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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [FEE REQUIRED]
For the Fiscal Year Ended JUNE 30, 1997
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from to
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Commission File Number 0-13304
CHANTAL PHARMACEUTICAL CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 22-2276346
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
12901 W. JEFFERSON BOULEVARD, LOS ANGELES, CALIFORNIA 90066
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (310) 574-5588
Securities registered pursuant to Section 12(b) of the Act
NONE
Securities registered pursuant to Section 12(g) of the Act
COMMON STOCK, $.01 PAR VALUE
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding twelve (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
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]
The aggregate market value of the voting stock held by non-affiliates of the
registrant was approximately $8,037,000 as of September 26, 1997.
The number of shares of Common Stock, $.01 par value, outstanding as of
September 26, 1997 was 21,120,843.
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SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS
Certain statements in this Annual Report on Form 10-K, particularly under Items
1 through 8, constitute "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933 and section 21E of the Securities
Exchange Act of 1934. Such forward-looking statements involve known and unknown
risks, uncertainties, and other factors which may cause the actual results,
performance, or achievements of the Company to be materially different from any
future results, performance or achievements, expressed or implied by such
forward-looking statements.
Specifically with respect to statements regarding the marketing and distribution
of Chantal Skin Care products, additional risks, uncertainties, and other
factors include, among others, lower than expected consumer acceptance of the
Company's products; introduction of competitive products; market acceptance,
including by retailers, of the Company's advertising campaign and promotional
activities; the availability of sale space within the ultimate retailer; and
negative publicity which reflects on the Company as a whole or its products.
With respect to statements regarding the marketing and distribution of Chantal
Skin Care products in territories other than the United States, additional
risks, uncertainties, and other factors include, among others, executing
agreements with distributors, implementation by the Company or its distributor
of marketing and distribution programs, compliance with applicable regulatory
requirements of each country, lower than expected consumer acceptance of the
Company's products, and adverse changes in the economic or political conditions
in the respective countries.
With respect to future development of the Company's compounds, such additional
risks, uncertainties, and other factors include, among others, the process of
obtaining FDA or other regulatory approval to market pharmaceutical products,
the regulatory approval process can be lengthy and there is no assurance that
any such approval will ever be obtained, the Company will be competing with
large pharmaceutical companies which have substantially greater research,
development, marketing, financial and personnel resources, and the Company has
been primarily involved in the research and development of its compounds and has
limited marketing experience.
With respect to all statements regarding the Company's future operations,
additional risks, uncertainties, and other factors include, among others, that
the independent certified public accountants have expressed in their opinion on
the Company's financial statements as of and for the year ended June 30, 1997
that the Company has suffered recurring losses from operations and has a working
capital deficiency that raises substantial doubt about its ability to continue
as a going concern.
PART I
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ITEM 1. BUSINESS
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GENERAL
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Chantal Pharmaceutical Corporation and its subsidiaries (the "Company") is
primarily engaged in the research, development and marketing of innovative
compounds for use as dermatological and skin care consumer products. The
Company's current strategy is to focus, initially through the marketing of its
novel Ethocyn cosmetic ingredient, on becoming an integrated cosmetic and skin
care company. Ethocyn, one of three principal patented compounds for which the
Company has exclusive manufacturing and distribution rights, is presently being
marketed by the Company as a unique cosmetic product which helps improve the
appearance of aged skin. The Company operates in one industry segment, the
development and marketing of cosmetic and skin care products.
Cyoctol and Metcyclor are the Company's two other principal patented
compounds. Cyoctol is a non-steroidal, anti-androgen which is in various stages
of clinical trials for the treatment of certain androgen mediated disorders,
such as acne, male pattern baldness and keloids (excessive scarring). Metcyclor
is in final stages of pre-clinical development for the treatment of certain
cancers. The Company currently intends to continue the development of these
ethical compounds on a limited basis. The Company expects that future cash
flows from the sale of the Ethocyn-based cosmetic products will contribute to
future funding of the development of these compounds.
In July 1995, the Company, in conjunction with its U.S. distributor,
launched its nationwide retail marketing program for the Chantal Ethocyn-based
skin care cosmetic products. Its U.S. Ethocyn product advertising program
consists of thirty- and sixty-second television advertisements that feature
either individuals who have used the products on only one-half of their faces or
celebrity spokespersons who have used the products for at least 60 days. The
Company also expects to introduce a new television advertisement campaign in the
second half of calendar 1997. The Company advertises in national magazines as
well as other print
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advertising in cooperation with the advertising programs of the Company's U.S.
retailers. The advertising is generally targeted to men and women over 35 years
of age, the portion of the population that the Company believes are most
benefited by use of the Company's products. The Company's products are currently
being sold in pharmacies, chain drug stores and dermatologist offices across the
United States and Canada.
The Company is also currently negotiating with foreign distribution outlets
for Ethocyn-based product marketing and distribution throughout the world,
including Europe and the Pacific Rim. A special licensing agreement with the
Michilan Company in Taipei, Taiwan allows Chantal Ethocyn Skin Care products to
be available to consumers in China, Hong Kong, Macao and Taiwan. The first
revenue was realized from a shipment to Michilan in December 1996. In Europe,
Chantal is currently test marketing for product positioning.
Unless the context otherwise requires, the term "Company" refers to Chantal
Pharmaceutical Corporation and its subsidiaries, generally, and specifically
with respect to discussions of Ethocyn, Chantal Skin Care Corporation. The
Company's executive offices are located at 12901 W. Jefferson Boulevard, Los
Angeles, California 90066, and its telephone number is (310) 574-5588.
For definitions of certain technical terms, see the Glossary which appears
at the end of this Item.
ETHOCYN-BASED CHANTAL SKIN CARE PRODUCTS
Ethocyn is the Company's proprietary cosmetic ingredient compound for use
in skin care products to help modify certain components of skin aging. The
Company believes, based on preliminary in vitro and clinical efficacy tests
conducted, that Ethocyn helps to modulate skin tone, texture, resiliency and
elasticity. The Company currently markets nine skin care products through
direct response marketing and its U.S. distributor to physicians and pharmacies
in North America and Canada.
The Company has conducted extensive pre-clinical efficacy and safety
testing of Ethocyn in conformance with those standards and requisite for filing
an IND application with the FDA (see "Government Regulations"). As a means of
obtaining dose response, efficacy and marketing data, the Company in 1985 began
selling, on a limited and controlled basis, a proprietary line of cosmetic
products with Ethocyn as the active ingredient. Microscopic skin replica
topography analysis efficacy data was obtained from this limited retail store
consumer based population between 1985 and 1988. In 1988, the Company filed its
Ethocyn IND application and received FDA approval to conduct Phase II clinical
trials to evaluate Ethocyn as a potential skin aging, and elastin fiber
increasing therapeutic treatment product. The Company believes that its
marketing capabilities with respect to the cosmetic skin care treatment line may
ultimately be enhanced if FDA market approval for Ethocyn is received, since the
Company would then, should FDA approval be granted, be able to make medical
treatment claims in its advertising and promotional campaigns with respect to
the use of these products as a skin anti-aging therapy. The Company has not
conducted any Ethocyn drug studies under the Ethocyn IND and no assurance can be
given that such studies will be undertaken in the future. Double blind placebo
controlled studies which have been undertaken were, and continue to be,
conducted as cosmetic studies.
The first results of an Ethocyn cosmetic clinical trial were presented on
August 2, 1994 at the 43/rd/ American Academy of Dermatology in San Francisco by
Dr. Richard Strick, Clinical Professor of Dermatology at UCLA Medical Center.
The results presented were of the six month study he conducted on Ethocyn at a
0.5% concentration. Dr. Strick reported a statistically significant (P=.005)
increase in elastin fiber production at two months in the patients participating
in the study based on a computer analysis of microscopic slides of skin biopsies
of the study's 20 patients before, during and after use of a topical solution
containing Ethocyn. Dr. Strick reported that, on average, patients' skin
elastin content increased 100%; while patients with initial low skin elastin
fiber content realized increases ranging from 200% to over 500%.
In January 1995, Dr. Strick completed a second 30-patient trial using the
same 0.5% concentration in the Chantal Ethocyn Essence Vials' formulation
presently for sale to consumers at large. This study further validated the
results of the first study that patients' skin elastin content increased 100% on
average at 60 days (P=.001) and further showed that patients' skin elastin
increased 50% on average as early as at 30 days. The second study also reported
that patients' elastin levels decreased back to pretreatment use levels if
Ethocyn use was not continued.
Commercially available Chantal Skin Treatment Products include the
Company's feature product, as tested in Dr. Strick's second clinical trial, a
0.46 oz. Two Vial Ethocyn Essence Kit, a 6.7 oz. Gel Cleanser, a 2.0 oz.
Ethocyn Hydrating Complex moisturizer, a 0.5 oz. Ethocyn Eye Cream, a 2.0 oz.
Revitalizing Masque, a 6.7 oz. Ethocyn Hand and Body Moisturizer, a 6.0 oz.
Ethocyn Total Body Satinee, a 6.0 oz. Ethocyn Total Body Mist and a 6.0 oz.
Ethocyn Safe Sun Treatment. Additionally, numerous other retailers specific
Ethocyn product configurations are available, including an "Introductory
Treatment Collection" consisting of four of the products is available to
consumers for $100.00, which four products if purchased individually would cost
the consumer $180.00.
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The Company markets these products through its direct response telemarketing
operators, The Home Shopping Network and through its U.S. distributor to chain
drug stores and physicians offices. Distribution in foreign countries, to date,
has been through sale of the products to Company's sub-licensee distributors.
Chantal Skin Care's marketing campaign for its products has included 30
second and 60 second spot television commercials featuring three women, ages 35,
38 and 57 years respectively, who used the product either 30 days, 60 days or
120 days on half their face which began airing in September 1995. Additionally,
the Company's 1995 - 97 Ethocyn marketing campaign included a "1/2 Face
Spokesperson Model Contest" launched nationwide and in Canada; a national
magazine print adver tising campaign and public relations efforts including
editorial interviews. The Company's spokespeople have appeared across the
country in conjunction with product launches and regional half-face contest open
calls in various cities and outlets. Included in the Company's Ethocyn
promotional advertising campaigns during fiscal year 1997 have been public
appearances by a "Baywatch" television series makeup artist and hair stylist
commenting to the product's efficacy and twice a day use by numerous of the
"Baywatch" cast and crew. Television and motion picture celebrity Ethocyn
product users were the subject of several 1997 Ethocyn products advertising and
promotion campaigns, both in the U.S. and foreign markets where the product is
and will be offered for sale.
The Company entered into a marketing agreement at June 29, 1995 with
Stanson Marketing, Inc. ("Stanson") to distribute the Company's Ethocyn-based
skin care cosmetic products to physicians and pharmacies in North America. The
agreement calls for Stanson to market the Chantal Ethocyn-based skin care
cosmetic products to various retail and wholesale distribution channels, as well
as to physicians in the United States and Canada. Physicians, in turn, sell the
product to their patients. The agreement is for the life of the patents, which
will expire in 2004. The agreement also provides an option for the Company to
acquire Stanson. See "Product Development - Distribution Licensing Agreements."
On June 9, 1997, the Company announced that it had reached an agreement-in-
principle to terminate the Marketing Agreement dated June 29, 1995, as amended,
between the Company and its U.S. distributor, Stanson Marketing, Inc. Under the
terms of the proposed termination agreement, among other things, the Company
will be required to issue 1.2 million shares of Common Stock. The Company is
continuing to negotiate the final terms relating to this termination. Although
the Company believes that a negotiated termination agreement can be achieved, no
assurance can be given that the agreement in principle will be reduced to a
final agreement.
The Company has expanded Ethocyn distribution to foreign countries both
through the establishment of certain company owned subsidiaries and through
distribution sublicense agreements. See "Product Development - Distribution
Licensing Agreements."
In February 1995, the Company entered into a Pacific Rim Territory
distribution agreement with Roger Chang for the distribution and marketing of
Ethocyn based skin care products. The territory includes Taiwan, The People's
Republic of China, Hong Kong, Macao, Singapore, Malaysia, Indonesia, Vietnam,
Laos, Cambodia, Philippine Islands, Thailand and Korea. Upon the launch in
fiscal 1997, specific performance criteria included minimum quantities of
product purchased by Chang from the Company, and subsequent years' escalating
minimum quantity purchases, some specific advertising and promotional annual
expenditures, and letter of credit payment terms. In October 1996, a
sublicensing agreement was reached with Michilan International in Taipei, Taiwan
to distribute Ethocyn based skin care products in China, Hong Kong, Macao and
Taiwan.
The Company is also currently negotiating for marketing and distribution
arrangements in other non-U.S. jurisdictions.
In October 1996, the Company reached a product endorsement agreement
with David Hasselhoff, the executive producer and star of the number one
worldwide "Baywatch" and "Baywatch Nights" television series. David Hasselhoff
is the first celebrity spokesperson for the Company's proprietary Ethocyn-based
Chantal Skin Care cosmetic products. Mr. Hasselhoff will be featured in Chantal
Skin Care products' television commercials and print advertisements, as well as,
in Pan Asian and Europe calendered promotional tours and appearances.
In August 1997, the Company reached a second celebrity product endorsement
agreement with Polly Bergen, a Director and Chief Operating Officer of the
Company and a nationally recognized television and Emmy award winning actress.
Ms. Bergen is being featured as the flagship Ethocyn celebrity spokesperson on
The Home Shopping Network.
DRUG DEVELOPMENT
Historically, the Company's strategy was to conduct chemical research and
development of its proprietary pharmaceutical market compounds, perform pre-
clinical and early clinical tests necessary to establish their respective safety
and efficacy and thereafter enter into strategic alliances with major
pharmaceutical companies that would complete the clinical trials, finalize the
necessary regulatory approvals and ultimately manufacture and market products
containing the compounds. In the future, the Company intends to expand its role
in
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the development and commercialization of the compounds, including increased
participation in clinical trials, the regulatory approval process, manufacturing
and marketing, subject to the availability of funds for such activities.
RESEARCH AND DEVELOPMENT STRATEGY
The FDA and similar regulatory bodies in foreign countries require that a
drug be shown to be safe and effective in adequately controlled clinical trials
before approval is granted to commercially market such drug. Before clinical
trials may be commenced, extensive and time-consuming basic research and
development information must be produced and submitted to the FDA or similar
foreign regulatory agencies in an IND or similar application to assure the
safety of a drug compound before testing is permitted in humans.
Given the hormonal toxicity recognized to be associated with anti-androgens
developed prior to Cyoctol, the Company undertook a comprehensive approach in
designing and conducting its pre-clinical safety trials for its compounds. The
approach was in anticipation of not only obtaining FDA approval for Cyoctol's
topical therapeutic indications such as acne, male pattern baldness, keloids and
hirsutism, but also for building a basis for future development of Cyoctol for
its potential systemic (prostate cancer, benign prostate hypertrophy,
intraperitoneal adhesions) therapeutic markets. As a result, the Company has
successfully completed the majority of pre-clinical data necessary to apply for
INDs for such systemic indications in addition to those for which INDs have
already been received.
The Company has expended significant resources on over 40 separate
toxicology, pharmacology and pharmacokinetic studies, including both dermal and
oral group dosage forms. The types of safety pre-clinical tests either
completed or in stages of completion include dermal toxicology (six month rat
and monkey), oral toxicology, mutagenicity, phototoxicity, dermal sensitivity,
teratology (Segment I, II in two species), two-year oncogenicity, /14/C-labelled
Cyoctol pharmacokinetic profiles and /3/H-labelled Cyoctol percutaneous
absorption profiles, endocrinology, carcinogenicity and /14/C-labelled Cyoctol
ADME (absorption, distribution, metabolism and excretion) profiles in five
species. These studies were submitted to the FDA for evaluation before and
subsequent to Cyoctol's various IND approvals. The data generated from these
many dermal and oral safety studies support the Company's belief that Cyoctol is
a safe compound at the dose levels used in Phase II human clinical trials
conducted to date.
CYOCTOL
Cyoctol is the principal pharmaceutical compound in the Company's licensed
series of non-toxic, nonsteroidal, anti-androgen compounds known as the X-Andron
Series. In 1986, the Company received INDs to initiate human clinical trials for
Cyoctol's topical use as a treatment for acne and male pattern baldness and in
1987 received an IND to commence human clinical trials using Cyoctol as a
topical keloid scar treatment.
ACNE INDICATION Acne Vulgaris is a common dermatological condition of the
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face, chest and back, which affects individuals of all ages, including a high
proportion of the adolescent population. Cyoctol is a small (molecular weight
252) lipophilic molecule, which penetrates the skin to the dermis sebaceous
ducts and gland, which sebaceous glands sometimes produce excessive sebum oil
and keratin occlusion, the primary causes of acne. Cyoctol blocks the DHT
receptors in the cells of the sebaceous glands. Thereafter, Cyoctol is quickly
and effectively metabolized in the skin to a non-anti-androgen, non-toxic
metabolite.
Biostatisticians have advised the Company that the 6-month treatment of 200
patients in a multicenter acne trial at five U.S. medical centers may be
sufficient for a Cyoctol NDA submission to the FDA. The Company is awaiting
further revenues from the sale of Ethocyn-based cosmetic products to fund Phase
III multi-center clinical trials.
The Company has several license agreements for certain territories,
pursuant to which the licensees have similar development and regulatory market
approval commitments. None of these licensees is expected to commence marketing
of Cyoctol for the acne indication until certain Phase III clinical tests are
completed and the results analyzed.
MALE PATTERN BALDNESS INDICATION Androgenetic alopecia, or male pattern
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baldness, is the principal form of baldness, representing approximately 85% of
the baldness incidence. Since the 1950s, medical science has recognized the
primary cause of this disorder is an individual's genetic pre-disposition to
excessive DHT receptors in his or her scalp hair follicle cells. Other causes
of baldness include impaired circulation in the scalp. As in the case of acne,
Cyoctol's potential for treatment of androgenetic alopecia lies in its ability
to block DHT-DHT receptor binding.
A licensee of the Company having certain rights to market Cyoctol in
certain foreign markets has advised the Company that protocol design has been
completed for a Phase II, 120 patient, double blind, placebo controlled Cyoctol
alopecia clinical trial to be conducted at a medical center in the United
States. Upjohn's NDA approved Rogaine will be used as a positive control in
this study.
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University investigator review board approval application and patient
recruitment for this licensee-sponsored clinical study is in preparation and
awaits submission to the IRB of validated computer image techniques.
Commencement of the patient treatment phase is awaiting the design and
validation of certain computer image technology software which will enable the
clinical investigator to quantify patients' hair diameter changes during the
course of this one year clinical trial study. This is a desired end point
included in the study design and protocol for supporting a claim for Cyoctol as
a potential "treatment of alopecia" and/or "reversal of hair loss" product.
Additionally, another nine-month foreign-based 120 patient topical Cyoctol
androgenetic alopecia (male pattern baldness) clinical trial is in preparation
utilizing the same computer image analysis hair count protocol utilized in the
Cyoctol Phase II clinical trial published at the 48th Annual Meeting American
Academy of Dermatology in 1989. Upjohn's NDA approved Rogaine is a positive
control in this Cyoctol clinical trial. This study has completed the patient
recruitment phase (males 18-50 years of age) and patient treatment awaits
finalization of the investigator's computer imaging analysis technology
validation discussed above.
The Company intends, subject to available funding, to complete the clinical
and other testing as may be necessary to apply to the FDA for an NDA with
respect to the baldness indication and may pursue strategic alliances for such
development. The Company is unable to predict when the clinical trial would be
completed and when an NDA submission can take place.
In addition, the Company has several license agreements for other
territories pursuant to which the licensees have undertaken development
commitments with respect to Cyoctol for the male pattern baldness indication.
None of these licensees is expected to commence marketing of Cyoctol for the
acne indication until certain clinical tests are completed and the results are
analyzed.
KELOIDS INDICATION Keloids result from the build-up of excessive collagen
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scar tissue which typically occurs in genetically predisposed patients following
certain surgical procedures, such as appendectomies, cesarean deliveries and
plastic surgery. Keloids typically occur in areas of the body where cells with
DHT receptors exist, such as the face, hands, neck, upper back and groin areas.
According to the National Institute of Health, there are approximately 5.8
million surgical procedures performed in the United States each year in which
keloid scarring could occur. Cyoctol represents a potential preventative and
treatment for post-surgical keloids. Cyoctol also has market applications for
burn patients who frequently experience keloid scarring during the healing
process.
The Company intends to apply for an IND to conduct human clinical trials in
the United States using Cyoctol as a treatment for keloid scarring by inter-
lesion injection delivery. Scientific investigators who monitored Phase I
clinical trials believe that scar tissue may have impeded the penetration and
topical drug delivery of Cyoctol to the collagen-producing cells. The Company
has collaborated with dermatologists in the design of Phase I Cyoctol keloid
treatment by inter-lesion injection delivery protocols and implementation of
subject keloid clinical trials, subject to available funding.
The Company is currently considering various alternatives, including
license or joint development agreements with pharmaceutical companies which
market wound healing products for the commercial development of the keloids
indication for Cyoctol.
OTHER POTENTIAL INDICATIONS FOR CYOCTOL In addition to the foregoing
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indications, the Company has also conducted research evaluating Cyoctol as a
treatment for certain other androgen-mediated disorders in various therapeutic
fields, including ophthalmology, urology, obstetrics, gynecology and infectious
disease. Preliminary research indicates that Cyoctol may have other medical,
industrial and agricultural applications.
METCYCLOR
The Company has developed the Metcyclor family of compounds. In vitro
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(biopsied human cancer tumors) and in vivo (animal) tests conducted to date have
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shown Metcyclor to be a cancericidal compound with respect to certain cancers,
including renal, colon, breast, ovarian and prostate cancer. Such tests have
also indicated that Metcyclor effects a reduction in the size of tumors. Cancer
is a family of related diseases that take many different forms and attack
different parts of the body. The disease is generally characterized by the
growth and spread of malignant tumors or by the proliferation of cancerous cells
in blood or bone marrow. Of the three most common methods of treating cancer --
surgery, radiation and chemical therapy -- Metcyclor will constitute a form of
chemical therapy.
Due to the limited resources, during the third quarter of fiscal 1993, the
Company suspended its efforts to develop Metcyclor. In keeping with the
Company's strategy of focusing on becoming an integrated cosmetic and skin care
company, the
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Company intends to pursue future Metcyclor development via strategic alliances
with other companies, including joint ventures, joint development, license
agreements, or limited partnership financing, or a combination of the foregoing.
SUPPLIES
The Company has access, through several trade sources, to the raw
materials, synthetic expertise and contract facilities necessary to produce its
proprietary compounds as well as its formulated products.
RESEARCH AND DEVELOPMENT ACTIVITIES
The chemical research and production of the Company's compounds has been
principally performed by the Company's staff. The laboratory research
activities include synthesis of the Company's compounds, isolation and
identification of these respective compounds' isomers, quality assurance and
quality control testing of all laboratory materials. The Company's research and
development activities since August 1994 have been primarily focused on the
development of the Company's Ethocyn-based skin care products. Expenditures for
research and development were approximately $162,000, $1,032,000 and $639,000 in
fiscal 1997, 1996, and 1995, respectively.
The Company intends to focus its near-term, subject to Ethocyn revenues
and/or strategic alliance agreements, future research and development activities
on dermatology and skin care product development and marketing activities,
extending the Company's compounds' patent life and optimizing its compounds'
dose related efficacy profiles through isomer and analog research. It is
anticipated that Ethocyn, Cyoctol and Metcyclor production, and quality
assurance and quality control of the compounds will continue at the Company's
laboratory in Germany as well as scale up synthetic contract laboratories, on an
as needed basis, and that the safety and efficacy studies have been, and will
continue to be, primarily conducted by independent contract laboratories. The
extent to which these activities are pursued is subject to available funding, of
which there can be no assurance.
PRODUCT DEVELOPMENT - DISTRIBUTION AND LICENSING AGREEMENTS
Cyto Skin Care (Chantal Skin Care). On March 15, 1994, the Company entered
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into a License agreement (the "License") with Cyto Skin Care Corporation ("Cyto
Skin Care"), an unrelated company, in which the Company sublicensed to Cyto Skin
Care all of the rights to distribute and sell Ethocyn-based cosmetics and skin
care products (i.e. non-pharmaceutical products) in the United States, Canada,
Mexico and the Caribbean. Cyto Skin Care issued to the Company in consideration
for the License, 10,910,812 shares of its common stock, which shares constituted
approximately 82.7% of Cyto Skin Care's then outstanding shares of common stock
after giving effect to their issuance. Under the License, Cyto Skin Care was
obligated to use its best efforts to expeditiously launch the marketing and sale
of Ethocyn-based cosmetic skin care products by September 30, 1994, but in no
event later than December 31, 1994. The launch was effected in August 1994 by
direct response telemarketing. The License is terminable at the option of the
Company if during the term of the License Cyto Skin Care does not achieve sales
of the Chantal Skin Care product line of at least $5,000,000 in the initial nine
months following execution of the License; $20,000,000 during calendar 1995; and
$50,000,000 in calendar 1996. In August 1994, Cyto Skin Care changed its name
to Chantal Skin Care Corporation ("Chantal Skin Care"). On June 16, 1995, the
Company accepted for exchange of its common stock, 1,780,000 shares of the
outstanding Chantal Skin Care shares. Accordingly, the Company now owns
12,690,812 shares of common stock of Chantal Skin Care or 90% of the outstanding
Chantal Skin Care shares. Although Chantal Skin Care did not achieve the
requisite product sales, the Company does not intend to exercise its termination
rights.
SIG Corporation. In August 1989, the Company entered into a research,
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development and distribution agreement with a group of private investors
pursuant to which the investors were granted the exclusive right to manufacture
and distribute products containing Ethocyn and its patent related compounds for
skin anti-aging therapeutic indications, including the Company's line of
cosmetic products, on a worldwide basis, excluding the United States, Canada,
Mexico and the Caribbean. The investors, in July 1990, assigned their rights
under the agreement to SIG Investment Group Establishment ("SIG"), a newly
formed corporation. Pursuant to the agreement, SIG paid for certain Ethocyn
pre-clinical and clinical development costs associated with obtaining FDA
approval in the United States, in accordance with a contractually defined
development program and timetable. The agreement called for SIG to purchase
Ethocyn-containing formulated products from the Company at certain specified
prices which is in excess of anticipated cost and pay to the Company upon
distribution of such products a specified royalty on net sales, should any such
sales occur.
On January 17, 1994, prior to the transaction between the Company and Cyto
Skin Care, a then unrelated principal stockholder of Cyto Skin Care entered into
an agreement (the "SIG-CSCC Agreement") with SIG, to acquire for Cyto Skin Care
from SIG the worldwide (except for the United States, Canada, Mexico, the
Caribbean, the Middle East, Russia, China and Hong Kong) rights held by SIG to
distribute Chantal Ethocyn skin treatment products.
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Pursuant to SIG-CSCC Agreement, Cyto Skin Care was obligated to pay SIG
$1,500,000 as a front-end license fee, 400,000 shares of common stock of Cyto
Skin Care and a royalty of five percent of worldwide sales by Cyto Skin Care of
Ethocyn-based products, such royalty to be payable for three years from the date
of commencement of sales of Ethocyn-based skin treatment products by Cyto Skin
Care with a minimum royalty payment of $350,000 per year and a maximum royalty
of $2,000,000 during such three year period. Pursuant to the SIG-CSCC
Agreement, Cyto Skin Care was also obligated to issue to SIG an additional
250,000 shares of its common stock if such common stock did not trade at an
average market price of $5.00 per share during the three month period ended
September 30, 1994. The provisions of the SIG-CSCC Agreement also provided that
a public trading market in Cyto Skin Care's common stock would occur by no
later than March 31, 1994 and that Cyto Skin Care's common stock would be
qualified for quotation on NASDAQ by April 30, 1994. On March 15, 1994, as
discussed above, the Company acquired a controlling interest in Cyto Skin Care,
and in August 1994, Cyto Skin Care changed its name to Chantal Skin Care
Corporation. In August 1994, Chantal Skin Care entered into an agreement with
SIG to issue an additional 300,000 shares of its common stock, in consideration
of SIG's waiver of the various requirements under the SIG-CSCC Agreement and
settlement of a dispute with respect to the per share valuation of the shares of
CSCC initially issued to SIG. These shares were issued in May 1995.
CBD Pharmaceutical Corporation. Pursuant to the terms of a license
-------------------------------
agreement between the Company and CBD Pharmaceutical Corporation, a corporation
controlled by the Company's Chairman and Chief Executive Officer and certain
members of her family, the Company acquired the manufacturing and distribution
rights to the X-Andron Series compounds (including Ethocyn and Cyoctol) and
Metcyclor compounds, in exchange for which the Company issued to CBD
Pharmaceutical Corporation 2,614,500 shares of the Company's Common Stock and
agreed to pay a royalty of (i) 8% of the wholesale price of all licensed
compounds and products containing licensed compounds manufactured and sold
directly by the Company to wholesale or retail markets; and (ii) 8% of all
revenues derived by the Company from royalty or other sales-based compensation
pursuant to any sublicense, joint venture or other party with respect to the
licensed compounds. The obligation to make payments to CBD Pharmaceutical
Corporation with respect to Ethocyn-based cosmetics products was assumed by
Chantal Skin Care Corporation in connection with the License Agreement between
the Company and Chantal Skin Care. In July 1994, and in conjunction with
Ethocyn U.S. and international marketing negotiations then in progress, CBD
Pharmaceutical Corporation agreed with the Company and Chantal Skin Care to
terminate the 8% royalty obligation effective August 1, 1994 and in lieu
thereof, to accept from the Company 300,000 shares of its Common Stock and from
Chantal Skin Care 300,000 shares of its common stock. Accordingly, no royalty
will be paid by the Company to CBD Pharmaceutical Corporation as a result of the
sale of the Chantal Skin Care product line by Chantal Skin Care. The term of
the agreement runs for the length of any U.S. patents granted with respect to
the licensed compounds. See "Patents and Trademarks."
Stanson Marketing, Inc. The Company entered into a marketing agreement at
-----------------------
June 29, 1995 with Stanson Marketing, Inc. to distribute the Company's Ethocyn-
based skin care cosmetic products to physicians and pharmacies in North America.
This agreement calls for Stanson, subject to certain advertising and promotional
performance criteria of the Company, to market the Ethocyn-based skin care
cosmetic products to more than 25,000 chain and independent drug stores as well
as to approximately 10,000 physicians in the United States which physicians in
turn sell the products to their patients. The agreement is for the life of the
patents, which will expire in 2004. Under the terms of the agreement the
Company has the right to direct Stanson to ship to its customers on what is
known in the industry as an "autoship basis" which in accordance with industry
standards requires such customers to purchase higher shelf inventory levels of
product. In November 1995, the Company exercised its rights to direct autoship
distribution. Under the agreement, Stanson's payment terms are 90 days for non-
autoship orders prior to December 31, 1995, 60 days for non-autoship orders
after December 31, 1995, and ten days after Stanson receives payment from its
customers for autoship product orders. Stanson subsequently agreed, subject to
certain performance criteria by the Company, with respect to autoship product
orders, to pay no later than six months from shipment of product to Stanson.
Stanson has advised the Company that it is paying for products within ten days
of receipt of payment from its customers and that due to failure by the Company
to advertise and promote the products as agreed upon in the contract, it has no
obligation to pay within six months.
Under the Agreement, the Company and Stanson each have certain obligations
with respect to marketing and promotional activities for the Company's products.
As a justification for its policy with respect to payment, Stanson claims that
the Company did not secure appearances on national television talk shows as
contemplated by the Agreement nor perform its advertising contractual
obligations, and by reason thereof Stanson did not sell the amount of product
anticipated. The Company disagrees with Stanson's position, noting that its
ability to secure such appearances was harmed by a January 1996 Barron's article
primarily questioning the Company's accounting for sales to its distributor and
the resulting litigation and further negative publicity.
The Company has an option to acquire Stanson, exercisable at any time after
December 31, 1995, for shares of the Company's Common Stock at a purchase price
of three times Stanson's annualized net earnings divided by the lesser of (A)
$10.00 or (B) 80% of the ten day average closing bid price of the Common Stock
prior to the notice of exercise of such option.
8
<PAGE>
On June 9, 1997, the Company announced that it had reached an agreement-in-
principle to terminate the Marketing Agreement dated June 29, 1995, as amended,
between the Company and its U.S. distributor, Stanson Marketing, Inc. Under the
terms of the proposed termination agreement, among other things, the Company
will be required to issue 1.2 million shares of Common Stock. The Company is
continuing to negotiate the final terms relating to this termination. Although
the Company believes that a negotiated termination agreement can be achieved, no
assurance can be given that the agreement in principle will be reduced to a
final agreement. If and when the marketing agreement is terminated or
alternatively the Company exercises its option to acquire Stanson, then the
Company will be directly marketing and distributing the Ethocyn-based skin care
products.
Roger Chang - In February 1995, the Company entered into a Pacific Rim
-----------
distribution agreement with Roger Chang for the distribution and marketing of
Ethocyn based skin care products. The territory includes Taiwan, The People's
Republic of China, Hong Kong, Macao, Singapore, Malaysia, Indonesia, Vietnam,
Laos, Cambodia, Philippine Islands, Thailand and Korea. Upon the launch in
fiscal 1997, specific performance criteria included minimum quantities of
product purchased by Chang from the Company, and subsequent years' escalating
minimum quantity purchases, some specific advertising and promotional annual
expenditures, and letter of credit payment terms.
Michilan International - In October 1996, a sublicensing agreement with
----------------------
Michilan International as a sublicensee of Roger Chang was reached to distribute
Ethocyn-based Chantal Skin Care products in China, Hong Kong, Macao and Taiwan.
The first shipment was made in December 1996 under this agreement. The sales to
Michilan that the Company has recognized as revenues during fiscal year 1997 is
approximately $876,000.
The Company is engaged in discussions with other companies which have
expressed interest in entering into license arrangements with the Company. No
assurance can be given that such discussions will result in license
arrangements.
PATENTS AND TRADEMARKS
The Company is the licensee from CBD Pharmaceutical Corporation ("CBD") of
a series of compound, composition of matter and method of use patents and patent
applications, both United States and foreign, for its pharmaceutical and
cosmetic compounds. The license extends for the life of the patents. From 1978
to 1982, CBD funded chemical structure research and discovery, early acute
toxicology and in vitro and animal efficacy studies, and patent applications.
--------
In 1987, method of use patents with respect to Cyoctol and Ethocyn and a
composition of matter patent with respect to Metcyclor were issued in the United
States. In 1989, compound and composition of matter patents with respect to
Cyoctol and Ethocyn were issued in the United States. The U.S. patents as
extended and modified currently expire in 2004. The Company has also pursued a
policy of filing for patent protection in foreign jurisdictions and has been
granted numerous foreign patents. Although there can be no assurance that any
further patents will be issued or, if issued, will provide meaningful protection
or commercial benefit to the Company, the Company is of the opinion that the
granting of patents substantially enhances its ability to compete in the markets
in which it intends to engage. In this connection, it is to be noted that the
Company may be obligated to incur substantial expenses in connection with the
defense of, and challenges to, the patents in those countries in which patents
are granted.
The Company seeks to protect its trademarks, including the marks CHANTAL
and ETHOCYN, its corporate logo, and the names of its compounds, through
registrations under applicable trademark laws in the United States and certain
foreign countries in which the Company anticipates its products may be marketed
or sold. Although the Company believes that its trademarks are important to its
business, the Company does not believe that any one of its marks is
determinative of the successful marketing of its products.
The Company intends to actively seek to protect its intellectual property
rights.
GOVERNMENT REGULATION
Cosmetic products sold in the United States have traditionally not required
FDA approval as long as the products are labeled and intended to cleanse,
beautify or provide attractiveness of the body. However, in response to the
FDA's pronouncement in 1987 (in connection with the issuance of more than 27
regulatory letters to other companies) of its jurisdiction regulating certain
cosmetic treatment claims, the Company filed an IND in August 1988 for Ethocyn
as a skin anti-aging product. The Company's Ethocyn IND was approved in
September 1988, thereby permitting it to initiate human clinical trials. If an
NDA is granted, the Company contemplates making medical treatment claims related
to skin anti-aging and other possible age-related skin treatment claims for its
Ethocyn containing skin treatment products. There can be no assurance that an
NDA will be submitted or, if submitted, approved.
9
<PAGE>
The Company currently does not make medical treatment claims in its
marketing programs of the Ethocyn-based Chantal Skin Care product line.
However, to the extent the Company's claims with regard to such products are
interpreted by the FDA as relating to treatment of illness or other therapeutic
claims regarding the effect of the compound on the structure or function of the
body, the products may be subject to regulation as a new drug, with all the
requirements described above governing its sale. There can be no assurance that
the FDA will not seek to subject the Company's Chantal Skin Care product line to
such regulations.
The Company is also subject to Federal Trade Commission rules and
regulations and applicable state agency rules with respect to the substantiation
and accuracy of the advertising and labeling of its products.
The Company makes therapeutic claims about certain other compounds being
developed by the Company and therefore such compounds are classified as new
drugs by the FDA. Before a new drug can be commercially marketed in the United
States, or imported or exported, approval by the FDA is required.
To initiate human clinical trials, pre-clinical safety and efficacy
research must be conducted and the results submitted to the FDA in an IND
application. If FDA approval for clinical testing is obtained, the compound is
classified as an IND. The clinical trial programs generally involve a three-
phase process. Typically, Phase I trials are conducted in healthy volunteers.
Researchers look for negative side effects, how the drug is metabolized and how
best to administer the drug. In Phase II, trials are conducted in groups of
volunteers afflicted with the disease or disorder sought to be treated to gather
expanded evidence of safety and to determine preliminary efficacy. In Phase
III, large-scale comparative trials are conducted in patients with the target
disease or disorder to provide sufficient data for the statistical proof of
safety and efficacy and to determine optimal dosages. In the case of drugs for
cancer and other life-threatening diseases, the initial human testing is
generally done in patients rather than in healthy volunteers.
If Phases I through III are successfully completed, the results and data
from these trials are incorporated into an NDA, which is filed with the FDA to
obtain marketing approval. In general, a more comprehensive NDA and a more
prolonged review process are required for drugs not previously approved for
marketing for another therapeutic use or indication by the FDA. If a second
indication for an approved product is sought, since many of the components of
the review process are the same, there generally is a shortened review process.
However, the FDA generally gives high priority to novel drugs providing unique
therapeutic benefits and a correspondingly lower priority to drugs similar to or
providing comparable benefits to others already on the market. The Company's
compounds are novel (patented) chemical entities not previously approved for
marketing for another therapeutic use or indication by the FDA.
The process of doing the requisite testing, data collection, analysis and
compilation of an IND and an NDA is labor intensive and costly and may take a
protracted time period, particularly if tests must be re-performed or new tests
instituted to comply with FDA requests. Review by the FDA may also take a
considerable time period and also may involve consideration by an independent
advisory committee which can mandate the generation of additional supporting
data. There is no guarantee that an NDA will be approved and the Company cannot
estimate how long the approval process may take. Even if an NDA is approved,
the FDA can make its approval conditional on post-marketing testing or
surveillance programs to monitor the safety and efficacy of the drug in use.
To-date, the FDA has not requested re-performance of any Company-sponsored
studies of its compounds.
A company that has obtained an NDA can market the new drug, subject to
complying with extensive FDA regulations pertaining to registration, control of
the manufacturing and distribution process, labeling and advertising of the
product and monitoring and reporting of adverse experiences involving use of the
product. The FDA, as well as state authorities, have the right to conduct
extensive on-site inspections of a company's facilities and its records to
determine compliance with requirements of applicable laws and regulations.
Manufacturers found not to be in compliance may be subject to a number of
regulatory and legal proceedings, including recall, seizure, injunction and
actions for criminal and civil sanctions and penalties. The Company has been
advised by outside expert GMP and ISO 9000 consultants that its Kaiserslautern,
Germany research and production laboratory meets ISO certification and good
manufacturing procedures ("GMP") standards and procedures.
Most foreign countries have regulatory requirements comparable in many
respects to those existing in the United States. Every country has some form of
approval, certification or licensing process which must be satisfied before a
drug can be marketed. In all instances animal and clinical data must be
submitted for review. Review times and submission requirements vary widely and
there can be no assurance that approvals will be granted within a reasonable
time frame, if at all. Once a product is marketed in any of these countries,
the Company will have to comply with requirements involving manufacturing,
labeling, advertising, and distribution and its laboratory production facility
will be subject to potential continued inspection to insure ongoing compliance
with these provisions.
In addition to the foregoing, the Company's present and future business is
subject to regulation under state and federal laws regarding work place safety,
environmental protection and hazardous substance control and to other present
and possible future local,
10
<PAGE>
State, territorial, federal and foreign regulation. The Company utilizes certain
raw materials in the synthesis of its compounds which would be classified as
hazardous substances under some or all federal and state environmental and other
statutes. Since the Company's compounds are currently manufactured at its German
facility, the Company is not currently subject to such laws. The Company
believes it complies with all applicable German laws. If the Company begins
manufacturing its compounds in the United states, the Company will be required
to comply with all such rules and regulations governing the storage, handling
and disposal of hazardous substances. Failure to so comply could materially
impair the ability of the Company to manufacture its compounds.
COMPETITION
There are numerous companies, including established pharmaceutical and
cosmetic companies, engaged in the development and sale of new drugs and/or
cosmetics. The Company's Chantal Skin Treatment products containing Ethocyn are
expected to compete in the cosmetics market both in the United States and
internationally. There is strong competition in the cosmetics market which is
characterized by large, well-established cosmetics firms that have greater
financial, marketing and other resources than the Company. In April 1992,
Johnson & Johnson received a favorable FDA panel recommendation for use of its
Retin A (Tretinoin) containing Renova dermatologic cream to treat wrinkles.
Tretinoin, the active ingredient in Renova, is not an anti-androgen DHT blocker
and accordingly is believed to treat skin aging differently than Ethocyn.
Renova is reported to primarily act upon the dermis in aging skin while Ethocyn
clinical trials report (P=.001) Ethocyn's mechanism to be that of desirably
increasing elastin fiber content in the skin. The Company is unable to predict
either product's potential and competitive ability to penetrate this market
segment.
The Company intends to market and compete through other means for market
share of the cosmetic skin treatment market sector by direct marketing,
television commercials, television appearances of Company personnel, certain
celebrity and Company personnel promotional activities and through marketing to
physicians and pharmacies.
With respect to the development of its ethical compounds, the Company
competes with many pharmaceutical and biotech companies, many of which have
substantial financial resources, large and highly skilled research and
development staffs, major research facilities and large marketing organizations.
Although the Company is not aware of any organization which has developed or is
developing a safe and effective nonsteroidal anti-androgen, no representation
can be made that any of its competitors are not engaged in such research or
that, should the Company be successful in the development of its compounds,
other companies will not be successful in producing and selling a non-
proprietary modification of the compounds through the application of their
greater resources. In this connection, Merck's Proscar/(R)/ (Merck's name for
the compound Finasteride) received market approval from the FDA in mid-1992 as
an anti-androgen treatment for benign prostate hypertrophy, one of the
systematic therapeutic disorders for which Cyoctol is being tested. Proscar is
a steroidal anti-androgen. Additionally, Merck has announced that Finasteride,
via oral administration, is in multi-center Phase II clinical trials for the
potential treatment of male pattern baldness, another indication for which
Cyoctol, the Company's non-steroidal anti-androgen.
The Company anticipates that products containing Cyoctol will be
prescription drug products upon initial FDA approval which will limit their
market until such time as the FDA may grant it over-the-counter status. The
Company also anticipates it may encounter substantial competition for its
Metcyclor compounds, if ever granted FDA approval, from the existing
pharmaceutical companies in connection with any anti-cancer drug that it
develops.
Upjohn currently manufactures and markets Cleocin T and Minoxidil
(Rogaine), drugs which respectively treat acne and male pattern baldness.
Neither Cleocin T nor Minoxidil are anti-androgens, and accordingly are thought
to treat acne and male pattern baldness differently than Cyoctol.
EMPLOYEES
At June 30, 1997 the Company employed 47 full-time employees and considers
its relations with its employees to be good.
11
<PAGE>
GLOSSARY
The following terms used herein have the general meanings set forth below:
1. ACNE..................... A skin disorder affecting mainly the face
characterized by the development of pimples
(papules, pustules, open and closed comedones)
which is caused by an infection and inflammation
of the sebaceous (wax producing) glands and
ducts.
2. ANDROGEN................. A hormone which has a masculinizing function,
i.e., it produces and maintains the secondary sex
characteristics of the male, such as the growth
of the beard. Females also possess plasma
circulatory androgen hormones such as
androstanedione.
3. ANDROGENETIC ALOPECIA.... A medical disorder involving loss of hair on the
scalp of the head classically known as "male
pattern baldness," not baldness related to loss
of hair induced by chemotherapy or nervous system
abnormalities.
4. ANTI-ANDROGEN........... A substance which acts against androgen hormones.
5. CANCERCIDAL............. Destructive of cancer cells.
6. CLINICAL TRIALS......... Human testing of a drug for safety and efficacy.
The clinical trial programs generally involve a
three-phase process. Typically, Phase I trials
are conducted in healthy volunteers. Researchers
look for negative side effects, how the drug is
metabolized and how best to administer the drug.
In Phase II, trials are conducted in groups of
volunteers afflicted with the disease or disorder
sought to be treated to determine preliminary
efficacy and gather expanded evidence of safety.
In Phase III, large-scale comparative trials are
conducted in patients with the target disease or
disorder to provide sufficient data for the
statistical proof of safety and efficacy and to
determine optimal dosages. In the case of drugs
for cancer and other life-threatening diseases,
the initial human testing is generally done in
patients rather than in healthy volunteers. If
Phases I through III are successfully completed,
the results and data from these trials are
incorporated into an NDA, which is filed with the
FDA to obtain marketing approval.
7. CYOCTOL(TM)............. The name which particularly identifies one
chemical entity in the patented (Patent Numbers
4,689,345; 4,855,322) X-Andron Series of
compounds co-invented by the Company's Chairman
and licensed to the Company in 1982. This
particular chemical structure is synthesized in
the Company's laboratory and is presently in
Phase II clinical trials for the topical
treatment of acne, male pattern baldness, keloids
and hirsutism. Cyoctol pre-clinical safety and
efficacy studies have been conducted validating
its potential as a possible treatment for certain
systemic androgen mediated disorders including
benign prostate hypertrophy, and numerous fungal
infections.
8. DHT (DIHYDROTESTOSTERONE) An intracellular androgen hormone in both males
and females which is the by-product of enzyme
action on circulating testosterone androgen
hormone in males and circulating androstanedione
androgen hormone in females. Dihydrotestosterone
is found in the cytoplasms of peripheral target
cells in males and females (i.e., skin fibroblast
cells, skin sebaceous glands and ducts, hair
follicle cells, liver, prostate, etc.).
9. ETHICAL................. Restricted to sale only by a doctor's
prescription.
10. ETHOCYN(R).............. The name which particularly identifies one
chemical entity in the patented (Patent Numbers
4,689,345; 4,855,322) X-Andron Series of
compounds co-invented by the Company's Chairman
and licensed to the Company in 1982. This
particular chemical structure is synthesized in
the Company's laboratory, which is one of the
active ingredients in the "Chantal Elastogenic
Skin Treatment Program" line of cosmetics.
11. HIRSUTISM ............... An androgen mediated disorder which is manifested
by the presence of excess body or facial hair,
especially in women.
12
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12. IND (Investigational
New Drug)............... In order to initiate clinical trials, extensive
research and development data must be submitted
to the FDA in the form of an IND application.
13. IN VITRO................. Studies conducted "in glass", or the test tube,
or any other experimental medium not involving an
animal or human being; tests performed outside
the living body.
14. IN VIVO.................. Studies conducted using living organisms,
including animals such as rodents and non-rodent
species (e.g., monkeys). In vivo may also refer
to human testing.
15. KELOIDS.................. Overgrowth of collagenous scar tissue at the site
of wound or laceration of the skin; a
hypertrophic or excessive type of scarring.
Scientific literature sites keloids work in
selected generic population (i.e., negroes,
certain caucasian sub-population, etc.).
16. MALE PATTERN BALDNESS.... The common term for androgenetic alopecia.
17. METCYCLOR(TM)............ A patented class (Patent Numbers 4,689,349;
4,731,458) of synthetic compounds which
structures were derived being intermediate
synthetic products of the X-Andron Series. The
Company believes, based upon preliminary and
limited testing to date, that Metcyclor compounds
have possible beneficial effects in the treatment
of several forms of cancer, specifically, renal,
breast, ovarian and prostate cancer.
18. NDA (New Drug
Application)............. Before a new drug can be commercially marketed in
the United States, or imported or exported, the
manufacturer must obtain FDA market approval by
filing an NDA. In general, an NDA will include a
summary of the components of the IND application,
a clinical data section reviewing the studies
from Phases I through III, and the proposed
description of the benefits, risks and uses of
the drug.
19. NON-STEROIDAL............ A chemical compound that is neither a steroid in
structure nor a derivative (second generation)
steroid.
20. NON-TOXIC................ Non-poisonous chemical structures shown not to
cause side effects which would be interpreted by
scientists or physicians to be harmful to a
living organism.
21. STEROID.................. A large family of chemical compounds which
interact with and affect the hormone system,
often resulting in adverse side effects when
taken into the body and thereby changing the
body's normal steroid production and plasma
levels.
22. SYNTHETIC................ Artificial structures produced by chemists made
with chemical starting materials in the
laboratory as contrasted with natural and/or
biochemical structures which are chemical
structures derived from, or extracted from,
living organisms. (i.e., plants, fungi, animals).
23. SYSTEMIC................. Affecting the body generally, as distinguished
from local (topical) affect or application.
24. TARGET TISSUE COMPOUND... A compound that acts only at certain sites of
application.
25. THERAPEUTIC.............. Relating to the treatment of disease or disorder
by remedial agents or methods.
26. TOPICAL.................. Local or designed for local application to the
surface structures of the body (i.e., skin, hair,
nails).
27. X-ANDRON SERIES.......... The numerous chemical synthetic structures
referred to in the Company's various sublicensed
and issued United States Patent Numbers
4,689,345; 4,855,322.
13
<PAGE>
ITEM 2. PROPERTIES
- ------- ----------
The Company leases an aggregate of approximately 39,600 square feet of
office and warehouse space in Los Angeles, California pursuant to a three year
lease expiring in May 1998. The aggregate monthly rent for these premises is
approximately $25,000.
The Company leases research and production laboratory facilities in a
government technology center in Kaiserslautern, Germany through December 31,
1997, at a monthly rent of approximately $7,500, with annual options to renew
thereafter.
The Company believes that its current facilities are adequate to meet its
needs for the immediate future. If the Company's operations were to expand, the
Company may require additional office and warehouse facilities.
ITEM 3. LEGAL PROCEEDINGS
- ------- -----------------
The Company and Chantal Burnison are defendants in an action titled
Marksman Partners, L.P., on behalf of itself and all others similarly situated
- ------------------------------------------------------------------------------
vs Chantal Pharmaceutical Corporation and Chantal Burnison, filed on February 7,
- ----------------------------------------------------------
1996 in the United States District Court, Central District of California,
Western Division, Case No. 96-0872. This action is a securities class action on
behalf of all persons who purchased or otherwise acquired the common stock of
the Company between July 10, 1995 and January 5, 1996, inclusive.
The Marksman Partners action is based on a contention that the Company's
-----------------
accounting for sales revenue, because of the nature of its distribution
agreement with Stanson Marketing, Inc. overstated its revenues for fiscal (June
30) 1995 and for the September 30, 1995 quarter ($3 million and $10 million,
respectively), which , the action claims, violated generally accepted accounting
principles and the Federal securities laws. The complaint notes that Chantal
Burnison sold 300,000 shares during the class period (the sales were actually
made by CBD Pharmaceutical Corporation from approximate holdings of 1.3 million
shares. Sales were made after consultation with the Company's legal counsel.)
The complaint appears to rely on details of the contractual relationship with
the distributor to contend that the revenues should not have been booked by the
Company based on shipped orders from the distributor, since among other reasons,
plaintiffs allege that Stanson, during the relevant time period, had the right
to require the Company to purchase Stanson on a formula dependent on its income
from the Company's products' sales, and the Company did not have a substantial
history of selling through the distributor and the distribution system. The
action seeks monetary damages in an unspecified amount. The amount sought on
the basis stated in the complaint would be substantially in excess of the
Company's current net worth.
The Company believes its financial reports were correctly presented under
generally accepted accounting principles. A motion to dismiss the Marksman
--------
Partners action was denied, and pre-trial discovery in the Marksman Partners
- -------- -----------------
action has commenced. The Company plans to vigorously defend itself against the
claims asserted in the litigation.
In addition, a derivative action based on many of the same contentions as
made in Marksman has been filed against the Company and Chantal Burnison. The
action, entitled Baruch Singer and Dorothea E. Wakefield vs. Chantal Burnison,
-------------------------------------------------------------
defendant, and Chantal Pharmaceutical Corporation, nominal defendant, was filed
- --------------------------------------------------------------------
in the Superior Court of the State of California, the County of Los Angeles,
case No. BC 147327. In June 1997, the plaintiffs amended the complaint to
assert a claim against the Company's former auditors, Coopers & Lybrand LLP, for
negligence and professional malpractice arising out of Coopers & Lybrand's audit
of the Company's fiscal year 1995 financial statements which are the subject of
both the Marksman and Singer actions. Coopers & Lybrand's motion to dismiss the
-------- ------
case was denied.
The Company has been a defendant in a lawsuit entitled Amado Institute,
----------------
Inc., and Arizona Corporation, Plaintiff, vs. Chantal Pharmaceutical
- --------------------------------------------------------------------
Corporation, Defendants, U.S. Federal District Court, No. CIV 96-154-TUC-RMB, in
- -----------------------
a dispute concerning the Company's rescission of an Arizona land transaction.
The Company, in September 1997, won its motion for summary judgment against the
Plaintiff on all counts in the case. Although an appeal is possible by the
Plaintiff, negotiations are in progress to obtain a waiver of the appeal.
14
<PAGE>
In October, 1996, the Company completed the sale of $5.25 million principal
amount of 8% convertible debentures due December 31, 1998. The debentures were
sold to investors qualifying as "non U.S. persons" in an offering completed
under Regulation S. The debentures were convertible into shares of common stock
of the Company as to one-third of the principal amount of each debenture after
forty-five (45) days from the date of issuance, an additional one-third after
seventy-five (75) days from the date of issuance and the balance after ninety
(90) days from the date of issuance. The conversion price is the lesser of
$3.91 or 80% of the average closing bid price of the Company's common stock for
the five business days immediately preceding the conversion date. The Company,
in accordance with the terms of the debentures, notified those debenture holders
exercising their conversion option for the first one-third of their debentures,
that the Company intended to exercise its rights under the debenture to pay cash
in lieu of such conversion and notified all debenture holders that it intended
to also redeem the balance of the debentures for a negotiated purchase price.
Such redemption was not completed. Were all the debentures converted as of the
earliest date in accordance with the terms, the Company would have been required
to issue approximately 3.5 million shares of common stock. Such number is in
excess of the number of authorized but unissued shares available prior to the
amendment of this Company's Certificate of Incorporation on July 18, 1997
following the Annual Meeting of Stockholders increasing the number of authorized
shares of common stock to 50 million. Were the debentures converted at August
31, 1997, approximately 7.6 million shares would have been issuable based on the
five day average price of approximately $.86 for the five trading days ended on
that date. The Company is attempting to negotiate toward settlement of subject
1996 Regulation S offering.
Three actions involving six investors have been commenced against
the Company relating to this offering. Two of these actions which were
consolidated were brought in Delaware - FT Trading v. Chantal Pharmaceutical
------------------------------------
Corporation, Court of Chancery of the State of Delaware in and for New castle
- -----------
County, C.A. No. 15628-NC and Arbinter Omnivalor S.A. v. Chantal Pharmaceutical
-------------------------------------------------
Corporation, Court of Chancery of the State of Delaware in and for New Castle,
- -----------
C.A. No. 15788-NC -and one was brought in California - UFH Endowment Ltd.
------------------
Ephram-Saghi and Ben Z. Katz v. Chantal Pharmaceutical Corporation and Chantal
- ------------------------------------------------------------------------------
Burnison, United States District Court, Central District of California, Western
- --------
Division, Case No. CV 97-3118LGB (AJW). In each of the actions, the plaintiffs
have sought to have all or a portion of their debentures converted and to
recover damages and attorneys fees as set forth in the debentures.
On September 9, 1997, FT Trading and Arbinter Omnivalor were granted
partial summary judgement on the claims against the Company. Pursuant to the
Court's Order entered September 17, 1997, the Company is required to issue to FT
Trading, 48,484 shares of common stock relating to its conversion notice with
respect to one-third of its debenture and to honor the immediate conversion of
the remaining two-thirds, and to pay FT Trading an aggregate of $181,615 for
unpaid interest and damages, and to also reimburse FT Trading for costs and
expenses, including legal fees, relating to the action. The Company has not
yet issued the shares and has not paid the interest and damages in accordance
with the Court Order.
Pursuant to the Court Order, the Company is required to issue to Arbinter
Omnivalor 242,424 shares of Common Stock relating to its initial conversion
notice with respect to one-third of each of its two debentures and to honor
future conversions, and to pay Arbinter Omnivalor an aggregate of $396,741 for
unpaid interest and damages, and to also reimburse Arbinter Omnivalor for costs
and expenses, including legal fees relating to this action. The Company has
issued the shares but has not paid the interest and damages in accordance
with the Court Orders. The Company, working with a consultant, is attempting to
negotiate a settlement with the investors of subject Court Order.
In the UFH Endowment, Ltd., Ephram-Saghi and Ben Z. Katz case, the
plaintiffs, alleged that the defendants violated federal and state law in
connection with the debentures. Plaintiff UFH alleges that it purchased
debentures for $750,000, while plaintiffs Saghi alleges that he purchased
debentures for $100,000, and plaintiff Katz alleges that he purchased debentures
for $50,000. In September 1997, the parties to the UFH matter reached an
---
agreement for settlement and resolution of the litigation. The parties have
agreed that the UFH matter will be dismissed, with prejudice, in exchange for
---
the Company issuing shares of the Company's common stock to the plaintiffs as
consideration for the conversion of the plaintiff's debentures and the
simultaneous termination thereof.
With respect to each of the foregoing actions, the likelihood of an
unfavorable outcome and range of possible loss, if any, cannot be determined and
accordingly no amounts are accrued for them at June 30, 1997, with the exception
of FT Trading and Arbinter Omnivalor which have been accrued for at June 30,
1997.
15
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ------- ---------------------------------------------------
None.
16
<PAGE>
PART II
-------
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
- ------ -----------------------------------------------------------------
MATTERS
-------
The Company's Common Stock, par value $.01 per share, is traded in the
over-the-counter market and is quoted in the automated quotation system of the
National Association of Securities Dealers, Inc. (NASDAQ) under the symbol CHTL.
The following table sets forth for the periods indicated, the high and low
respective bid prices for the Company's Common Stock as reported by NASDAQ.
These quotations reflect inter-dealer prices without retail mark-up, mark-down
or commissions and may not necessarily represent actual transactions.
<TABLE>
<CAPTION>
HIGH LOW
--------- --------
<S> <C> <C>
FISCAL YEAR ENDED JUNE 30, 1996
First Quarter................... 12 1/4 5 3/4
Second Quarter.................. 28 1/8 9
Third Quarter................... 27 1/4 5
Fourth Quarter.................. 9 3/4 4 3/4
FISCAL YEAR ENDED JUNE 30, 1997
First Quarter................... 6 13/16 2 1/8
Second Quarter.................. 5 5/16 1 7/16
Third Quarter................... 2 3/8 15/16
Fourth Quarter.................. 2 5/32 23/32
</TABLE>
As of September 19, 1997 there were 767 holders of record of the
Company's Common Stock.
No cash dividends have been paid with respect to any of the shares of the
Company's Common Stock since its inception. The Company presently does not
intend to pay any dividends in the foreseeable future and intends to retain all
earnings, if any, for use in its business operations.
17
<PAGE>
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
- -------
The following selected financial data should be read in conjunction with
Management's Discussion and Analysis of Financial Condition and Results of
Operations included as Item 7 and the audited financial statements included in
Item 8 of this Annual Report on Form 10-K.
Consolidated Statements of Operations Data:
<TABLE>
<CAPTION>
Year Ended June 30,
------------------
1997 1996 1995 1994(1) 1993
------------ ------------ ----------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Revenues:
Product sales, net $ 6,560,122 $ 13,053,353 $ 7,094,115 $ 89,996 $ 5,805
License fees and
other income 102,619 95,456 120,823 75,081 1,052,009
------------ ------------ ----------- ----------- ----------
Total revenues 6,662,741 13,148,809 7,214,938 165,077 1,057,814
------------ ------------ ----------- ----------- ----------
Cost and expenses:
Cost of goods sold 2,343,994 3,803,144 1,497,489 38,499 1,138
Marketing and other expenses
related to cosmetic line 6,711,801 12,528,263 2,075,061 191,365 3,460
General and administrative 5,600,218 7,434,737 1,965,915 433,863 456,814
Amortization of license rights and
prepaid royalties 918,892 918,892 334,996 - -
Writedown of license rights 563,735 - - - -
Research and development 161,668 1,032,037 638,701 1,277,991 1,421,111
------------ ------------ ----------- ----------- ----------
Total costs and expenses 16,300,308 25,717,073 6,512,162 1,941,718 1,882,523
------------ ------------ ----------- ----------- ----------
Income(loss) from operations (9,637,567) (12,568,264) 702,776 (1,776,641) (824,709)
============ ============ =========== =========== ==========
Net income(loss) $(10,571,462) $(12,012,816) $ 406,139 $(1,795,999) (900,612)
============ ============ =========== =========== ==========
Net income(loss) per common share $ (.58) $ (.67) $ .03 $ (.19) $ (.10)
============ ============ =========== =========== ==========
Weighted average shares outstanding 18,190,516 17,817,183 13,375,934 9,429,516 9,001,449
============ ============ =========== =========== ==========
Consolidated Balance Sheet Data:
<CAPTION>
June 30,
--------
1997 1996 1995 1994 1993
------------ ------------ ----------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Total assets $ 14,952,265 $ 18,745,373 $19,114,137 $ 5,742,137 $2,051,784
Working capital (deficiency) (4,578,196) 1,710,437 7,019,824 273,848 13,219
Long-term capital lease obligation less
current portion 289,014 384,882 489,313 466,727 506,180
Convertible debentures (3) 5,250,000 - - - -
Stockholders' equity (deficit) $ (154,763) $ 9,371,699 $14,401,395 $ 698,555 $1,083,508
- -----------------------------
</TABLE>
(1) Includes the results of Chantal Skin Care from March 15, 1994, the date of
acquisition.
(2) No dividends have been paid for the above five year period.
(3) On September 25 and 26, 1997, the Company issued an aggregate of 2,930,327
shares of its Common Stock upon conversion of $1,893,333 principal amount,
an average of $.65 per share, of its 8% convertible debentures (See Note 2).
Had such conversion been affected at June 30, 1997, the Company would have
had Stockholder's Equity on a proforma basis of $1,738,570. The proforma
column appearing on the consolidated balance sheet gives effect at June 30,
1997 to the referenced conversion.
18
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
- ------- ------------------------------------
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
------------------------------------------------
The discussion in this item contains Statements that may be considered
forward looking statements. See Special Note Regarding Forward Looking
Statements at the begining of this Annual Report on Form 10-K.
RESULTS OF OPERATIONS
- ---------------------
There are several key considerations which impact the Company's financial
statements for the years ended June 30, 1996 and 1997 and their comparability to
the financial statements for the prior years.
The Company believes that purchases by retailers during fiscal 1997 were
negatively impacted by activities and negative publicity spread about the
Company by a group of shareholders who in June 1997 filed a Schedule 13D
indicating their dissatisfaction with management of the Company. The Company
immediately following the filing of the 13D filed a lawsuit against the
signatories alleging among other things that certain of the defendants
participated in a plan to disseminate false information concerning the Company
in an effort to drive down the price of its stock both to profit therefrom and
to facilitate the group's takeover of the Company. The Company further alleged
that the widespread confusion and uncertainty created by the defendants' conduct
was causing and would continue to cause serious dislocation in the operations of
the Company's business and the market for its securities, as well as uncertainty
among its customers, employees, distributors and other business relationships.
All but one of the signatories have settled the lawsuit and agreed to support
management at the shareholders meeting held on July 17, 1997.
The year ended June 30, 1996 was the Company's retail market launch and
first full year of marketing its Ethocyn-based Chantal Skin Care line of
products, having commenced marketing on a limited basis, primarily through
telemarketing in the year ended June 30, 1995. During fiscal 1996, the Company
significantly expanded its operations and began an extensive U.S. and
international marketing campaign. Substantial expenses associated with the
product launch and expected growth in sales of the Company's products were
incurred, especially in increased personnel and other overhead, including the
Company's new warehouse and office facility, the costs of producing advertising
and promotional material and launching the marketing campaign, and producing the
products to meet anticipated needs. As part of the marketing campaign, during
fiscal 1996, the Company began airing television commercials, launched a
national print advertising campaign, and increased its public relations efforts.
Much of the Company's expenditures during fiscal 1996 anticipated sales of
the Company's products at levels higher than those actually obtained. Those
expenditures were based upon, among other things, the Company's planned
advertising and committed-to-promotional activities, including scheduled
promotional appearances on national and regional talk shows. As a result of a
January 1996 Barron's article primarily questioning the Company's accounting for
sales to its distributor and the resulting litigation and further negative
publicity reported about the Company, the Company's ability to realize such
promotional appearances was harmed. Sales expected to be generated by such
activity accordingly did not materialize in fiscal 1996 and 1997.
The Company for the year ended June 30, 1996 underwent a complete review of
its method of recording revenue from sales to its U.S. distributor. In the
fiscal year ended June 30, 1995 and in the first quarter ended September 30,
1995, revenue from product sales to the Company's U.S. distributor, Stanson
Marketing, Inc. ("Stanson") was recognized upon shipment of product to Stanson.
In November, 1995 in accordance with its agreement with Stanson, the Company
directed Stanson to commence shipment on an autoship basis to all possible
customers. The Company, in February 1996, sought the advice of its then
independent accountants as to whether its then existing revenue recognition
policy was in compliance with generally accepted accounting principles with
respect to recognizing second quarter autoship sales to Stanson. In connection
with the filing of its two Quarterly reports on Form 10-Q, for the quarters
ended December 31, 1995 and March 31, 1996, the Company adopted a cash basis
revenue recognition policy with respect to products subject to autoship
distribution, upon the advice of its then independent accountants, which advice
was given recognizing that their view may be different upon completion of their
then-in-progress procedures. The then independent accountants subsequently
resigned as the Company's independent accountants and advised the Company that
they would not be advising the Company as to whether the then existing revenue
recognition policy was in compliance with generally accepted accounting
principles.
Revenue is recognized upon shipment to Stanson with respect to products
which were not distributed on an autoship basis, and revenue is recognized with
respect to products distributed on an autoship basis upon sale by Stanson to its
customers. On November 21, 1995, the Company, exercising its June 29, 1995
Distribution Agreement contractual right, notified Stanson that all future sales
of Ethocyn products by Stanson were to be "autoship". Accordingly, the Company
considers all products shipped to Stanson after November 21, 1995 as being
subject to distribution on an autoship basis. This revenue recognition policy
complies with FASB 48 "Revenue Recognition when Right of Return Exists".
Fiscal 1997 compared with Fiscal 1996
- -------------------------------------
Revenues. Revenues decreased 49% to approximately $6,663,000 for the
---------
fiscal year ended June 30, 1997 from approximately $13,149,000 for the fiscal
year ended June 30, 1996 because of a decline related to volume. Volume decline
as a result, among other things, of a decrease in advertising. Revenues are
primarily comprised of telemarketing sales by the
19
<PAGE>
Company, sales by Stanson Marketing, the Company's U.S. and Canadian distributor
and Michilan International, the Company's distributor in China, Hong Kong, Macao
and Taiwan based on the revenue recognition policy discussed above. The decrease
in revenue for fiscal 1997 product sales reflects a reduction of approximately
$3.6 million established as a allowance against accounts receivable from Stanson
that are beyond the agreed upon payment terms and correspond to a portion of the
accounts receivable owed to Stanson by its customers. The Company also
considered recent cash receipts collected in estimating the reserve. However,
the amount the Company ultimately collects could differ materially from the
amount estimated.
The Company's sales terms, for all sales by its own direct response
telemarketing operators and all its distributors, allow the end-user customer
the right to return the product within 75 days for a full refund of the purchase
price. Distributors, both U.S. and international, can only return (a) product
which does not meet specifically defined product specification (i.e., product
contamination, broken componentry, etc.) or (b) product returned by the end user
customers within the stated 75 day refund period. Any provision for sales
returns is included as a reduction of product sales.
Cost of Goods Sold. Cost of goods sold as a percentage of revenues from
-------------------
product sales during fiscal 1997 was approximately 35% and fiscal 1996 was
approximately 29% of revenues. The cost of Ethocyn-based Chantal Ethocyn-based
products did not change from fiscal 1996 to fiscal 1997. Additional inventory
reserves of approximately $728,000 recorded during fiscal 1997 and sales
reserves (see Revenues) of approximately $3.6 million negatively effected the
cost of sales as a percentage of revenue. Management established inventory
reserves of approximately one-third of finished goods based on inventory levels
compared to historical sales which except for telemarketing and foreign, were
through the Company's U.S. distributor. Historical, gross profit margins are
not necessarily indicative of future periods.
Marketing and Other Expenses. Marketing and other expenses related to
-----------------------------
cosmetic sales decreased in fiscal 1997 by approximately $5,816,000 or 46% to
approximately $6,712,000 from approximately $12,528,000 for fiscal 1996. These
expenses resulted from the marketing and promoting of the Ethocyn-based skin
care products and decreased from the prior year primarily due to decreased
Ethocyn product advertising of approximately $5.0 million and promotional
expenditures as compared to 1996.
General and Administrative Expenses. General and administrative expenses
------------------------------------
decreased by approximately $1,835,000 or 25% to approximately $5,600,000 for
fiscal 1997 from approximately $7,435,000 for fiscal 1996. This decrease is
primarily due to a decrease in professional and consulting services of
approximately $1.1 million and a reduction in activities in Germany. In fiscal
1996 additional professional and consulting services were incurred after an
article in Barron's January 1996 issue. General & administrative expenses in
fiscal 1997 includes $520,000 for settlement of damages awarded to 8%
convertible debenture holders. Although the cost of defense of the class
action lawsuit was previously covered by insurance, future expenses, absent
settlement of the class action and derivative lawsuits, are expected to be
incurred beyond insurance coverage.
Write down of License Rights. In accordance with a recent independent
-----------------------------
valuation of the Company's license rights, the license rights have been written
down by $563,735 to reflect the fair value of the asset at June 30, 1997.
Research and Development Expense. Research and development expense
---------------------------------
decreased by approximately $870,000 or 84% to approximately $162,000 in fiscal
1997 compared with approximately $1,032,000 in fiscal 1996. Research and
development activities continue to decrease, with the focus by the Company
towards marketing and revenue generation by Chantal Skin Care products.
Research and development expenses primarily represent ongoing stability and
clinical testing of the formulated, consumer targeted Ethocyn-based Chantal skin
care products, continued analysis of data and test results of Cyoctol generated
by the Upjohn Company and Ethocyn scale-up synthesis and isomer resolution
research.
Interest Expense. Interest expense increased by approximately $1,303,000
-----------------
or 932% to approximately $1,442,000 in fiscal 1997 compared with approximately
$140,000 in fiscal 1996. This is primarily due to the issuance of $5.25 million
of convertible debentures in October 1996. In accordance with an SEC position
taken with respect to debt convertible at a discount to market, the premium
attributable to the discount is to be accounted for as additional interest
expense. Accordingly, the Company has recorded non-cash interest expense of
$1,045,000 to reflect the discount to market of the conversion option in the 8%
convertible debentures due September 30, 1998 and issued in October 1996. The
non-cash interest expense had the effect of increasing the net loss by
$1,045,000 and the net loss per share by $.06.
20
<PAGE>
Income Taxes. There is no income tax expense for fiscal 1997. The
------------
deferred tax asset as of June 30, 1997 has a 100% valuation allowance as
management cannot determine if it is more likely than not that the deferred tax
asset will be realized.
Fiscal 1996 compared with Fiscal 1995
- -------------------------------------
Revenues. Revenues increased 82% to approximately $13,149,000 for the
--------
fiscal year ended June 30, 1996 from approximately $7,215,000 for the fiscal
year ended June 30, 1995. Revenues are primarily comprised of telemarketing
sales by the Company and sales to Stanson Marketing, the Company's U.S. and
Canadian distributor of Ethocyn-based skin care products based on the revenue
recognition policy discussed above.
Revenue for 1996 product sales reflects a reduction of approximately $2.0
million for sales returns and allowance. Of this amount, approximately $1.6
million was established as a reserve against accounts receivable at June 30,
1996, including $1.2 million against receivable from Stanson that are beyond the
agreed upon payment terms.
Cost of Goods Sold. Cost of goods sold as a percentage of revenues from
------------------
product sales during fiscal 1996 was approximately 29% of revenues compared with
21% for fiscal 1995. The fiscal 1996 cost of goods sold percentage is more than
fiscal 1995 primarily due to the recording of inventory reserves of
approximately $595,000 due to the large quantity of inventory on hand at year
end and an additional provision of approximately $1.2 million recorded as a
reduction to revenue.
Marketing and Other Expenses. Marketing and other expenses related to
----------------------------
cosmetic sales increased in fiscal 1996 by approximately $10,453,000 or 504% to
approximately $12,528,000 from approximately $2,075,000 in fiscal 1995. The
increase resulted from the launching, and a full year of marketing and promoting
the sale of Ethocyn based skin care products. The major expenditures were
approximately $8.2 million of advertising and approximately $2.0 million of
salaries and consulting for fiscal 1996 compared to approximately $400,000 of
advertising and approximately $700,000 of salaries and consulting in fiscal
1995. The Company expects that although marketing expenses will continue to
increase with further expansion into the international market, such expense as a
percentage of revenues will decrease in time.
General and Administrative Expenses. General and administrative expenses
-----------------------------------
increased by approximately $5,469,000 or 278% to approximately $7,435,000 for
fiscal 1996 from approximately $1,966,000 for fiscal 1995. The increase in
general and administrative expenses is primarily due to the increase in
personnel with the expansion of operations and an increase in professional
services.
Research and Development Expenses. Research and development expenditures
---------------------------------
increased by approximately $393,000 or 62% to approximately $1,032,000 in fiscal
1996 as compared with approximately $639,000 in fiscal 1995. The fiscal 1995
and 1996 research and development represents ongoing clinical testing of Ethocyn
formulation and stability of Ethocyn based Chantal skin care products, continued
analysis of data and test results of Cyoctol generated by a former licensee, and
Ethocyn scale-up synthesis and isomer resolution research.
Income Taxes. There is no income tax expense for fiscal 1996 compared to
------------
a tax expense of approximately $20,000 in fiscal 1995. The deferred tax asset
at June 30, 1996 is fully reserved for as management cannot determine if it is
more likely than not that the deferred tax asset will be realized.
Liquidity and Capital Resources
- -------------------------------
The Company used net cash flows from operations of $5,129,120 for the
fiscal year ended June 30, 1997 principally due to the operating loss of
$10,571,462 offset by non-cash interest expense of $1,045,000, depreciation and
amortization of approximately $1,455,000, decreases in accounts receivable of
approximately $1,227,000 and inventory of approximately $1,151,000.
The Company used net cash flows in operations of approximately $8,375,000
for the fiscal year ended June 30, 1996 principally due to the increase in
inventory of approximately $4,141,000, the net operating loss of approximately
$12,013,000 offset by the increase in accounts payable and accrued expenses of
approximately $5,358,000. During fiscal 1996, the Company used net cash flows
in investing activities of approximately $805,000 primarily due to the addition
of equipment and leasehold improvements.
During the fiscal year ended June 30, 1997, the Company received
approximately $224,000 in net proceeds from the issuance of short term debt and
notes payable from Stanson Marketing, the Company's U.S. and Canadian
distributor of Ethocyn-based skin care products. In October, 1996, the Company
completed the sale of $5.25 million principal amount of 8% Convertible
21
<PAGE>
Debentures due September 30, 1998. The Company received net proceeds, after
placement fees and expenses, of $4,882,500 from subject Convertible Debenture
financing. The debentures were sold to investors qualifying as "non-U.S.
persons" in an offering completed under Regulation S.
The debentures were convertible into shares of common stock of the Company
as to one-third of the principal amount of each debenture after forty-five (45)
days from the date of issuance, an additional one-third after seventy-five (75)
days from the date of issuance and the balance after ninety (90) days from the
date of issuance. The conversion price is the lesser of $3.91 or 80% of the
average closing bid price of the Company's common stock for the five business
days immediately preceding the conversion date. The Company, in accordance with
the terms of the debentures, notified those debenture holders exercising their
conversion option for the first one-third of their debentures, that the Company
intended to exercise its rights under the debenture to pay cash in lieu of such
conversion and notified all debenture holders that it intended to also redeem
the balance of the debentures for a negotiated purchase price. Such redemption
was not completed. Were all the debentures converted as of the earliest date in
accordance with the terms, the Company would have been required to issue
approximately 3.5 million shares of common stock, which was in excess of the
number of authorized but unissued shares available prior to the amendment of
this Company's Certificate of Incorporation on July 18, 1997 following the
Annual Meeting of Stockholders increasing the number of authorized shares of
common stock to 50 million. Were the debentures converted at August 31, 1997,
approximately 7.6 million shares would have been issuable based on the five day
average price of approximately $.86 for the five trading days ended on that
date. The Company is in the process of attempting to negotiate towards
settlement of the 1996 Regulation S Offering, the realization to which there can
be no assurance (For discussion of various actions instituted by some of the
investors in this placement SEC Item 3.)
In August 1995, pursuant to a private placement under Regulation D of the
Securities Act, the Company sold 1,000,000 shares of common stock and 500,000
shares of Series C Convertible Preferred Stock at $4.90 per share. The net
proceeds to the Company from such sales, after placement fees, were $6,762,700
and were used for general corporate purposes. The shares of common stock were
registered for sale by investors in a registration statement declared effective
January 5, 1996, subject to the agreement of the investors not to sell pursuant
to such registration statement for 90 days following such effectiveness. The
registration statement is currently not available for sales by such investors,
pending amendment to reflect current financial information. Series C Preferred
shares will automatically be converted into shares of Common Stock at the rate
of one (1) share of the Company's Common Stock for each Series C Preferred
share, at the later of (i) the day the Company's Certificate of Incorporation is
amended to increase the number of authorized shares of Common Stock to at least
30,000,000, and (ii) the date a registration statement with respect to the
Common Stock issuable upon such conversion is declared effective by the
Securities and Exchange Commission. The Series C Preferred shares will also
entitle the holder to dividends and to vote on stockholder matters as if
converted into common shares and will have a liquidation preference of $1.00 per
Series C Preferred share.
In connection with the ongoing Chantal Skin Care product launch, the
Company has used significant cash flows to increase its inventory in
anticipation of future sales of Ethocyn-based skin care products. In June 1995
and August 1995, the Company raised an aggregate of $10,302,700 net proceeds:
$3,540,000 from sale of its common stock, and $6,762,700 from sale of a Series C
Convertible Preferred Stock.
On February 24, 1995, the Company announced that it had decided to seek to
acquire the shares of Chantal Skin Care which the Company did not then presently
own. In furtherance thereof, on March 9, 1995, the Company commenced an
exchange offer seeking to acquire the shares of Chantal Skin Care owned by
shareholders located outside the United States, through the exchange of one (1)
share of Company Common Stock for one share of Chantal Skin Care common stock.
On June 16, 1995, the Company accepted for exchange 1,780,000 shares of Chantal
Skin Care common stock. Accordingly, the Company now owns 12,690,812 shares of
Chantal Skin Care common stock, or 90% of the outstanding Chantal Skin Care
shares. The Company presently intends to effect a merger of Chantal Skin Care
with and into a newly formed wholly owned subsidiary of the Company on the same
one share for one share basis as the previously effected exchange with persons
outside the United States.
The independent certified public accountants have expressed in their
opinion that the Company has suffered recurring losses from operations and a
working capital deficiency that raises substantial doubt about its ability to
continue as a going concern.
For fiscal 1998, the Company will continue to generate cash through its
telemarketing sales, collection of existing accounts receivable and sales in the
U.S. and foreign markets. Management also plans to continually monitor and make
changes to overhead costs as needed. The Company is also seeking additional
financing to help fund future operations.
The customer base and distribution outlets have been expanded through the
recent addition of well known personalities, as Company spokespeople, new
products and different product pricing. The Company has reached tentative
agreement with retail chain operators under which the Company expects its
product will be distributed into an additional 7,500 locations. Distribution
into these new locations is expected to commence as the Company's advertising
campaign proceeds. Polly Bergen, a director and Chief Operating Officer of the
Company and a nationally recognized television and Emmy award winning actress is
being featured as the flagship Ethocyn celebrity spokesperson on The Home
Shopping Network. The Company is also planning to distribute the Ethocyn-based
skin care products in department stores, direct response on page and through the
airing of an infomercial which will expand the current distribution channel. If
and when the marketing agreement with Stanson is terminated or alternatively if
the Company exercises its option to acquire Stanson, then it will directly
market and distribute the Ethocyn-based skin care products.
22
<PAGE>
based skin care products in department stores, direct response on page and
through the airing of an informercial which will expand the current distribution
channel.
In conjunction with the expansion in the retail market, the Company has
begun an advertising campaign which will primarily feature television
advertising with a focus in the geographical regions with the major retail
distribution. These advertisements will feature individuals who used the product
on only one-half of their face in 30 and 60 second spots. The Company is in
negotiations with potential financing which will support this advertising
campaign.
In the international market, a sublicensing agreement with Michilan
International was reached to distribute the Ethocyn-based skin care products in
China, Hong Kong, Macao and Taiwan. The first shipment under this agreement was
made in December 1996. In addition, the Company in cooperation with its Master
Distributor, is in negotiations for distribution by other potential sublicensees
for other territories in the Pacific Rim. In Europe, the Company is test
marketing for product positioning. The European market launch programs include
television, print and selected direct response in England and physician,
cosmetician directed print and television direct response on the continent.
David Hasselhoff, the executive producer and star of the number one worldwide
"Baywatch" and "Baywatch Nights" television series, is the celebrity
spokesperson for the Company's Ethocyn-based skin care products in the Pacific
Rim and Europe. He will be featured in television and print advertisements as
well as participate in promotional tours and appearances.
The Company is currently extending its skin care product line with the
addition of the Ethocyn Safe Sun Treatment and plans to include additional sun
care products, super moisterizing night and neck creams and a men's line. The
men's line is planned for initial launch in Europe with an endorsement from
David Hasselhoff.
The Company believes the collection of existing accounts receivable and
sales in the U.S. and foreign markets (through retail, The Home Shopping
Network, direct response), together with additional funds being negotiated will
enable it to meet its cash requirements through fiscal 1998. There can be no
assurance that the Company will be successful in securing these additional
funds and generating sufficient cash flows from operations to meet its marketing
and distribution plans.
In addition, the Company expects to continue to develop certain of its
compounds to pharmaceutical market approvals, both U.S. and foreign. In this
regard, the Company may be required to obtain additional funds to complete the
research, development and expanded commercialization of such products. Such
funds are expected to be obtained from one or more of the following sources: (i)
sales of Ethocyn-based cosmetics products (ii) amounts to be received pursuant
to the Company's license agreements, including royalties from anticipated sales
of Ethocyn-based and Cyoctol-based products; (iii) strategic alliances with
other companies, including joint venture, joint development or license
agreements; and (iv) additional equity or debt offerings. However, there can be
no assurance that the Company will be successful in obtaining additional funds
from any of the foregoing sources.
During fiscal 1992, the Company entered into a capital lease to finance the
acquisition of certain improvements and equipment for its laboratory in Germany.
In connection therewith, the Company recorded a $646,000 capital lease
obligation that calls for monthly payments, in German marks, which, at current
exchange rates, approximates $5,800 through December 31, 1997 and a decreasing
balloon payment currently of $332,000 at the end of the lease term which
continues on a yearly basis subject to termination of twelve months notice. The
Company intends to continue using the laboratory for the foreseeable future and
has not received, nor does it expects to receive a notice of termination from
the lessor. Accordingly, the balloon payment is classified as a long term
liability.
The Company, at this time, does not have any material commitments for
capital expenditures.
New Accounting Pronouncements
- -----------------------------
The Statement of Financial Accounting Standard Number 128 (SFAS No. 128),
"Earnings Per Share" ("EPS") issued by the Financial Accounting Standards Board
is effective for financial statements issued for the periods ending after
December 15, 1997,including interim periods. The SFAS No. 128 requires
restatement of all prior period EPS data presented. The new standard also
requires a reconciliation of the numerator and denominator of the basic EPS
computation to the numerator and denominator of the diluted EPS computation.
The Company does not expect the adoption will have a material effect on its EPS
calculation.
Statements of Financial Accounting Standards No. 129 "Disclosure of
Information about Capital Structure" (SFAS No. 129) issued by the FASB is
effective for financial statements ending December 15, 1997. The new standard
reinstates various securities disclosure requirements previously in effect under
Accounting Principles Board Opinion No. 15, which has been superseded by
23
<PAGE>
SFAS No. 128. The Company does not expect adoption of SFAS No. 129 to have a
material effect, if any, on its financial position or results of operations.
Statements of Financial Accounting Standards No. 130, "reporting
Comprehensive Income" (SFAS No. 130) issued by the FASB is effective for
financial statements with fiscal years beginning after December 15, 1997.
Earlier application is permitted. SFAS No. 130 establishes standards for
reporting and display of comprehensive income and its components in a full set
of general purpose financial statements. The Company has not determined the
effect on its financial position or results of operations, if any, from the
adoption of this statement.
Statements of Financial Accounting Standards No. 131, "Disclosure about
Segments of an Enterprise and Related Information" (SFAS No. 131) issued by the
FASB is effective for financial statements beginning after December 15, 1997.
The new standards requires that public business enterprises report certain
information about operating segments in complete sets of financial statements of
the enterprise and in condensed financial statements of interim periods issued
to shareholders. It also requires that public business enterprises report
certain information about their products and services, the geographic areas in
which they operate and their major customers. The Company does not expect
adoption of SFAS No. 131 to have a material effect, if any, on its Results of
Operations.
IMPACT OF INFLATION
- -------------------
To date, the Company has not been significantly affected by inflation.
24
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- ------- -------------------------------------------
<TABLE>
<CAPTION>
INDEX Page
- ----- ----
<S> <C>
Report of Independent Certified Public Accountant............................................ 26
Consolidated Balance Sheets at June 30, 1997 and 1996........................................ 27
Consolidated Statements of Operations for the years ended June 30, 1997, 1996 and 1995....... 28
Consolidated Statements of Stockholders' Equity (Deficit) for the years ended
June 30, 1997, 1996 and 1995............................................................... 29
Consolidated Statements of Cash Flows for the years ended June 30, 1997, 1996 and 1995....... 31
Notes to Consolidated Financial Statements................................................... 32
Schedule II - Valuation and Qualifying Accounts............................................ 58
</TABLE>
25
<PAGE>
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANT
To Board of Directors and Stockholders
Chantal Pharmaceutical Corporation
We have audited the accompanying consolidated balance sheets of Chantal
Pharmaceutical Corporation as of June 30, 1997 and 1996, and the related
consolidated statements of operations, stockholders' equity (deficit) and cash
flows for each of the three years ended June 30, 1997. We have also audited the
schedule listed in the accompanying index. These consolidated financial
statements and schedule are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements and schedule based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements and
schedule are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the consolidated
financial statements and schedule. An audit also includes assessing the
accounting principles used and significant estimates made by management, as well
as evaluating the overall financial statement presentation of the financial
statements and schedule. We believe our audits provide a reasonable basis for
our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Chantal
Pharmaceutical Corporation as of June 30, 1997 and 1996 and the consolidated
results of its operations and its cash flows for each of the three years ended
June 30, 1997, in conformity with generally accepted accounting principles.
Also, in our opinion, the schedule presents fairly, in all material respects,
the information set forth therein.
The accompanying financial statements and schedule have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 2 to the
consolidated financial statements, the Company has suffered recurring losses
from operations and have a working capital deficiency of $4,578,196 as of June
30, 1997 that raises substantial doubt about its ability to continue as a going
concern. Management's plans in regard to these matters are also described in
Note 2. The financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
BDO SEIDMAN, LLP
Los Angeles, California
September 23, 1997, except for Note 10 and 11 which is as of September 29, 1997.
26
<PAGE>
CHANTAL PHARMACEUTICAL CORPORATION
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
Proforma
June 30, June 30, June 30,
ASSETS 1997 1997 1996
- ------ ---- ---- ----
<S> <C> <C> <C>
Current assets (Note 11)
Cash and cash equivalents $ 150,587 $ 305,668
Short-term investment 23,883 27,926
Accounts receivable, trade, net of
allowance of 5,032,563 and $1,606,908 796,762 2,023,911
Inventory, net of reserve of 988,393
and $595,408 2,904,723 6,888,416
Prepaid expenses and other current assets 203,248 46,411
------------ ------------
Total current assets 4,079,203 9,292,332
Long-term inventory 2,832,822 -
Property and equipment, net of
accumulated depreciation 783,014 1,145,924
License rights, net of accumulated
amortization of $0 and $1,141,856 5,800,000 7,197,689
Patents and trademarks, net of
accumulated amortization of
$67,194 and $60,298 49,920 56,816
Prepaid royalties, net of accumulated
amortization of
$196,969 and $112,032 652,406 737,343
Deposits and other assets 684,272 213,251
Organization costs, net of accumulated
amortization of $86,322
and $54,932 70,628 102,018
------------ ------------
TOTAL ASSETS $ 14,952,265 $ 18,745,373
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
(DEFICIT)
- ----------------------------------------
Current liabilities
Accounts payable $ 5,438,600 $ 5,422,239
Accrued liabilities 2,294,013 1,447,291
Royalties payable 652,668 652,668
Current portion of long-term capital
lease obligation 47,653 59,697
Short-term note payable to distributor 183,000 -
Short-term borrowings 41,465 -
------------ ------------
Total current liabilities 8,657,399 7,581,895
Long Term Liabilities
Capital lease obligations, less current
portion 289,014 384,882
Convertible Debentures 5,250,000 3,356,667 -
------------ ------------ ------------
Total liabilities 14,196,413 12,303,080 7,966,777
Commitments and contingencies
Minority interest 910,615 1,406,897
Stockholders' equity (deficit)
Preferred stock, $.10 par value;
1,000,000 shares authorized; 500,000
Preferred Series C shares issued and
outstanding 50,000 50,000
Liquidation preference of $500,000
Common stock, $.01 par value;
20,000,000 shares authorized;
18,190,516 shares issued and
outstanding 181,905 211,208 181,905
Additional paid-in capital-preferred
stock 2,204,000 2,204,000
Additional paid-in capital - common
stock 52,204,860 54,068,890 51,159,860
Accumulated deficit (54,795,528) (44,224,066)
------------ ------------ ------------
Total stockholders' equity (deficit) (154,763) 1,738,590 9,371,699
------------ ------------ ------------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY (DEFICIT) $ 14,952,265 $ 14,952,265 $ 18,745,373
============ ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
27
<PAGE>
CHANTAL PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Years Ended June 30, 1997, 1996 and 1995
<TABLE>
<CAPTION>
1997 1996 1995
----------------------------------------------
<S> <C> <C> <C>
Revenues:
Product sales, net $ 6,560,122 $ 13,053,353 $ 7,094,115
License fees and other income 102,619 95,456 120,823
------------ ------------ -----------
Total revenues 6,662,741 13,148,809 7,214,938
Cost of goods sold 2,343,994 3,803,144 1,497,489
------------ ------------ -----------
Gross profit 4,318,747 9,345,665 5,717,449
Marketing and other expenses related to
cosmetic line 6,711,801 12,528,263 2,075,061
General and administrative 5,600,218 7,434,737 1,965,915
Amortization of license rights and
prepaid royalties 918,892 918,892 334,996
Write down of license rights 563,735 - -
Research and development 161,668 1,032,037 638,701
------------ ------------ -----------
Income (loss) from operations (9,637,567) (12,568,264) 702,776
Other income (expense):
Interest income 12,128 99,051 15,730
Interest expense (397,305) (139,758) (111,965)
Non-cash interest expense on
convertible debentures (1,045,000)
Other - - (24,245)
------------ ------------ -----------
Income (loss) before income taxes and
minority interest (11,067,744) (12,608,971) 582,296
Income taxes - (20,425)
Minority interest 496,282 596,155 (155,732)
------------ ------------ -----------
Net income (loss) $(10,571,462) $(12,012,816) $ 406,139
============ ============ ===========
Net income (loss) per share $ (.58) $ (.67) $ .03
============ ============ ===========
Weighted average shares outstanding 18,190,516 17,817,183 13,375,934
============ ============ ===========
</TABLE>
See accompanying notes to consolidated financial statements.
28
<PAGE>
CHANTAL PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
For the years ended June 30, 1997, 1996 and 1995
<TABLE>
<CAPTION>
PREFERRED COMMON COMMON COMMON
SHARES SHARES SHARES PREFERRED COMMON STOCK
ISSUED ISSUED SUBSCRIBED STOCK STOCK SUBSCRIBED
----------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balances, June 30, 1994 124,000 10,195,516 160,000 $12,400 $101,955 $ 320,000
Common shares issued in July
1994 - 140,000 (140,000) - 1,400 (280,000)
Common shares issued in
August 1994 - 20,000 (20,000) - 200 (40,000)
Common shares issued for
compound in August 1994 - 15,000 - - 150 -
Preferred shares conversion
in August 1994 (24,000) 120,000 - (2,400) 1,200 -
Common shares issued at $.50
per share for cash in
private placement in August
1994 - 1,200,000 - - 12,000 -
Preferred shares conversion
in September 1994 (60,000) 300,000 - (6,000) 3,000 -
Preferred shares conversion
in December 1994 (10,000) 50,000 - (1,000) 500 -
Common shares issued at
$1.86 per share for cash
less expenses of $427,175
in private placement in Dec
1994 - 1,450,000 - - 14,500 -
Common shares issued for
license rights in China and
Hong Kong in January 1995 - 50,000 - - 500 -
Common shares issued for
termination of royalty
obligation to CBD in Jan
1995 - 300,000 - - 3,000 -
Common shares issued at
$3.06 per share for cash
less expense of $138,000 in
private placement in June
1995 - 1,200,000 - - 12,000 -
<CAPTION>
PREFERRED COMMON
STOCK STOCK
ADDITIONAL ADDITIONAL
PAID-IN PAID-IN ACCUMULATED
CAPITAL CAPITAL DEFICIT TOTAL
------------------------------------------------------
<S> <C> <C> <C> <C>
Balances, June 30, 1994 $ 572,823 $32,308,766 $(32,617,389) $ 698,555
Common shares issued in July
1994 - 278,600 - -
Common shares issued in
August 1994 - 39,800 - -
Common shares issued for
compound in August 1994 - 22,913 - 23,063
Preferred shares conversion
in August 1994 (112,823) 114,023 - -
Common shares issued at $.50
per share for cash in
private placement in August
1994 - 588,000 - 600,000
Preferred shares conversion
in September 1994 (264,000) 267,000 - -
Preferred shares conversion
in December 1994 (49,000) 49,500 - -
Common shares issued at
$1.86 per share for cash
less expenses of $427,175
in private placement in Dec
1994 - 2,258,325 - 2,272,825
Common shares issued for
license rights in China and
Hong Kong in January 1995 - 64,188 - 64,688
Common shares issued for
termination of royalty
obligation to CBD in Jan
1995 - 385,125 - 388,125
Common shares issued at
$3.06 per share for cash
less expense of $138,000 in
private placement in June
1995 - 3,528,000 - 3,540,000
</TABLE>
See accompanying notes to consolidated financial statements.
29
<PAGE>
CHANTAL PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
For the years ended June 30, 1997, 1996 and 1995
(continued)
<TABLE>
<CAPTION>
COMMON
PREFERRED COMMON SHARES
SHARES SHARES SUB- PREFERRED
ISSUED ISSUED SCRIBED STOCK
-----------------------------------------
<S> <C> <C> <C> <C>
Common shares issued in
exchange for 1,780,000 shares of
Chantal Skin Care in June 1995 - 1,780,000 - -
Net income - - - -
------ ---------- ---- ---------
Balances, June 30, 1995 30,000 16,820,516 - 3,000
Common shares issued for
consulting fee in July 1995 - 30,000 - -
Common shares issued at $4.90
per share for cash less expenses
of $391,300 in private
placement in August 1995 - 1,000,000 - -
Preferred shares issued at $4.90
per share for cash less expense
of $196,000 in private
placement in August 1995 500,000 - - 50,000
Stock options of 100,000 shares
exercised at $1.00 per share
in February 1996 - 100,000 - -
Preferred shares conversion in
June 1996 (30,000) 240,000 - (3,000)
Net loss - - - -
------- ---------- ---- ---------
Balance, June 30, 1996 500,000 18,190,516 - 50,000
Non- cash interest expense on
convertible debentures - - - -
Net loss - - - -
------- ---------- ---- ---------
Balance, June 30, 1997 500,000 18,190,516 - $ 50,000
======= ========== ==== =========
<CAPTION>
PREFERRED COMMON
STOCK STOCK
COMMON ADDITIONAL ADDITIONAL ACCUMU-
COMMON STOCK PAID-IN PAID-IN LATED
STOCK SUBSCRIBED CAPITAL CAPITAL DEFICIT TOTAL
-------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Common shares issued in
exchange for 1,780,000 shares of
Chantal Skin Care in June 1995 17,800 - - 6,390,200 - 6,408,000
Net income - - - - 406,139 406,139
-------- ---- ---------- ----------- ------------ ------------
Balances, June 30, 1995 168,205 - 147,000 46,294,440 (32,211,250) 14,401,395
Common shares issued for
consulting fee in July 1995 300 - - 120,120 - 120,420
Common shares issued at $4.90
per share for cash less expenses
of $391,300 in private
placement in August 1995 10,000 - - 4,498,700 - 4,508,700
Preferred shares issued at $4.90
per share for cash less expense
of $196,000 in private
placement in August 1995 - - 2,204,000 - - 2,254,000
Stock options of 100,000 shares
exercised at $1.00 per share
in February 1996 1,000 - - 99,000 - 100,000
Preferred shares conversion in
June 1996 2,400 - (147,000) 147,600 - -
Net loss - - - - (12,012,816) (12,012,816)
-------- ---- ---------- ----------- ------------ ------------
Balance, June 30, 1996 181,905 - 2,204,000 51,159,860 (44,224,066) 9,371,699
Non- cash interest expense on
convertible debentures - - - 1,045,000 - 1,045,000
Net loss - - - - (10,571,462) (10,571,462)
-------- ---- ---------- ----------- ------------ ------------
Balance, June 30, 1997 $181,905 - $2,204,000 $52,204,860 $(54,795,528) $ (154,763)
======== ==== ========== =========== ============ ============
</TABLE>
See accompanying notes to consolidated financial statements.
30
<PAGE>
CHANTAL PHARMACEUTICAL CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years ended June 30, 1997, 1996 and 1995
<TABLE>
<CAPTION>
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Increase (decrease) in cash and cash
equivalents
Cash flows from operating activities:
Net (loss) income $(10,571,462) $(12,012,816) $ 406,139
Adjustments to reconcile net income
(loss) to net cash used in operating
activities:
Write down of license rights 563,735 - -
Inventory reserve 392,985 595,408 -
Depreciation and amortization 1,455,331 1,286,781 621,873
Allowance for sales returns 3,425,655 1,516,692 90,216
Minority interest (496,282) (386,155) 155,732
Loss on disposition of assets 36,667 - 24,245
Common stock issued in satisfaction of
consulting and legal fees - 120,420 -
Non-cash interest expense on 1,045,000 - -
convertible debentures
Changes in operating assets and
liabilities:
Accounts receivable and other (2,198,506) (566,732) (2,974,051)
Inventory 757,886 (4,736,774) (1,830,527)
Prepaid expenses (156,837) 307,685 (281,564)
Other assets (246,375) 161,389 (197,712)
Income taxes payable - (18,500) 17,225
Accounts payable and accrued liabilities 863,083 5,357,629 344,345
----------- ----------- -----------
Net cash used in operating activities (5,129,120) (8,374,973) (3,624,079)
----------- ----------- -----------
Cash flows from investing activities:
Sale (purchase) of short-term - 72,074 (100,000)
certificate of deposit
Additions to property and equipment (25,014) (876,950) (315,669)
----------- ----------- -----------
Net cash provided used in investing activities (25,014) (804,876) (415,669)
----------- ----------- -----------
Cash flows from financing activities:
Proceeds from issuance of short-term
debt/notes payable from distributor 1,174,726 - 51,490
Payments on short-term debt/notes
payable to distributor (950,261) (94,332) -
Payments on capital lease obligation (107,912) (107,494) (57,353)
Proceeds from issuance of convertible
debentures 4,882,500 - -
Proceeds from issuance of common stock - 4,608,700 6,732,825
Proceeds from issuance of preferred stock - 2,254,000 -
----------- ----------- -----------
Net cash provided by financing activities 4,999,053 6,660,874 6,726,962
----------- ----------- -----------
Net increase (decrease) in cash and
cash equivalents (155,081) (2,518,975) 2,687,214
Cash and cash equivalents:
At beginning of period 305,668 2,824,644 137,430
----------- ----------- -----------
At end of period $ 150,587 $ 305,668 $ 2,824,644
=========== =========== ===========
</TABLE>
See accompanying notes to consolidated financial statements.
31
<PAGE>
CHANTAL PHARMACEUTICAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization and development activities
---------------------------------------
Chantal Pharmaceutical Corporation and its subsidiaries is primarily
engaged in the research, development and marketing of innovative compounds
for use as dermatological and skin care consumer products. The Company's
current strategy is to focus initially through the marketing of its novel
Ethocyn cosmetic ingredient on becoming an integrated cosmetic and skin
care company. Ethocyn, one of three principal patented compounds for which
the Company has exclusive manufacturing and distribution rights, is
presently being marketed by the Company as a unique cosmetic product which
improves the appearance of skin aging. The Company operates in one
industry segment, the development and marketing of cosmetic and skin care
products. The Company's products are currently being sold in pharmacies,
chain drug stores and dermatologists offices across the United States and
Canada and through a licensing agreement with Michilan in Taiwan.
Prior to October 1, 1994, the Company was considered to be in the
development stage as defined by Statement of Financial Accounting Standards
No. 7, "Accounting and Reporting By Development Stage Enterprises" ("SFAS
No. 7"). Due to the launch of the Company's Ethocyn-based cosmetic line
during the first quarter of fiscal year 1995, the Company began realizing
revenues associated with its planned principal operations. Accordingly,
beginning October 1, 1994, the Company emerged from the development stage
and began amortizing license rights and organization costs which were
previously unamortized in accordance with SFAS No. 7.
2 Significant accounting policies
-------------------------------
Principles of consolidation
---------------------------
The consolidated financial statements include the accounts of the Company,
its wholly-owned subsidiaries and its 90% owned subsidiary, Chantal Skin
Care Corporation ("Chantal Skin Care"). All significant intercompany
accounts and transactions have been eliminated.
Basis of presentation
---------------------
The financial statements have been prepared on a going concern basis which
contemplates the realization of assets and the settlement of liabilities
and commitments in the normal course of business. The Company has suffered
recurring losses from operations and a working capital deficiency of
$4,578,196 at June 30, 1997 which raises substantial doubt about the
Company's ability to continue as a going concern. The financial statements
do not include any adjustments that might result from the outcome of this
uncertainty.
For fiscal 1998, the Company will continue to generate cash through its
telemarketing sales, collection of existing accounts receivable and sales
in the U.S. and foreign markets. Management also plans to continually
monitor and make changes to overhead costs as needed. The Company is also
seeking additional financing to help fund future operations.
The customer base and distribution outlets have been expanded through the
recent addition of well known personalities, as company spokespeople, new
products and different product pricing. The Company has reached tentative
agreement with retail chain operators under which the Company expects its
product will be distributed into an additional 7,500 locations.
Distribution into these new locations is expected to commence as the
Company's advertising campaign proceeds. Polly Bergen, a director and Chief
Operating Officer of the Company and a nationally recognized television and
Emmy award winning actress is being featured as the flagship Ethocyn
celebrity spokesperson on The Home Shopping Network. The Company is also
planning to distribute the Ethocyn-based skin care products in department
stores, direct response on page and through the airing of an infomercial
which will expand the current distribution channel. If and when the
marketing agreement with Stanson is terminated or alternatively if the
Company exercises its option to acquire Stanson, then it will directly
market and distribute the Ethocyn-based skin care products.
32
<PAGE>
In conjunction with the expansion in the retail market, the Company has
begun an advertising campaign which will primarily feature television
advertising with a focus in the geographical regions with the major retail
distribution. These advertisments will feature individuals who used the
product on only one-half of their face in 30 and 60 second spots. The
Company is in negotiations with potential financing which will support this
advertising campaign.
In the international market, a sublicensing agreement with Michilan
International was reached to distribute the Ethocyn-based skin care
products in China, Hong Kong, Macao and Taiwan. The first shipment under
this agreement was made in December 1996. In addition, the Company, in
cooperation with its Master Distributor, is in negotiations for
distribution by other potential sublicenses for other territories in the
Pacific Rim. In Europe, the Company is test marketing for product market
positioning. The European market launch programs include television, print
and selected direct response in England and physician, cosmetician directed
print and television direct response on the continent. David Hasselhoff,
the executive producer and star of the number one worldwide "Baywatch" and
"Baywatch Nights" television series, is the celebrity spokesperson for the
Company's Ethocyn-based skin care products in the Pacific Rim and Europe.
He will be featured in television and print advertisements as well as
participate in promotional tours and appearances.
The Company is currently extending its skin care product line with the
addition of the Ethocyn Safe Sun Treatment and plans to include additional
sun care products, super moisterizing night and neck creams and a men's
line. The men's line is planned for initial launch in Europe with an
endorsement from David Hasselhoff.
The Company believes the collection of existing accounts receivable and
sales in the U.S. and foreign markets (through retail, The Home Shopping
Network, direct response), together with additional funds being negotiated
will enable it to meet its cash requirements through fiscal 1998. There can
be no assurance that the Company will be successful in securing these
additional funds and generating sufficient cash flows from operations to
meet its marketing and distribution plans.
Revenue Recognition
-------------------
The Company's sales terms, for all sales by its own direct response
telemarketing operators and all its distributors, allow the end-user
customer the right to return the product within 75 days for a full refund
of the purchase price. Distributors, both U.S. and international, can only
return (a) product which does not meet specifically defined product
specification (i.e., product contamination, broken componentry, etc.) or
(b) product returned within the 75 days from purchase by the end user
customers. A provision for sales returns is included as a reduction of
product sales.
The Company, for the year ended June 30, 1996, underwent a complete review
of its method of recording revenue from sales to its U.S. distributor. In
the fiscal year ended June 30, 1995 and in the first quarter ended
September 30, 1995, revenue from product sales to the Company's U.S.
distributor, Stanson Marketing, Inc. ("Stanson") was recognized upon
shipment of product to Stanson. In November 1995, in accordance with its
agreement with Stanson, the Company directed Stanson to commence shipment
on an autoship basis to all possible customers. The Company, in February
1996, sought the advice of its then independent accountants as to whether
its then existing revenue recognition policy was in compliance with
generally accepted accounting principles with respect to recognizing second
quarter autoship sales to Stanson. In connection with the filing of its
Quarterly reports on Form 10-Q for the quarters ended December 31, 1995 and
March 31, 1996, the Company adopted a cash basis revenue recognition policy
with respect to products subject to autoship distribution, upon the advice
of its then independent accountants, which advice was given recognizing
that their view may be different upon completion of their then in progress
procedures. The then independent accountants subsequently resigned as the
Company's independent accountants and advised the Company that they would
not be advising the Company as to whether the then existing revenue
recognition policy was in compliance with generally accepted accounting
principles.
33
<PAGE>
Revenue is recognized upon shipment to Stanson with respect to products
which were not distributed on an autoship basis, and revenue is recognized
with respect to products distributed on an autoship basis upon sale by
Stanson to its customers. On November 21, 1995, the Company, exercising its
June 29, 1995 Distribution Agreement contractual right, notified Stanson
that all future sales of Ethocyn products by Stanson were to be "autoship".
Accordingly, the Company considers all products shipped to Stanson after
November 21, 1995 as being subject to distribution on an autoship basis.
This revenue recognition policy complies with FASB 48 "Revenue Recognition
when Right of Return Exists".
At June 30, 1997, the Company has an allowance of approximately $3.6
million against accounts receivable. This allowance were established as a
reserve against accounts receivable from Stanson that are beyond the agreed
upon payment terms and correspond to a portion of the accounts receivable
owed to Stanson by its customers. The Company also considered recent cash
receipts collection in estimating the allowance. The amount the Company
could ultimately realize could differ materially from the amount estimated
at arriving at the reserves.
Inventory
---------
Inventory is stated at the lower of cost (first-in, first-out) or market.
Inventory consisted of the following:
<TABLE>
<CAPTION>
June 30, June 30,
1997 1996
---------------------------
<S> <C> <C>
Finished goods $2,965,178 $4,067,510
Compound - 855,761
Work in progress 844,796 1,380,017
Raw materials and componentry 83,142 1,180,536
---------- ----------
3,893,116 7,483,824
Inventory reserve (988,393) (595,408)
---------- ----------
$2,904,723 $6,888,416
========== ==========
</TABLE>
Included in inventory are products held by the Company's U.S. distributor
which in accordance with the revenue recognition policy discussed above are
not being recognized as revenue for accounting purposes.
At June 30, 1997 the inventory balance of approximately $2.9 million
includes an inventory reserve of approximately $988,000. Management
estimates reserves based on the relationship of inventory levels to
historical and known future sales. The amount the Company could ultimately
realize could differ materially from the amount estimated at arriving at
the reserves.
Long-term inventory
-------------------
Long-term inventory is comprised of the Ethocyn compound of approximately
$1.6 million and componentry of approximately $1.3 million. Long-term
inventory may not be sold within one year, since the finished goods on hand
is estimated to support Company sales in the near future.
Property and equipment
----------------------
Property and equipment is stated at cost and depreciated on the straight-
line method over the assets' estimated useful lives ranging from three to
ten years. Leasehold improvements are amortized over the shorter of the
asset's life or remaining lease term. Depreciation and amortization expense
related to property and equipment for the years ended June 30, 1997, 1996
and 1995 was $351,259, $320,521 and $246,403, respectively. Maintenance,
repairs and minor renewals are charged to operations as incurred. Major
renewals and betterments which substantially extend the useful life of the
property are capitalized. Upon sale or other disposition of assets, the
cost and related accumulated depreciation and amortization are removed from
the accounts and the resulting gain or loss, if any, is reflected in the
statement of operations.
34
<PAGE>
License rights and prepaid royalties
------------------------------------
License rights from SIG Investment Group Establishment ("SIG") and in
connection with the acquisition of 1,780,000 common shares of Chantal Skin
Care Corporation, and prepaid royalties to CBD Pharmaceutical Corporation
("CBD"), a related party are recorded at cost. Amortization of such costs
HAS BEEN provided by use of the straight-line method over ten years, their
--------
estimated useful lives. The Company began amortization of license rights
and prepaid royalties upon the launch of the Ethocyn-based product line in
fiscal year 1995. Amortization expense for the year ended June 30, 1997 was
$833,954 and $84,937 for license rights and prepaid royalties,
respectively. Amortization expense for the year ended June 30, 1996 was
$833,954 and $84,938 for license rights and prepaid royalties,
respectively. Amortization expense for the year ended June 30, 1995 was
$269,580 and $27,094 for license rights and prepaid royalties,
respectively. If events indicate that identifiable intangible assets may be
impaired, management evaluates such potential impairment based on future
undiscounted cash flows. If impairment is deemed to have occurred, an
impairment loss is recognized for the amount by which the carrying amount
exceeds the fair value. After an impairment is recognized, the reduced
carrying amount of the asset shall be accounted for as its new cost which
shall be depreciated over the assets remaining useful life. Due to the
lower than expected sales of Ethocyn skin care product after the conclusion
of its first full year of sales subsequent to its launch, the Company
engaged an independent valuation firm to determine the fair value of the
license rights. In accordance with the recent independent valuation, the
license rights have been written down by approximately $564,000 to fair
value at June 30, 1997. The new cost will be depreciated over the assets
remaining useful life of approximately seven years. The amount the Company
could ultimately realize could differ materially from the carrying value of
the assets.
Patents and trademarks
----------------------
Patent and trademark costs consist primarily of legal costs incurred by the
Company in its efforts to obtain domestic and foreign patents on its
products. Patent and trademark costs are amortized on a straight-line basis
over the life of the related patent or trademark. Amortization expense for
the years ended June 30, 1997, 1996 and 1995 was $6,896, $6,895 and $6,896,
respectively.
Organization costs
------------------
Organization costs represent cost incurred related to the organization of
Chantal Skin Care Corporation and are amortized on a straight-line method
over five years. Amortization expense for the years ended June 30, 1997,
1996 and 1995 was $31,390, $31,389 and $23,543, respectively.
Short-term notes payable to distributor
---------------------------------------
Short-term notes payable to Stanson Marketing, the Company's U.S. and
Canadian distributor, represent amounts collateralized by inventory and
equipment extended to the Company with an interest rate of 8.5% and a
maturity date of less than one year from the date of issuance.
Royalties payable
-----------------
Royalties payable represent royalties payable to SIG for a period of three
years ending fiscal 1997, a contractual obligation of the Company in
connection with the acquisition of Cyto Skin Care subsidiary (subsequent
name change to Chantal Skin Care). The royalty is calculated at 5% of
revenues, with a minimum amount of $350,000 per year and a cap of
$2,000,000. No payment to SIG has been made since October 1995.
Convertible debentures
----------------------
In October, 1996, the Company completed the sale of $5.25 million principal
amount of 8% Convertible Debentures due September 30, 1998. The Company
received net proceeds of $4,882,500 after payment of
35
<PAGE>
placement fees and expenses. The debentures were sold to investors
qualifying as "non-U.S. persons" in an offering completed under Regulation
S. The fair value of the debentures are determined using the market
interest rates at which similar loans would be made to borrowers with
similar credit risks for the remaining maturities. At June 30, 1997, the
carrying value appproximates the fair value.
The debentures were convertible into shares of common stock of the Company
as to one-third of the principal amount of each debenture after forty five
(45) days from the date of issuance, an additional one-third after seventy-
five (75) days from the date of issuance and the balance after ninety (90)
days from the date of issuance. The conversion price is the lesser of $3.91
or 80% of the average closing bid price of the Company's common stock for
the five business days immediately preceding the conversion date. The
Company, in accordance with the terms of the debentures, notified those
debenture holders exercising their conversion option for the first one-
third of their debentures, that the Company intended to exercise its rights
under the debenture to pay cash in lieu of such conversion and notified all
debenture holders that it intended to also redeem the balance of the
debentures for a negotiated purchase price. Such redemption was not
completed. Were all the debentures converted as of the earliest date in
accordance with the terms, the Company would have been required to issue
approximately 3.5 million shares of common stock, which was in excess of
the number of authorized but unissued shares available prior to the
amendment of this Company's Certificate of Incorporation on July 18, 1997
following the Annual Meeting of Stockholders increasing the number of
authorized shares of common stock to 50 million. Were the debentures
converted at August 31, 1997, approximately 7.6 million shares would have
been issuable based on the five day average price of approximately $.86 for
the five trading days ended on that date. The Company is in the process of
attempting to negotiate towards settlement of the 1996 Regulation S
offering, the realization to which there can be no assurance. (For
discussion of various actions instituted by some of the investors in this
placement see Note 10.)
Stock-based compensation
------------------------
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-
Based Compensation" (SFAS 123) establishes a fair value method of
accounting for stock-based compensation plans and for transactions in which
a company acquires goods or services from nonemployees in exchange for
equity instruments. The Company adopted this accounting standard on
January 1, 1996. SFAS 123 also gives the option to account for stock-based
employee compensation in accordance with Accounting Principles Board
Opinion No. 25 (APB 25), "Accounting for Stock Issued to Employees" or SFAS
123. The Company has chosen to continue to account for stock-based
compensation utilizing the intrinsic value method prescribed in APB 25.
Accordingly, compensation cost for stock options is measured as the excess,
if any, of the fair market price of the Company's stock at the date of
grant over the amount an employee must pay to acquire the stock.
If SFAS 123 is not adopted related to stock-based employee compensation,
SFAS 123 for footnote purposes requires that companies measure the cost of
stock-based employee compensation at the grant date on the value of the
award and recognize this cost over the service period. The value of the
stock based award if determined using a pricing model whereby compensation
cost is in excess of the fair value of the stock as determined by the model
at grant date or other measurement date over the amount an employee must
pay to acquire the stock.
Foreign currency translation
----------------------------
The Company's foreign subsidiaries use the U.S. dollar as the functional
currency and translate monetary assets and liabilities at the year end
exchange rate. Property and non-monetary assets and liabilities are
translated at historical rates. Income and expense accounts are translated
at the average rates in effect during the year. The effect of foreign
currency translation is not material.
Research and development costs
------------------------------
A significant portion of the Company's activities relates to developing
drug and cosmetic products derived from its licensed family of synthetic
chemical compounds. Research and development costs are expensed as
incurred.
36
<PAGE>
Advertising and promotion costs
-------------------------------
Broadcast and print advertising costs are expensed when the advertising
schedule is first broadcast or circulated. All other advertising and
promotion costs are expensed as incurred. The Company has prepaid
advertising of approximately 272,000 at June 30, 1997. There was no
prepaid advertising at June 30, 1996.
Net income (loss) per share
---------------------------
The computation of net income (loss) per share is based on the weighted
average number of common shares outstanding. When dilutive, stock options,
warrants and convertible Preferred Stock are included as common share
equivalents using the treasury stock method. Primary and fully diluted
earnings per share are the same for the years presented.
Statement of cash flows
-----------------------
The Company considers investments that are short-term, highly liquid,
readily convertible to cash and purchased with an original maturity of
three months or less to be cash equivalents.
<TABLE>
<CAPTION>
1997 1996 1995
--------------------------------------
<S> <C> <C> <C>
Supplemental cash flow information:
Interest paid $ 25,249 $139,758 $111,965
Non-cash financing activities:
Non-cash interest expense 1,045,000
Common shares issued for consulting
service 120,420
Common shares of subsidiary issued for
consulting service 210,000
Common shares of subsidiary issued
to acquire license rights 845,625
Common shares issued for termination
of royalty payment obligation 388,125
Common shares of subsidiary issued for
termination of royalty payment
obligation 461,250
Common shares issued for compound 23,063
Common shares issued for license
rights 64,688
Common shares issued in exchange for
1,780,000 common shares of Chantal
Skin Care 6,048,000
</TABLE>
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 year. Actual results could differ from those estimates.
New Accounting Pronouncements
-----------------------------
The Statement of Financial Accounting Standard Number 128 (SFAS No. 128),
"Earnings Per Share" ("EPS") issued by the Financial Accounting Standards
Board is effective for financial statements issued for the periods ending
after December 15, 1997, including interim periods. The SFAS No. 128
requires restatement of all prior period EPS data presented. The new
standard also requires a reconciliation of the numerator and denominator of
the basic EPS computation to the numerator and denominator of the diluted
EPS computation. The Company does not expect the adoption will have a
material effect on its EPS calculation.
37
<PAGE>
Statements of Financial Accounting Standards No. 129 "Disclosure of
Information about Capital Structure" (SFAS No. 129) issued by the FASB is
effective for financial statements ending December 15, 1997. The new
standard reinstates various securities disclosure requirements previously
in effect under Accounting Principles Board Opinion No. 15, which has been
superseded by SFAS No. 128. The Company does not expect adoption of SFAS
No. 129 to have a material effect, if any, on its financial position or
results of operations.
Statements of Financial Accounting Standards No. 130, "reporting
Comprehensive Income" (SFAS No. 130) issued by the FASB is effective for
financial statements with fiscal years beginning after December 15, 1997.
Earlier application is permitted. SFAS No. 130 establishes standards for
reporting and display of comprehensive income and its components in a full
set of general purpose financial statements. The Company has not
determined the effect on its financial position or results of operations,
if any, from the adoption of this statement.
Statements of Financial Accounting Standards No. 131, "Disclosure about
Segments of an Enterprise and Related Information" (SFAS No. 131) issued by
the FASB is effective for financial statements beginning after December 15,
1997. The new standards requires that public business enterprises report
certain information about operating segments in complete sets of financial
statements of the enterprise and in condensed financial statements of
interim periods issued to shareholders. It also requires that public
business enterprises report certain information about their products and
services, the geographic areas in which they operate and their major
customers. The Company does not expect adoption of SFAS No. 131 to have a
material effect, if any, on its Results of Operations.
3. Off balance sheet risk and concentration of credit risk
-------------------------------------------------------
At June 30, 1997, the Company has uncollateralized accounts receivable
from its distributor representing the majority of total accounts
receivable. Subsequently, cash receipts have been received from accounts
receivable from its distributor for the majority of the balance. At June
30, 1997, approximately $940,000 of the ending net inventory balance of
approximately $2.9 million was comprised of inventory held by the Company's
U.S. distributor.
The Company earned net revenues from two significant customers of
approximately $2.6 million (39%) and approximately 876,000 (13%) in fiscal
year 1997, one significant customer of approximately $8.6 million (65%) in
fiscal year 1996 and $4.4 million (62%) in fiscal year 1995.
The Company manufactures its Ethocyn, Cyoctol and Metcyclor patented
compounds, as concentrated oils, in Germany. Total foreign assets at June
30, 1997 and 1996 were $883,262 and $1,763,162.
4. Manufacturing and distribution licenses
-----------------------------------------
In 1982 the Company acquired from CBD Pharmaceutical Corporation ("CBD"), a
corporation majority controlled by the Company's Chairman of the Board and
Chief Executive Officer and certain members of her family, a license for
the exclusive worldwide manufacturing and distribution rights to all
products derived from the X-Andron family of synthetic chemical compounds
which were developed by CBD. The license agreement is effective for the
life of all patents obtained for these products and required royalty
payments of 8% of the Company's net revenue from such products and
derivative products and 8% of revenues derived by the Company from royalty
or other sales-based compensation pursuant to any sub-license, joint
venture or other marketing or development agreement between the Company and
any other party with respect to the licensed compounds. The obligation to
make payments to CBD with respect to Ethocyn-based cosmetic products
38
<PAGE>
was assumed by Chantal Skin Care in connection with the License Agreement
between the Company and Chantal Skin Care. Effective August 1, 1994, CBD,
the Company and Chantal Skin Care agreed to terminate the 8% royalty
obligation and in lieu thereof CBD agreed to accept from the Company
300,000 shares of its common stock and 300,000 shares of Chantal Skin Care
Corporation's common stock. These transactions, in fiscal 1995, resulted in
prepaid royalties for the Company and Chantal Skin Care valued at $388,125
and $461,250, respectively.
5. Lease obligations
-----------------
Included in property and equipment are certain laboratory equipment and
improvements subject to capital leases having an aggregate original cost of
$598,111 at June 30, 1997 and 1996. The related accumulated amortization
for such laboratory equipment and improvements was $498,327 and $421,661 at
June 30, 1997 and 1996.
The aggregate annual minimum lease commitments under all non-cancelable
leases as of June 30, 1997 are as follows:
<TABLE>
<CAPTION>
Capital Operating
Fiscal Year leases leases
- ----------------- -------- ---------
<S> <C> <C>
1998 $ 74,352 $ 394,242
1999 68,977 94,648
2000 68,977 3,068
2001 68,977 -
2002 68,977 -
Thereafter 123,583 -
-------- ---------
473,843 $ 491,958
=========
Less: interest 137,176
--------
$336,667
========
</TABLE>
For the years ended June 30, 1997, 1996 and 1995, rental expense amounted
to $633,451 and $636,332 and $278,386. Due to the terms of the leases, the
book value approximates the fair value.
6. Income taxes
--------------
The Company is subject to income tax in the United States, Germany and
Switzerland. The provision for income tax has been made in accordance with
applicable tax law and practice in these jurisdictions.
In the United States, the Company files on a consolidated basis, including
itself and all United States subsidiaries. The Company also considers the
United States tax liability of any earnings by foreign subsidiaries.
For the year ended June 30, 1997 and 1996, the Company had no current or
deferred income tax expense. For the year ended June 30, 1995, income tax
expense consisted of current federal and state taxes of $15,130 and $5,295.
The effective federal rate differed from the expected statutory rate for
income taxes in the consolidated statements of operations as follows:
<TABLE>
<CAPTION>
1997 1996 1995
----------- ----------- --------
<S> <C> <C> <C>
Expected tax expense (benefit) at
federal statutory rate $(3,763,033) $(4,287,050) $203,804
State taxes, net of federal tax
benefit and before utilization of
net operating loss carry-forwards (417,083) (280,085) 3,442
Effect of foreign income taxes 167,447 - (3,888)
Utilization of net operating loss
</TABLE>
39
<PAGE>
<TABLE>
<S> <C> <C> <C>
carry-forwards - - (264,774)
Non-cash interest expense 355,300
Goodwill 330,377 138,694 -
Federal alternative minimum tax - - 15,130
Change in deferred tax asset
valuation allowance 3,277,239 3,868,271 54,899
Other, net 49,753 - 11,812
------------ ------------ ---------
Total tax expenses at actual rate $ - $ - $ 20,425
============ ============ =========
<CAPTION>
Significant components of deferred tax balances are as follows:
Years ended June 30,
-------------------
<S> <C> <C>
Deferred tax assets:
Allowance on accounts receivable 2,013,026 166,883
State taxes - -
Inventory 395,357 238,163
Net operating loss carry-forward 14,797,444 13,573,552
Amortization 99,153 38,739
Other - 10,404
------------ ------------
Total deferred tax assets 17,304,980 14,027,741
Valuation allowance (17,304,980) (14,027,741)
------------ ------------
Net deferred tax assets $ - $ -
============ ============
</TABLE>
The deferred tax asset is fully reserved for as Management cannot determine
if it is more likely than not that the deferred tax asset will be realized.
At June 30, 1997, the Company has Federal and California net operating loss
carryforwards for tax purposes of approximately $41,635,000 and $6,899,000
which expire beginning fiscal year 1998 to 2012. The Company's ability to
utilize the net operating loss carryforwards is dependent upon the ability
to generate taxable income in future periods which may be limited due to
future ownership changes as defined under Section 382 of the Internal
Revenue Code of 1986. Utilization of Federal and California net operating
losses may also be limited in any one year by alternative minimum tax
rules.
7. Stockholders' equity
--------------------
During the fiscal year ended June 30, 1995, 94,000 shares of the Company's
Preferred Stock were converted into an aggregate of 470,000 shares of the
Company's common stock in accordance with the terms of the Preferred Stock
Agreements.
In March and April 1994, the Company received notice of exercises with
respect to certain outstanding warrants. With respect to the exercise of
such warrants, the Company recorded at March 31, 1994, 185,000 shares as
common stock subscribed and at June 30, 1994, the Company recorded an
additional 135,000 shares as common stock subscribed. The Company received
payment for 160,000 of the initial 185,000 shares in June 1994, at which
time it recorded such shares as issued, leaving at June 30, 1994, 160,000
shares as common stock subscribed. Payment of $320,000 for all outstanding
common stock subscribed was received by the Company in July and August
1994.
In August 1994, pursuant to a private placement, the Company received
$600,000 for the sale of 1,200,000 shares of the Company's common stock and
1,200,000 warrants, each to purchase a share of common stock at an exercise
price of $2.00, exercisable through September 29, 1994. The warrants
expired unexercised.
In August 1994, the Company issued to The Upjohn Company 15,000 shares of
the Company's common stock pursuant to an agreement reached between the
Company and The Upjohn Company for purchase by the Company of The Upjohn
Company's 38.5 kilograms of synthesized Cyoctol inventory.
40
<PAGE>
In December 1994, the Company completed the sale of 1,450,000 shares of its
common stock in a private placement offering, for an aggregate $2,700,000
and received $2,272,825, net of sales commissions and other expenses
associated with the sale.
In July 1994 and in conjunction with Ethocyn U.S. and international
marketing negotiations then in progress, CBD Pharmaceutical Corporation, a
related party, agreed with the Company and Cyto Skin Care Corporation (in
August 1994 name changed to Chantal Skin Care) to terminate the 8% royalty
obligation, effective August 1, 1994, and in lieu thereof, to accept from
the Company 300,000 shares of its common stock and from Chantal Skin Care
Corporation 300,000 shares of its common stock. In January 1995, 300,000
shares of the Company's common stock were issued per the agreement and
300,000 shares of common stock of Chantal Skin Care were issued in May
1995.
In January 1995, the Company issued 50,000 shares of its common stock to a
sublicensee of SIG for returning the license rights for the territory of
China and Hong Kong back to the Company, pursuant to the agreement between
the Company and the sublicensee.
On February 24, 1995, the Company announced that it had decided to seek to
acquire the shares of Chantal Skin Care which the Company did not then
presently own. In furtherance thereof, on March 9, 1995, the Company
commenced an exchange offer seeking to acquire the shares of Chantal Skin
Care owned by stockholders located outside the United States, through the
exchange of one share of Common Stock of the Company for one share of
Chantal Skin Care. On June 16, 1995, the Company accepted for exchange
1,780,000 shares of Chantal Skin Care. Accordingly, the Company now owns
12,690,812 shares of Chantal Skin Care or 90% of the outstanding Chantal
Skin Care shares.
In June 1995, the Company concluded a private placement of 1,200,000 shares
of common stock for an aggregate $3,678,000 with net proceeds to the
Company of $3,540,000 after placement fees.
In July 1995 the Company issued 30,000 shares of common stock to a
consultant for consulting services.
In August 1995, pursuant to a private placement under Regulation D of the
Securities Act, the Company sold 1,000,000 shares of common stock and
500,000 shares of Series C Convertible Preferred Stock at $4.90 per share.
The net proceeds to the Company from such sales, after placement fees, were
$6,762,700 and were used for general corporate purposes. The shares of
common stock were registered for sale by investors in a registration
statement declared effective January 5, 1996, subject to the agreement of
the investors not to sell pursuant to such registration statement for 90
days following such effectiveness. The registration statement is currently
not available for sales by such investors, pending amendment to reflect
current financial information. Series C Preferred shares will
automatically be converted into shares of Common Stock at the rate of one
(1) share of the Company's Common Stock for each Series C Preferred share,
at the later of (i) the day the Company's Certificate of Incorporation is
amended to increase the number of authorized shares of Common Stock to at
least 30,000,000, and (ii) the date a registration statement with respect
to the Common Stock issuable upon such conversion is declared effective by
the Securities and Exchange Commission. The Series C Preferred shares will
also entitle the holder to dividends and to vote on stockholder matters as
if converted into common shares and will have a liquidation preference of
$1.00 per Series C Preferred share.
Options
-------
In May 1984, the Company adopted an incentive stock option plan which
provides for the granting of incentive stock options for up to 175,000
shares of the Company's common stock. Options were granted at not less
than the fair market value of the shares at the date of grant. The plan
terminated on April 30, 1994 by its terms.
In September 1982, the Company's shareholders approved a non-qualified
stock option plan for the members of the Board of Directors (except the
Company's president), independent contractors and key employees, whereby
the eligible persons may be granted an option to purchase shares of the
Company's common stock at less than the fair market value of the shares at
the date of grant. A total of 250,000 shares
41
<PAGE>
are authorized under the plan. Under the Company's non-qualified stock
option plan, certain options were granted at significantly less than the
fair market value of the shares at the date of grant. In these instances,
upon granting of the stock options, the difference between the option price
and the fair market value of the shares granted was charged to deferred
costs and subsequently amortized over the vesting period of the related
options. There were no charges to compensation expense relating to non-
qualified stock options for the years ended June 30, 1997, 1996 and 1995.
The plan terminated by its terms on January 27, 1994.
In February 1994, the Company granted a consultant options exercisable over
a term of three years for the purchase of 100,000 shares at an exercise
price of $1.00 per share. The right to exercise these options vested in
equal quarterly installments of 25,000 shares, on May 1, 1994, August 1,
1994, November 1, 1994 and February 1, 1995. These options were exercised
in the fiscal year ended June 30, 1996.
In March 1995, the Company granted a then executive officer (who has since
resigned from the Company) options for the purchase of 100,000 shares at an
exercise price of $2.44 per share. Pursuant to an agreement with the
former officer, options to purchase 75,000 shares became exercisable in
September 1995 and the balance became exercisable on December 31, 1995.
The options are exercisable for three years.
In July 1995, an officer of the Company was granted options to purchase an
aggregate of 500,000 shares of common stock of the Company at a purchase
price of $5.00 per share that vest upon certain performances by the
Company. Under the option agreement, 300,000 of the options granted to him
terminated by fiscal 1997.
In August 1996, an officer of the Company was granted options to purchase
an aggregate of 150,000 shares of common stock of the Company at a purchase
price of $4.625 per share, which exercise price was reduced to 1 5/16 in
April, 1997. Of the 150,000 shares, 75,000 shares vest upon certain
performances by the Company. Under the option agreement, 40,000 of the
options granted terminated in fiscal 1997.
In April 1997, the Company granted a board member options for the purchase
of 45,000 shares, at an exercise price of $1 5/16 per share, of which
25,000 are immediately exercisable and the remaining 20,000 become
exercisable upon re-election to the Board at the Annual Meeting following
the first anniversary of service as a director. These options replaced
options previously granted in June 1996.
In June 1996, the Company granted a board member options for the purchase
of 40,000 shares at an exercise price of $7.00 per share, which exercise
price was reduced to 1 5/16 in April, 1997, of which 20,000 are immediately
exercisable and the remaining 20,000 become exercisable upon re-election to
the Board at the Annual Meeting following the first anniversary of service
as a director.
In April 1997, the Company granted a board member options for the purchase
of 40,000 shares at an exercise price of $1 5/16, of which 20,000 are
immediately exercisable and the remaining 20,000 become exercisable upon
re-election to the Board at the Annual Meeting following the first
anniversary of grant.
In June 1997, the Company granted to two board members options for the
purchase of 40,000 shares at an exercise price of $1.00 per share, of which
20,000 are immediately exercisable and the remaining 20,000 become
exercisable upon re-election to the Board at the Annual Meeting following
the first anniversary of service as a director.
In June 1997, the Company granted to an officer options for the purchase of
100,000 shares at an exercise price of $1.00 per share. The Company also
granted options for the purchase of 200,000 shares that vest upon certain
performance goals being obtained by the Company at an exercise price
determined at the time of vesting.
In June 1997, an officer of the Company was granted options to purchase
100,000 shares of common stock of the Company at $1.00 per share. The
Company also granted options for the purchase of 400,000 shares that vest
upon certain performances by the Company at exercise prices ranging from
$2.00 to $5.00.
42
<PAGE>
FASB Statement 123 Accounting for Stock-Based Compensation, requires the
Company to provide pro forma information regarding net income and earnings
per share as if compensation cost for the Company's stock option plans had
been determined in accordance with the fair value based method prescribed
in FASB Statement 123. The Company estimates the fair value of each stock
option at the grant date by using the Black-Scholes option-pricing model
with the following weighted average assumption used for grants in 1996 and
1997: dividend yield of 0%; expected volatility of 30.7 percent; risk-free
interest rates ranging from 5.8% to 6.5%; and expected lives ranging from
3 to 6 years. The weighted fair value of options granted in 1996 and 1997
was $2.06 and $.33.
Under the accounting provisions of FASB Statement 123, the Company's net
loss and losses per share is not materially different.
<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
June 30, 1997 June 30, 1996
Shares Weighted Ave. Shares Weighted Ave.
(000) Exercise Price (000) Exercise Price
--------- ---------------- ------- --------------
Outstanding at beginning of year 485,000 4.87 200,000 1.72
Granted 1,115,000 1.86 585,000 5.33
Exercised 100,000 1.00
Forfeited 185,000 6.04 200,000 5.00
--------- -------
Outstanding at end of year 1,415,000 2.74 485,000 4.87
========= =======
Options exercisable at year end 410,000 1.44 130,000 3.53
Options Outstanding Number of
Number Weighted Ave. Options exercisable
Outstanding Remaining Exercisable
Exercise Prices at 6/30/97 Contractual Life at 6/30/97
- --------------- ----------- ---------------- -------------------
$1.00 330,000 3 190,000
1.31 235,000 3 120,000
2.00 250,000 3 -
2.44 100,000 3 100,000
5.00 500,000 3 -
---------- -------
1,415,000 3 410,000
</TABLE>
8. Transactions with related parties
---------------------------------
In addition to the transactions described elsewhere, the Company recognized
in 1997, 1996 and 1995 legal expenses of approximately $42,000, $42,000 and
$85,000, respectively, for services provided by a law firm in which a
former director (until March 1995) and officer (until February 1993) of the
Company is a partner. This firm has served as European legal and
regulatory counsel to the Company since 1984.
The Company also recognized in 1997, 1996 and 1995 legal expenses of
approximately $528,000, $641,925 and $85,911, respectively for services
provided by a law firm in which a current director of the Company is a
partner.
At June 30, 1997, the Company has short-term notes payable of $183,000 to
its U.S distributor.(see Note 2)
43
<PAGE>
9. Fourth Quarter Adjustments
--------------------------
In the fourth quarter of fiscal 1997, the Company recorded an additional
allowance of approximately $2.1 million against the June 30, 1997 accounts
receivable balance. In conjunction with the planned termination of the
distribution agreement with Stanson, the Company reevaluated the adequacy
of the accounts receivable allowance and due to the recent cash receipts
from Stanson, recorded the additional allowance. The Company recorded this
allowance as a reduction of revenue for income statement purposes. The
Company also recorded inventory reserves of approximately $441,000 due to
the large quantity of inventory on hand at year end. In accordance with a
recent independent valuation, the license rights have been written down by
approximately $564,000 to fair value at June 30, 1997.
In the fourth quarter of fiscal 1996, the Company recorded an additional
provision of approximately $1.2 million against the June 30, 1996 accounts
receivable balance from Stanson which are beyond the agreed upon payment
terms. The Company recorded this provision as a reduction of revenues for
income statement purposes. The Company also recorded inventory reserves of
approximately $595,000 due to the large quantity of inventory on hand at
year end.
10. Litigation
----------
The Company and Chantal Burnison are defendants in an action titled
Marksman Partners, L.P., on behalf of itself and all others similarly
---------------------------------------------------------------------
situated vs Chantal Pharmaceutical Corporation and Chantal Burnison, filed
-------------------------------------------------------------------
on February 7, 1996 in the United States District Court, Central District
of California, Western Division, Case No. 96-0872. This action is a
securities class action on behalf of all persons who purchased or otherwise
acquired the common stock of the Company between July 10, 1995 and January
5, 1996, inclusive.
The Marksman Partners action is based on a contention that the Company's
-----------------
accounting for sales revenue, because of the nature of its distribution
agreement with Stanson Marketing, Inc. overstated its revenues for fiscal
(June 30) 1995 and for the September 30, 1995 quarter ($3 million and $10
million, respectively), which, the action claims, violated generally
accepted accounting principles and the Federal securities laws. The
complaint notes that Chantal Burnison sold 300,000 shares during the class
period (the sales were actually made by CBD Pharmaceutical Corporation from
approximate holdings of 1.3 million shares. Sales were made after
consultation with the Company's legal counsel.) The complaint appears to
rely on details of the contractual relationship with the distributor to
contend that the revenues should not have been booked by the Company based
on shipped orders from the distributor, since among other reasons,
plaintiffs allege that Stanson, during the relevant time period, had the
right to require the Company to purchase Stanson on a formula dependent on
its income from the Company's products' sales, and the Company did not have
a substantial history of selling through the distributor and the
distribution system. The action seeks monetary damages in an unspecified
amount. The amount sought on the basis stated in the complaint would be
substantially in excess of the Company's current net worth.
The Company believes its financial reports were correctly presented under
generally accepted accounting principles. A motion to dismiss the Marksman
--------
Partners action was denied, and pre-trial discovery in the Marksman
-------- --------
Partners action has commenced. The Company plans to vigorously defend
--------
itself against the claims asserted in the litigation.
In addition, a derivative action based on many of the same contentions as
made in Marksman has been filed against the Company and Chantal Burnison.
The action, entitled Baruch Singer and Dorothea E. Wakefield vs. Chantal
---------------------------------------------------
Burnison, defendant, and Chantal Pharmaceutical Corporation, nominal
--------------------------------------------------------------------
defendant, was filed in the Superior Court of the State of California, the
---------
County of Los Angeles, case No. BC 147327. In June 1997, the plaintiffs
amended the complaint to assert a claim against the Company's former
auditors, Coopers & Lybrand LLP, for negligence and professional
malpractice arising out of Coopers & Lybrand's audit of the Company's
fiscal year 1995 financial statements which are the subject of both the
Marksman and Singer actions. Coopers & Lybrand's motion to dismiss the case
-------- ------
was denied.
44
<PAGE>
The Company has been a defendent in a lawsuit entitled Amado Institute,
---------------
Inc., and Arizona Corporation, Plaintiff, vs. Chantal Pharmaceutical
--------------------------------------------------------------------
Corporation, Defendants, U.S. Federal District Court, No. CIV 96-154-TUC-
-----------------------
RMB, in a dispute concerning the Company's rescission of an Arizona land
transition. The Company, in September 1997, won its motion for summary
judgment against the Plaintiff on all counts in this case. Although an
appeal is possible by the Plaintiff, negotiations are in progress to obtain
a waiver of the appeal.
In October, 1996, the Company completed the sale of $5.25 million principal
amount of 8% convertible debentures due December 31, 1998. The debentures
were sold to investors qualifying as "non U.S. persons" in an offering
completed under Regulation S. The debentures were convertible into shares
of common stock of the Company as to one-third of the principal amount of
each debenture after forty five (45) days from the date of issuance, an
additional one-third after seventy-five (75) days from the date of issuance
and the balance after ninety (90) days from the date of issuance. The
conversion price is the lesser of $3.91 or 80% of the average closing bid
price of the Company's common stock for the five business days immediately
preceding the conversion date. The Company, in accordance with the terms
of the debentures, notified those debenture holders exercising their
conversion option for the first one-third of their debentures, that the
Company intended to exercise its rights under the debenture to pay cash in
lieu of such conversion and notified all debenture holders that it intended
to also redeem the balance of the debentures for a negotiated purchase
price. Such redemption was not completed. Were all the debentures
converted as of the earliest date in accordance with the terms, the Company
would have been required to issue approximately 3.5 million shares of
common stock. Such number is in excess of the number of authorized but
unissued shares available prior to the amendment of this Company's
Certificate of Incorporation on July 18, 1997 following the Annual Meeting
of Stockholders increasing the number of authorized shares of common stock
to 50 million. Were the debentures converted at August 31, 1997,
approximately 7.6 million shares would have been issuable based on the five
day average price of approximately $.86 for the five trading days ended on
that date. The Company is attempting to negotiate towards settlement of
subject 1996 Regulation S offering.
Three actions involving six investors have been commenced against
the Company relating to this offering. Two of these actions which were
consolidated were brought in Delaware - FT Trading v. Chantal
---------------------
Pharmaceutical Corporation, Court of Chancery of the State of Delaware
---------------------------
in and for New castle County, C.A. No. 15628-NC and Arbinter Omnivalor S.A.
-----------------------
v. Chantal Pharmaceutical Corporation, Court of Chancery of the State of
-------------------------------------
Delaware in and for New Castle, C.A. No. 15788-NC - and one was brought in
California - UFH Endowment Ltd. Ephram-Saghi and Ben Z. Katz v. Chantal
----------------------------------------------------------
Pharmaceutical Corporation and Chantal Burnison, United States District
-----------------------------------------------
Court, Central District of California, Western Division, Case No. CV 97-
3118LGB (AJW). In each of the actions, the plaintiffs have sought to have
all or a portion of their debentures converted and to recover damages and
attorneys fees as set forth in the debentures.
On September 9, 1997, FT Trading and Arbinter Omnivalor were granted
partial summary judgement on the claims against the Company. Pursuant to
the Court's Order entered September 17, 1997, the Company is required to
issue to FT Trading, 48,484 shares of common stock relating to its
conversion notice with respect to one-third of its debenture and to honor
the immediate conversion of the remaining two-thirds, and to pay FT Trading
an aggregate of $181,615 for unpaid interest and damages, and to also
reimburse FT Trading for costs and expenses, including legal fees, relating
to the action. The Company has not yet issued the shares and has not paid
the interest and damages in accordance with the Court Order.
Pursuant to the Court Order, the Company is required to issue to Arbinter
Omnivalor 242,424 shares of Common Stock relating to its initial conversion
notice with respect to one-third of each of its two
45
<PAGE>
debentures and to honor future conversions, and to pay Arbinter Omnivalor
an aggregate of $396,741 for unpaid interest and damages, and to also
reimburse Arbinter Omnivalor for costs and expenses, including legal fees
relating to this action. The Company has issued the shares but has not paid
the interest and damages in accordance with the Court Order. The Company,
working with a consultant, is attempting to negotiate a settlement with the
investors of subject Court Orders.
In the UFH Endowment, Ltd., Ephram-Saghi and Ben Z. Katz case, the
plaintiffs, alleged that the defendants violated of federal and state law
in connection with the debentures. Plaintiff UFH alleges that it purchased
---
debentures for $750,000, while plaintiffs Saghi alleges that he purchased
debentures for $100,000, and plaintiff Katz alleges that he purchased
debentures for $50,000. In September 1997, the parties to the UFH matter
reached an agreement for settlement and resolution of the litigation. The
parties have agreed that the UFH matter will be dismissed, with prejudice,
---
in exchange for the Company's issuing shares of the Company's common stock
to the plaintiffs as consideration for the conversion of the plaintiffs'
debentures and the simultaneous termination thereof.
With respect to each of the foregoing actions, the likelihood of an
unfavorable outcome and range of possible loss, if any, cannot be
determined and accordingly no amounts are accrued for them at June 30,
1997, with the exception of FT Trading and Arbinter Omnivalor which have
been accrued for at June 30, 1997.
11. Subsequent Events
-----------------
On September 25 and 26, 1997, the Company issued an aggregate of 2,930,327
shares of its Common Stock upon conversion of $1,893,333 principal amount,
an average of $.65 per share, of its 8% convertible debentures (See Note
2). Had such conversion been affected at June 30, 1997, the Company would
have had Stockholder's Equity on a proforma basis of $1,738,570. The
proforma column appearing on the consolidated balance sheet gives effect at
June 30, 1997 to the referenced conversion.
46
<PAGE>
PART III
---------
ITEM 9. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS
- ------- ---------------------------------------------
ON ACCOUNTING AND FINANCIAL DISCLOSURE
- --------------------------------------
Not applicable.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- -------- --------------------------------------------------
The names, ages and positions of the directors and executive officers of the
Company are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- -------------------- --- ---------------------------------------
<S> <C> <C>
Chantal Burnison 46 Chairman of the Board and Chief
Executive Officer(1)
Marc Dworkin 51 President
Dr. Jeannie Wu 35 Vice President and Director of Clinical
Trial Development
Polly Bergen 66 Director and Chief Operating Office
Joseph Dekama 57 Executive Vice President
Yvette Lamprecht 29 Chief Financial Officer
Joseph Daly 79 Director
Dr. Norman Estrin 58 Director
Dr. George Goldstein 64 Director
Robert Pinco 53 Director
Gilbert D. Raker 53 Director
Charles D. Strang 76 Director
</TABLE>
_________________
All Directors are serving a current term which expires at the next annual
meeting of stockholders, and until their successors are elected and qualified.
All officers serve at the discretion of the board.
Chantal Burnison is Chief Executive Officer and Chairman of the Board of
Directors of the Company and Chantal Skin Care Corporation. She has served as
Chief Executive Officer and Chairman of the Board of the Company since May 21,
1982, at which date the Company acquired from her family-held company the
licensing rights to the patents and safety and efficacy test data conducted to
such date for the X-Andron synthetic anti-androgen compounds (including Cyoctol
and Ethocyn) and the Metcyclor Family of cancercidal compounds. In May 1994,
she
47
<PAGE>
became Chairman of the Board and Chief Executive Officer of the Company's 90%
owned Chantal Skin Care Corporation subsidiary. In addition to being a corporate
executive, Chantal Burnison is a chemist, biologist and attorney. She is co-
inventor on the patents and patent applications and has co-authored numerous
scientific medical publications. Prior to joining the Company, her employment
experience included serving as a vice president and general legal counsel to a
steel company, a partner in a Los Angeles based law firm specializing in
corporate and commercial property law and as a chemist in plastics in private
industry. She has, and continues to, serve as a director on the boards of
several privately held corporations. Since 1980, Ms. Burnison has served as
president of CBD Pharmaceutical Corporation, a company controlled by her and her
family which is engaged in the development and marketing of products unrelated
and not in competition with the business of the Company. See "Item 1, Business
and Distribution Licensing Agreement" and "Item 13 - Certain Relationships and
Related Transactions". She spends substantially all of her business time on the
business of the Company.
Mr. Marc Dworkin joined the Company in July 1995 and was elected President
in August 1995. Mr. Dworkin has spent his business career in retail marketing,
primarily in the chain drug industry. From 1988 until joining the Company, he
was president of Sid's Get It For Less of Houston, Ohio. Between 1985 - 1987,
Mr. Dworkin was the Senior Operating Executive of Carls Drug Company, Rome, New
York. Between 1969-1985, Mr. Dworkin held numerous management positions at
Revco Drug Store Incorporated, a NYSE public company based in Cleveland, Ohio.
Mr. Dworkin's education and professional affiliations include a bachelors of
arts in marketing from Michigan State University, and membership in Young
Presidents Organization, American Marketing Association and American Management
Association.
Dr. Jeannie Wu joined the Company in February 1994 and was elected as Vice
President and Director of Clinical Trial Development, a newly created position
in July 1994. Dr. Wu is a medical physician trained in China where she practiced
medicine from 1985 to 1992. After coming to the U.S. in 1992, she worked as an
assistant to the president of Xing Hwa Corporation, a trading company in Los
Angeles from 1992 to 1993 and at the Beverly Hills Pain Center from 1993 to 1994
until joining the Company.
Ms. Bergen became a director and Chief Operating Officer in June, 1997.
From November 1996 to June 1997, she was a consultant to the Company, primarily
with respect to product development and prospective marketing to department
stores in North America. Ms. Bergen is an Emmy Award winning actress having won
the Emmy for best actress for CBS-TV's "The Helen Morgan Story" and been twice
nominated for best actress in the ABC mini-series "Winds of War" and "War and
Remembrance." From 1965 to 1973, Ms. Bergen was President and Chief Executive
Officer of Polly Bergen Cosmetics, which marketed a full line of skin care,
make-up and fragrance products. Ms. Bergen served as the first woman director
on Singer Corporation's Board of Directors. She is founder and former President
of the National Business Council for Women, and a noted lecturer, author and
recording artist. Ms. Bergen currently serves as a director or trustee of a
number of charitable organizations, including The Martha Graham Dance Center and
Cancer Care, Inc.
Mr. DeKama joined the Company in June 1997 and serves as Executive Vice
President of the Company and President of Chantal Skin Care, the Company's 90%
owned subsidiary. Mr. DeKama has been a leader in the cosmetic and fragrance
industry for more than 35 years. Mr. DeKama has held senior executive positions
at several major health and beauty corporations, such as Faberge, and since 1979
has independently marketed and distributed nationally recognized cosmetic and
fragrance brands in the U.S. and Canada.
Ms. Yvette Lamprecht joined the Company in August 1996 and serves as Chief
Financial Officer. Between September 1993 and when she joined the Company, she
held various accounting and financial positions at Iwerks Entertainment, Inc., a
public company. Between September 1990 and September 1993, she was a senior
auditor at Ernst & Young, serving clients in numerous business sectors,
including the retail and manufacturing industries. Ms. Lamprecht is a certified
public accountant.
Mr. Daly became a director in June, 1997. He is the former Chairman of DDB
Needham Worldwide, Inc., the international advertising agency ("DDB"), and the
present Chairman Emeritus of DDB. Mr. Daly has served as Chairman of the Board
of DDB from 1974 to 1986, and thereafter as Chairman of the Executive Committee
of the Board.
48
<PAGE>
Norman F. Estrin, Ph.D., became a director in June 1996. Dr. Estrin is a
30 year veteran of the cosmetic industry. Dr. Estrin is President of Estrin
Consulting Group, Inc., President and Chief Operating Officer of J&R Total Skin
Care, Inc. and Senior Vice President of Discovery Pharmaceuticals Inc. He
serves on the Board of Directors of these development stage companies . He is
also a member of the Board of Trustees of the National Museum of Helath &
Medicine Foundation. Dr. Estrin was senior Vice President - Science of the
Cosmetic, Toiletry and Fragrance Association, where he served from 1968 to 1985.
He joined the Health Industry Manufacturers Association in 1985 as Vice
President - Science and Technology, a position he held until 1990.
Dr. George Goldstein became a director in June 1996. Dr. Goldstein has
served as a consultant to major pharmaceutical companies that include Aprex
Corporation, Church and Dwight, Inc., Johnson and Johnson, Sterling Drug, Inc.,
Proctor and Gamble, Glaxo, Fisens, Smith Kline Beecham, and others. Dr.
Goldstein presently is Executive Vice-President, Clinical Development, for
Medeva Pharmaceuticals. For five years prior to joining Medeva, he was
President, Director and Co-founder of a drug delivery firm, Pharmaceutical
Discovery Corporation. From 1975 to 1990, he held several positions, including
Corporate Vice President , Worldwide Medical and Regulatory Affairs, at Sterling
Drug Inc., of New York, New York.
Mr. Robert Pinco became a director in April 1992. Mr. Pinco is an attorney
and licensed pharmacist. He is a partner and the Head of the Food and Drug
Group of the Washington, D.C. law offices of Akin, Gump, Strauss, Hauer & Feld.
Additionally, Mr. Pinco serves as an Adjunct Professor of Pharmacy Practice and
Administrative Sciences and a member of the Board of Advisors at the University
of Maryland. Between 1974-1977, Mr. Pinco was Director of the Over-the-Counter
Drug Evaluation Division at the United States Food and Drug Administration
(FDA). Prior thereto, from 1972-1974, Mr. Pinco was an Assistant General
Counsel with the White House Special Action Office for Drug Abuse Prevention and
between 1969-1972 served as an Attorney with the Office of Chief Counsel, Bureau
of Narcotics and Dangerous Drugs (now the Drug Enforcement Administration) of
the Department of Justice and Assistant United States attorney for the District
of Columbia. Akin, Gump, Strauss, Hauer & Feld serves as FDA legal counsel to
the Company.
Mr. Raker became a director in July, 1997. Since 1990, Mr. Raker has been
the Chairman, President and Chief Executive Officer of Semiconductor Packaging
Materials Co., Inc., a publicly held provider of materials and services for the
microelectronic and semiconductor industries. From 1987 to 1990, he was
Managing Director of the buy out firm Ditri Associates, Inc. Prior thereto, Mr.
Raker held senior executive positions, including as chief executive officer and
chief financial officer, with various public and non-public companies.
Mr. Strang became a director in July, 1997. From November 1995 to the
present, Mr. Strang has been retired. From January 1993 to January 1996, he was
a director and Chairman of the Management Committee of Outboard Marine
Corporation ("Outboard"), a marine products manufacturing company, and a
consultant to Volvo-Panta, a subsidiary of Volvo, from November 1993 to November
1995. From January 1990 to January 1993, Mr. Strang was the Chairman of the
Board of Outboard and served as Chairman of the Board and Chief Executive
Officer from January 1982 to January 1990. From June 1966 to January 1982, he
held a variety of positions at Outboard, as manager and executive officer.
49
<PAGE>
ITEM 405 DISCLOSURE
No directors, officers or beneficial owners of more than ten percent of the
Company's Common Stock failed to file on a timely basis reports required by
Section 16(a) of the Securities Exchange Act of 1934.
50
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION
- -------- ----------------------
SUMMARY COMPENSATION TABLE
The following table shows, as to the Chief Executive Officer and as to each
of the other two most highly compensated executive officers whose salary plus
bonus exceeded $100,000 during the last fiscal year, information concerning all
compensation paid for services to the Company in all capacities during the last
three fiscal years.
<TABLE>
<CAPTION>
Long Term
Annual Compensation Compensation
-------------------------------------------- ---------------------
Other Annual Securities Underlying
Name and Principal Position Year Salary Bonus Compensation Options/SARS (1)
- --------------------------- ---- ------- ------ ------------ ---------------------
<S> <C> <C> <C> <C> <C> <C>
Chantal Burnison 1997 290,000(2)
Chief Executive Officer 1996 266,997(2) 5,000
1995 200,769(2)
Marc Dworkin (3) 1997 180,000
President 1996 153,946 25,000 18,000 500,000 shares
1995
Yvette Lamprecht (4) 1997 100,615 150,000 shares
Chief Financial Officer
</TABLE>
(1) All numbers reflect the number of shares of Common Stock subject to options
granted during the fiscal year.
(2) Includes $200,000, $107,692 and $90,000 received as compensation from
Chantal Skin Care Corporation.
(3) Mr. Dworkin provided consulting services in early fiscal 1996 and then
joined the Company as an officer in August 1995.
(4) Ms. Lamprecht joined the Company in fiscal 1997.
The amount of compensation paid or distributed during the last fiscal
year and not described above with respect to any individual named in the Summary
Compensation Table did not exceed the lesser of $25,000 or 10% of the
compensation table for such person.
OPTIONS GRANTS IN LAST FISCAL YEAR
The following table sets forth certain information regarding grants of
stock options made during the fiscal year ended June 30, 1997 to the executive
officers named in the Summary Compensation Table.
OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
Percent of
Total Options
Number of Granted to Exercise or
Options Employees in Base Price Expiration
Name Granted Fiscal Year Per Share Date
- ---------------- ---------- ------------- ----------- ----------
<S> <C> <C> <C> <C>
Yvette Lamprecht (1) 150,000 16% 1.31 6/30/01
</TABLE>
(1) In August 1996, the Company granted Yvette Lamprecht options to purchase
an aggregate of 150,000 shares of common stock of the Company at a purchase
price of 4.625 per share, which exercise price was reduced to 1 5/16 in April,
1997 of which 55,000 are vested and 75,000 of these options vest upon certain
performance goals being obtained by the Company. Under the option agreement,
40,000 of the options granted terminated in fiscal 1997.
51
<PAGE>
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR-END OPTION VALUES (1)
<TABLE>
<CAPTION>
Number of Value of All Unexercised
Unexercised Options In-the-Money Options
Shares at Fiscal Year-End at Fiscal Year End (1)
Acquired Value ------------------------- -------------------------
Name on Exercise Realized Exercisable/Unexercisable Exercisable/Unexercisable
- ------------------- ----------- -------- ------------------------- -------------------------
<S> <C> <C> <C> <C>
Yvette Lamprecht - - 55,000/55,000 $0/$0
</TABLE>
(1) Based upon the last reported sale price of the Common Stock on NASDAQ
National Market System on June 30, 1997.
COMPENSATION OF DIRECTORS
In June 1996, the Company granted Dr. Goldstein options for the purchase of
40,000 shares at an exercise price of $7.00 per share, which exercise price was
reduced to 1 5/16 in April, 1997, of which 20,000 are immediately exercisable
and the remaining 20,000 become exercisable upon re-election to the Board at the
Annual Meeting following the first anniversary of service as a director.
In April 1997, the Company granted Dr. Estrin options for the purchase of
45,000 shares, at an exercise price of $1 5/16 per share, of which 25,000 are
immediately exercisable and the remaining 20,000 become exercisable upon re-
election to the Board at the Annual Meeting following the first anniversary of
service as a director. These options replaced options previously granted to Dr.
Estrin in June 1996.
In April 1997, the Company granted Mr. Pinco options for the purchase of
40,000 shares at an exercise price of $1 5/16, of which 20,000 are immediately
exercisable and the remaining 20,000 become exercisable upon re-election to the
Board at the Annual Meeting following the first anniversary of grant.
In June 1997, the Company granted Joseph Daly options for the purchase of
40,000 shares at an exercise price of $1.00 per share, of which 20,000 are
immediately exercisable and the remaining 20,000 become exercisable upon re-
election to the Board at the Annual Meeting following the first anniversary of
service as a director.
In June 1997, the Company granted to Polly Bergen options for the purchase
of 100,000 shares at an exercise price of $1.00 per share. The Company also
granted options to Polly Bergen for the purchase of 200,000 shares that vest
upon certain performances by the Company at an exercise price determined at the
time of vesting.
In July 1997, the Company granted to each of Gil Raker and Charles Strang
options for the purchase of 40,000 shares at an exercise price of $1.1875 per
share, of which 20,000 are immediately exercisable and the remaining 20,000
become exercisable upon re-election to the Board at the Annual Meeting following
the first anniversary of service as a director.
52
<PAGE>
ITEM 12. PRINCIPAL STOCKHOLDERS
- -------- ----------------------
The following table sets forth certain information regarding the beneficial
ownership of the Company's Common Stock, as of August 31, 1997, based on
18,190,516 shares outstanding, (i) by each of the Company's directors, (ii) all
directors and officers of the Company as a group and (iii) by each person
believed by the Company to own beneficially more than 5% of its outstanding
shares of Common Stock:
<TABLE>
<CAPTION>
Name and Address Number of Shares Owned Percentage of Class
---------------- ---------------------- -------------------
<S> <C> <C>
Chantal Burnison* 1,312,103 (1) 7.2
Polly Bergen * 100,000 (2) (3)
Joseph Daly * 20,000 (2) (3)
Robert Pinco* 40,000 (2) (3)
Norman Estrin* 45,000 (2) (3)
George Goldstein * 42,000 (2) (3)
Gilbert Raker * 26,000 (2) (4) (3)
Charles Strang * 37,500 (2) (3)
CBD Pharmaceutical Corporation
147 E. Liberty Street
Reno, NV 89501 1,209,503 (1) 6.6
Buchanan Fund Limited/Buchanan
Partners Limited 2,898,551 (5) 13.7
All Directors and Officers 1,728,603 (1) 9.3
as a group (11 persons)
</TABLE>
- ------------------
* The address of each director is c/o Chantal Pharmaceutical Corporation, 12901
West Jefferson Boulevard, Los Angeles, California 90066.
(1) Includes 1,209,503 shares beneficially owned by CBD, which is controlled by
Ms. Burnison and certain members of her family.
(2) Includes shares issuable upon exercise of currently exercisable options.
(3) Less than one percent.
(4) Includes 1,000 shares owned by Mr. Raker's wife and 1,000 shares owned by
Mr. Raker's daughter as to which he disclaims beneficial ownership.
(5) Buchanan Fund Limited/Buchanan Partners Limited ("Buchanan") is the holder
of $2 million principal of the Company's 8% convertible debentures which
are currently convertible into common stock of the Company. Buchanan has
filed a schedule 13D dated July 11, 1997 stating that if the entire amount
of the principal of the debenture was converted it would own more than 5%
of the outstanding common stock of the Company. The shares listed as number
of shares owned, assumes a conversion of the entire principal amount based
on a market price at August 31, 1997. As of September 26, 1997, $660,000 of
the debentures have been converted at $.80 per share. See Management's
Discussion & Analysis and Note 2 to the financial statements.
53
<PAGE>
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- -------- ----------------------------------------------
In May 1982, the Company acquired a license for the exclusive manufacturing
and marketing rights to the X-Andron family of compounds (including Cyoctol and
Ethocyn) and Metcyclor compounds and all derivatives and isometric families
thereof from CBD Pharmaceutical Corporation, which is controlled by Chantal
Burnison and her family, in exchange for 2,614,500 shares of the Company's
Common Stock and an agreement to pay an aggregate royalty of (i) 8% of the
wholesale price of all licensed compounds manufactured and sold directly by the
Company to the wholesale or retail markets; and (ii) 8% of all revenues derived
by the Company from royalty or other sales-based compensation pursuant to any
sub-license, joint venture or other marketing or development agreement between
the Company and any other party with respect to the licensed compounds. The
term of the Company's license from CBD Pharmaceutical Corporation is equal to
the period during which any of such compounds are protected under any patent
rights which may issue from the United States Patent Office. Total royalty
expense under such royalty arrangement with CBD was $414 for the year ended June
30, 1993. No royalty expense was recorded for the years ended June 30, 1994 and
1995. As of June 30, 1993, the Company had accrued liabilities of $19,159 for
unpaid royalties pursuant to this agreement. The obligation to make payments to
CBD Pharmaceutical Corporation with respect to Ethocyn-based cosmetics products
was assumed by Chantal Skin Care in connection with the License Agreement
between the Company and Chantal Skin Care. In July 1994 and in conjunction with
Ethocyn U.S. and international marketing negotiations then in progress, CBD
Pharmaceutical Corporation agreed with the Company and Chantal Skin Care to
terminate the 8% royalty obligation, effective August 1, 1994, and in lieu
thereof, to accept from the Company 300,000 shares of its common stock and from
Chantal Skin Care 300,000 shares of its common stock.
Since May 1984, the law firm of Staubach Teich & Partner, of which Dr.
Rainer Staubach is a partner, has served as European legal and regulatory
counsel to the Company. Dr. Staubach, a former director and officer of the
Company, is the husband of Chantal Burnison, Chairman of Board and Chief
Executive Officer of the Company.
In June 1993, CBD Pharmaceutical Corporation agreed to invest $150,000 of
royalties owed it by acquiring Units, each Unit consisting of one share of the
Company's Series B Convertible Preferred Stock and five Common Stock purchase
warrants, for $5.00 per Unit, all on the same terms and conditions as other
unrelated investors in the Company's June 1993 private placement. The warrants
expired in April 1994 unexercised. At June 30, 1996, the 30,000 shares of
Series B Convertible Preferred Stock were automatically converted in accordance
with the terms thereof into 240,000 shares of common stock of the Company.
On March 15, 1994, the Company entered into a License agreement (the
"License") with Cyto Skin Care Corporation ("Cyto Skin Care") pursuant to which
the Company licensed to Cyto Skin Care the rights to distribute and sell
Ethocyn-based cosmetics and skin care products (i.e. non-pharmaceutical
products) in United States, Canada, Mexico and the Caribbean. Cyto Skin Care
issued to the Company in consideration of the License, 10,910,812 shares of its
common stock. Under the License, Cyto Skin Care was obliged to use its best
efforts to expeditiously launch the marketing and sale of Ethocyn-based cosmetic
skin care products (the "Chantal Line") by September 30, 1994, but in no event
later than December 31, 1994. In August of 1994, Cyto Skin Care changed its
name to Chantal Skin Care Corporation ("Chantal Skin Care"). The License is
terminable at the option of the Company if during the term of the License
Chantal Skin Care does not achieve sales of the Chantal Line of at least
$5,000,000 in the initial nine months following execution of the License;
$20,000,000 during calendar 1995; and $50,000,000 in calendar 1996. Although
Chantal Skin Care did not achieve the requisite product sales, the Company does
not intend to exercise its termination rights.
On February 24, 1995, the Company announced that it had decided to seek to
acquire the shares of Chantal Skin Care which the Company did not then own. In
furtherance thereof, on March 9, 1995, the Company commenced an exchange offer
seeking to acquire the shares of Chantal Skin Care owned by shareholders located
outside the United States, through the exchange of one (1) share of Common Stock
of the Company for one share of common stock of Chantal Skin Care. On June 16,
1995, the Company accepted for exchange 1,780,000 shares of Chantal Skin Care
common stock. Accordingly, the Company now owns 12,690,812 shares of Chantal
Skin Care or 90% of the outstanding Chantal Skin Care shares. The Company
intends to effect a merger of Chantal Skin Care with and into a newly formed
wholly owned subsidiary of the Company on the same basis as the exchange for the
shares owned by persons outside the United States.
At various times during July 1, 1997 to September 29, 1997, Ms. Burnison
loaned an aggregate of $310,104 to the Company. The loans bear interest at
prime + 1 percent per annum. The loans are payable upon demand.
54
<PAGE>
PART IV
-------
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES,
- -------- ------------------------------------------
AND REPORTS ON FORM 8-K
-----------------------
A. EXHIBITS: See Exhibit List attached to this Annual Report on Form 10-K.
B. FINANCIAL STATEMENTS:
Reports of Independent Certified Public Accountants
Consolidated Balance Sheets
June 30, 1997 and 1996
Consolidated Statements of Operations
Years Ended June 30, 1997, 1996 and 1995
Consolidated Statements of Stockholders' Equity
Years Ended June 30, 1997, 1996 and 1995
Consolidated Statements of Cash Flows
Years Ended June 30, 1997, 1996 and 1995
Notes to Consolidated Financial Statements
C. FINANCIAL STATEMENT SCHEDULE:
Schedule II - Valuation and Qualifying Accounts for the years ended
June 30, 1997, 1996 and 1995.
All other schedules for which provision is made in the applicable
accounting regulation of the Securities and Exchange Commission are
not required under the related instructions or are inapplicable, and
therefore have been omitted.
D. REPORTS ON 8-K:
None.
55
<PAGE>
SIGNATURES
----------
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Date: September 29, 1997
CHANTAL PHARMACEUTICAL CORPORATION
(Registrant)
By /s/ Chantal Burnison
---------------------
Chantal Burnison
Chairman of the Board
and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated.
Signature and Title Date
------------------- ----
/s/ Chantal Burnison September 29, 1997
--------------------------
Chantal Burnison
Chairman of the Board
and Chief Executive Officer
(Principal Executive Officer)
/s/ Yvette Lamprecht September 29, 1997
--------------------------
Yvette Lamprecht
Chief Financial Officer
(Principal Financial Officer)
/s/ Polly Bergen September 29, 1997
--------------------------
Polly Bergen
Director and Chief Operating Officer
/s/ Joseph Daly September 29, 1997
--------------------------
Joseph Daly
Director
/s/ Robert Pinco September 29, 1997
--------------------------
Robert Pinco
Director
56
<PAGE>
/s/ Norman Estrin September 29, 1997
--------------------------
Norman Estrin
Director
/s/ George Goldstein September 29, 1997
--------------------------
George Goldstein
Director
/s/ Gilbert Raker September 29, 1997
--------------------------
Gilbert Raker
Director
/s/ Charles Strang September 29, 1997
--------------------------
Charles Strang
Director
57
<PAGE>
SCHEDULE II
CHANTAL PHARMACEUTICAL CORPORATION
VALUATION AND QUALIFYING ACCOUNTS
FOR THE YEARS ENDED JUNE 30, 1995, 1996 AND 1997
<TABLE>
<CAPTION>
Balance at
beginning Balance at
Classification of year Additions Deductions end of year
- -------------- ---------- ---------- ---------- -----------
<S> <C> <C> <C> <C>
FOR THE YEAR ENDED JUNE 30, 1995
Allowance for sales returns - $ 90,216 - $ 90,216
FOR THE YEAR ENDED JUNE 30, 1996
Allowance for sales returns 90,216 1,516,692 - 1,606,908
Inventory obsolescence reserve - 595,408 - 595,408
FOR THE YEAR ENDED JUNE 30, 1997
Allowance for sales returns 1,606,908 3,425,655 - 5,032,563
Inventory obsolescence reserve 595,408 392,985 - 988,393
</TABLE>
58
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Incorporated by Exhibit
Reference to: Number Exhibits Page
- --------- --- ------- ------- -----
<S> <C> <C> <C>
(1)-Exhibit 3.1A 3.1 Certificate of Incorporation --
(12) * 3.2 By-laws --
(4)-Exhibit 3.2A 3.3 Amendment to the Certificate of Incorporation
dated March 24, 1987 --
(7)-Exhibit 3.4 3.4 Amendment to the Certificate of Incorporation
dated April 30, 1992 --
* 3.4.1 Amendment to Certificate of Incorporation
dated July 18, 1997 --
(8)-Exhibit 3.5 3.5 Certificate of Designation, Preferences and Rights
of Series B Voting Convertible Preferred Stock
Dated July 28, 1993 --
(10)Exhibit 3.6 3.6 Amended Certificate of Designation, Preferences and
Rights of Series B Voting Convertible Preferred Stock
Dated November 22, 1993 --
(12)Exhibit 3.7 3.7 Certificate of Designations Preferences and Rights of
Series C Voting Convertible Preferred Stock dated
August 2, 1995 --
(1)-Exhibit 10.4 10.1 Amended and Restated License Agreement between
CBD Pharmaceutical Corporation and CBD, Inc. --
(1)-Exhibit 10.5 10.2 Amended and Restated License Agreement between
CBD Pharmaceutical Corporation and the Registrant --
(1)-Exhibit 10.9 10.3 Registrant's Incentive Stock Option Plan --
(1)-Exhibit 10.10 10.4 Registrant's Non-Qualified Stock Option Plan --
(2)-Exhibit 10.12 10.5 Copy of lease between Registrant and Search
Wilshire Brentwood Plaza Limited Partnership. --
(3)-Exhibit 10.16 10.6 Agreement with National Cancer
Institute dated October 19, 1986 --
(4)-Exhibit 10.21 10.7 Distribution Agreement with Leca,
S.A., dated as of October 5, 1987. --
(5)-Exhibit 10.24 10.8 Copy of sub-lease between the Registrant
and Phoenix Marketing Group, Inc. --
(6)-Exhibit 10.26 10.9 Research, Development and Distribution
Agreement with Investors, represented
by Trustee, Dr. Urs Wehinger dated
as of August 10, 1989 --
(6)-Exhibit 10.27 10.10 License agreement with Chi Fu Trading
Company dated as of January 11, 1989 --
(6)-Exhibit 10.28 10.11 License agreement with Kolon Industries,
Incorporated dated as of June 12, 1989 --
</TABLE>
59
<PAGE>
EXHIBIT INDEX
(Continued)
<TABLE>
<CAPTION>
Incorporated by Exhibit
Reference to: Number Exhibits Page
- --------- --- ------- ------- -----
<S> <C> <C> <C>
(7)-Exhibit 10.17 10.13 Amendment to the License Agreement between the
Registrant and CBD Pharmaceutical Corporation --
(9)-Exhibit 10.1 10.14 Agreement for Issuance/Stock by and between
the Registrant and Cyto Skin Care Corporation
(name changed in August 1994 to Chantal
Skin Care Corporation) dated
March 15, 1994 --
(9)-Exhibit 10.2 10.15 License Agreement by and between the Registrant
and Cyto Skin Care Corporation (name changed in
August 1994 to Chantal Skin Care Corporation) dated
March 15, 1994 --
(10)-Exhibit 10.21 10.16 Second Amendment to License Agreement between
the Registrant, CBD Pharmaceutical Corporation and
Chantal Skin Care Corporation dated October 17, 1994 --
(11)Exhibit 10.22 10.17 Employment Agreement between the Registrant
and Lawrence J. Brady, dated as of March 7, 1995 --
(11)Exhibit 10.23 10.18 Lease dated May 1, 1995 between the Registrant
and A.D. Clark, Inc. --
(12)Exhibit 10.19 10.19 Agreement dated June 29, 1995 between the
Registrant and Stanson Marketing, Inc. --
(13)Exhibit 10.20 10.20 Amendment to agreement dated June 29, 1995 between the
Registrant and Stanson Marketing, Inc. --
* * 10.21 Employment Agreement between the Registrant and Yvette
Lamprecht, dated August 15, 1996. +
* * 10.22 Employment Agreement between the Registrant and Joseph
DeKama, dated June 6, 1997. +
* * 10.23 Employment Agreement between the Registrant and Polly
Bergen, dated June 17, 1997. +
* 21 Listing of Subsidiaries --
* 27 Financial Data Schedule --
</TABLE>
- ---------------------
* Filed herewith.
+ Compensation Agreement.
(1) Registrant's Registration Statement on Form S-18, File No. 2-94956-NY.
(2) Registrant's Annual Report on Form 10-K for the year ended June 30, 1985.
(3) Registrant's Registration Statement on Form S-1, File No. 33-10724.
(4) Registrant's Registration Statement on Form S-1, File No. 33-19079.
(5) Registrant's Registration Statement on Form S-1, File No. 33-25521.
(6) Registrant's Registration Statement on Form S-1, File No. 33-31846.
(7) Registrant's Registration Statement on Form S-3, File No. 33-40352.
60
<PAGE>
(8) Registrant's Annual Report on Form 10-K for the year ended June 30, 1993.
(9) Registrant's Report on Form 10-Q for the quarter ended December 31, 1993.
(10) Registrant's Annual Report on Form 10-K for the year ended June 30, 1994.
(11) Registrant's Registration Statement on Form S-1, File No. 33-89180.
(12) Registrant's Registration Statement on Form 10-K for the year ended June
30, 1995.
(13) Registrant's Quarterly Report on Form 10Q for the three and six months
ended December 31, 1995.
61
<PAGE>
EXHIBIT 3.2
As amended through 6/6/97
BY-LAWS
OF
CHANTAL PHARMACEUTICAL CORPORATION
(A DELAWARE CORPORATION)
_____________________
ARTICLE I
DEFINITIONS
-----------
As used in these By-Laws, unless the context otherwise requires, the term:
1.1. "ASSISTANT SECRETARY" means an Assistant Secretary of the Corporation.
1.2. "ASSISTANT TREASURER" means an Assistant Treasurer of the Corporation.
1.3. "BOARD" means the Board of Directors of the Corporation.
1.4. "BY-LAWS" means the initial By-Laws of the Corporation, as amended
from time to time.
1.5. "CERTIFICATE OF INCORPORATION" means the initial certificate of
incorporation of the Corporation, as amended, supplemented or restated from time
to time.
1.6. "CORPORATION" means Chantal Pharmaceutical Corporation.
1.7. "DIRECTORS" means Directors of the Corporation.
1.8. "GENERAL CORPORATION LAW" means the General Corporation Law of the
State of Delaware, as amended from time to time.
1.9. "OFFICE OF THE CORPORATION" means the executive office of the
Corporation, anything in Section 131 of the General Corporation Law to the
contrary notwithstanding.
1.10. "PRESIDENT" means the President of the Corporation.
1.11. "SECRETARY" means the Secretary of the Corporation.
<PAGE>
1.12. "STOCKHOLDERS" means the Stockholders of the Corporation.
1.13. "TREASURER" means the Treasurer of the Corporation.
1.14. "VICE PRESIDENT" means the Vice President of the Corporation.
ARTICLE II
OFFICES
-------
2.1. REGISTERED OFFICE. The Registered Office of the Corporation shall be
-----------------
located in such place as may be provided, from time to time, in the Certificate
of Incorporation.
2.2. ADDITIONAL OFFICES. In addition to the Office of the Corporation and
------------------
the Registered Office, the Corporation may also have offices and places of
business at such other places, within or without the State of Delaware, as the
Board of Directors may from time to time determine or the business of the
Corporation may require.
ARTICLE III
STOCKHOLDERS
------------
3.1. PLACE OF MEETING. Every meeting of the stockholders shall be held at
----------------
the Office of the Corporation or at such other place within or without the State
of Delaware as shall be specified or fixed in the notice of such meeting or in
the waiver of notice thereof.
3.2. ANNUAL MEETING. A meeting of stockholders shall be held annually for
--------------
the election of Directors and for the transaction of other business at such hour
as may be designated in the notice of meeting on the first Monday in April in
each year or such other hour and day as may be designated by the Board of
Directors and specified in the notice of meeting, or if such date falls on a
legal holiday, on the first business day thereafter which is not a Saturday,
Sunday or a legal holiday.
3.3. SPECIAL MEETINGS. Subject to the provisions of the Certificate of
----------------
Incorporation, a special meeting of stockholders, unless otherwise prescribed by
statute, may be called by the President or the Secretary only at the written
request of the holders of at least fifty percent of the voting stock, of all
classes, of the Corporation or upon a unanimous vote of the Board of Directors.
At any special meeting of stockholders only such business may be transacted
which is related to the purpose or purposes of such meeting set forth in the
notice thereof given pursuant to Section 3.5 of the By-Laws or in any waiver of
notice thereof given pursuant to Section 3.6 of the By-Laws.
3.4. FIXING RECORD DATE. For the purpose of determining the stockholders
------------------
entitled to notice of or to vote at any meeting of stockholders or any
adjournment thereof, or to express consent to corporate action in writing
without a meeting, or for the purpose of determining stockholders entitled to
receive payment of any dividend or the allotment of any rights, or entitled to
exercise any rights in respect of any change, conversion or exchange of stock,
or for the purpose of any other lawful action, the Board may fix, in advance, a
date as the record date for any such determination
2
<PAGE>
of stockholders. Such date shall not be more than sixty (60) nor less than ten
(10) days before the date of such meeting, nor more than sixty (60) days prior
to any other action. If not such record date is fixed:
3.4(1) The record date for determining stockholders entitled to
notice of or to vote at a meeting of stockholders shall be at the close of
business on the day next preceding the day on which notice is given, or, if
notice is waived, at the close of business on the day next preceding the
day on which the meeting is held;
3.4(2) The record date for determining stockholders entitled to
express consent to corporate action in writing without a meeting, when no
prior action by the Board is necessary, shall be the day on which the first
written consent is expressed;
3.4(3) The record date for determining stockholders for any purpose
other than that specified in Sections 3.4(1) and 3.4(2) shall be at the
close of business on the day on which the Board adopts the resolution
relating thereto.
When a determination of stockholders entitled to notice of or to vote at any
meeting of stockholders has been made as provided in this Section 3.4, such
determination shall apply to any adjournment thereof, unless the Board fixes a
new record date for the adjourned meeting.
3.5. NOTICE OF MEETINGS OF STOCKHOLDERS. Except as otherwise provided in
----------------------------------
Section 3.4 and 3.6 of the By-Laws, whenever under the General Corporation Law
or the Certificate of Incorporation or the By-Laws, stockholders are required or
permitted to take any action at a meeting, written notice shall be given stating
the place, date and hour of the meeting and, in the case of a special meeting,
the purpose or purposes for which the meeting is called. A copy of the notice of
any meeting shall be given, personally or by mail, not fewer than ten (10) nor
more than sixty (60) days before the date of the meeting, to each stockholder
entitled to notice of or to vote at such meeting. If mailed, such notice shall
be deemed to be given when deposited in the United States mail, with postage
prepaid, directed to the stockholder at his address as it appears on the records
of the Corporation. An affidavit of the Secretary or an Assistant Secretary or
of the transfer agent of the Corporation that the notice required by this
section has been given shall, in the absence of fraud, be prima facie evidence
of the facts stated therein. When a meeting is adjourned to another time and
place, notice need not be given of the adjourned meeting if the time and place
thereof are announced at the meeting at which the adjournment is taken, and at
the adjourned meeting any business may be transacted that might have been
transacted at the meeting as originally called. If, however, the adjournment is
for more than thirty (30) days, or if after the adjournment a new record date is
fixed for the adjourned meeting, a notice of the adjourned meeting shall be
given to each stockholder of record entitled to vote at the meeting.
3.6. WAIVERS OF NOTICE. Whenever notice is required to be given to any
-----------------
stockholder under any provision of the General Corporation Law or of the
Certificate of Incorporation or the By-Laws, a written waiver thereof, signed by
the stockholder entitled to notice, whether before or after the time stated
therein, shall be deemed equivalent to notice. Attendance of a stockholder at a
meeting shall
3
<PAGE>
constitute a waiver of notice of such meeting, except when the stockholder
attends a meeting for the express purpose of objecting, at the beginning of the
meeting, to the transaction of any business because the meeting is not lawfully
called or convened. Neither the business to be transacted at, nor the purpose
of, any regular or special meeting of the stockholders need be specified in any
written waiver of notice.
3.7. LIST OF STOCKHOLDERS. The Secretary shall prepare and make, or cause
--------------------
to be prepared and made, at least ten (10) days before every meeting of
stockholders, a complete list of the stockholders entitled to vote at the
meeting, arranged in alphabetical order, and showing the address of each
stockholder and the number of shares registered in the name of each stockholder.
Such list shall be open to the examination of any stockholder, for any purpose
germane to the meeting, during ordinary business hours, for a period of at least
ten (10) days prior to the meeting, either at a place within the city where the
meeting is to be held, which place shall be specified in the notice of the
meeting, or, if not so specified, at the place where the meeting is to be held.
The list shall also be produced and kept at the time and place of the meeting
during the whole time thereof, and may be inspected by any stockholder who is
present.
3.8. QUORUM OF STOCKHOLDERS; ADJOURNMENT. Except as otherwise required by
-----------------------------------
law or by the Certificate of Incorporation, the holders of a majority of the
shares of stock entitled to vote at any meeting of stockholders, present in
person or represented by proxy, shall constitute a quorum for the transaction of
any business at such meeting. When a quorum is once present to organize a
meeting of stockholders, it is not broken by the subsequent withdrawal of any
stockholders. The holders of a majority of the shares of stock present in
person or represented by proxy at any meeting of stockholders, including an
adjourned meeting, whether or not a quorum is present, may adjourn such meeting
to another time and place.
3.9. VOTING; PROXIES. Unless otherwise provided in the Certificate of
---------------
Incorporation, every stockholder of record shall be entitled at every meeting of
stockholders to one vote for each share of capital stock standing in his name on
the record of stockholders determined in accordance with Section 3.4 of the By-
Laws. If the Certificate of Incorporation provides for more or less than one
vote for any share, on any matter, every reference in the By-Laws or the General
Corporation Law to a majority or other proportion of stock shall refer to such
majority or other proportion of the votes of such stock. The provisions of
Section 212 and 217 of the General Corporation Law shall apply in determining
whether any shares of capital stock may be voted and the persons, if any,
entitled to vote such shares; but the Corporation shall be protected in treating
the persons in whose names shares of capital stock stand on the record of
stockholders as owners thereof for all purposes. At any meeting of stockholders
(at which a quorum was present to organize the meeting), all matters, except as
otherwise provided by law or by the Certificate of Incorporation or by the By-
Laws, shall be decided by a majority of the votes cast at such meeting by the
holders of shares present in person or represented by proxy and entitled to vote
thereon, whether or not a quorum is present when the vote is taken. All
elections of Directors shall be by written ballot unless otherwise provided in
the Certificate of Incorporation. In voting on any other question on which a
vote by ballot is required by law or is demanded by any stockholder entitled to
vote, the voting shall be by ballot. Each ballot shall be signed by the
stockholder voting or by his proxy, and shall state the number of shares voted.
4
<PAGE>
On all other questions, the voting may be viva voce. Every stockholder entitled
---- ----
to vote at a meeting of stockholders or to express consent or dissent without a
meeting may authorize another person or persons to act for him by proxy. The
validity and enforceability of any proxy shall be determined in accordance with
Section 212 of the General Corporation Law.
3.10. SELECTION AND DUTIES OF INSPECTORS AT MEETINGS OF STOCKHOLDERS.
--------------------------------------------------------------
The Board, in advance of any meeting of stockholders, may appoint one or more
inspectors to act at the meeting or any adjournment thereof. If inspectors are
not so appointed, the person presiding at such meeting may, and on the request
of any stockholder entitled to vote thereat shall, appoint one or more
inspectors. In case any person appointed fails to appear or act, the vacancy
may be filled by appointment made by the Board in advance of the meeting or at
the meeting by the person presiding thereat. Each inspector, before entering
upon the discharge of his or her duties, shall take and sign an oath to
faithfully execute the duties of inspector at such meeting with strict
impartiality and according to the best or his or her ability. The inspector or
inspectors shall determine the number of shares outstanding and the voting power
of each, the shares represented at the meeting, the existence of a quorum, the
validity and effect of proxies, and shall receive votes, ballots or consents,
hear and determine all challenges and questions arising in connection with the
right to vote, count and tabulate all votes, ballots or consents, determine the
result, and do such acts as are proper to conduct the election or vote with
fairness to all stockholders. On request of the person presiding at the meeting
or any stockholder entitled to vote thereat, the inspector or inspectors shall
make a report in writing of any challenge, question or matter determined by him
or them and execute a certificate of any fact found by him or them. Any report
or certificate made by the inspector or inspectors shall be prima facie evidence
of the facts stated and of the vote as certified by him or them.
3.11. ORGANIZATION. At every meeting of stockholders, the President,
------------
or in the absence of the President, a Vice President, and in case more than one
Vice President shall be present, that Vice President designated by the Board (or
in the absence of any such designation, the most senior Vice President, based on
age, present), shall act as chairman of the meeting. The Secretary, or in his
absence one of the Assistant Secretaries, or in the absence of both, a Vice
President shall act as secretary of the meeting. In case none of the officers
above-designated to act as chairman or secretary of the meeting, respectively,
shall be present, a chairman or a secretary of the meeting, as the case may be,
shall be chosen by a majority of the votes cast at such meeting by the holders
of shares of capital stock present in person or represented by proxy and
entitled to vote at the meeting.
3.12. ORDER OF BUSINESS. The order of business at all meetings of
-----------------
stockholders shall be as determined by the chairman of the meeting, but the
order of business to be followed at any meeting at which a quorum is present may
be changed by a majority of the votes cast at such meeting by the holders of
shares of capital stock present in person or represented by proxy and entitled
to vote at the meeting.
3.13. WRITTEN CONSENT OF STOCKHOLDERS WITHOUT A MEETING. Unless otherwise
-------------------------------------------------
provided in the Certificate of Incorporation, any action required by the General
Corporation Law to be taken at any annual or special meeting of stockholders of
the Corporation, or any action which may be taken at any annual or special
meeting of such stockholders, may be taken without a meeting,
5
<PAGE>
without prior notice and without a vote, if a consent in writing, setting forth
the action so taken, shall be signed by the holders of outstanding stock having
not less than the minimum number of votes that would be necessary to authorize
or take such action at a meeting at which all shares entitled to vote thereon
were present and voted. Prompt notice of the taking of the corporate action
without a meeting by less than unanimous written consent shall be given to those
stockholders who have not consented in writing.
ARTICLE IV
DIRECTORS
---------
4.1. GENERAL POWERS. Except as otherwise provided in the Certificate of
--------------
Incorporation, the business and affairs of the Corporation shall be managed by
or under the direction of the Board. The Board may adopt such rules and
regulations, not inconsistent with the Certificate of Incorporation or the By-
Laws or applicable laws, as it may deem proper for the conduct of its meetings
and the management of the Corporation. In addition to the powers expressly
conferred by the By-Laws, the Board may exercise all powers and perform all acts
which are not required by the By-Laws or the Certificate of Incorporation or by
law to be exercised and performed by the stockholders.
4.2. NUMBER; QUALIFICATION; TERM OF OFFICE. Until changed by action of the
-------------------------------------
Board, and subject to the limitations set forth in the Certificate of
Incorporation, the number of Directors shall be not less than three (3) or more
than nine (9), the number to be fixed from time to time by the vote of a
majority of the entire Board. Each Director shall hold office until his
successor is elected and qualified or until his earlier death, resignation or
removal.
4.3. ELECTION. Directors shall, except as otherwise required by law or by
--------
the Certificate of Incorporation, be elected by a plurality of the votes cast at
a meeting of stockholders by the holders of shares entitled to vote in the
election.
4.4. NEWLY CREATED DIRECTORSHIPS AND VACANCIES. Unless otherwise provided
-----------------------------------------
in the Certificate of Incorporation, newly created directorships resulting from
an increase in the number of Directors and vacancies occurring in the Board for
any reason, including the removal of Directors without cause, may be filled by
vote of a majority of the Directors then in office, although less than a quorum,
or by a sole remaining Director, at any meeting of the Board or may be elected
by a plurality of the votes cast by the holders of shares of capital stock
entitled to vote in the election at a special meeting of stockholders called for
that purpose. A Director elected to fill a vacancy shall be elected to hold
office until his successor is elected and qualified, or until his earlier death,
resignation or removal.
4.5. RESIGNATIONS. Any Director may resign at any time by written notice
------------
to the Corporation. Such resignation shall take effect at the time therein
specified, and, unless otherwise specified, the acceptance of such resignation
shall not be necessary to make it effective.
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4.6. REMOVAL OF DIRECTORS. Except as otherwise provided by law, any or
--------------------
Directors may be removed with or without cause, by vote of the holders of a
majority of the outstanding stock of the Corporation entitled to vote generally
in the election of directors (considered for this purpose as one class) cast at
a meeting of the stockholders called for that purpose.
4.7. COMPENSATION. Each Director, in consideration of his service as such,
------------
shall be entitled to receive from the Corporation such amount per annum or such
fees for attendance at Directors' meetings, or both, as the Board may from time
to time determine, together with reimbursement for the reasonable expenses
incurred by him in connection with the performance of his duties. Each Director
who shall serve as a member of any committee of directors, in consideration of
his serving as such, shall be entitled to such additional amount per annum or
such fees for attendance at committee meetings, or both, as the Board may from
time to time determine, together with reimbursement for the reasonable expenses
incurred by him in the performance of his duties. Nothing in this Section
contained shall preclude any Director from serving the Corporation or its
subsidiaries in any other capacity and receiving proper compensation therefor.
4.8. PLACE AND TIME OF MEETINGS OF THE BOARD. Meetings of the Board,
---------------------------------------
regular or special, may be held at any place within or without the State of
Delaware. The times and places for holding meetings of the Board may be fixed
from time to time by resolution of the Board or (unless contrary to resolution
of the Board) in the notice of the meeting.
4.9. ANNUAL MEETINGS. On the day when and at the place where the annual
---------------
meeting of stockholders for the election of Directors is held, and as soon as
practicable thereafter, the Board may hold its annual meeting, without notice of
such meeting, for the purpose of organization, the election of officers and the
transaction of other business. The annual meeting of the Board may be held at
any other time and place specified in a notice given as provided in Section 4.11
of the By-Laws for special meetings of the Board or in a waiver of notice
thereof.
4.10. REGULAR MEETINGS. Regular meetings of the Board may be held at
----------------
such times and places as may be fixed from time to time by the Board. Unless
otherwise required by the Board, regular meetings of the Board may be held
without notice. If any day fixed for a regular meeting of the Board shall be a
Saturday or Sunday or a legal holiday at the place where such meetings is to be
held, then such meeting shall be held at the same hour at the same place on the
first business day thereafter which is not a Saturday, Sunday or legal holiday.
4.11. SPECIAL MEETINGS. Special meetings of the Board shall be held
----------------
whenever called by the President or the Secretary or by any two or more
Directors. Notice of each special meeting of the Board shall be given to each
Director by the Secretary, or in the case of the death, absence, incapacity or
refusal by the Secretary, by the officer or one of the Directors calling the
Meeting. Notice shall be given to each Director in person or by telephone sent
to his business or last known home address at least forty-eight (48) hours in
advance of the meeting. Every such notice shall state the time and place of the
meeting but need not state the purposes of the meeting, except to the extent
required by law. Notice need not be given to any Director if a written waiver
of notice executed by him before or after the meeting, is filed with the records
of the meeting, or to any Director who
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attends the meeting without protesting prior thereto or at its commencement the
lack of notice to him. A notice or waiver of notice of a Directors' meeting need
not specify the purposes of the meeting.
4.12. ADJOURNED MEETINGS. A majority of the Directors present at any
------------------
meeting of the Board, including an adjourned meeting, whether or not a quorum is
present, may adjourn such meeting to another time and place. Notice of any
adjourned meeting of the Board need not be given to any Director whether or not
present at the time of the adjournment. Any business may be transacted at any
adjourned meeting that might have been transacted at the meeting as originally
called.
4.13. WAIVER OF NOTICE. Whenever notice is required to be given to any
----------------
Director or member of a committee of Directors under any provision of the
General Corporation Law or of the Certificate of Incorporation or By-Laws, a
written waiver thereof, signed by the person entitled to notice, whether before
or after the time stated therein, shall be deemed equivalent to notice.
Attendance of a person at a meeting shall constitute a waiver of notice of such
meeting, except when the person attends a meeting for the express purpose of
objecting, at the beginning of the meeting, to the transaction of any business
because the meeting is not lawfully called or convened. Neither the business to
be transacted at, nor the purpose of, any regular or special meeting of the
Directors, or members of a committee of Directors, need be specified in any
written waiver of notice.
4.14. ORGANIZATION. At each meeting of the Board, the President of the
------------
Corporation, or in the absence of the President, a chairman chosen by the
majority of the Directors present, shall preside. The Secretary shall act as
secretary at each meeting of the Board. In case the Secretary shall be absent
from any meeting of the Board, an Assistant Secretary shall perform the duties
of secretary at such meeting; and in the absence from any such meeting of the
Secretary and Assistant Secretaries, the person presiding at the meeting may
appoint any person to act as secretary of the meeting.
4.15. QUORUM OF DIRECTORS. Two-thirds of the Directors then in office
-------------------
shall constitute a quorum for the transaction of business or of any specified
item of business at any meeting of the Board.
4.16. ACTION BY THE BOARD. All corporate action taken by the Board or
-------------------
any committee thereof shall be taken at a meeting of the Board, or of such
committee, as the case may be, except that any action required or permitted to
be taken at any meeting of the Board, or of any committee thereof, may be taken
without a meeting if all members of the Board or committee, as the case may be,
consent thereto in writing, and the writing or writings are filed with the
minutes of proceedings of the Board or committee. Unless otherwise prohibited
by law or the Certificate of Incorporation, members of the Board, or of any
committee designated by the Board, may participate in a meeting of the Board of
such committee by means of a conference telephone or similar communications
equipment by which means all persons participating in the meeting can hear each
other; and participation in a meeting pursuant to this Section 4.16 shall
constitute presence in person at such meeting. Except as otherwise provided by
these By-Laws or the Certificate of Incorporation or by
8
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law, the vote of a majority of the Directors present (including those who
participate by means of conference telephone or similar communications
equipment) at the time of the vote, if a quorum is present at such time, shall
be the act of the Board, except that a unanimous vote of the Board shall be
required for the calling of a special meeting of shareholders.
ARTICLE V
COMMITTEES OF THE BOARD
-----------------------
The Board may, by resolution passed by a majority of the whole Board,
designate one or more committees, each committee to consist of one or more of
the Directors of the Corporation. The Board may designate one or more Directors
as alternate members of any committee, who may replace any absent or
disqualified member at any meeting of the committee. In the absence of a Board
appointed alternate, or disqualification of a member of a committee, the member
or members thereof present at any meeting and not disqualified from voting,
whether or not he or they constitute a quorum, may unanimously appoint another
member of the Board to act at the meeting in the place of any such absent or
disqualified member. Any such committee, to the extent provided in the
resolution of the Board, shall have and may exercise all the powers and
authority of the Board in the management of the business and affairs of the
Corporation, and may authorize the seal of the Corporation to be affixed to all
papers which may require it; but no such committee shall have the power or
authority of the Board in reference to amending the Certificate of
Incorporation, adapting an agreement of merger or consolidation, recommending to
the stockholders the sale, lease or exchange of all or substantially all of the
Corporation's property and assets, recommending to the stockholders a
dissolution of the Corporation or a revocation of a dissolution, or amending the
By-Laws of the Corporation; and, unless the resolution designating it expressly
so provides, no such committee shall have the power or authority to declare a
dividend or to authorize the issuance of stock.
ARTICLE VI
OFFICERS
--------
6.1. OFFICERS. The Board shall elect a Chairman of the Board, a President,
--------
a Secretary and a Treasurer, and may elect or appoint one or more Vice
Presidents and such other officers as it may determine. The Board may designate
one or more Vice Presidents as Executive Vice Presidents, and may use
descriptive words or phrases to designate the standing, seniority or area of
special competence of the Vice Presidents elected or appointed by it. Each
officer shall hold his office until his successor is elected and qualified or
until his earlier death, resignation or removal in the manner provided in
Section 6.2 of the By-Laws. Any two or more offices may be held by the same
person. The Board may require any officer to give a bond or other security for
the faithful performance of his duties, in such amount and with such sureties as
the Board may determine. All officers as between themselves and the Corporation
shall have such authority and perform such duties in the management of the
Corporation as may be provided for in the By-Laws or as the Board may from time
to time determine.
9
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6.2. REMOVAL OF OFFICERS. Any officer elected or appointed by the Board
-------------------
may be removed by the Board with or without cause. The removal of an officer
without cause shall be without prejudice to his or her contract rights, if any.
The election or appointment of an officer shall not itself create contract
rights.
6.3. RESIGNATIONS. Any officer may resign at any time by notifying the
------------
Board or the President or the Secretary in writing. Such resignation shall take
effect at the date of receipt of such notice or at such later time as is therein
specified, and, unless otherwise specified, the acceptance of such resignation
shall not be necessary to make it effective. The resignation of an officer
shall be without prejudice to the contract rights of the Corporation, if any.
6.4. VACANCIES. A vacancy in any office because of death, resignation,
---------
removal, disqualification or any other cause shall be filled for the unexpired
portion of the term in the manner prescribed in the By-Laws for the regular
election or appointment to such office.
6.5. COMPENSATION. Salaries or other compensation of the officers may be
------------
fixed from time to time by the Board. No officer shall be prevented from
receiving a salary or other compensation by reason of the fact that he is also a
Director.
6.6. CHAIRMAN OF THE BOARD. The Chairman of the Board shall, if present,
---------------------
preside at all meetings of the shareholders and Directors and shall have such
other powers and duties as may from time to time be assigned to him by the
Board.
6.7. PRESIDENT. The President shall have general supervision over the
---------
business of the Corporation, subject, however, to the control of the Board and
of any duly authorized committee of Directors. The President shall, if present,
preside at all meetings of the stockholders and at all meetings of the Board.
He may, with the Secretary or the Treasurer or an Assistant Secretary or an
Assistant Treasurer, sign certificates for shares of capital stock of the
Corporation. He may sign and execute in the name of the Corporation deeds,
mortgages, bonds, contracts and other instruments, except in cases where the
signing and execution thereof shall be expressly delegated by the Board or by
the By-Laws to some other officer or agent of the Corporation, or shall be
required by law to be otherwise signed or executed; and, in general, he shall
perform all duties incident to the office of President and such other duties as
may from time to time be assigned to him by the Board.
6.8. VICE PRESIDENTS. At the request of the President or, in his or her
---------------
absence, at the request of the Board, the Vice Presidents shall (in such order
as may be designated by the Board, or in the absence of any such designation, in
order of seniority based on age) perform all of the duties of the president, and
when so acting shall have all the powers of and be subject to all restrictions
upon the President. Any Vice President may also, with the Secretary or the
Treasurer or an Assistant Secretary or an Assistant Treasurer, sign certificates
for shares of capital stock of the Corporation; may sign and execute in the name
of the Corporation deeds, mortgages, bonds, contracts or other instruments
authorized by the Board, except in cases where the signing and execution thereof
shall be expressly delegated by the Board or by the By-Laws to some other
officer or agent of the
10
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Corporation, or shall be required by law to be otherwise signed or executed; and
shall perform such other duties as from time to time may be assigned to him by
the Board or by the President.
6.9. SECRETARY. The Secretary, if present, shall act as secretary of all
---------
meetings of the stockholders and of the Board, and shall keep the minutes
thereof in the proper book or books to be provided for that purpose; he or she
shall see that all notices required to be given by the Corporation are duly
given and served; he or she may, with the President or a Vice President, sign
certificates of shares of capital stock of the Corporation; he or she shall be
custodian of the seal of the Corporation and may seal with the seal of the
Corporation, or a facsimile thereof, all certificates for shares of capital
stock of the Corporation and all documents the execution of which on behalf of
provisions of the By-Laws; he or she shall have charge of the stock ledger and
also of the other books, records and papers of the Corporation relating to its
organization and management as a Corporation, and shall see that the reports,
statements and other documents required by law are properly kept and filed; and
shall, in general, perform all the duties incident to the office of Secretary
and such other duties as from time to time may be assigned to him or her by the
Board or by the President.
6.10. TREASURER. The Treasurer shall have charge and custody of, and
---------
be responsible for, all funds, securities and notes of the Corporation; receive
and give receipts for moneys due and payable to the Corporation from any sources
whatsoever; deposit all such moneys in the name of the Corporation in such
banks, trust companies or other depositaries as shall be selected in accordance
with these By-Laws; against proper vouchers, cause such funds to be disbursed by
checks or drafts on the authorized depositories of the Corporation signed in
such manner as shall be determined in accordance with any provisions of the By-
Laws, and be responsible for the accuracy of the amounts of all moneys so
disbursed; regularly enter or cause to be entered in books to be kept by him or
under his direction his discretion full and adequate account of all moneys
received or paid by him for the account of the Corporation; have the right to
require, from time to time, reports or statements giving such information as he
may desire with respect to any and all financial transactions of the Corporation
from the officers and agents transacting the same; render to the President or
the Board, whenever the President or the Board, respectively, shall require him
to so do, an account of the financial condition of the Corporation and of all
his transactions as Treasurer; exhibit at all reasonable times his books of
account and other records to any of the Directors upon application at the office
of the Corporation where such books and records are kept; and in general perform
all the duties incident to the office of Treasurer and such other duties as from
time to time may be assigned to him by the Board or by the President; and he may
sign with the President or a Vice President certificates for shares of capital
stock of the Corporation.
6.11. ASSISTANT SECRETARIES AND ASSISTANT TREASURERS. Assistant
----------------------------------------------
Secretaries and Assistant Treasurers shall perform such duties as shall be
assigned to them by the Secretary or by the Treasurer, respectively, or by the
Board or by the President. Assistant Secretaries and Assistant Treasurers may,
with the President or a Vice President, sign certificates for shares of capital
stock of the Corporation.
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ARTICLE VII
CONTRACTS, CHECKS DRAFTS, BANK ACCOUNTS, ETC.
---------------------------------------------
7.1. EXECUTION OF CONTRACTS. The Board may authorize any officer, employee
----------------------
or agent, in the name and one behalf of the Corporation, to enter into any
contract or execute and satisfy any instrument, and any such authority may be
general or confined to specific instances or otherwise limited.
7.2. LOANS. The President or any other officer, employee or agent
-----
authorized by the By-Laws or by the Board may effect loans and advances at any
time for the Corporation from any bank, trust company or other institution or
from any firm, corporation or individual, and for such loans and advances may
make, execute and deliver promissory notes, bonds or other certificates or
evidences of indebtedness of the Corporation, and when authorized to so do may
pledge, hypothecate or transfer any securities or other property of the
Corporation as security for any such loans or advances. Such authority
conferred by the Board may be general or confined to specific instances or
otherwise limited.
7.3. CHECKS, DRAFTS, ETC. All checks, drafts and other orders for the
--------------------
payment of money out of the funds of the Corporation and all notes or other
evidences of indebtedness of the Corporation shall be signed on behalf of the
Corporation in such manner as shall from time to time be determined by
resolution of the Board.
7.4. DEPOSITS. The funds of the Corporation not otherwise employed shall
--------
be deposited from time to time to the order of the Corporation in such banks,
trust companies or other depositories as the Board may select or as may be
selected by an officer, employee or agent of the Corporation to whom such power
may from time to time be delegated by the Board.
ARTICLE VIII
STOCK AND DIVIDENDS
-------------------
8.1. CERTIFICATES REPRESENTING SHARES. The shares of capital stock of the
--------------------------------
Corporation shall be represented by certificates in such form (consistent with
the provisions of Section 158 of the General Corporation Law) as shall be
approved by the Board. Such certificates shall be signed by the President or a
Vice President and by the Secretary or an Assistant Secretary or the Treasurer
or an Assistant Treasurer, and may be sealed with the seal of the Corporation or
a facsimile thereof. The signatures of the officers upon a certificate may be
facsimiles if the certificate is countersigned by a transfer agent or registrar
who has signed or whose facsimile signature has been placed upon any certificate
shall have ceased to be such officer, transfer agent or registrar before such
certificate is issued, such certificate may, unless otherwise ordered by the
Board, be issued by the Corporation with the same effect as if such person were
such officer, transfer agent or registrar at the date of issue.
8.2. TRANSFER OF SHARES. Transfers of shares of capital stock of the
------------------
Corporation shall be made only on the books of the Corporation by the holder
thereof or by his duly authorized attorney
12
<PAGE>
appointed by a power of attorney duly executed and filed with the Secretary or a
transfer agent of the Corporation, and on surrender of the certificate or
certificates representing such shares of capital stock properly endorsed for
transfer and upon payment of all necessary transfer taxes. Every certificate
exchanged, returned or surrendered to the Corporation shall be marked
"Canceled", with the date of cancellation, by the Secretary or an Assistant
Secretary or the transfer agent of the Corporation. A person in whose name
shares of capital stock shall stand on the books of the Corporation shall be
deemed the owner thereof entitled to receive dividends, to vote as such owner
and for all other purposes in respect of the Corporation. No transfer of shares
of capital stock shall be valid as against the Corporation, its stockholders or
creditors for any purpose, except to render the transferee liable for the debts
of the Corporation to the extent provided by law, until such transfer shall have
been entered on the books of the Corporation by an entry showing from and to
whom transferred.
8.3. TRANSFER AND REGISTRY AGENTS. The Corporation may from time to time
----------------------------
maintain one or more transfer offices or agents and registry offices or agents
at such place or places as may be determined from time to time by the Board.
8.4. LOST, DESTROYED, STOLEN AND MUTILATED CERTIFICATES. The holder of any
--------------------------------------------------
shares of capital stock of the Corporation shall immediately notify the
Corporation of any loss, destruction, theft or mutilation of the certificate
representing such shares, and the Corporation may issue a new certificate to
replace the certificate alleged to have been lost, destroyed, stolen or
mutilated. The Board may, in its discretion, as a condition to the issue of any
such new certificate, require the owner of the lost, destroyed, stolen or
mutilated certificate, or his legal representative, to make proof satisfactory
to the Board of such loss, destruction, theft or mutilation and to advertise
such fact in such manner as the Board may require, and to give the Corporation
and its transfer agents and registrars, or such of them as the Board may
require, a bond in such form, in such sums and with such surety or sureties as
the Board by direct, to indemnify the Corporation and its transfer agents and
registrars against any claim that may be made against any of them on account of
the continued existence of any such certificate so alleged to have been lost,
destroyed, stolen or mutilated and against any expense in connection with such
claim.
8.5. REGULATIONS. The Board may make such rules and regulations as it may
-----------
deem expedient, not inconsistent with the By-Laws or with the Certificate of
Incorporation, concerning the issue, transfer and registration of certificates
representing shares of its capital stock.
8.6. RESTRICTION ON TRANSFER OF STOCK. A written restriction on the
--------------------------------
transfer or registration of transfer of capital stock of the Corporation, if
permitted by Section 202 of the General Corporation Law and noted conspicuously
on the certificate representing such capital stock, may be enforced against the
holder of the restricted capital stock or any successor or transferee of the
holder including an executor, administrator, trustee, guardian or other
fiduciary entrusted with like responsibility for the person or estate of the
holder. Unless noted conspicuously on the certificate representing such capital
stock, a restriction, even though permitted by Section 202 of the General
Corporation Law, shall be ineffective except against a person with actual
knowledge of the restriction. A restriction on the transfer or registration of
transfer of capital stock of the Corporation
13
<PAGE>
may be imposed either by the Certificate of Incorporation or by an agreement
among any number of stockholders or among such stockholders and the Corporation.
No restriction so imposed shall be binding with respect to capital stock issued
prior to the adoption of the restriction unless the holders of such capital
stock are parties to the agreement or voted in favor of the restriction.
8.7. DIVIDENDS, SURPLUS, ETC. Subject to the provisions of the Certificate
------------------------
of Incorporation and of law, the Board:
8.7(1) May declare and pay dividends or make other distributions on
the outstanding shares of capital stock in such amounts and at such time or
times as, in its discretion, the condition of the affairs of the
Corporation shall render advisable;
8.7(2) May use and apply, in its discretion, any of the surplus of
the Corporation in purchasing or acquiring any shares of capital stock of
the Corporation, or warrants for the purchase thereof, or any of its bonds,
debentures, notes, scrip or other securities or evidences of indebtedness,
in accordance with law;
8.7(3) May set aside from time to time out of any of the surplus or
net profits of the Corporation such sum or sums as, in its discretion, it
may think proper, as a reserve fund to meet contingencies, or for
equalizing dividends or for the purpose of maintaining or increasing the
property or business of the Corporation, or for any purpose it may think
conducive to the best interests of the Corporation. The Board may modify
or abolish any such reserve in the manner in which it was created.
ARTICLE IX
INDEMNIFICATION
---------------
9.1. INDEMNIFICATION OF OFFICERS AND DIRECTORS. The Corporation shall
-----------------------------------------
indemnify any person who was or is a party or it threatened to be made a party
to any threatened, pending or completed action, suit or proceeding, whether
civil, criminal, administrative or investigative, by reason of the fact that he
is or was a Director or an officer of the Corporation, against expenses
(including attorneys' fees), judgments, fines and amounts paid in settlement
actually and reasonably incurred by him or her in connection with such action,
suit or proceeding to the fullest extent and in the manner set forth in and
permitted by the General Corporation Law, and any other applicable law, as from
time to time in effect. Such right of indemnification shall not be deemed
exclusive of any other rights to which such Director or officer may be entitled
apart from the foregoing provisions. The foregoing provisions of this Section
9.1 shall be deemed to be a contract between the Corporation and each Director
and officer who serves in such capacity at any time while this Article 9 and the
relevant provisions of the General Corporation Law and other applicable law, if
any, are in effect, and any repeal or modification thereof shall not affect any
rights or obligations then existing with respect to any state of facts then or
theretofore existing or any action, suit or proceeding theretofore or thereafter
brought or threatened based in whole or in part upon any such state of facts.
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9.2. INDEMNIFICATION OF OTHER PERSONS. The Corporation may indemnify any
--------------------------------
person who was or is a party or is threatened to be made a party to any
threatened, pending or completed action, suit or proceeding, whether civil,
criminal, administrative or investigative by reason of the fact that he is or
was an employee or agent of the Corporation, or is or was serving at the request
of the Corporation as a Director, officer, employee or agent of another
Corporation, partnership, joint venture, trustor other enterprise, against
expenses (including attorneys' fees), judgments, fines and amounts paid in
settlement actually and reasonably incurred by him in connection with such
action, suit or proceeding to the extent and in the manner set forth in and
permitted by the General Corporation Law, and any other applicable law, as from
time to time in effect. Such right of indemnification shall not be deemed
exclusive of any other rights to which any such person may be entitled apart
from the foregoing provisions.
9.3. INSURANCE. The Corporation shall have power to purchase and to
---------
maintain insurance on behalf of any person who is or was a Director, officer,
employee or agent of the Corporation, or is or was serving at the request of the
Corporation as a Director, officer, employee or agent of another corporation,
partnership, joint venture, trust or other enterprise against any liability
asserted against him and incurred by him in any such capacity, or arising out of
his status as such, whether or not the Corporation would have the power to
indemnify him against such liability under the provisions of Section 9.1 and 9.2
of the By-Laws or under Section 145 of the General Corporation Law or any other
provision of law.
ARTICLE X
BOOKS AND RECORDS
-----------------
10.1. BOOKS AND RECORDS. The Corporation shall keep correct and complete
-----------------
books and records of account and shall keep minutes of the proceedings of the
stockholders, the Board and any committee of the Board. The Corporation shall
keep at the office designated in the Certificate of Incorporation or at the
office of the transfer agent or registrar of the Corporation in Delaware, a
record containing the names and addresses of all stockholders, the number and
class of shares held by each and the dates when they respectively became the
owners of record thereof.
10.2. FORM OF RECORDS. Any records maintained by the Corporation in
---------------
the regular course of its business, including its stock ledger, books of
account, and minute books, may be kept on, or be in the form of, punch cards,
magnetic tape, photographs, microphotographs, or any other information storage
device, provided that the records so kept can be converted into clearly legible
written form within a reasonable time. The Corporation shall so convert any
records so kept upon the request of any person entitled to inspect the same.
10.3. INSPECTION OF BOOKS AND RECORDS. Except as otherwise provided by
-------------------------------
law, the Board shall determine from time to time whether, and, if allowed, when
and under what conditions and regulations, the accounts, books, minutes and
other records of the Corporation, or any of them, shall be open to the
inspection of the stockholders.
15
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ARTICLE XI
SEAL
----
The Board may adopt a corporate seal which shall be in the form of a
circle and shall bear the full name of the Corporation, the year of its
incorporation and the word "Delaware".
ARTICLE XII
FISCAL YEAR
-----------
The fiscal year of the Corporation shall be determined, and may be
changed, by resolution of the Board.
ARTICLE XIII
VOTING OF SHARES HELD
---------------------
Unless otherwise provided by the resolution of the Board, the
President may, from time to time, appoint one or more attorneys or agents of the
Corporation, in the name and on behalf of the Corporation, to cast the votes
which the Corporation may be entitled to cast as a stockholder in any other
corporation or otherwise, at meetings of the holders of stock or other
securities of such other corporation, or to consent in writing to any action by
any such other manner of casting such votes or giving such consent, and may
execute or cause to be executed on behalf of the Corporation and under its
corporate seal, or otherwise, such written proxies, consents, waivers or other
instruments as he may deem necessary or proper in the circumstances; or the
President may himself attend any meeting of the holders of the stock or other
securities of any such other corporation and thereat vote or exercise any or all
other powers of the Corporation as the holder of such stock or other securities
of such other corporation.
ARTICLE XIV
AMENDMENTS
----------
The By-Laws may be altered, amended, supplemented or repealed, or new
By-Laws may be adopted, by vote of the holders of a majority of the shares
entitled to vote in the election of Directors. The By-Laws may also be altered,
amended, supplemented or repealed by the Board, provided that the vote of a
majority of the entire Board shall be required to change the number of
authorized Directors. Any By-Laws adopted, altered, amended, supplemented or
repealed by the Board may be altered, amended, supplemented or repealed by the
vote of the holders of a majority of the shares entitled to vote thereon.
16
<PAGE>
EXHIBIT 3.4.1
CERTIFICATE OF AMENDMENT
OF
CERTIFICATE OF INCORPORATION
OF
CHANTAL PHARMACEUTICAL CORPORATION
(UNDER SECTION 242 OF THE GENERAL CORPORATION LAW)
CHANTAL PHARMACEUTICAL CORPORATION, a corporation organized and existing
under the General Corporation Law of the State of Delaware (the "Corporation"),
does hereby certify that:
FIRST: The name of the Corporation is Chantal Pharmaceutical
Corporation.
SECOND: The Certificate of Incorporation of the Corporation is hereby
amended by striking out the first sentence of Article "FOURTH" thereof and by
substituting in lieu of said sentence the following provisions:
"FOURTH: The aggregate number of shares which the Corporation is
authorized to issue is 51,000,000, divided into 1,000,000 shares of
Preferred Stock, par value $.10 per share, and 50,000,000 shares of Common
Stock, par value $.01 per share."
THIRD: The Amendment to the Certificate of Incorporation herein
certified has been duly adopted in accordance with the provisions of Sections
222 and 242 of the General Corporation Law of the State of Delaware.
IN WITNESS WHEREOF, the undersigned has executed this Certificate this
17th day of July, 1997.
/s/Chantal Burnison
--------------------------------------
Chantal Burnison, Chairman of
the Board and Chief Executive Officer
<PAGE>
Exhibit 10.21
August 15, 1996
Ms. Yvette Lamprecht
115 23rd Street
Manhattan Beach, California 90266
Dear Ms. Lamprecht:
The following are the provisions of your employment agreement commencing
August 26, 1996:
Position: Chief Financial Officer
Salary: $120,000 per annum
Stock Options: 150,000 shares of common stock of Chantal Pharmaceutical
Corporation granted at $4 3/4 exercise price vesting as follows:
Shares Vesting
(a) 25,000 Upon signing
(b) 10,000 9/30/96
(c) 10,000 2/15/97
(d) 10,000 5/15/97
(e) 20,000 9/30/97
(f) 25,000 If (i) EPS for fiscal 1997 is at least
$1.50/share; or (ii) EPS for two
consecutive fiscal quarters in fiscal 1997
is at least $.45/share; or (iii) Net
Margin (i.e., net income divided by total
revenues) for fiscal 1997 is at least 35%
if cost of goods sold as a percentage of
total revenues is less than 20%, or Net
Margin is at least 30% if cost of goods
sold is 20% or more.
(g) 15,000 If (i) EPS for fiscal 1997 is at least
(additional $2.00/share; or (ii) EPS for two
to (f) above) consecutive fiscal quarters in fiscal
1997 is at least $.60/share; or (iii) Net
Margin for fiscal 1997 is at least 40%
if cost of goods sold as a percentage of
total revenues is less than 20%; or Net
<PAGE>
Ms. Yvette Lamprecht
Page Two
August 15, 1996
Margin is at least 35% if cost of goods
sold is 20% or more.
(h) 35,000
(additional If EPS for fiscal 1998 is at least 2 x fiscal
to (f) and (g) 1997 EPS, but EPS must be at least $1.50/share.
above)
All EPS numbers to be calculated on accrual method, as determined
on the filed 10-Qs and 10-Ks. Expenses recorded for any lawsuit
costs and settlement of lawsuits to be excluded from calculations
of EPS and Net Margin.
Additional Stock Option Provisions:
Shares under option shall have piggyback registration rights;
vested shares shall be subject to an exercise period of three
years from vesting; on an acquisition, merger or significant
change in management, all stock option shares vest; there will be
no special provision relating to dilution.
Benefits: Standard for Company, as expanded from time to time
Termination: By the Company
with cause - 60 days if within the first three months; thereafter
without compensation
without cause - 180 days
Relocation: Reimbursement of reasonable expenses not to exceed $12,000
for relocation of corporate headquarters to Florida
Vacation: Year 1: 2 weeks
After year 1 of employ: 3 weeks
Subject to recommendation for employ by Dr. Paul Thorne, Psycom International,
which has occurred favorably.
<PAGE>
Ms. Yvette Lamprecht
Page Three
August 15, 1996
The foregoing provisions shall be included in a formal employment
agreement but execution thereof is not a condition subsequent of this contract.
Sincerely,
/s/ Chantal Burnison
CHANTAL BURNISON
Chief Executive Officer
CB:bg
The foregoing is agreed to:
/s/ Yvette Lamprecht
- ----------------------- Date: August 15, 1996
Yvette Lamprecht
<PAGE>
EXHIBIT 10.22
CONFIDENTIAL
CHANTAL PHARMACEUTICAL CORPORATION
TERMS OF EMPLOYMENT
JOSEPH DEKAMA
Position:
Executive Vice President: Chantal Pharmaceutical Corporation
President: Chantal Skin Care Corporation
Duties and responsibilities as mutually agreed upon in Business Plan of
this even date. Report to Chairman of the Board, Vice Chairman of the
Board or Chief Executive Officer
Term:
One year
Year two: EPS $1.00 at June 30, 1998
Year three: EPS $1.50 at June 30, 1999
Salary:
$240,000 per annum
Additional Bonuses:
One and one-half percent (1-1/2%) of North America Chantal Skin Care
product revenues (net returns) provided that expenditures are in accordance
with agreed upon Business Plan of this even date
Quarterly bonus of $50,000 conditioned upon the following quarterly North
American Chantal Skin Care products revenues (net returns) in accordance
with agreed upon Business Plan of this even date
. Q1 September 30, 1997 $ 6mm
. Q2 December 31, 1997 $ 9mm
. Q3 March 31, 1998 $12mm
. Q4 June 30, 1998 $20mm
Subsequent years to be negotiated based on future Business Plans
Options:
500,000 shares vesting and exercisable as follows:
<TABLE>
<CAPTION>
Amount Vesting Price
------ ------- -----
<S> <C> <C>
50,000 on signing fmv grant date
50,000 at Jan. 1, 1998 fmv grant date
100,000 EPS $.50 at $2.00
June 30, 1998
</TABLE>
<PAGE>
100,000 EPS $1.00 at $5.00
Dec. 31, 1998*
100,000 EPS $1.75 at $5.00
Jan. 30, 1999
100,000 EPS $2.00 at $5.00
Dec. 31, 1999*
-------------
* earnings for 6 months at stated rate
Accelerated vesting of outstanding options if employment
terminated in event of acquisition or merger or significant
change of management with the exercise prices as hereinabove
recited.
Vesting: must be employed at time of vesting event.
Registration Rights: Piggy-back registration or registration
by the Company for selling shareholders
TERMINATION: Should employee not continue in the employ of the Company upon
acquisition or merger or significant change of management,
severance 2X annual comp (base salary) with car paid fully,
due and payable within ten (10) days of event occurrence
BENEFITS: Standard for Company and position, as expanded from time to
time
OTHER: Luxury car lease. (maximum: $600 per month)
AGREED UPON AS THE 6th DAY OF JUNE, 1997.
/s/ Chantal Burnison, CEO
_____________________________
Chantal Burnison, CEO
/s/ Joseph DeKama
_____________________________
Joseph DeKama
2
<PAGE>
EXHIBIT 10.23
CONFIDENTIAL
CHANTEL PHARMACEUTICAL CORPORATION
TERMS OF EMPLOYMENT
POLLY BERGEN
<TABLE>
<S> <C>
Position: Chief Operations Officer of Chantal Pharmaceutical Corporation
Term: One year
Year two: EPS $.50 at June 30, 1998
Year three: EPS $1.00 at June 30, 1999
Salary: $200,000 per annum
$300,000 when EPS $.01 (annualized) or greater for two consecutive
quarters
$350,000 when EPS $.50 (annualized) over consecutive quarters or at
June 30, 1998
Options: 300,000 shares vesting and exercisable as follows:
<CAPTION>
<C> <C> <C>
Amount Vesting Price
------ ------- -----
50,000 on signing fmv grant date
50,000 Jan. 1, 1998 fmv grant date
50,000 Airing of an employee fmv grant date if
product endorsement before, $2.00, if
commercial or t.v. direct after July 15, 1997
response appearance
50,000 Launch of Chantal fmv grant date if
product in U.S. dept. before, $2.00, if
retail store after September
15, 1997
100,000 EPS $.50 at June 30, $2.00
1998
</TABLE>
Accelerated vesting of outstanding options if employment terminated
in event of acquisition or merger or significant change of manage-
ment with the exercise prices as hereinabove recited.
<PAGE>
EXERCISE TERM: 3 years from Grant Date
Vesting: must be employed at time of vesting event.
Registration Rights: Piggy-back registration or registration by
the Company for selling shareholders
TERMINATION: Should employee not continue in the employ of the Company upon
acquisition or merger or significant change of management,
severance 2X annual comp (base salary) with car paid fully, due
and payable within ten (10) days of event occurrence
BENEFITS: Standard for Company and position, as expanded from time to
time
OTHER: Luxury car lease (maximum: $600 per month)
AGREED UPON THIS 17TH DAY OF JUNE, 1997.
/s/ Chantal Burnison
------------------------------
Chantal Burnison, CEO
/s/ Polly Bergen
------------------------------
Polly Bergen
<PAGE>
EXHIBIT 21
CHANTAL PHARMACEUTICAL CORPORATION
LISTING OF SUBSIDIARIES
<TABLE>
<CAPTION>
Ownership
---------
<S> <C>
Chantal Chemical and Pharmaceutical Corporation, a Delaware Corporation 100%
Chantal Chemical Corporation, a Delaware Corporation 100%
Chantal Pharmaceutical AG, a Swiss Corporation 100%
Chantal Pharmaceutical GmbH, a German Corporation 100%
Chantal Skin Care Corporation 90%
Chantal Media Corporation, a Delaware Corporation 100%
Chantal Pharmaceutical Nederlands, a Holland Corporation 100%
Chantal Skin Care Limited, a Hong Kong Corporation 100%
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM CONSOLIDATED
BALANCE SHEETS AND CONSOLIDATED STATEMENT OF OPERATIONS AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUN-30-1997
<PERIOD-START> JUL-01-1996
<PERIOD-END> JUN-30-1997
<CASH> 150,587
<SECURITIES> 0
<RECEIVABLES> 796,762
<ALLOWANCES> 0
<INVENTORY> 2,904,723
<CURRENT-ASSETS> 4,079,203
<PP&E> 2,629,531
<DEPRECIATION> 1,846,517
<TOTAL-ASSETS> 14,952,265
<CURRENT-LIABILITIES> 8,657,399
<BONDS> 0
0
50,000
<COMMON> 181,905
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 14,952,265
<SALES> 6,560,122
<TOTAL-REVENUES> 6,662,741
<CGS> 2,343,994
<TOTAL-COSTS> 13,956,314
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 1,442,305
<INCOME-PRETAX> (10,571,462)
<INCOME-TAX> 0
<INCOME-CONTINUING> (10,571,462)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (10,571,462)
<EPS-PRIMARY> (.58)
<EPS-DILUTED> (.58)
</TABLE>
