions as the changes only affect allocations of additional paid-in
capital because the warrants were issued in conjunction with certain of
the Company's equity offerings.
4. STOCK OPTION PLAN
During 1995, the Company approved the 1995 Stock Option Plan (the "Plan").
Under this Plan, options available for grant can consist of (i)
nonqualified stock options, (ii) nonqualified stock options with stock
appreciation rights attached, (iii) incentive stock options, and (iv)
incentive stock options with stock appreciation rights attached. The
Company has reserved 1,125,000 shares of the Company's common stock $.0001
par value, for the Plan. The Plan limits participation to employees,
independent contractors, and consultants. Nonemployee directors are
excluded from Plan participation. The option price for shares of stock
subject to this Plan is set by the Stock Option Committee of the Board of
Directors at a price not less than 85% of the market value of the stock on
the date of grant. No stock options shall be exercisable within six months
from the date of grant, unless under a Plan exception, nor more than ten
years after the date of grant. The Plan provides for the grant of stock
appreciation rights, which allow the holder to receive in cash, stock or
combination thereof, the difference between the exercise price and the fair
value of the stock at date of exercise. The fair value of stock
appreciation rights is charged to compensation expense. The stock
appreciation right is not separable from the underlying stock option or
incentive stock option originally granted and can only be exercised in
tandem with the stock option. During the year ended December 31, 1997, the
Company granted 173,850 net options under the Plan. During the six months
ended June 30, 1998, the Company granted 24,750 options under the Plan. No
stock appreciation rights are attached to any options outstanding. At June
30, 1998, the Company had 1,414,333 stock options outstanding of which only
198,600 had been granted pursuant to this plan.
5. COMMITMENTS AND CONTINGENCIES
ADDITIONAL TAX LIABILITY - During 1998, in an effort to facilitate the
growth of its distributor network, the Company voluntarily began
contacting all of the state sales and use tax authorities to enter into
agreements with them whereby the Company would assume the responsibility
for collecting and remitting sales and use taxes on behalf of its
independent distributors. Certain states had requirements which resulted
in an additional tax liability for the Company as a condition of entering
into the agreement. As of the date of these financial statements the
Company cannot reasonably determine the amount of the liability. The
amount of the liability will be determined by the results of certain
ongoing negotiations which the Company anticipates concluding within the
next 90 days.
Page 11
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
The Company believes that if the negotiations are unsuccessful, the
additional tax liability could have an adverse impact on the Company's
earnings of as much as $372,000, net of related tax effect, and would
have a material adverse impact on the Company's results of operations
and cash flows for the year ending December 31, 1998, however the
adverse impact on the Company's financial position and liquidity would
not be material.
RECENT REGULATORY DEVELOPMENTS - A significant portion of the Company's net
sales has been, and is expected to continue to be, dependent upon the
Company's AM-300 product. The Company's net sales of AM-300 represented
42.9 percent and 45.1 percent of net sales for the six months ended June
30, 1998 and 1997, respectively. One of the herbal ingredients in AM-300
is ephedra concentrate, which contains naturally occurring ephedrine.
Ephedrine products have been the subject of adverse publicity in the United
States and other countries relating to alleged harmful effects, including
the deaths of several individuals. Currently, the Company offers AM-300
only in the United States (except in certain states in which regulations
may prohibit or restrict the sale of such product). On April 10, 1996, the
Food and Drug Administration ("FDA") issued a statement warning consumers
not to purchase or ingest natural sources of ephedrine within dietary
supplements claiming to produce certain effects (none of which are claimed
for the Company's product). On June 4, 1997, the FDA proposed a regulation
which will, if it becomes effective as proposed, significantly limit the
ability of the Company to sell AM-300 and any other weight management
products which contain ephedra or ephedrine. If the FDA's proposed
regulations were to become effective, management believes that the impact
on the Company's financial statements would be a significant reduction in
sales, cost of sales and marketing, distribution and administrative
expenses and could result in material losses to the Company, but would not
result in a significant increase in sales returns nor have a significant
adverse effect on financial position.
PRODUCT LIABILITY - The Company, like other marketers of products that are
intended to be ingested, faces an inherent risk of exposure to product
liability claims in the event that the use of its products results in
injury. Historically, the Company has relied upon its manufacturer's
product liability insurance for coverage. The Company obtained product
liability insurance coverage in its own name in 1997. The limits of this
coverage are $4,000,000 per occurrence and $5,000,000 aggregate. The
Company generally does not obtain contractual indemnification from
parties manufacturing its products. However, all of the manufacturers
of the Company's products carry product liability insurance which covers
the Company's products. The Company has agreed to indemnify Tinos,
L.L.C., the licensor of Choc-Quilizer, against any product liability
claims arising from the Choc-Quilizer product marketed by the Company,
and the Company has agreed to indemnify Chemins against claims arising
from claims made by the Company's distributors for products manufactured
by Chemins and marketed by the Company. Although the Company has never had
a product liability claim, such claims against the Company could result
in material losses to the Company.
6. RELATED PARTY TRANSACTION
John W. Hail, Chief Executive Officer and Chairman of the Board of
Directors of the Company, is the sole director and shareholder of the
John Hail Agency, Inc. ("JHA"). Pursuant to an unwritten agreement, the
Company provided office space, utilities and supplies, as well as an
occasional part-time administrative staff person, through June 30, 1996,
to JHA for a monthly payment of $1,000 as reimbursement of the Company's
costs. In addition, the Company made non-interest bearing advances to JHA
of $22,000 and $87,684 during the years ended December 31, 1996 and 1995,
respectively. Effective June 30, 1996, the Company adopted a policy to
not make any further advances to JHA, and JHA executed a promissory note
payable to the Company in the principal amount of $73,964 bearing
interest at eight percent per annum and payable in 60 installments of
$1,499 per month. During the three months ended June 30, 1998 and 1997, JHA
made repayments of $50,281 and $4,499, respectively. During the six months
ended June 30, 1998 and 1997, JHA made repayments of $54,780 and $8,998,
respectively. As of June 30, 1998 the note has been paid in full.
During 1995, John W. Hail individually entered into lease agreements
covering telephone equipment and related software and requiring monthly
rental payments. Such equipment and software are utilized exclusively by
the Company. During the three months ended June 30, 1998 and 1997, the
Company made aggregate monthly payments pursuant to such lease agreements
of $4,857 and $4,857, respectively. During the six months ended June 30,
1998 and 1997, the Company made aggregate monthly payments pursuant to
such lease agreements of $9,714 and $9,714, respectively.
During the three months ended June 30, 1998 and 1997, the Company paid
Curtis H. Wilson, Sr., a director of the Company, sales commissions of
$14,182 and $8,199, respectively. During the six months ended June 30,
1998 and 1997, the Company paid Curtis H. Wilson, Sr., sales commissions
of $19,245 and $17,768, respectively. These commissions were based upon
purchases by Mr. Wilson and his downline distributors in accordance with
the Company's network marketing program in effect at the time of the
sales.
During the first quarter of 1998, the Company agreed to loan John W. Hail,
the Chief Executive Officer and a major shareholder of the Company, up to
$250,000. Subsequently the Company agreed to loan up to an additional
$75,000. The loan is secured, bears interest at eight percent per annum
and is due on March 31, 1999. As of June 30, 1998, the balance due on this
loan was $305,811 plus any accrued interest. The loan was unanimously
approved by the Company's board of directors.
7. PENDING REGISTRATION STATEMENT
On March 11, 1998, the Company filed a Registration Statement, file number
333-47801, with the Securities and Exchange Commission pursuant to which
the Company is seeking to register 5,000,000 stock purchase plan
participation interests ("Participation Interests") in the Advantage
Marketing Systems, Inc. Distributor Stock Purchase Plan (the "Plan").
The Participation Interests are also being registered in accordance with
the Oklahoma Securities Act. The Participation Interests will be offered
to the distributors of the Company's products and services ("Eligible
Persons"). An Eligible Person electing to participate in the Plan (a
"Participant") will be entitled through purchase of the Participation
Interests to purchase in the open market through the Plan, shares of
common stock, $.0001 par value per share (the "Common Stock"), previously
issued by the Company. The Participation
Page 12
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND 1997
(UNAUDITED)
Interests are non-transferable; therefore, a market for the Participation
Interests will not develop. The proceeds from sale of the Participation
Interests will become the Participants' contributions to the Plan which
will be used to purchase the Common Stock and will not be placed into
escrow pending purchase of the Common Stock. Other than an annual service
fee of $5.00 per Participant and a transaction fee of $1.25 per month, the
Company will not receive any proceeds from the purchase of the Common Stock
by the Plan. The offering price of each Participation Interest will be
$1.00, and each Eligible Person will be required initially to purchase a
minimum of twenty-five Participation Interests upon electing to participate
in the Plan. There is no minimum amount of sales of Participation
Interests required. As of June 30, 1998, the registration statement has
not yet been declared effective.
8. SUBSEQUENT EVENT
On July 31, 1998, the Company acquired all rights, including formulations
and trademarks, for the ToppFast, ToppStamina and ToppFitt products
from ToppMed, Inc. of Los Angeles, California for a total purchase price of
$192,000 which was paid at closing.
* * * * * *
Page 13
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- -------------------------------------------------------------------------------
GENERAL
The Company's business over the last three years has been significantly affected
by the recently completed MMI Acquisition, the CII Acquisition and the SNSI
Asset Purchase. As a result of these acquisitions, the Company acquired 6,790
distributors and added 114 products to its product line.
MMI ACQUISITION. Effective May 31, 1996, the Company acquired all of the
outstanding capital stock of MMI, and MMI became a wholly-owned subsidiary of
the Company. MMI was a network marketer of various third-party manufactured
nutritional supplement products. In connection with the MMI Acquisition, the
Company issued to the shareholders of MMI 20,000 shares of Common Stock. The
Company added one product to its line and 1,690 additional distributors as a
result of the MMI Acquisition.
CII ACQUISITION. Effective January 31, 1997, the Company acquired all of the
issued and outstanding capital stock of CII, and CII became a wholly-owned
subsidiary of the Company. CII was a network marketer of various third-party
manufactured cosmetics, skin care and hair care products. In connection with
the CII Acquisition, the Company issued 6,482 shares of Common Stock to the
shareholders of CII at closing and issued an additional 7,518 shares of Common
Stock to the shareholders of CII on March 31, 1997, after determination of
certain liabilities. The Company added 74 products to its line, 68 in the
personal care category and six in the dietary supplement category, and 2,100
additional distributors as a result of the CII Acquisition.
SNSI ASSET PURCHASE. The Company purchased all of the assets, including the
network marketing organizations, of Stay 'N Shape International, Inc.,
Solution Products International, Inc., Nation of Winners, Inc., and Now
International, Inc. pursuant to an Asset Purchase Agreement dated April 16,
1997. In connection with the SNSI Asset Purchase, the Company paid cash of
$1,174,441 and issued 125,984 shares of Common Stock at closing and agreed to
either issue additional shares of the Company's Common Stock having an
aggregate market value equal to, or make a cash payment of, or combination
thereof, $750,000 and $1,050,000 on or before June 29, 1998, and May 30,
1999, respectively, subject to reduction for variance from specified sales
targets, which will be accounted for as purchase price adjustments under the
purchase method of accounting. As of June 29, 1998 the specified sales
requirement had not been met, therefore, the $750,000 installment payment was
reduced to zero and no payment was required. Based upon current sales levels
the Company believes that the $1,050,000 installment payment will be reduced
to zero and no payment will be required. As a result of the SNSI Asset
Purchase, the Company added 39 products to its line, 38 in the weight
management and dietary supplement categories and one in the personal care
category, and 3,000 additional distributors.
TOPPMED ASSET PURCHASE. On July 31, 1998, the Company acquired all rights,
including formulations and trademarks, for the ToppFast, ToppStamina and
ToppFitt products from ToppMed, Inc. ("TI") of Los Angeles, California for a
total purchase price of $192,000 which was paid at closing.
The following discussion and analysis presents the consolidated results of
operations of the Company and MMI since completion of the MMI Acquisition on
May 31, 1996, and of the Company and CII since completion of the CII
Acquisition on January 31, 1997, and gives effect to the SNSI Asset Purchase,
since its consummation on April 16, 1997.
RESULTS OF OPERATIONS
The following table sets forth, as a percentage of net sales, selected results
of operations for the three months and the six months ended June 30, 1998 and
1997, which are derived from the unaudited consolidated financial statements of
the Company. The results of operations for the periods presented are not
necessarily indicative of the Company's future operations.
Page 14
<PAGE>
<TABLE>
FOR THE THREE MONTHS ENDED JUNE 30, FOR THE SIX MONTHS ENDED JUNE 30,
----------------------------------------- -------------------------------------------
1998 1997 1998 1997
-------------------- ------------------- -------------------- --------------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
---------- ------- ---------- ------- ---------- ------- ---------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net sales. . . . . . . . . . . . $3,169,292 100.0% $2,696,645 100.0% $5,870,023 100.0% $4,745,416 100.0%
Cost of sales. . . . . . . . . . 2,101,416 66.3 1,950,258 72.3 3,791,236 64.6 3,415,086 72.0
---------- ----- ---------- ------ ---------- ----- ---------- ------
Gross profit . . . . . . . . . 1,067,876 33.7 746,387 27.7 2,078,787 35.4 1,330,330 28.0
Marketing, distribution and
administrative expenses. . . . 895,224 28.3 645,185 23.9 1,750,924 29.8 1,139,139 24.0
---------- ----- ---------- ------ ---------- ----- ---------- ------
Income from operations . . . . 172,652 5.4 101,202 3.8 327,863 5.6 191,191 4.0
Other income:
Interest, net. . . . . . . . . . 72,152 2.3 5,183 .2 139,236 2.4 1,007 .0
Other income . . . . . . . . . . 38,614 1.2 3,463 .1 40,720 .7 4,115 .1
---------- ----- ---------- ------ ---------- ----- ---------- ------
Total other income . . . . 110,766 3.5 8,646 .3 179,956 3.1 5,122 .1
---------- ----- ---------- ------ ---------- ----- ---------- ------
Income before income taxes . . . 283,418 8.9 109,848 4.1 507,819 8.7 196,313 4.1
Tax expense. . . . . . . . . . . 107,868 3.4 41,698 1.5 193,051 3.3 74,520 1.6
---------- ----- ---------- ------ ---------- ----- ---------- ------
Net income . . . . . . . . . . . $ 175,550 5.5% $ 68,150 2.5% $ 314,768 5.4% $ 121,793 2.6%
---------- ----- ---------- ------ ---------- ----- ---------- ------
---------- ----- ---------- ------ ---------- ----- ---------- ------
</TABLE>
The following table sets forth, as a percentage of net sales, cost of sales
detail for the three months and the six months ended June 30, 1998 and 1997,
which are derived from the unaudited consolidated financial statements of the
Company.
<TABLE>
FOR THE THREE MONTHS ENDED JUNE 30, FOR THE SIX MONTHS ENDED JUNE 30,
----------------------------------------- -------------------------------------------
1998 1997 1998 1997
-------------------- ------------------- -------------------- --------------------
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
---------- ------- ---------- ------- ---------- ------- ---------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Commissions and bonuses. . . . . $1,269,977 40.1% $1,194,371 44.3% $2,347,168 40.0% $2,200,681 46.4%
Cost of products . . . . . . . . 725,772 22.9 633,027 23.5 1,252,035 21.3 1,018,149 21.5
Cost of shipping . . . . . . . . 105,667 3.3 122,860 4.6 192,033 3.3 196,256 4.1
---------- ----- ---------- ----- ---------- ----- ---------- -----
Cost of sales. . . . . . . . . $2,101,416 66.3% $1,950,258 72.3% $3,791,236 64.6% $3,415,086 72.0%
---------- ----- ---------- ----- ---------- ----- ---------- -----
---------- ----- ---------- ----- ---------- ----- ---------- -----
</TABLE>
During the three months and six months ended 1998 and 1997, the Company
experienced increases in net sales compared to the preceding year. The
increases were principally the result of expansion of the Company's network of
independent distributors and additions to the Company's product line within the
weight management, dietary supplement and personal care categories. The Company
expects to continue to expand its network of independent distributors, which may
result in increased sales volume. However, there is no assurance that increased
sales volume will be achieved through expansion of the Company's network of
independent distributors, or that, if sales volume increases, the Company will
realize increased profitability.
COMPARISON OF THE THREE MONTH PERIODS ENDED JUNE 30, 1998 AND 1997
Net sales during the three months ended June 30, 1998, increased by $472,647, or
17.5 percent, to $3,169,292 from $2,696,645 during the three months ended June
30, 1997. The increase was principally attributable to expansion of the
Company's network of independent distributors and increased sales of the
Company's weight management, dietary supplement and personal care products.
Through the SNSI Asset Purchase (which was consummated on April 16, 1997), the
Company added 38 products to its product line and acquired 3,000 distributors.
The distributors acquired in connection with the SNSI Asset Purchase contributed
$156,127 to the increase between the two periods. During the three months ended
June 30, 1998, the Company made aggregate net sales of $3,137,664 to 15,119
distributors, compared to aggregate net sales during the same period in 1997 of
$2,653,721 to 11,157 distributors. Sales per distributor per month decreased
from $79 to $69 for the three months ended June 30, 1998, compared to the same
period in 1997.
Cost of sales during the three months ended June 30, 1998, increased by
$151,158, or 7.8 percent, to $2,101,416 from $1,950,258 during the same period
in 1997. This increase was attributable to (i) an increase of $75,606 in
distributor commissions and bonuses due to the increased level of sales, (ii) an
increase of $92,745 in the cost of
Page 15
<PAGE>
products sold due to the increased level of sales and the increased number of
marketing tools made available and (iii) a decrease of $17,193 in shipping
costs due to the increased level of sales combined with the pass through of
shipping costs to the distributors beginning in February 1998. Total cost of
sales, as a percentage of net sales, decreased to 66.3 percent during the
three months ended June 30, 1998, from 72.3 percent during the same period in
1997 due to a decrease in distributor commissions and bonuses as a percentage
of net sales to 40.1 percent from 44.3 percent, a decrease in cost of
products sold to 22.9 percent of net sales from 23.5 percent, and a decrease
in cost of shipping to 3.3 percent of net sales from 4.6 percent. During
periods of growth, it is anticipated that the Company will from time to time
offer promotions to distributors to increase sales and their income, which if
successful will result in increases in distributor commissions and bonuses
and temporary increases in cost of sales.
The Company's gross profit increased $321,489, or 43.1 percent, to $1,067,876
for the three months ended June 30, 1998 from $746,387 for the same period in
1997. The gross profit increased as a percentage of net sales to 33.7 percent
of net sales from 27.7 percent. The increase in the Company's gross profit
margin resulted from the decrease in cost of sales as a percentage of net sales.
Marketing, distribution and administrative expenses increased $250,039, or 38.8
percent, to $895,224 during the three months ended June 30, 1998, from $645,185
during the same period in 1997. This increase was attributable to the (i)
increase in expenses involved in expanding investors awareness of the Company
and (ii) increased utilization of outside professional service resources due to
increased levels of activity and (iii) increase in lease expense with the
addition of 10,340 square feet of warehouse and distribution space in October
1997. The balance of the increase in marketing, distribution and administrative
expenses resulted from the higher level of activity and corresponding increases
in variable costs, such as postage, telephone, and supplies.
Income before taxes increased $173,570, or 158.0 percent, to $283,418 during the
three months ended June 30, 1998, from $109,848 during the same period in 1997.
Income before taxes as a percentage of net sales increased to 8.9 percent during
the three months ended June 30, 1998, from 4.1 percent during the same period in
1997, primarily as a result of interest earned on the investment of proceeds
received from the Units Offering which was completed in November 1997 and the
increase in the Company's gross profit margin. Income taxes during the three
months ended June 30, 1998 and 1997 were $107,868 and $41,698, respectively.
Net income increased $107,400, or 157.6 percent, to $175,550 during the three
months ended June 30, 1998, from $68,150 during the same period in 1997. This
increase in net income was primarily the result of the interest earned on the
investment of the proceeds received from the Units Offering which was completed
in November 1997 and the increase in the Company's gross profit margin. Net
income as a percentage of net sales increased to 5.5 percent during the three
months ended June 30, 1998, from 2.5 percent during the same period in 1997.
COMPARISON OF THE SIX MONTH PERIODS ENDED JUNE 30, 1998 AND 1997
Net sales during the six months ended June 30, 1998, increased by $1,124,607, or
23.7 percent, to $5,870,023 from $4,745,416 during the six months ended June 30,
1997. The increase was principally attributable to expansion of the Company's
network of independent distributors and increased sales of the Company's weight
management, dietary supplement and personal care products. Through the CII
Acquisition (which was consummated on January 31, 1997) and the SNSI Asset
Purchase (which was consummated on April 16, 1997), the Company added 113
products to its product line and acquired 5,100 distributors. The distributors
acquired in connection with the CII Acquisition and the SNSI Asset Purchase
contributed $344,855 to the increase between the two periods. During the six
months ended June 30, 1998, the Company made aggregate net sales of $5,810,566
to 18,348 distributors, compared to aggregate net sales during the same period
in 1997 of $4,665,874 to 13,097 distributors. Sales per distributor per month
decreased from $59 to $53 for the six months ended June 30, 1998, compared to
the same period in 1997.
Page 16
<PAGE>
Cost of sales during the six months ended June 30, 1998, increased by $376,150,
or 11.0 percent, to $3,791,236 from $3,415,086 during the same period in 1997.
This increase was attributable to (i) an increase of $146,487 in distributor
commissions and bonuses due to the increased level of sales, (ii) an increase of
$233,886 in the cost of products sold due to the increased level of sales and
the increased number of marketing tools made available and (iii) a decrease of
$4,223 in shipping costs due to the increased level of sales combined with the
pass through of shipping costs to the distributors beginning in February 1998.
Total cost of sales, as a percentage of net sales, decreased to 64.6 percent
during the six months ended June 30, 1998, from 72.0 percent during the same
period in 1997 due to a decrease in distributor commissions and bonuses as a
percentage of net sales to 40.0 percent from 46.4 percent, a decrease in cost of
products sold to 21.3 percent of net sales from 21.5 percent, and a decrease in
cost of shipping to 3.3 percent of net sales from 4.1 percent. During periods
of growth, it is anticipated that the Company will from time to time offer
promotions to distributors to increase sales and their income, which if
successful will result in increases in distributor commissions and bonuses and
temporary increases in cost of sales.
The Company's gross profit increased $748,457, or 56.3 percent, to $2,078,787
for the six months ended June 30, 1998 from $1,330,330 for the same period in
1997. The gross profit increased as a percentage of net sales to 35.4 percent
of net sales from 28.0 percent. The increase in the Company's gross profit
margin resulted from the decrease in cost of sales as a percentage of net sales.
Marketing, distribution and administrative expenses increased $611,785, or 53.7
percent, to $1,750,924 during the six months ended June 30, 1998, from
$1,139,139 during the same period in 1997. This increase was attributable to
the (i) increase in payroll and employee costs related to cost of living raises
and changes in the employee mix and (ii) increase in expenses involved in
expanding investors awareness of the Company and (iii) increased utilization of
outside professional service resources due to increased levels of activity and
(iv) increase in lease expense with the addition of 10,340 square feet of
warehouse and distribution space in October 1997. The balance of the increase
in marketing, distribution and administrative expenses resulted from the higher
level of activity and corresponding increases in variable costs, such as
postage, telephone, and supplies.
Income before taxes increased $311,506, or 158.7 percent, to $507,819 during the
six months ended June 30, 1998, from $196,313 during the same period in 1997.
Income before taxes as a percentage of net sales increased to 8.7 percent during
the six months ended June 30, 1998, from 4.1 percent during the same period in
1997, primarily as a result of interest earned on the investment of proceeds
received from the Units Offering which was completed in November 1997 and the
increase in the Company's gross profit margin. Income taxes during the six
months ended June 30, 1998 and 1997 were $193,051 and $74,520, respectively.
Net income increased $192,975, or 158.4 percent, to $314,768 during the six
months ended June 30, 1998, from $121,793 during the same period in 1997. This
increase in net income was primarily the result of the interest earned from the
investment of proceeds received from the Units Offering which was completed in
November 1997 and the increase in the Company's gross profit margin. Net income
as a percentage of net sales increased to 5.4 percent during the six months
ended June 30, 1998, from 2.6 percent during the same period in 1997.
SEASONALITY
No pattern of seasonal fluctuations exists due to the growth patterns that the
Company is currently experiencing. However, there can be no assurance that the
Company will not become subject to seasonal fluctuations in operations.
COMMITMENTS AND CONTINGENCIES
ADDITIONAL TAX LIABILITY - During 1998, in an effort to facilitate the growth
of its distributor network the Company voluntarily began contacting all of
the state sales and use tax authorities to enter into agreements with them
whereby the Company would assume the responsibility for collecting and
remitting sales and use taxes on behalf of its independent distributors.
Certain states had requirements which resulted in an additional tax liability
for the Company as a condition of entering into the agreement. As of the
date of this report the Company cannot reasonably determine the amount of the
liability. The amount of the liability will be determined by the results of
certain ongoing negotiations which the Company anticipates concluding within
the next 90 days.
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The Company believes that if the negotiations are unsuccessful, the
additional tax liability could have an adverse impact on the Company's
earnings of as much as $372,000, net of the related tax effects, and would
have a material adverse impact on the Company's results of operations and
cash flows for the year ending December 31, 1998, however the adverse impact
on the Company's financial position and liquidity would not be material.
RECENT REGULATORY DEVELOPMENTS - A significant portion of the Company's net
sales has been, and is expected to continue to be, dependent upon the Company's
AM-300 product. The Company's net sales of AM-300 represented 42.9 percent and
45.1 percent of net sales for the six months ended June 30, 1998 and 1997,
respectively. One of the herbal ingredients in AM-300 is ephedra concentrate,
which contains naturally occurring ephedrine. Ephedrine products have been the
subject of adverse publicity in the United States and other countries relating
to alleged harmful effects, including the deaths of several individuals.
Currently, the Company offers AM-300 only in the United States (except in
certain states in which regulations may prohibit or restrict the sale of such
product). On April 10, 1996, the Food and Drug Administration ("FDA") issued a
statement warning consumers not to purchase or ingest natural sources of
ephedrine within dietary supplements claiming to produce certain effects (none
of which are claimed for the Company's product). On June 4, 1997, the FDA
proposed a regulation which will, if it becomes effective as proposed,
significantly limit the ability of the Company to sell AM-300 and any other
weight management products which contain ephedra or ephedrine. If the FDA's
proposed regulations were to become effective, management believes that the
impact on the Company's financial statements would be a significant reduction in
sales, cost of sales and marketing, distribution and administrative expenses and
could result in material losses to the Company, but would not have a significant
adverse effect on financial position.
PRODUCT LIABILITY - The Company, like other marketers of products that are
intended to be ingested, faces an inherent risk of exposure to product
liability claims in the event that the use of its products results in injury.
Historically, the Company has relied upon its manufacturer's product
liability insurance for coverage. The Company obtained product liability
insurance coverage in its own name in 1997. The limits on this coverage are
$4,000,000 per occurrence and $5,000,000 aggregate. The Company generally
does not obtain contractual indemnification from parties manufacturing its
products. However, all of the manufacturers of the Company's products carry
product liability insurance which covers the Company's products. The Company
has agreed to indemnify Tinos, L.L.C., the licensor of Choc-Quilizer, against
any product liability claims arising from the Choc-Quilizer product marketed
by the Company, and the Company has agreed to indemnify Chemins against
claims arising from claims made by the Company's distributors for products
manufactured by Chemins and marketed by the Company. Although the Company
has never had a product liability claim, such claims against the Company
could result in material losses to the Company.
CHOC-QUILIZER AGREEMENT - In the event that the Company fails to achieve the
required contractual sales volumes provided for in the marketing agreement
with Tinos, LLC, the Company will need to (i) renegotiate the marketing
agreement or (ii) give up its marketing rights to Choc-Quilizer. The Company
does not believe that loss of the marketing rights to Choc-Quilizer will have
a material adverse effect on the Company's results of operations, financial
condition or liquidity.
YEAR 2000 COMPUTER SYSTEM COMPLIANCE
The Company has two primary computer systems both of which were developed
employing six digit date structures. Were date logic requires the year 2000
or beyond, such structures may produce inaccurate results. Management has
substantially completed the implementation of a program to comply with year
2000 requirements on a system-by-system basis including information
technology ("IT") and non-IT systems (E.G., micro controllers). Management
expects the program to be complete during 1999 at which time the Company's
computer systems are expected to be year 2000 compliant.
Management has evaluated its in-house supported IT systems and has identified
certain internally written IT system programs that have date dependent
calculations or operations that are affected by this six digit date
structure. The Company's vendor-supported IT system has been updated and
certified year 2000 compliant by the vendor. Non-IT systems including all
personal computers will be evaluated by a third party contractor, updated if
necessary, and certified as compliant during 1999. The Company's risks
associated with the year 2000 are mainly its ability to communicate with its
distributors, take orders for and ship products and pay its employees,
distributors and vendors. Although management's evaluation is complete and
vendor certifications are being obtained, a failure of the Company's computer
systems or other support systems to function adequately with respect to year
2000 issues could have a material adverse effect on the Company's operations.
Based on progress to date and the limited instances of date sensitive
calculations, the Company has concluded that there is no need for a
contingency plan; therefore such plan has not been developed. The Company
estimates that the total cost of its program to make the Company's computer
systems year 2000 compliant is less than $25,000, however, the Company has
not obtained independent verification or validation to assure the reliability
of its cost estimate.
The Company is in the early process of contacting its major suppliers to
determine if their systems will be year 2000 compliant on a timely basis. In
the event that the Company experiences product unavailability or supply
interruptions due to year 2000 non-compliance by its suppliers, management
believes that it would be able to obtain alternative sources of its products.
A significant delay or reduction in availability of products, however, could
also have a material adverse effect on the Company's operations.
LIQUIDITY AND CAPITAL RESOURCES
Prior to completion of the offerings described below, the Company's primary
source of liquidity was net cash provided by operating activities and
stockholder loans. The Company does not have any significant outside debt-based
liquidity sources.
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At June 30, 1998, the Company had working capital of $6,110,067, compared to
$6,143,041 at December 31, 1997. Management believes that its cash and cash
equivalents and cash flows from operations will be sufficient to fund its
working capital needs over the next 12 months. During the six months ended June
30, 1998, net cash provided by operating activities was $918,456, net cash used
in investing activities was $629,451, and net cash used in financing activities
was $437,061. This represented an average monthly positive cash flow from
operating activities of $153,076. The Company had a net decrease in cash during
this period of $148,056. The Company's working capital needs over the next 12
months consist primarily of marketing, distribution and administrative expenses
and the repurchase of common stock.
On March 4, 1998, the Company announced that it intends to repurchase up to $1
million of the Common Stock in the open market for cash. In connection with
such repurchase, the Company filed with the Securities and Exchange Commission
pursuant to Section 13(e)(1) of the Securities Exchange Act of 1934, as amended,
an Issuer Tender Offer Statement on March 4, 1998. As of June 30, 1998, the
Company had repurchased 78,500 shares of the Common Stock. The additional
number of shares of the Common Stock that may be purchased by the Company is not
determinable as of June 30, 1998 and will depend upon a number of factors,
including the market price of the Common Stock and the amount of funds utilized
for repurchase on each date of repurchase.
During the first quarter of 1998, the Company agreed to loan John W. Hail, the
Chief Executive Officer and a major shareholder of the Company, up to $250,000.
Subsequently the Company agreed to loan up to an additional $75,000. The loan
is secured, bears interest at eight percent per annum and is due on March 31,
1999. As of June 30, 1998, the balance due on this loan was $305,811 plus
interest. The Company believes that the terms of the loan are comparable with
those that could have been obtained from an unaffiliated lender and the loan was
unanimously approved by the Company's board of directors.
The Company made non-interest bearing advances to the John Hail Agency, Inc.
("JHA"), a company controlled by the Chief Executive Officer of $22,000 and
$87,684 during the years ended December 31, 1996 and 1995, respectively. During
the years ended December 31, 1997 and 1996, JHA made repayments to the Company
of $13,042 and $6,141 respectively. Effective June 30, 1996, the Company
adopted a policy to not make any further advances to JHA, and JHA executed a
promissory note payable to the Company with a principal balance of $73,964,
bearing interest at eight percent per annum and payable in 60 installments of
$1,499 per month. As of June 30, 1998 the note has been paid in full.
On November 12, 1997, the Company sold 1,495,000 shares of Common Stock and
1,495,000 Redeemable Common Stock Purchase Warrants in units consisting of one
share of Common Stock and one Redeemable Common Stock Purchase Warrant from
which the Company received proceeds of $6,050,000. As of January 6, 1998,
the exercise price of the Redeemable Common Stock Purchase Warrants was
adjusted from $5.40 to $3.40 representing 120 percent of the average daily
closing price of the Company's Common Stock for the preceding 20 day period
as prescribed in the prospectus of the Units Offering. The Redeemable Common
Stock Purchase Warrants are exercisable to purchase one share of common
stock for $3.40 on or before November 6, 2002. In connection with the Units
Offering, the Company sold to Paulson Investment Company, Inc. and Joseph
Charles & Assoc., Inc., the representatives of underwriters of the Units
Offering, warrants exercisable for the purchase of 130,000 Units for $5.40
per Unit (the "Underwriters' Warrants") after November 6, 1998, and on or
before November 6, 2002.
On January 31, 1997, the Company distributed, at no cost, 2,148,191
non-transferable rights ("Rights") to its shareholders of record on such
date. Each of the Rights entitled the holder to purchase one unit
(consisting of one share of Common Stock and one 1997-A Warrant) on or before
March 17, 1997 for $6.80 per unit (the "Rights Offering"). Concurrently with
the Rights Offering, the Company redeemed its outstanding Class A and Class B
Common Stock Purchase Warrants (the "Public Warrants") for $.0008 per warrant
(the "Warrant Redemption") effective on March 17, 1997. In connection with
the Warrant Redemption, the Company modified the terms of the Public Warrants
and offered to holders of the Public Warrants (the "Warrant Holders") the
right to exercise each of the Public Warrants for the purchase of one unit
(consisting of one share of Common Stock and one 1997-A Warrant), at an
exercise price of $6.00 per unit (the "Warrant Modification Offering").
Proceeds to the Company from the Warrant Modification Offering and the Rights
Offering (the "Offerings") were $2,154,357. Accumulated offering costs of
$323,076 were charged against the proceeds of the Offerings. Pursuant to the
Offerings, the Company issued in units 337,211 shares of Common Stock and
337,211 1997-A Warrants. As of January 8, 1998,
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the Company reduced the exercise price of the 1997-A Warrants from $12.00 to
$3.40 and extended the exercise period from January 31, 1999 to November 6,
2002, to make them correspond more closely to the Redeemable Common Stock
Purchase Warrants.
In connection with the SNSI Asset Purchase, the Company agreed to make
installment purchase price payments of $750,000 and $1,050,000 by June 29,
1998 and May 30, 1999, respectively, either by deliveries of additional
shares of the Company's Common Stock or by cash payments or any combination
thereof, which will be accounted for as purchase price adjustments under the
purchase method of accounting. The $750,000 installment payment was to be
reduced by the aggregate amount that gross revenues, net of returns and
allowances, during the 12-month period ended April 30, 1998, from (i) sales
(other than sales of Choc-Quilizer) of the purchased network marketing
organization, sales to Market America, Inc. (an unrelated network marketing
company) and sales to retail outlet stores, are less than $2,500,000 and (ii)
the Company's sales of Choc-Quilizer are less than $4,000,000 during such
12-month period. As of June 29, 1998 the specified sales requirement had not
been met, therefore the $750,000 installment payment was reduced to zero and
no payment was required. Furthermore, the $1,050,000 installment payment
shall also be reduced by the aggregate amount that gross revenues, net of
returns and allowances, during the 12-month period ended March 31, 1999, from
such sales are less than $5,000,000 and less than $8,000,000, respectively,
during such 12-month period. Based upon current sales levels the Company
believes that the $1,050,000 installment payment will be reduced to zero and
no payment will be required. The value of the Common Stock to be issued and
delivered, if any, will be based upon the average of the closing prices of
the Common Stock on the last three trading days of the month preceding the
month in which the applicable 12-month period ends.
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PART II. OTHER INFORMATION
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Item 1. LEGAL PROCEEDINGS
None
Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
RECENT SALES OF UNREGISTERED SECURITIES
On May 20, 1998, the Company sold 12,500 unregistered shares of
Common Stock to D. Huff pursuant to exercise of stock options. D. Huff is an
employee of the Company. The exercise price of the stock options was paid by
delivery of Common Stock of the Company pursuant to cashless exercise
provisions of the stock options. The exercise price or consideration for
purchase of the shares of Common Stock was paid in shares of the Company'
Common Stock pursuant to cashless exercise provisions of the respective stock
option agreements. As a result of the cashless exercise, the Company did not
receive any proceeds from sale of the Common Stock.
The Common Stock purchased by D. Huff was sold pursuant to Rule
506 of Regulation D in connection with the exercise of stock options. With
respect to the foregoing Common Stock sale transaction, the Company relied on
4(2) of the Securities Act of 1933 and Regulation D for exemption from the
registration requirements of the Securities Act of 1933, as amended. Prior to
purchase of the Common Stock, D. Huff was furnished copies of the Company's
most recent Form 10-KSB Annual Report, Form 10-QSB Quarterly Report and other
reports filed with the Commission during 1998 preceding exercise of the stock
options, and D. Huff had the opportunity to verify the information provided.
Additionally, the Company obtained a signed representation from D. Huff in
connection with the purchase of the Common Stock of the intent to acquire
such Common Stock for the purpose of investment only, and not with a view
toward the subsequent distribution thereof; the certificates representing the
Common Stock of the Company has been stamped with a legend restricting
transfer of the securities represented thereby, and the Company has issued
stop transfer instructions to U.S. Stock Transfer, Inc., the Transfer Agent
for the Common Stock of the Company, concerning all certificates representing
the Common Stock issued in the above-described transaction.
Item 3. DEFAULTS IN SECURITIES
None
Item 4. SUBMISSION OF MATTER TO A VOTE OF SECURITY HOLDERS
None
Item 5. OTHER INFORMATION
None
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
None
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
REGISTRANT:
ADVANTAGE MARKETING SYSTEMS, INC.
Date: February 10, 1999 By: /s/ ROGER P. BARESEL
-------------------------------------
Roger P. Baresel, President, Chief
Financial and Accounting Officer
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