<PAGE>
FORM 10-QSB
U. S. 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 September 30, 1999
OR
( ) TRANSITION REPORT UNDER SECTION 13 OR 15(d)
OF THE EXCHANGE ACT
For Quarter Ended Commission File Number
September 30, 1999 001-13343
- -------------------- ----------------------
ADVANTAGE MARKETING SYSTEMS, INC.
- ------------------------------------------------------------------------------
(Exact name of small business issuer as specified in its charter)
Oklahoma 73-1323256
------------------------------------- ----------------------------------
(State or other jurisdiction (IRS Employer Identification
of incorporation or organization) Number)
2601 N.W. Expressway, Suite 1210W, Oklahoma City, Oklahoma 73112
- ------------------------------------------------------------------------------
(Address of principal executive offices)
(405) 842-0131
- ------------------------------------------------------------------------------
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes X No
--- ---
State 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 4,143,084
- ------------------------------ ----------------------------
Title of Class Number of Shares outstanding
at November15, 1999
Exhibit Index appears on page 22 .
Page 1 of 24
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
QUARTERLY REPORT ON FORM 10-QSB
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1999
TABLE OF CONTENTS
<TABLE>
<S> <C>
Part I - Financial Information
Item 1. Financial Statements
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
Item 2. Management's Discussion and Analysis or Plan of Operation................. 14
Part II - Other Information....................................................... 22
Item 1. Legal Proceedings......................................................... 22
Item 2. Changes in Securities and Use of Proceeds................................. 22
Item 3. Defaults Upon Senior Securities........................................... 22
Item 4. Submission of Matters to a Vote of Security Holders....................... 22
Item 5. Other Information......................................................... 22
Item 6. Exhibits and Reports on Form 8-K.......................................... 22
</TABLE>
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
Certain statements under the caption "Item 2 - Management's Discussion and
Analysis or Plan of Operation" 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 and its third party providers to
adequately address year 2000 issues: 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
SEPTEMBER 30, 1999 AND DECEMBER 31, 1998
(UNAUDITED)
<TABLE>
<CAPTION>
September 30, December 31,
ASSETS 1999 1998
------ ------------ ------------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents..................................................... $ 2,448,665 $ 5,289,217
Marketable securities, held to maturity....................................... 961,378 --
Receivables - net of allowance of $83,713 and $25,800, respectively........... 370,875 263,503
Receivable from affiliate..................................................... 298,004 293,936
Inventory..................................................................... 629,126 1,009,998
Deferred income taxes......................................................... -- 93,496
Other assets.................................................................. 214,667 100,345
------------ ------------
Total current assets.............................................. 4,922,715 7,050,495
MARKETABLE SECURITIES, Available for sale, at fair value........................ 1,976,147 --
MARKETABLE SECURITIES, Held to maturity......................................... 1,040,312 --
RECEIVABLES..................................................................... 107,774 129,440
PROPERTY AND EQUIPMENT, Net..................................................... 1,614,380 1,090,280
GOODWILL, Net................................................................... 1,645,553 1,725,734
COVENANTS NOT TO COMPETE, Net................................................... 455,555 511,685
DEFERRED INCOME TAXES........................................................... -- 95,277
OTHER ASSETS.................................................................... 72,135 114,572
------------ ------------
TOTAL........................................................................... $11,834,571 $10,717,483
------------ ------------
------------ ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable.............................................................. $ 172,837 $ 60,172
Accrued commissions and bonuses............................................... 395,487 156,174
Accrued other expenses........................................................ 504,435 277,651
Accrued sales tax liability................................................... 354,141 616,735
Notes payable................................................................. -- 29,476
Capital lease obligations..................................................... 64,091 87,105
------------ ------------
Total current liabilities......................................... 1,490,991 1,227,313
LONG-TERM LIABILITIES:
Notes payable................................................................. -- 94,311
Capital lease obligations..................................................... 124,552 173,247
Deferred income taxes......................................................... 7,000 --
------------ ------------
Total liabilities................................................ 1,622,543 1,494,871
------------ ------------
COMMITMENTS AND CONTINGENCIES (Note 8)
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 4,277,584 and 4,275,514 shares, respectively ......................... 428 428
Paid-in capital............................................................... 10,232,706 10,180,106
Notes receivable for exercise of options...................................... (63,960) (63,960)
Retained earnings (accumulated deficit)....................................... 453,969 (516,091)
Accumulated other comprehensive loss, net of tax.............................. (33,244) --
------------ ------------
Total capital and retained earnings (accumulated deficit)...... 10,589,899 9,600,483
Less cost of treasury stock (134,500 shares, common).......................... (377,871) (377,871)
------------ ------------
Total stockholders' equity...................................... 10,212,028 9,222,612
------------ -------------
TOTAL........................................................................... $11,834,571 $10,717,483
------------ ------------
------------ ------------
</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 SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------------------------------
1999 1998 1999 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Net sales............................................... $6,223,895 $3,630,912 $16,150,491 $9,500,936
Cost of sales........................................... 4,298,324 2,472,539 11,150,024 6,263,775
----------- ----------- ----------- -----------
Gross profit........................................ 1,925,571 1,158,373 5,000,467 3,237,161
Marketing, distribution and administrative expenses..... 1,362,277 920,407 3,725,489 2,671,332
----------- ----------- ----------- -----------
Income from operations.............................. 563,294 237,966 1,274,978 565,829
Other income(expense) :
Interest and dividends, net............................. 75,993 74,273 228,765 213,509
Other income (expense).................................. -- (1,238) -- 39,482
Settlement of additional tax liability (Note 6)......... -- (421,623) -- (421,623)
----------- ----------- ----------- -----------
Total other income (expense)........................ 75,993 (348,588) 228,765 (168,632)
----------- ----------- ----------- -----------
INCOME (LOSS) BEFORE TAXES ............................ 639,287 (110,622) 1,503,743 397,197
TAX EXPENSE (BENEFIT)................................... 242,673 (42,275) 533,683 150,776
----------- ----------- ----------- -----------
NET INCOME (LOSS)....................................... $ 396,614 $ (68,347) $ 970,060 $ 246,421
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Net income (loss) per common share...................... $ .10 $ (.02) $ .23 $ .06
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Net income (loss) per common share - assuming dilution. $ .08 $ (.02) $ .21 $ .05
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Weighted average common shares outstanding.............. 4,141,651 4,168,619 4,141,651 4,201,954
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
Weighted average common shares outstanding -
assuming dilution....................................... 5,194,786 4,168,619 4,708,759 4,538,783
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
</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 NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
<TABLE>
<CAPTION>
September 30, September 30,
1999 1998
----------- -----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income....................................................................... $ 970,060 $ 246,421
Adjustments to reconcile net income to net
cash provided by (used in) operating activities:
Depreciation and amortization............................................... 397,828 267,703
Deferred taxes.............................................................. 195,773 148,580
Gain on sale of other assets................................................ -- (35,920)
Provision for bad debts..................................................... 47,109 --
Non cash compensation....................................................... 52,600 --
Changes in assets and liabilities which provided (used) cash:
Receivables and commission advances...................................... (132,815) (66,528)
Inventory................................................................ 380,872 (24,201)
Other assets............................................................. (80,982) --
Accounts payable and accrued expenses.................................... 316,168 693,781
----------- -----------
Net cash provided by operating activities........................... 2,146,613 1,229,836
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment.............................................. (776,520) (365,334)
Purchase of ToppMed Assets....................................................... -- (192,000)
Purchases of marketable securities, available for sale........................... (2,009,391) --
Purchases of marketable securities, held to maturity............................ (2,001,690) --
Advances to affiliate............................................................ (40,000) (293,936)
Repayment of receivable from affiliate........................................... 35,932 54,780
Purchase of other assets......................................................... -- (83,565)
----------- -----------
Net cash used in investing activities ............................. (4,791,669) (880,055)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from notes payable...................................................... -- 62,727
Purchase of treasury stock....................................................... -- (306,993)
Payment of deferred offering costs............................................... -- (112,610)
Principal payment on notes payable............................................... (123,787) (40,821)
Principal payment on capital lease obligations................................... (71,709) (146,938)
----------- -----------
Net cash used in financing activities.............................. (195,496) (544,635)
----------- -----------
NET DECREASE IN CASH................................................................ (2,840,552) (194,854)
CASH AND CASH EQUIVALENTS, BEGINNING................................................ 5,289,217 5,775,276
----------- -----------
CASH AND CASH EQUIVALENTS, ENDING................................................... $ 2,448,665 $ 5,580,422
----------- -----------
----------- -----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest............................................ $ 14,069 $ 27,186
Cash paid during the period for income taxes........................................ 10,160 --
Noncash financing and investing activities:
Property and equipment acquired by capital lease................................. -- 4,389
(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 NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
<TABLE>
<CAPTION>
September 30, September 30,
1999 1998
----------- -----------
<S> <C> <C>
Acquisition of ToppMed, Inc.:
Fair value of assets acquired.................................................. $ -- $ --
Fair value of covenant not to compete........................................... -- (64,000)
Purchase price in excess of tangible assets acquired and covenant not to compete -- (128,000)
------------- ------------
Cash paid to purchase ToppMed, Inc.............................................. -- $ (192,000)
------------- ------------
------------- ------------
(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 NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(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, 1998.
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,
1999.
2. MARKETABLE SECURITIES
MARKETABLE SECURITIES - Investments in marketable debt and equity
securities are identified as held to maturity and available for sale
based on management considerations of asset/liability strategy, changes
in interest rates, prepayment risk and other factors. Under certain
circumstances (including the deterioration of the issuer's
creditworthiness, a change in tax law, or statutory or regulatory
requirements), the Company may change the marketable security
classification. Marketable securites classified as available for sale
are accounted for at fair value with unrealized gains or losses, net of
taxes, excluded from earnings and reported as a separate component of
shareholder's equity. Held to maturity securities are accounted for at
amortized cost.
The Company has the intent and ability to hold to maturity its
investment in marketable securities classified as held to maturity.
Gain or loss on sale of marketable securities is based upon the
specific identification method. Total comprehensive income for the
three and nine months ended September 30, 1999 was $363,370 and
$936,816, respectively.
3. EARNINGS PER SHARE
EARNINGS PER SHARE - 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 following is a reconciliation of the common
shares used in the calculations of earnings per common share and
earnings per common share - assuming dilution:
Page 7
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
<TABLE>
<CAPTION>
INCOME SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
<S> <C> <C> <C>
Weighted average common shares outstanding:
For the three months ended September 30, 1999:
Earnings per common share:
Income available to common stockholders................... $396,614 4,141,651 $ .10
-------- --------- -----
Earnings per common share - assuming dilution:
Options.................................................. -- 771,435
Warrants................................................. -- 281,700
-------- ---------
Income available to common stockholders plus assumed
conversions.............................................. $396,614 5,194,786 $ .08
-------- --------- -----
For the three months ended September 30, 1998:
Loss per common share:
Loss available to common stockholders..................... $(68,347) 4,168,619 $(.02)
-------- --------- -----
Loss per common share - assuming dilution:
Loss available to common stockholders plus assumed
conversions (none assumed)............................... $(68,347) 4,168,619 $(.02)
-------- --------- -----
Weighted average common shares outstanding:
For the nine months ended September 30, 1999:
Earnings per common share:
Income available to common stockholders................... $970,060 4,141,651 $ .23
-----
Earnings per common share - assuming dilution:
Options.................................................. -- 567,108
-------- ---------
Income available to common stockholders plus assumed
conversions.............................................. $970,060 4,708,759 $ .21
-------- --------- -----
For the nine months ended September 30, 1998:
Earnings per common share:
Income available to common stockholders................... $246,421 4,201,954 $ .06
-----
Earnings per common share - assuming dilution:
Options.................................................. -- 336,829
-------- ---------
Income available to common stockholders plus assumed
conversions.............................................. $246,421 4,538,783 $.05
-------- --------- -----
</TABLE>
There were no antidilutive options to purchase shares of common stock
for the three months ended September 30, 1999. Due to the net loss for
the three months ended September 30, 1998, all options and warrants
outstanding as of the end of the three month period were antidilutive
and were not included in the computation of earnings per common share -
assuming dilution.
Options to purchase 152,387 shares of common stock ranging from $3.60
to $3.75 per share and 154,750 shares of common stock ranging from
$3.00 to $6.00 were outstanding at September 30, 1999 and 1998,
respectively, but were not included in the computation of earnings per
common share - assuming dilution for the nine months ended because the
options' exercise prices were greater than the average market price of
the common shares.
Page 8
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
Warrants to purchase 130,000 shares at $5.40 and 2,092,211 shares
ranging from $3.40 to $5.40 were outstanding at September 30, 1999 and
1998, respectively, but were not included in the computation of
earnings per common share - assuming dilution for the three months
ended because the warrants' exercise prices were greater than the
average market price of the common shares.
Warrants to purchase 2,092,211 shares ranging from $3.40 to $5.40 were
outstanding at September 30, 1999 and 1998 but were not included in the
computation of earnings per common share - assuming dilution for the
nine months ended because the warrants' exercise prices were greater
than the average market price of the common shares.
4. STOCKHOLDERS' EQUITY
COMMON STOCK - On March 4, 1998, the Company announced it's intent 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 December 31, 1998, the
Company had repurchased 134,500 shares of the Common Stock at a total
cost of $377,871. The Company has ceased making repurchases and the
last repurchase was made December 31, 1998.
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.
COMMON STOCK OPTIONS AND OTHER WARRANTS - The following table
summarizes the Company's stock option and other warrant activity for
the three months and nine months ended September 30, 1999:
<TABLE>
<CAPTION>
Three Weighted- Nine Weighted-
Months Ended Average Months Ended Average
September 30, Exercise September 30, Exercise
1999 Price 1999 Price
------------- --------- ------------- ---------
<S> <C> <C> <C> <C>
Options and other warrants
outstanding, beginning of
period...................... 1,708,033 $ 2.12 1,543,322 $2.09
Options and other warrants
issued during the period... 27,387 3.68 196,098 2.57
Options and other warrants
exercised during the period. (5,358) 2.80 (5,358) 2.80
Options and other warrants
canceled during the period.. - - (4,000) 2.70
------------- -------------
Options and other warrants
outstanding, end of period 1,730,062 $ 2.14 1,730,062 $2.14
------------- -------------
</TABLE>
Page 9
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
COMMON STOCK WARRANTS - The following table summarizes the Company's
common stock warrants and their activity for the three months and
nine months ended September 30, 1999:
<TABLE>
<CAPTION>
Warrants
Issued and Exercise
Outstanding Price Exercise Period
----------- --------- -------------------
<S> <C> <C> <C>
September 30, 1999:
1997-A Warrants................................. 337,211 $3.40 01/31/97 - 11/06/02
---------
---------
Redeemable Common Stock Purchase Warrants........ 1,495,000 $3.40 11/06/97 - 11/06/02
---------
---------
Underwriters' Warrants........................... 130,000 $5.40 11/12/98 - 11/12/02
---------
---------
</TABLE>
Each warrant entitles the holder to purchase one share of common stock.
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 correspond more closely
to the terms of 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.
There was no expense recognized in the Company's financial statements
relating to either of the warrant exercise price reductions as the
changes only affected allocations of additional paid-in capital because
the Redeemable Common Stock Purchase Warrants and the 1997-A Warrants
were issued in conjunction with equity offerings of the Company. The
reduced exercise prices exceeded the market value of the Company's
common stock on the date of the reduction.
The Redeemable Common Stock Purchase Warrants are subject to redemption
by the Company at $0.25 per warrant. All of the outstanding Redeemable
Common Stock Purchase Warrants must be redeemed if any are redeemed.
The Company may redeem the 1997-A Warrants for $0.0001 per warrant. Any
redemption of unexercised 1997-A Warrants would be for all such
outstanding warrants. The Underwriters' Warrants were issued in
connection with the sale of common stock and Redeemable Warrants in
November 1997 and were in addition to other fees paid to the
underwriters. The Underwriters' Warrants entitle the holder to purchase
one unit consisting of one share of the Company's common stock and one
Redeemable Common Stock Purchase Warrant.
5. 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 may be
exercised 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
Page 10
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
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. No stock appreciation rights are attached to
any options outstanding. During the nine months ended September 30,
1999 and 1998, the Company issued 96,098 and 59,750 options,
respectively, under the Plan. At September 30, 1999 and 1998, the
Company had 1,730,062 and 1,435,777, respectively, stock options
outstanding of which only 533,687 and 220,044, respectively, were
issued pursuant to the plan.
6. 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. The liability had an adverse impact on the
Company's earnings, net of the related tax effect, of $256,300 or $.06
per share. Management believes the liability was a one time
nonrecurring charge and will have no further adverse impact on the
Company's future results of operations because the ongoing collection
and remittance of sales and use tax represents neither additional
income nor additional expense to the Company but instead is a pass
through item with no income statement effect.
7. RELATED PARTIES
During the three months ended September 30, 1999 and 1998, the Company
received $1,860 and $1,579, respectively, from Pre-Paid Legal Services,
Inc., a shareholder, for commissions on sales of memberships for the
services provided by Pre-Paid Legal Services, Inc. During the nine
months ended September 30, 1999 and 1998, the Company received $5,113
and $5,165, respectively.
During 1995, John W. Hail, an affiliate, 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 and nine months ended September
30, 1998, the Company made aggregate monthly payments pursuant to such
lease agreements of $4,857 and $14,570, respectively. As of December
31, 1998 the leases had been paid in full.
On October 8, 1998, John W. Hail voluntarily surrendered an option to
purchase 100,000 shares of the Company's common stock for $2.70 per
share with an expiration date of May 20, 2007 in exchange for an option
having the same terms other than an exercise price of $1.75 per share
of common stock, which was equal to the fair value of the common stock
on the date of exchange. These options became exercisable on April 8,
1999.
During the three months ended September 30, 1999 and 1998, the Company
paid Curtis H. Wilson, Sr., a Director of the Company, sales
commissions of $30,032 and $19,292, respectively. During the nine
months ended September 30, 1999 and 1998, the Company paid Curtis H.
Wilson, Sr., sales commissions of $86,826 and $38,537, 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.
Page 11
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
During the first quarter of 1998, the Company agreed to loan John W.
Hail, an affiliate, up to $250,000. Subsequently, the Company agreed to
loan up to an additional $75,000. The loans are secured, bear interest
at 8% per annum, and were due on March 31, 1999. The loans were
extended until March 31, 2000. As of September 30, 1999, the balance
due on these loans was $298,004 plus accrued interest. The loans and
extension were unanimously approved by the Company's board of
directors.
8. COMMITMENTS AND CONTINGENCIES
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 65.9% and 45.3% of net sales for the nine months ended
September 30, 1999 and 1998, 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. 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 regulations which will, if adopted as proposed, significantly
limit the ability of the Company to sell AM-300 and any other weight
management products which contain ephedra or ephedrine. The proposed
regulations were subject to comment until December 2, 1997. The
proposed regulations will become effective 180 days following their
issuance as final regulations. Several trade organizations in the
dietary supplement industry have commented on the proposed regulations,
requesting substantial modifications. It is probable that the FDA will
make material changes to the proposed regulations prior to adoption.
Relatedly, the United States General Accounting Office recently issued
a report dated July 2, 1999 to a committee of the U.S. House of
Representatives that casts substantial doubt on certain provisions of
the proposed regulations. The Company does not know the effect such
report will have on the proposed regulations. There is a risk that
AM-300 may become subject to further federal, state, local or foreign
laws or regulations. These regulations could require the Company to (i)
withdraw or reformulate its AM-300 product with reduced ephedrine
levels or with a substitute for ephedra or ephedrine, (ii) relabel its
product with different warnings or revised directions for use, or (iii)
not make certain statements, possibly including weight loss claims,
with respect to any product containing ephedra or ephedrine. Even in
the absence of further laws or regulation, the Company may elect to
reformulate or relabel its AM-300 product containing ephedra or
ephedrine. While the Company believes that its AM-300 product could be
reformulated and relabeled, there is no assurance that such
reformulation and relabeling will not adversely affect sales.
Consequently, management is unable at the present time to predict the
ultimate resolution of these issues, nor their ultimate impact on the
Company's results of operation or 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
Page 12
<PAGE>
ADVANTAGE MARKETING SYSTEMS, INC.
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONCLUDED)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
(UNAUDITED)
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.
* * * * * *
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<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
GENERAL
At Advantage Marketing Systems, Inc., our business and operations during the
last three years have been significantly affected by the acquisitions of Miracle
Mountain International, Inc. in May 1996 (the "MMI acquisition"), Chambre
International, Inc. in January 1997 (the "CII acquisition"), the assets of Stay
'N Shape International, Inc., Solution Products International, Inc., Nation of
Winners, Inc., and Now International, Inc. in April 1997 (the "SNSI ssset
purchase") and ToppMed Inc. (the "ToppMed asset purchase"). As a result of these
acquisitions and asset purchases, we acquired 6,790 distributors and added 115
products to our product line. We currently market approximately 100 products.
MMI ACQUISITION. Effective May 31, 1996, Miracle Mountain International became
one of our wholly-owned subsidiaries. Miracle Mountain was a network marketer of
various third-party manufactured nutritional supplement products. In connection
with the MMI acquisition, we issued 20,000 shares of our common stock. As a
result of the MMI acquisition, we added one product to our line and 1,690
additional distributors.
CII ACQUISITION. Effective January 31, 1997, Chambre International became one of
our wholly-owned subsidiaries. Chambre International was a network marketer of
various third-party manufactured cosmetics, skin care and hair care products. In
connection with the Chambre International acquisition, we issued 15,000 shares
of our common stock. We added 74 products to our line, 68 in the personal care
category and six in the dietary supplement category, and 2,100 additional
distributors as a result of the Chambre International acquisition.
SNSI ASSET PURCHASE. We 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. on
April 16, 1997. In connection with the SNSI asset purchase, we paid cash of
$1,174,441 and issued 125,984 shares of our common stock. The SNSI asset
purchase added 39 products to our 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, we acquired all rights, including
formulations and trademarks, for the ToppFast, ToppStamina and ToppFitt products
from ToppMed, Inc. for $192,000.
REPURCHASE OF COMMON STOCK BY THE COMPANY. In March 1998, we announced and began
repurchasing up to $1 million of our common stock in the open market. In
December 1998 we ceased repurchasing our common stock. As of December 31, 1998,
we had repurchased 134,500 shares of our common stock for $377,871 or an average
of $2.81 per share.
UNITS OFFERING. On November 12, 1997, we completed the offering of 1,495,000
units, each consisting of one share of common stock and one redeemable common
stock purchase warrant. As a result of this offering, we received proceeds of
$6,050,000. Each redeemable common stock purchase warrant is exercisable for the
purchase of one share of our common stock for $3.40 on or before November 6,
2002. In connection with this offering, we sold to the underwriters, Paulson
Investment Company, Inc. and Joseph Charles & Assoc., Inc., warrants exercisable
for the purchase of 130,000 units for $5.40 per unit on or before November 6,
2002.
WARRANT MODIFICATION OFFERING AND RIGHTS OFFERING. In January 1997, we
distributed non-transferable rights ("rights") to our common stock shareholders.
These rights entitled the holders to subscribe for and purchase up to 2,148,191
units (each unit consisting of one share of our common stock and one 1997-A
warrant) for the price of $6.80 per unit. Concurrently, we called and redeemed
our outstanding class A and class B common stock purchase warrants for $.0008
per warrant on March 17, 1997. However, in connection with the warrant
redemption, we offered to the holders the class A and class B warrants the right
to purchase units, each comprised of one share of common stock and one 1997-A
warrant, at an exercise price of $6.00 per unit.
Each 1997-A warrant is exercisable on or before November 6, 2002, to purchase
one share of common stock for $3.40, subject to adjustment in certain events. We
may redeem the 1997-A warrants at any time upon 30 days' notice, at a price of
$.0001 per 1997-A warrant.
Page 14
<PAGE>
We received proceeds from these two offerings of $2,154,357. Accumulated
offering costs of $323,076 were charged against the net proceeds from these
offerings. Pursuant to these offerings we issued 337,211 shares of common stock
and the same number of 1997-A warrants
DISTRIBUTOR STOCK PURCHASE PLAN. On March 11, 1998, we filed a Registration
Statement, file number 333-47801, with the Securities and Exchange Commission
registering 5,000,000 stock purchase plan participation interests
("participation interests") in our 1998 Distributor Stock Purchase Plan (the
"plan"). The participation interests are offered to the distributors of our
products and services in lots of five participation interests. A distributor
electing to participate in the plan (a "participant") is entitled through
purchase of the participation interests to shares in the plan's purchase in the
open market of our outstanding common stock. The participation interests are
non-transferable; therefore, a market for the participation interests will not
develop. The proceeds from sale of the participation interests represent the
participants' contributions to the plan which are used to purchase the common
stock and are not placed into escrow pending purchase of the common stock. Other
than a $5.00 annual service fee per participant and a $1.25 monthly transaction
fee per participant, we do not receive any proceeds from the purchase of the
common stock by the plan. The offering price of each participation interest is
$1.00. Each participating distributor is required initially to purchase a
minimum of 25 participation interests upon electing to participate in the plan.
The registration statement became effective February 19, 1999 under the
Securities Act of 1933, as amended.
AMERICAN STOCK EXCHANGE. Our common stock and publicly-held warrants were
approved for listing on the American Stock Exchange and began trading under the
symbol AMM on June 15, 1999.
RESULTS OF OPERATIONS
The following table sets forth, as a percentage of our net sales, selected
results of operations for the three months and the nine months ended September
30, 1999 and 1998. The selected results of operations are derived from our
unaudited condensed consolidated financial statements. The results of operations
for the periods presented are not necessarily indicative of our future
operations.
<TABLE>
<CAPTION>
For the Three Months Ended
September 30,
---------------------------------------------------
1999 1998
----------------------- -------------------------
AMOUNT PERCENT AMOUNT PERCENT
---------- ------- ---------- -------
<S> <C> <C> <C> <C>
Net sales ..................... $6,223,895 100.0% $3,630,912 100.0%
---------- ----- ---------- -----
Cost of sales:
Commissions and bonuses .... 2,696,538 43.3 1,468,286 40.4
Cost of products ........... 1,367,493 22.0 899,610 24.8
Cost of shipping ........... 234,293 3.8 104,643 2.9
---------- ----- ---------- -----
Total cost of sales ...... 4,298,324 69.1 2,472,539 68.1
---------- ----- ---------- -----
Gross profit ............... 1,925,571 30.9 1,158,373 31.9
Marketing, distribution and
administrative expenses .... 1,362,277 21.8 920,407 25.3
---------- ----- ---------- -----
Income from operations ..... 563,294 9.1 237,966 6.6
Other income (expense):
Interest, net ................. 75,993 1.2 74,273 2.0
Other income (expense) ........ - 0.0 (1,238) 0.0
Settlement of additional tax
liability ................. - 0.0 (421,623) (11.6)
---------- ----- ---------- -----
Total other income (expense) 75,993 1.2 (348,588) (9.6)
---------- ----- ---------- -----
Income (loss) before taxes .... 639,287 10.3 (110,622) (3.0)
Tax expense (benefit) ......... 242,673 3.9 (42,275) (1.2)
---------- ----- ---------- -----
Net income (loss) ............. $ 396,614 6.4% $ (68,347) (1.8)%
---------- ----- ---------- -----
---------- ----- ---------- -----
</TABLE>
<TABLE>
<CAPTION>
For the Nine Months Ended
September 30,
---------------------------------------------------
1999 1998
------------------------ ------------------------
AMOUNT PERCENT AMOUNT PERCENT
----------- ------- ---------- -------
<S> <C> <C> <C> <C>
Net sales ..................... $16,150,491 100.0% $9,500,936 100.0%
----------- ----- ---------- -----
Cost of sales:
Commissions and bonuses .... 6,880,236 42.6 3,815,454 40.2
Cost of products ........... 3,733,546 23.1 2,151,645 22.6
Cost of shipping ........... 536,242 3.3 296,676 3.1
----------- ----- ---------- -----
Total cost of sales ...... 11,150,024 69.0 6,263,775 65.9
----------- ----- ---------- -----
Gross profit ............... 5,000,467 31.0 3,237,161 34.1
Marketing, distribution and
administrative expenses .... 3,725,489 23.1 2,671,332 28.1
----------- ----- ---------- -----
Income from operations ..... 1,274,978 7.9 565,829 6.0
Other income (expense):
Interest, net ................. 228,765 1.4 213,509 2.2
Other income (expense) ........ - 0.0 39,482 0.4
Settlement of additional tax
liability ................. - 0.0 (421,623) (4.4)
----------- ----- ---------- -----
Total other income (expense) 228,765 1.4 (168,632) (1.8)
----------- ----- ---------- -----
Income (loss) before taxes .... 1,503,743 9.3 397,197 4.2
Tax expense (benefit) ......... 533,683 3.3 150,776 1.6
----------- ----- ---------- -----
Net income (loss) ............. $ 970,060 6.0% $ 246,421 2.6%
----------- ----- ---------- -----
----------- ----- ---------- -----
</TABLE>
During the three months and nine months ended September 30, 1999 and 1998, we
experienced increases in net sales compared to the preceding year. The
increases were principally the result of expansion of our network of
independent distributors and increased sales of our weight management,
dietary supplement and personal care products. We expect to continue to
expand our network of independent distributors, which may result in increased
Page 15
<PAGE>
sales volume. However, there is no assurance that increased sales volume will
be achieved through expansion of our network of independent distributors, or
that, if sales volume increases, we will realize increased profitability.
COMPARISON OF THE THREE MONTH PERIODS ENDED SEPTEMBER 30, 1999 AND 1998
Our net sales during the three months ended September 30, 1999, increased by
$2,592,983, or 71.4%, to $6,223,895 from $3,630,912 during the three months
ended September 30, 1998. The increase was principally attributable to expansion
of our network of independent distributors and increased sales of our weight
management, dietary supplement and personal care products. During the three
months ended September 30, 1999, we made aggregate net sales of $6,099,771 to
35,824 distributors, compared to aggregate net sales during the same period in
1998 of $3,582,049 to 19,480 distributors. At September 30, 1999, we had
approximately 54,226 "active" distributors compared to approximately 30,400 at
September 30, 1998. A distributor is considered "active" if he or she has
purchased $50 or more of our product during the previous 12 months. Sales per
distributor per month decreased from $61 to $57 for the three months ended
September 30, 1999, compared to the same period in 1998.
Our cost of sales during the three months ended September 30, 1999, increased by
$1,825,785, or 73.8%, to $4,298,324 from $2,472,539 during the same period in
1998. This increase was attributable to
- - an increase of $1,228,252 in distributor commissions and bonuses due to
the increased level of sales and increased promotions,
- - an increase of $467,883 in the cost of products sold due to the
increased level of sales and
- - an increase of $129,650 in shipping costs due to the increased level of
sales and the effect of our modified pricing structure.
Effective April 1, 1999, we modified our pricing structure to include shipping
costs in our product prices. Previously shipping costs had been calculated
separately on each order and we reported shipping costs net of these payments.
Because our shipping costs are no longer reported net of the separately
collected shipping reimbursement, our shipping cost as a percentage of sales
appears to have increased. Total cost of sales, as a percentage of net sales
increased to 69.1% during the three months ended September 30, 1999, from 68.1%
during the same period in 1998 due to an increase in distributor commissions and
bonuses as a percentage of net sales to 43.3 % from 40.4%, a decrease in cost of
products sold to 22.0% of net sales from 24.8% and an increase in cost of
shipping to 3.8% of net sales from 2.9%. During periods of growth, we anticipate
continuing to offer promotions to distributors to increase sales and their
income from time to time, which if successful will result in increases in
distributor commissions and bonuses and temporary increases in cost of sales.
Our gross profit increased $767,198, or 66.2%, to $1,925,571 for the three
months ended September 30, 1999 from $1,158,373 for the same period in 1998. The
gross profit decreased as a percentage of net sales to 30.9% of net sales from
31.9%. The decrease in our gross profit margin resulted from the increase in our
cost of sales as a percentage of net sales.
Marketing, distribution and administrative expenses increased $441,870, or
48.0%, to $1,362,277 during the three months ended September 30, 1999, from
$920,407 during the same period in 1998. This increase was attributable to
expansion of our administrative infra-structure necessary to support increased
levels of sales and increased promotional expense designed to increase sales.
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, bank card service charges and
supplies. The marketing, distribution and administrative expenses as a
percentage of net sales decreased to 21.9% during the three months ended
September 30, 1999, from 25.3% during the same period in 1998 due to the
increased level of sales.
Our other income (expense) increased by $424,581, or 121.8% to $75,993 during
the three months ended September 30, 1999, from a loss of $(348,588) during the
same period in 1998. This increase was primarily attributable to the one-time
expense in 1998 of the settlement of additional tax liability of $421,623
($256,300 net
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<PAGE>
of related tax effect). During 1998, in an effort to facilitate the growth of
our distributor network, we voluntarily began contacting all of the state tax
authorities to enter into agreements with them where we would assume the
responsibility for collecting and remitting sales and use taxes on behalf of
our independent distributors. Certain states had requirements which resulted
in an additional tax liability for us as a condition of entering into the
agreement. We believe the liability was a one-time nonrecurring charge and
will have no further adverse impact on our future results of operations
because the ongoing collection and remittance of sales and use tax represents
neither additional income nor additional expense to us but instead is a pass
through item with no income statement effect.
Our income before taxes increased $749,909 to $639,287 during the three months
ended September 30, 1999, from a loss of $(110,622) during the same period in
1998. This increase was primarily the result of
- - the increased level of sales,
- - the decrease in marketing, distribution and administrative expenses as
a percentage of net sales and
- - the increase in other income due to the one-time expense of the
settlement of additional tax liability of $421,623 ($256,300 net of the
related tax effect) taken in 1998.
Income before taxes increased as a percentage of net sales to 10.3% from a loss
of (3.0)% during the three months ended September 30, 1999 and 1998,
respectively. Income taxes during the three months ended September 30, 1999 were
$242,673 compared to a tax (benefit) of $(42,275) during the same period in
1998.
Our net income increased $464,961 to $396,614 during the three months ended
September 30, 1999, from a loss of $(68,347) during the same period in 1998. Net
income as a percentage of net sales increased to 6.4% during the three months
ended September 30, 1999, from a loss of (1.8)% during the same period in 1998.
COMPARISON OF THE NINE MONTH PERIODS ENDED SEPTEMBER 30, 1999 AND 1998
Our net sales during the nine months ended September 30, 1999, increased by
$6,649,555, or 70.0%, to $16,150,491 from $9,500,936 during the nine months
ended September 30, 1998. The increase was principally attributable to expansion
of our network of independent distributors and increased sales of our weight
management, dietary supplement and personal care products. During the nine
months ended September 30, 1999, we made aggregate net sales of $15,959,949 to
50,450 distributors, compared to aggregate net sales during the same period in
1998 of $9,392,614 to 26,483 distributors. Sales per distributor per month
decreased from $39 to $35 for the nine months ended September 30, 1999, compared
to the same period in 1998.
Our cost of sales during the nine months ended September 30, 1999, increased by
$4,886,249, or 78.0%, to $11,150,024 from $6,263,775 during the same period in
1998. This increase was attributable to
- - an increase of $3,064,782 in distributor commissions and bonuses due to
the increased level of sales and increased promotions,
- - an increase of $1,581,901 in the cost of products sold due to the
increased level of sales and the addition of new products and marketing
tools and
- - an increase of $239,566 in shipping costs due to the increased level of
sales and the effect of our modified pricing structure.
Effective April 1, 1999, we modified our pricing structure to include
shipping costs in our product prices. Previously shipping costs had been
calculated separately on each order and we reported shipping costs net of
these payments. Because our shipping costs are no longer reported net of the
separately collected shipping reimbursement our shipping cost as a percentage
of sales appears to have increased. Total cost of sales, as a percentage of
net sales, increased to 69.0% during the nine months ended September 30,
1999, from 65.9% during the same period in 1998 due to an increase in
distributor commissions and bonuses as a percentage of net sales to
Page 17
<PAGE>
42.6% from 40.2%, an increase in cost of products sold to 23.1% of net sales
from 22.6%, and an increase in cost of shipping to 3.3% of net sales from
3.1%. During periods of growth, we anticipate continuing to offer promotions
to distributors to increase sales and their income from time to time, which
if successful will result in increases in distributor commissions and bonuses
and temporary increases in cost of sales.
Our gross profit increased $1,763,306, or 54.5%, to $5,000,467 for the nine
months ended September 30, 1999 from $3,237,161 for the same period in 1998. The
gross profit decreased as a percentage of net sales to 31.0% of net sales from
34.1%. The decrease in our gross profit margin resulted from the increase in
cost of sales as a percentage of net sales.
Marketing, distribution and administrative expenses increased $1,054,157, or
39.5%, to $3,725,489 during the nine months ended September 30, 1999, from
$2,671,332 during the same period in 1998. This increase was attributable to our
expansion of the administrative infra-structure necessary to support increased
levels of sales and increased promotional expense designed to increase sales.
The number of our full-time employees increased to 53 during the first quarter
of 1999, 54 during the second quarter of 1999 and 49 during the third quarter of
1999 as compared to 37, 35 and 47, respectively during the same periods of 1998.
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, bank card service charges and
supplies. The marketing, distribution and administrative expenses as a
percentage of net sales decreased to 23.1% during the nine months ended
September 30, 1999, from 28.1% during the same period in 1998 due to the
increased level of sales.
Our other income (expense) increased by $397,397 to $228,765 during the nine
months ended September 30, 1999, from a loss of $(168,632) during the same
period in 1998. This increase was primarily attributable to the one-time expense
in 1998 of the settlement of additional tax liability of $421,623 ($256,300 net
of related tax effect). During 1998, in an effort to facilitate the growth of
our distributor network, we voluntarily began contacting all of the state tax
authorities to enter into agreements with them under which we assumed the
responsibility for collecting and remitting sales and use taxes on behalf of our
independent distributors. Certain states had requirements which resulted in an
additional tax liability as a condition of entering into the agreement. We
believe the liability was a one-time nonrecurring charge and will have no
further adverse impact on our future results of operations because the ongoing
collection and remittance of sales and use tax represents neither additional
income nor additional expense to us but instead is a pass through item with no
income statement effect.
Our income before taxes increased $1,106,546, or 278.6%, to $1,503,743 during
the nine months ended September 30, 1999, from $397,197 during the same period
in 1998. Income before taxes as a percentage of net sales was 9.3% and 4.2%
during the nine months ended September 30, 1999 and 1998. Income taxes during
the nine months ended September 30, 1999 and 1998 were $533,683 and $150,776,
respectively. Our net income increased $723,639, or 293.7%, to $970,060 during
the nine months ended September 30, 1999, from $246,421 during the same period
in 1998. This increase in net income was attributable to
- - the increased level of sales,
- - the decrease in the marketing, distribution and administrative expenses
as a percentage of net sales and
- - the increase in other income due to the one-time expense of the
settlement of additional tax liability of $421,623 ($256,300 net of the
related tax effect) taken in 1998.
Net income as a percentage of net sales increased to 6.0% during the nine months
ended September 30, 1999, from 2.6% during the same period in 1998.
SEASONALITY
No pattern of seasonal fluctuations exists due to the growth patterns that we
are currently experiencing. However, there is no assurance that we will not
become subject to seasonal fluctuations in operations.
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<PAGE>
YEAR 2000 COMPUTER SYSTEM COMPLIANCE
We have two primary computer systems both of which were developed employing
six digit date structures. Where date logic requires the year 2000 or beyond,
such structures may produce inaccurate results. We have 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 by December 10, 1999 at which time our computer
systems are expected to be year 2000 compliant.
We have evaluated our in-house supported IT systems and have identified certain
internally written IT system programs that have date dependent calculations or
operations that are affected by this six digit date structure. Our
vendor-supported IT system has been updated and certified year 2000 compliant by
the vendor. Non-IT systems including all personal computers were evaluated by a
third party contractor and have been updated and certified year 2000 compliant.
Our risks associated with the year 2000 are mainly our ability to communicate
with our distributors, take orders for and ship products and pay our employees,
distributors and vendors. Although our evaluation is complete and vendor
certifications have been obtained, a failure of our computer systems or other
support systems to function adequately with respect to year 2000 issues could
have a material adverse effect on our operations. Based on progress to date and
the limited instances of date sensitive calculations, we have concluded that
there is no need for a contingency plan therefore such plan has not been
developed. We estimate that the total cost of our program to make our computer
systems year 2000 compliant is less than $25,000. However, we have not obtained
independent verification or validation to assure the reliability of our cost
estimate.
We have contacted our major suppliers and they have assured us that their
systems are compliant or will be year 2000 compliant on a timely basis. In the
event we experience product unavailability or supply interruptions due to year
2000 non-compliance by our suppliers, we believe that we will be able to obtain
alternative sources of our products. A significant delay or reduction in
availability of products, however, could also have a material adverse effect on
our operations.
COMMITMENTS AND CONTINGENCIES
RECENT REGULATORY DEVELOPMENTS - A significant portion of our net sales
continues to be dependent upon our AM-300 product. Our net sales of AM-300
represented 65.9% and 45.3% of net sales for the nine months ended September
30, 1999 and 1998, 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. Currently, we offer
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 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 our product). On June 4, 1997, the Food and Drug Administration proposed
regulations which will, if adopted as proposed, significantly limit our
ability to sell AM-300 and any other weight management products which contain
ephedra or ephedrine. The proposed regulations were subject to comment until
December 2, 1997. The proposed regulations will become effective 180 days
following their issuance as final regulations. Several trade organizations in
the dietary supplement industry have commented on the proposed regulations,
requesting substantial modifications. It is probable that the Food and Drug
Administration will make material changes to the proposed regulations prior
to adoption. Relatedly, the United States General Accounting Office recently
issued a report dated July 2, 1999 to a committee of the U.S. House of
Representatives that casts substantial doubt on certain provisions of the
Food and Drug Administration's proposed regulations on dietary supplements
which contain ephedrine alkaloids. We do not know the effect such report will
have on the proposed regulations. There is a risk that our AM-300 product may
become subject to further federal, state, local or foreign laws or
regulations. These regulations could require us to (i) withdraw or
reformulate our AM-300 product with reduced ephedrine levels or with a
substitute for ephedra or ephedrine, (ii) relabel our product with different
warnings or revised directions for use, or (iii) not make certain statements,
possibly including weight loss claims, with respect to any product containing
ephedra or ephedrine. Even in the absence of further laws or regulation, we
may elect to reformulate or relabel our AM-300 product containing ephedra or
ephedrine. While we believe that our AM-300 product could be
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reformulated and relabeled, there is no assurance that such reformulation and
relabeling will not adversely affect our sales. Consequently, management is
unable at the present time to predict the ultimate resolution of these
issues, nor their ultimate impact on the Company's results of operation or
financial position.
PRODUCT LIABILITY - We, like other marketers of products that are intended to be
ingested, face the inherent risk of exposure to product liability claims in the
event that the use of our products results in injury. We maintain product
liability insurance coverage with limits of $4,000,000 per occurrence and
$5,000,000 aggregate. We generally do not obtain contractual indemnification
from our product manufacturers. However, all of our product manufacturers carry
product liability insurance which covers our products. We have 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 us. We also
have agreed to indemnify Chemins against claims arising from claims made by our
distributors for products manufactured by Chemins and marketed by us. Although a
product liability claim has not been asserted against us, such claims could
result in material losses.
CHOC-QUILIZER AGREEMENT - In the event we fail to achieve the required
contractual sales volumes provided for in the marketing agreement with Tinos,
LLC, we will need to either renegotiate the marketing agreement or give up our
rights to market Choc-Quilizer. We do not believe that loss of the marketing
rights to Choc-Quilizer will have a material adverse effect on our results of
operations, financial condition or liquidity.
LIQUIDITY AND CAPITAL RESOURCES
Prior to completion of the offerings described above, our primary source of
liquidity was net cash provided by operating activities and shareholder loans.
We do not have any arrangements for significant bank or institutional lending.
At September 30, 1999, we had working capital of $3,431,724, compared to
$5,823,182 at December 31, 1998. We believe our cash and cash equivalents and
cash flows from operations will be sufficient to fund our working capital needs
over the next 12 months. During the nine months ended September 30, 1999, net
cash provided by operating activities was $2,146,613, net cash used in investing
activities was $4,791,669 and net cash used in financing activities was
$195,496. This represented an average monthly positive cash flow from operating
activities of $238,513. We had a net decrease in cash during this period of
$2,840,552, primarily as a result of our purchase of certain marketable
securities for investment purposes. Our working capital needs over the next 12
months consist primarily of marketing, distribution and administrative expenses.
During the third quarter of 1999 we began purchasing marketable debt and equity
securities. As of September 30, 1999, we had purchased $4,011,081 in securities.
These securities have been classified as $2,009,391 in available for sale
securities and $2,001,690 in held to maturity securities. We have the intent and
ability to hold to maturity our investment in securities classified as held to
maturity.
On March 4, 1998, we announced our intent to repurchase up to $1 million of our
common stock in the open market for cash. As of December 31, 1998, we had
repurchased 134,500 shares of our common stock for $377,871 for an average per
share price of $2.81. We ceased making repurchases and the last repurchase was
made December 31, 1998.
During the first quarter of 1998, we agreed to loan John W. Hail, our Chief
Executive Officer and a major shareholder, up to $250,000. Subsequently we
also agreed to loan up to an additional $75,000. These loans are secured,
bear interest at 8% per annum and became due on March 31, 1999. The loans
have been extended until March 31, 2000. As of September 30, 1999, the
balance due on these loans was $298,004 plus interest. The loans and
extension were unanimously approved by our board of directors.
On November 12, 1997, we sold 1,495,000 shares of our common stock and
1,495,000 redeemable common stock purchase warrants in units consisting of
one share of stock and one warrant from which we received gross proceeds of
$6,050,000. Accumulated offering costs of approximately $720,000 were charged
against the proceeds of this
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<PAGE>
offering. These warrants are exercisable to purchase one share of our common
stock on or before November 6, 2002 for $3.40. In connection with the
offering, we sold to Paulson Investment Company, Inc. and Joseph Charles &
Assoc., Inc., the representatives of the underwriters of this offering,
warrants exercisable for the purchase of 130,000 units for $5.40 each on or
before November 12, 2002.
On January 31, 1997, we distributed, at no cost, 2,148,191 non-transferable
rights to our shareholders of record on such date. Each of the rights entitled
the holder to purchase one unit (consisting of one share of our common stock and
one 1997-A warrant) on or before March 17, 1997 for $6.80 per unit.
Concurrently, we also redeemed our outstanding class A and class B common stock
purchase warrants for $.0008 per warrant effective on March 17, 1997. In
connection with the warrant redemption, we modified the terms of the warrants
and offered to holders the right to exercise each of the warrants for the
purchase of one unit, at an exercise price of $6.00 per unit. We received
$2,154,357 proceeds from sale of the units pursuant to the offerings.
Accumulated offering costs of $323,076 were charged against these proceeds.
Pursuant to the offerings, we issued 337,211 shares of our common stock and
337,211 1997-A warrants. Each 1997-A warrant is exercisable for the purchase of
one share of our common stock for $3.40 on or before November 6, 2002.
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<PAGE>
PART II. OTHER INFORMATION
- -------------------------------------------------------------------------------
Item 1. LEGAL PROCEEDINGS
None
Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None
Item 3. DEFAULTS UPON SENIOR SECURITIES
None
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On July 16, 1999, we held our 1999 Annual Meeting of stockholders at
which the matters set forth below were considered and voted upon. Set forth
below is a summary of the voting results:
1. Election of one (1) Class I Director to our Board of Directors to serve
a three-year term ending in the year 2002 or until his successor is
duly elected and qualified:
DIRECTOR NOMINEE VOTES FOR AGAINST ABSTAIN
Harland C. Stonecipher 2,809,988 10,698 7,093
Following the Annual Meeting John W. Hail, Roger P. Baresel, and R.
Terren Dunlap, continued to serve as Directors, along with Harland C.
Stonecipher.
2. Ratification and appointment of Deloitte & Touche LLP as the Company's
independent auditor for the fiscal year ending December 31, 1999.
VOTES FOR AGAINST ABSTAIN
2,813,930 5,025 8,824
Item 5. OTHER INFORMATION
None
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
None
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<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
REGISTRANT:
ADVANTAGE MARKETING SYSTEMS, INC.
Date: November 15, 1999 By: /S/ ROGER P. BARESEL
--------------------
Roger P. Baresel, President, Chief
Financial and Accounting Officer
Page 23
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<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JUL-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 2,448,665
<SECURITIES> 3,977,837
<RECEIVABLES> 860,366
<ALLOWANCES> 83,713
<INVENTORY> 629,126
<CURRENT-ASSETS> 4,922,715
<PP&E> 2,475,711
<DEPRECIATION> 861,331
<TOTAL-ASSETS> 11,834,571
<CURRENT-LIABILITIES> 1,490,991
<BONDS> 0
0
0
<COMMON> 428
<OTHER-SE> 10,211,600
<TOTAL-LIABILITY-AND-EQUITY> 11,834,571
<SALES> 6,223,895
<TOTAL-REVENUES> 6,303,012
<CGS> 4,298,324
<TOTAL-COSTS> 5,660,601
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<INTEREST-EXPENSE> 3,124
<INCOME-PRETAX> 639,287
<INCOME-TAX> 242,673
<INCOME-CONTINUING> 396,614
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