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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Year Ended December 31, 1999
Commission File Number 1-10367
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
DELAWARE 71-0675758
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
914 N. JEFFERSON STREET
P. O. BOX 1237 72765
SPRINGDALE, ARKANSAS (Zip Code)
(Address of Principal Executive Office)
Registrant's telephone number, including Area Code: (501) 756-7400
Securities Registered Pursuant to Section 12(b) of the Act: NONE
Securities Registered Pursuant to Section 12(g) of the Act: CLASS A COMMON
STOCK, $.01 PAR VALUE
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 12 MONTHS (OR FOR 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: [ ]
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. YES: [X] NO: [ ]
Number of shares of the common stock outstanding at
December 31, 1999: CLASS A - 24,251,497
CLASS B - 1,465,530
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PART I
ITEM 1. BUSINESS
THE COMPANY
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC. (AERT or the
Company) manufactures and markets composite building materials that can be used
as an alternative to traditional wood products for certain applications. We use
waste wood fiber and reclaimed polyethylene plastics as our raw materials. Our
products are comprised of approximately equal amounts of wood and plastic and
have been extensively tested and used by several leading national companies,
such as the Weyerhaeuser Company and Therma Tru Corporation. Our products are
marketed under the LifeCycle(R), MoistureShield(R), ChoiceDek(R) and
DreamWorks(TM) trade names.
Our sales are primarily in the following three markets:
o exterior door and window components,
o commercial and residential decking surface components, and
o industrial flooring, in the form of floor blocks for industrial
applications.
Our decking components and a limited amount of door and window
components are currently manufactured by our facility in Junction, Texas. We are
near initial completion of the expansion of our manufacturing capabilities at
our second composite manufacturing and plastic reclamation facility in
Springdale, Arkansas. We have two extruder lines and a plastic facility in
operation. The third extrusion line will be operational in the second quarter of
2000, which will complete the initial construction in our second manufacturing
facility. A fourth composite extrusion line may be added at our initial
Springdale manufacturing facility in late 2000. A second plastic recycling
facility and a third composite extrusion facility are planned for Springdale
later in 2000 or the first quarter of 2001.
Because of their plastic content, our composites exhibit the following
attributes:
o they are engineered for superior moisture resistance and will not
swell or expand like wood,
o they do not require preservative or chemical treatments like
traditional wood,
o they can be designed and extruded through dies to a desired shape
in accordance with customer specifications, minimizing waste,
o they are less subject to rotting, cracking, warping, splintering,
insect infestation and water absorption than conventional wood
materials, and
o they are denser than the straight-grained, clear grades of wood
from western United States forests, traditionally used in the
building applications for which our products compete.
Because of their wood fiber content, our composites are less subject to
thermal contraction or expansion and display greater dimensional stability than
conventional plastic materials. Our manufactured products maintain many
properties similar to traditional wood materials.
The composites manufacturing process involves proprietary and patented
technologies and specialized manufacturing equipment, custom-built or modified
for us. The process uses plentiful, lower cost, raw materials, such as recycled
plastics and wood-filler materials and, in certain cases, special additives or
virgin plastics in varying mixtures. The mixtures can be specifically formulated
based on our customers' desired end product specifications. The encapsulation of
wood fibers in plastic creates a consistent material, free of foreign matter,
which can be extruded into a desired shape. Our composite building material
became a patented product in June 1998 (U.S. Patent No. 5,759,680).
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AERT has increased net sales from $7,982,381 in 1997 to $12,408,591 in
1998 and to $19,917,133 in 1999, and has sold in excess of $59 million of
composite building materials since inception. The Company has proven products
today in several million homes in the United States. Proceeds from $16.5 million
in tax-exempt bonds currently in escrow are intended to further increase
manufacturing capacity in Springdale, Arkansas, subject to the Company meeting
certain requirements described herein. The construction of additional
manufacturing capacity will not start until after the completion of the initial
Springdale plant and the successful startup of the third composite extrusion
line. This is anticipated in April 2000. The Company intends to break escrow of
the $16.5 million bond financing in stages, as production and subsequent
construction progress on the third manufacturing facility. This additional
manufacturing capacity is intended to increase annualized sales in excess of $70
million with the successful completion and start-up of up to three additional
extrusion lines over the next 18 months. With two plants fully operational and a
third planned for the near future, AERT will be uniquely positioned to
positively address the ever-increasing needs of the market place for
low-maintenance composite building materials.
BACKGROUND AND HISTORY
AERT was founded in 1988, by the Brooks family and associates of
Springdale, Arkansas. Since inception, the Company has developed, patented, and
commercialized several new technologies and products, which significantly
advance state-of-the-art reclamation of polyethylene plastic scrap and related
manufacturing processes. Polyethylene plastic is the largest segment of the
plastic waste stream and used primarily for packaging in items ranging from milk
carton and frozen food linings to grocery bags and milk jugs. The Company
utilizes its proprietary and patented technologies to produce an innovative and
growing line of moisture-resistant and dimensionally stable engineered composite
building materials. The composite materials are hard, dense, short-grained
substances with a dark, speckled surface appearance depending on the wood fiber.
They are manufactured utilizing primarily recycled polyethylene plastics (both
low and high density) and waste wood fibers. These materials are primarily
targeted at the national door and window component market, the
industrial-flooring market, and the residential decking market under the trade
names LifeCycle(R), MoistureShield(R), ChoiceDek(R), and DreamWorks(TM). Since
inception (1988) to December 31, 1999, the Company has generated net sales of
$59,245,089, primarily into the U.S. residential homebuilding market.
The Company's initial penetrations into the national building and
construction markets were focused on value added components such as door rails,
door subsills, windowsills and other exterior moisture stress areas. These are
primarily the major problem areas that manufacturers have in regard to rotting,
swelling and warping with wood. Therefore, AERT initially targeted this market
segment to maximize the value of its product line, in addition to addressing a
well-defined need in the marketplace for a wood component replacement which does
not absorb moisture, swell or rot.
COMPOSITE MANUFACTURING
Principals of the Company began working on developing processes for
re-utilizing and recycling wood and plastics in 1985. Since that time, extensive
expertise has gone into the development of several patents that have
significantly advanced the state-of-the-art reclamation of plastic scrap and
related manufacturing processes. The composites manufacturing process involves
proprietary and patented technologies and specialized
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manufacturing equipment, custom-built or modified for the Company's purposes. It
utilizes recycled plastics and wood-fiber materials and, in certain cases,
special additives or virgin plastics in varying mixtures, which can be
formulated, based on the customer's desired end-product characteristics. A key
advantage of the Company's process is the ability to utilize plentiful, low-cost
raw material components, encapsulate the wood fibers in the plastic and create a
consistent material, free of foreign matter, which can be extruded and/or
machined into a desired shape, while the end product maintains many properties
similar to traditional wood materials.
The initial composite extrusion production commenced in 1990 at the
Company's Junction, Texas facility. In June 1992, the Company was sued by Mobil
Oil Corporation in Delaware charging that four recently issued AERT composite
patents were invalid and unenforceable (see Legal Proceedings).
In August 1993, a fire severely damaged the Junction, Texas composites
facility, destroying the raw materials handling and processing area and one of
the two extrusion production lines. Clean up and reconstruction began
immediately and within two weeks, one production line was operating on a limited
basis. As part of the rebuilding, an in-house wood dryer was incorporated into
the raw materials processing area and improvements were made to production lines
such that both lines now operate more efficiently than before the fire occurred.
The reconstruction of the plant was completed in August 1994 with restored and
improved production capability. In December 1995, the Company exchanged certain
equipment, which was previously used for plastic sales to third parties at its
Rogers, Arkansas plant, for equipment required to complete a third extrusion
line at the Junction, Texas plant. The third line was installed during the first
half of 1996 and commenced full production in mid 1996. This increased the
Company's extrusion capacity.
The Company initiated sales of its LifeCycle(R) decking components
early in 1993, however, the fire at the composite facility severely limited
production and the decking project was delayed as the plant was rebuilt.
In May 1995, we entered into an exclusive marketing and distribution
agreement with a division of Weyerhaeuser, a large forest products company, for
sales of our LifeCycle(R) line of extruded decking components, which are
primarily targeted towards the high-end residential housing market. Weyerhaeuser
has marketed this product under the trade name ChoiceDek(R) through their
distribution centers located throughout the United States. ChoiceDek(R) decking
sales have been limited to date by our limited manufacturing capacity, which we
are in the process of significantly increasing.
In 1999 gross decking sales increased to $10.4 million from $4.3
million in 1998. Although significant customer demand existed for substantially
higher sales, the Company has historically been unable to increase production
sufficiently on a scale large enough to meet its customers' increasing demands.
THE PLASTICS RECLAMATION UNIT
The Plastics Reclamation Unit was originally located in Rogers,
Arkansas and was initially established to develop and commercialize plastic
recycling technology primarily to serve as a dependable, cost-effective source
of plastic raw materials for the Composite Manufacturing Unit. The Company began
activities at its Plastics Reclamation Unit in 1990. Since that time, the
Company has further developed and patented its proprietary waste plastics
reclamation technologies which allows it to recover waste plastics from the
by-product of paper recycling mills, as well as certain waste plastic from
post-consumer or industrial plastic films. Secondary fiber recovery mills
recycle paper and polyethylene-coated paperboard to recover the paper fiber
through a process known as hydropulping. The by-product of the hydropulping
process is a water-saturated mixture of polyethylene and unrecovered paper
fiber, which most such mills currently dispose of without further processing.
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Using certain plastics recycling technologies, which such paper recycling
companies do not generally have available, the Company has been able to
economically recover polyethylene suitable for use in its composite
manufacturing process at prices below that of virgin plastic.
In 1991, while continuing to develop its initial plastic recycling
technology, the Company entered into a technology development agreement with The
Dow Chemical Company for the purpose of further developing and commercializing
the Company's plastic reclamation technology for additional applications of
polyethylene films. Dow Chemical was the world's largest producer of
polyethylene plastic and the Company received an initial 10 million pounds
market development order from Dow in 1992 for recycled plastic. However, in 1994
when federal recycling legislation and market development waned for recycled
plastic, that order was restructured allowing the Company to significantly
reduce indebtedness. Pursuant to the restructuring, Dow forgave approximately
$879,000 in debt from the Company in lieu of purchasing the remaining portion of
the recycled plastic. Following the restructuring and completion of the Dow
contract, the Company began utilizing production capacity not required for
processing raw materials for the Composites Manufacturing Unit to produce other
types of materials for sale to manufacturers of grocery bags, trash bags, and
other manufacturers of plastic goods desiring recycled content in their
products.
Through 1995, the Company's plastic reclamation facility was also
involved in sales of recycled plastics to third- party film manufacturers. The
materials desired by these customers required substantial processing beyond that
necessary to produce raw materials for the composites facility, and sufficient
efficiencies of scale and market demands were never attained. Mandatory federal
plastic recycling content legislation also died in 1995 and failed to be
enacted. These issues, combined with increased sales of the Company's composite
products and the composites division's increased raw-material requirements,
prompted the Company, in the first quarter of 1996, to discontinue reclamation
of plastics for sale to third-parties and dedicate all of the plastic facility's
production to providing materials to its Junction composites operation. In
connection with this restructuring of the plastics reclamation plant, the
Company exchanged certain equipment, previously utilized to produce plastics for
sale to third-parties, for other equipment which was utilized to process
raw-materials and for additional equipment necessary to complete the
installation of a third production line at the Company's composite facility.
The Company experienced a series of extensive fires that caused
substantial damage during the last half of 1996 at its Rogers, Arkansas plastic
reclamation facility. These fires in September and December of 1996 set back the
Company's plastic reclamation program and the resulting supply disruption of
plastic raw materials limited composite sales growth. The claim regarding the
September fire was settled in late 1996 for approximately $379,000, and the
Rogers plastic reclamation operation recommenced in late November. In December
1996, the undamaged portion of the Rogers facility then suffered a second major
fire, and the manufacturing portion experienced extensive damage, causing the
facility to be closed. Both fires were deemed incendiary by independent
investigators. The Company's rebuilding efforts were delayed for most of the
first half of 1997 due to the ongoing fire investigation and insurance
settlement delays. The December fire claim was finally settled in June 1997 for
$1.9 million. The Company began relocating and reestablishing its internal
plastic recycling capacity at the facility in Springdale, Arkansas in late 1997.
This project was completed in 1999.
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The pattern of continued fires caused the Company's fire insurance to
be cancelled. The Company was able to renew its fire insurance, but at a
substantially higher rate. The Company has increased security and added armed
guards at its facilities. Following the fires, the Company experienced
competition for several of its plastic polywaste sources. Another major fire or
similar disruption could materially adversely affect the Company, and could
cause it to lose its ongoing supply sources from plastic waste generators that
might switch to competitors rather than wait on the Company to again rebuild its
recycling facilities.
PRODUCT TESTING AND FIELD HISTORY
The Company has completed extensive testing of its products, developed
substantial positive-field history since inception in 1988, and continues to add
additional original equipment manufacturers (OEM) accounts in the door and
window market for components parts. The Company also works closely and has
developed strong relationships with its customers' research and development
departments. This has allowed the Company to compete against higher-end plastic,
wood and engineered combinations and component systems and stay away from
commodity pricing. To accomplish this, AERT set up a millwork and fabrication
division and initiated manufacturing and selling finished products as component
parts to customer specifications. These customer relationships have also
provided the Company access to extensive experience in regard to long-term
25-year testing; or accelerated aging of materials under extreme external
environmental conditions. An example of this testing was the Company having to
bury its products into termite mounds in Hawaii for a year. The Company has
completed extensive third party independent testing of its products and has
prepared a BOCA application for building code approval, which will be filed
during the second quarter of 2000, for its decking products.
The Company's rot-proof, moisture-resistant component parts are now in
several million door and window components and market share is now increasing
rapidly. With increased sales to Therma Tru Doors, the addition of several OEM's
such as Carolina Builders, Peachtree and numerous small shop-built window
manufacturers, the pending addition of several large customers and the
Weyerhaeuser extruded decking line, the Company has strong composite sales
demand in place.
PATENTED AND PROPRIETARY TECHNOLOGY
The Company's composite manufacturing process and its development
efforts in connection with waste plastics reclamation technologies involve
patents and many trade secrets which are considered proprietary by the Company,
as well as certain methods, processes and equipment designs for which the
Company has sought additional patent protection. The Company has taken measures,
which are designed to safeguard its trade secrets by, among other things,
entering confidentiality and nondisclosure agreements.
The Company has filed eighteen patent applications and has received
issuance from the United States Patent and Trademark Office for fourteen
patents, six of which relate to the Company's composite materials manufacturing
operations and product and eight of which relate to its waste plastics
reclamation technologies. The patents issued relate to the Company's extrusion
process, the composite product, extrusion apparatus, and its continuous down
stream cooling and forming conveyor system and its plastic reclamation process
and equipment. The Company received formal issuance of its fourteenth patent in
June 1998. Should the Company's trade secrets be disclosed notwithstanding these
efforts, the business and prospects of the Company could be materially and
adversely affected.
The Company was sued in Delaware, in June 1992, by Mobil Oil
Corporation seeking a declaratory judgement that four recently issued composite
product patents were invalid and unenforceable. This was after several members
of the Mobil Composite Products staff toured the AERT Junction, Texas facility
in 1991 and signed confidentiality agreements. In February 1994, in litigation
with Mobil Oil Corporation, a Delaware jury returned a verdict that four AERT
patents on its composite product technology were invalid (See Item 3. Legal
Proceedings). Two patents were later restored upon appeal in 1995. The Company's
additional pending
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applications relate to additional manufacturing apparatus and technology
involving its film reclamation processes. There can be no assurance such
additional patents will be allowed, or if allowed that they will not be
challenged and invalidated. The cost of patent protection, and in particular,
patent litigation is extremely high. It can also strain resources and inhibit
growth of emerging companies. AERT intends to take other steps reasonably
necessary in the future to protect its existing technology and any technology
that may be subsequently developed. The Company may license its technologies to
industrial users in the future, and or enter into joint ventures, if licensing
terms can be agreed upon and if the Company believes it can preserve adequate
demand for its own products.
BUSINESS
Advanced Environmental Recycling Technologies, Inc. is comprised of
three separate, yet interrelated manufacturing facilities; the Composites
Manufacturing Unit located in Junction, Texas and Springdale, Arkansas, which
manufactures and markets moisture resistant composite building materials made
from waste plastics and by-product wood fibers, and the Plastics Reclamation
Unit located in Springdale, Arkansas, which processes waste plastics, producing
various polyethylene materials that are used as feedstock in the composite
manufacturing process.
The Company employs a four-part business strategy: (1) it utilizes
low-cost waste products and internally-produced products as raw materials; (2)
it configures its production facilities so that it can economically manufacture
a broad range of products on the same equipment in short production runs; (3) it
maintains a high level of technical and product support for its customers and
places a major emphasis on quality control and consistency in regard to its
products; and (4) its marketing program identifies and sells to niche markets
with defined needs in which the Company believes it can be prominent or
dominant.
The Company is near completion of the initial expansion of its
manufacturing capabilities at its composite manufacturing and millwork facility
in Springdale, Arkansas. The third extrusion line for the Springdale facility is
scheduled to become operational in April 2000. Due to continued and increasing
strong customer demands, a third facility is planned on the recently acquired
18.6 acres that adjoin the current Springdale facility in late 2000 or in the
first quarter of 2001, with the breaking of the $16.5 million in bond proceeds
from escrow. The additional production capacity is designed to increase
annualized sales from $19.9 to $70 million-plus per year over the upcoming
18-month period.
The Company's Composites Manufacturing Unit located in Junction, Texas
markets its moisture-resistant composite building materials under the trade
names MoistureShield(R) and ChoiceDek(R). The Composites Manufacturing Unit
located in Springdale Arkansas markets MoistureShield(R) and its newest product,
DreamWorks(TM). The Composite Manufacturing Units are comprised of wood fiber
raw material processing departments, composite extrusion departments, millwork
and fabrication departments, and a priming and paint department. The raw
material processing departments consist of wood fiber cleaning, drying, grinding
and storage equipment; the extrusion departments currently consist of five
extrusion and downstream production lines; (a sixth is being completed in April
2000 and a seventh is on order) the millwork departments currently consist of
five moulding and end-work lines; and the painting department consists of
inspection, preparation and a painting and drying line.
The Company's main focus is utilizing the Plastics Reclamation Unit as
a source of supply for the Composites Manufacturing Unit. Therefore, as sales of
the Company's composite products increase, the
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composites division's raw materials requirements will increase and additional
supplies of recycled plastics will be required.
The Company is currently expanding its existing plastic recycling
capacity at its Springdale, Arkansas plant. In addition, a second plastic
recycling plant is planned for later in 2000 or early 2001, with funds from the
bond money being held in escrow.
SUPPLY AND PRICING OF RAW MATERIALS
The Company's composites are currently manufactured from cedar and
hardwood fiber, polyethylene industrial and post-consumer film scrap and ground
industrial and post-consumer high-density polyethylene containers, as well as
other sources of consistent polyethylene waste products. The Arkansas facility
utilizes hardwood fibers as its wood source. AERT has entered informal supply
agreements for the cedar fiber and a portion of the waste plastics used in its
composite manufacturing process, although it is the Company's intention to enter
additional supply agreements in the future. The Company currently purchases raw
materials from sources, which it believes are dependable and adequate for its
short-term manufacturing requirements and the Company believes suitable
alternative sources are available. The Company currently has several long-term
supply agreements with companies that generate waste polyethylene at different
manufacturing plants. Additional raw material supply sources of both plastic and
wood fiber will be required for the Company to continue to increase composite
production and sales. The Company is currently working to enter formal supply
agreements for both additional plastic and fiber supplies. The Company is
experiencing increased competition for waste plastics and raw material prices
are increasing. The Company is working to increase the efficiencies of its
recycling facilities to partially offset increased plastic costs. However, a
significant disruption of supply arrangements, a reduction in raw material
consistency or quality, or significant increases in raw material prices could
have a material adverse effect on AERT's operations.
Cedar Fiber. The Junction, Texas composite facility is located near
four cedar mills which extract cedar oil for perfumes and industrial detergents
and dispose of the cedar fiber as a by-product of their operations. It is also
sold by said mills in some instances as a horse stable bedding, or a drilling
mud bridging agent. The Company, in the past, has purchased the entire wood
fiber required for its manufacturing purposes from these mills. Although the
Company believes it has access to sufficient supplies of cedar fiber to supply
its initial customer requirements, the Company has manufactured its composite
material with other types of wood fibers. The Company has commenced a testing
program with hardwood waste, and believes that a number of substitute wood
fibers could be satisfactorily used in its manufacturing process and that other
sources are currently available. As the Company's ChoiceDek(R) product line
continues to grow, additional cedar fiber will be required of which there is no
commitment at this time.
Hardwood Fiber. The Springdale facility is located in the Ozark
Mountain area with numerous hardwood mills and manufacturers. The Company has
currently established a minimum of two hardwood suppliers for the Springdale
facility.
Recycled Plastics. The cost of recycled waste plastics for use in the
composites manufacturing process has been subject to significant market and
quality fluctuations over the past several years and the Company has experienced
supply problems associated with contaminated plastics in the past. In an effort
to reduce its exposure to price volatility, inconsistent quality, and potential
supply disruptions, the Company in 1990 developed its own patented plastic
recycling technologies and established the waste Plastics Reclamation Unit in
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Rogers, Arkansas to assure itself of a cleaner, more dependable, and consistent
supply of plastic raw material for its Low Density Polyethynlene composite
manufacturing operations. The Company currently performs its Low Density
Polyethylene (LDPE) processing function at its facility in Springdale, Arkansas,
as well as with three outside independent contractors who process plastic for
the Company. The Company has also recently established several additional
plastic supply sourcing relationships in order to broaden its sources of supply.
The Company's plastics manufacturing processes primarily focus on
recycling the following polyethylene films for use in the composites
manufacturing process:
o LDPE poly coatings or linings from recycled bleached
food-board, which are generated from the hydropulping
process;
o High Density Polyethylene (HDPE) and Linear Low Density
Polyethylene (LLDPE) mixed plastic grocery bags from supermarket
and store collection programs;
o HDPE ground container material; and
o LLDPE stretch film from warehouses and packing waste.
These films are highly contaminated with paper and other non-plastic
materials, which makes them less desirable for traditional plastic uses, and
thus lessens their value to producers of recycled plastics. However, plastic
used for the Company's composites manufacturing units does not require the
purity, extensive cleaning, additional washing and melt filtration associated
with conventional plastics, and can be processed faster and more economically.
Further, the contaminated plastics are acquired by the Company at minimal costs,
primarily only the handling and freight charges. By focusing on contaminated
plastics, the Company is able to process these materials through its Plastics
Reclamation Unit and produce an acceptable lower-cost feed stock for the
composites facility. The Company believes that it has adequate and reliable
sources of LDPE hydropulp, additional industrial LDPE and HDPE sources and
HDPE/LLDPE mixed plastic grocery bags for the near future; however, with
increased competition, the Company is experiencing raw material price increases
in regard to scrap polyethylene. The Company also from time to time purchases
plastic, if available at reasonable costs and quality, from outside sources,
such as brokers or other plastic recyclers, to supplement the above-described
sources.
MARKETING AND SALES
The Company directed its initial marketing activities to specialized
market segments in the building industry in which cost and physical
characteristics place AERT's composite products, such as the subsurface
component pieces of standard door and window products, at a competitive
advantage over alternative conventional materials and in which the current
weaknesses of composites (for example, certain of its strength and aesthetic
characteristics) were not critical disadvantages. The Company has targeted its
composite products into defined needs in the marketplace, primarily external
areas where wood rots and/or requires substantial yearly maintenance such as
staining or water sealing. The Company also markets a growing line of primed and
painted window parts that substitute for wood and wood clad components. The
Company has developed an extensive customer base in the national door and window
market and with Weyerhaeuser BMD, primarily through members of management, and
strives to maintain strong customer relationships. In conjunction with expanding
its decking towards nationwide distribution and providing increased customer
service, the Company began expanding its sales group during late 1999.
To the extent, a prospective customer currently uses wood for component
pieces, the Company
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emphasizes the "value-added" potential of its MoistureShield(R) composite
product, which, unlike competing wood products, can be engineered to incorporate
certain desired end-product characteristics. The Company also calls the
prospective customer's attention to the savings in time and expense that can be
achieved by designing into the equipment used in the extrusion process much of
the millwork required in the customer's finished product. In addition, the
Company emphasizes the customer's avoidance of the chemical treatments and in
plant volatile organic compounds requirements often necessary to give competing
wood products rot resistance and durability and the customer's avoidance of the
substantial scrap wood or sawdust waste-product typically generated in the
sawing and milling process. The Company also stresses the additional durability
and performance of its products, which allow its customers to extend the
lifetime or warranties of their products.
MoistureShield(R) composites have been marketed primarily to companies
that manufacture products for use by the construction industry in new home
construction and home improvement work. The construction industry is subject to
significant fluctuations in activity and periodic downturns caused by general
economic conditions. Reductions in construction activity could have an adverse
effect on the demand for AERT composites; however, the Company believes that its
market diversification program will reduce the effects that fluctuations in
construction activity would have on the Company. The Company focuses heavily on
products for the home improvement market, which often tends to increase in
activity when housing starts decline, and the Company is further expanding its
marketing focus and increasing its decking distribution with its ChoiceDek(R)
and other decking products through Weyerhaeuser to accommodate a wider range of
applications in order to avoid total dependence on one industry.
The Company intends to further increase distribution and expand into
additional markets during 2000, while continuing to increase sales in its
initial decking markets. Weyerhaeuser markets ChoiceDek(R) and DreamWorks(TM)
primarily through independent contractor oriented lumber dealers. ChoiceDek(R),
DreamWorks(TM) and other decking products are promoted through displays at
regional and local home, lawn and garden shows as well as store demonstration
displays and marketed via a web site on the Internet. The address is
http://www.choicedek.com. The Internet site targets high-end contractors and
architects. For more information, contact mailto:[email protected]. The
Company has also recently commenced limited print and cable TV advertising
targeted towards the residential decking market, and will begin test marketing
into limited home improvement warehouses during 2000.
DreamWorks(TM) is a new wood grain-embossed designer product, which the
Company has field tested and developed with its customers over the last several
years. Together with Weyerhaeuser, the Company has initiated an advertising
campaign in contractor and builder magazines for ChoiceDek(TM) and
DreamWorks(TM). In addition, a celebrity marketing video is planned for use in
promoting the products by spring 2000.
The Company currently maintains a concentrated customer base. The
Company is unable to predict the future size of the markets for its composite
building products; however, the Company believes that the national door and
window and residential decking material markets are significant. The Company
believes that it can further penetrate these markets and/or expand sales to its
existing customer base if the Company's goals for increased production capacity
and efficiency are achieved. By focusing its marketing strategy on a limited
number of large door and window companies with large and increasing product
requirements, and by sales of decking products through the Weyerhaeuser
marketing and distribution agreement, the Company believes it can continue to
increase market penetration and sales of its products. With additional
production capacity on-line, the Company can now move towards national market
distribution of decking and other value added products, and has implemented
additional marketing and sales personnel into regional areas. The sales
personnel are
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<PAGE> 11
focused on increasing and sustaining higher demand for decking and other
products. To a lesser extent, the Company's marketing focus also utilizes
outside commissioned sales representatives for a portion of its door and window
and decking customers.
REDUCTIONS IN CONSTRUCTION ACTIVITY; INTEREST RATE SENSITIVITY
AERT composites are presently marketed primarily to companies that
manufacture products for use by the construction industry in new home
construction and home improvement work. The construction industry is subject to
significant fluctuations in activity and to periodic downturns caused by general
economic conditions. Increased interest rates can lead to reduced homebuilding
activity. Reductions in construction activity could have an adverse effect on
the demand for AERT composites. The Company, therefore, places a major emphasis
on components for customers in the home improvement market. However, the Company
has recently expanded its marketing focus to accommodate a wider range of
products and applications, and is continuing to increase market distribution.
INDUSTRY STANDARDS
ASTM and certain industry trade organizations have established general
standards and methods for measuring the characteristics of specific building
materials. Users of building materials (and frequently, issuers of building
codes) generally specify that the building materials comply with such standards
relative to the proposed applications. In regard to decking, many areas require
independent testing of specific test criteria in order to qualify for building
code approval. The Company has generated a substantial amount of independent
test data regarding its products and has developed an extensive field history in
conjunction with positive customer satisfaction for its components through its
large OEM customers. In addition, the Company has submitted its decking products
to extensive independent testing by certified laboratories. The Company has
finalized such initial independent testing for submission to an evaluation
service in order to receive a formal BOCA (blanket building code approval)
rating for its decking products. The Company currently submits its testing data
and allows the user to determine suitability for the application. The lack of
such a standard (and the independent assurance of extensive testing, quality
control and performance capability, which compliance with accepted standards
typically provides), may limit the market potential of the Company's decking
materials in certain areas and make potential purchasers of such building
materials reluctant to use them until independent certification is granted by a
universally recognized approval agency. The Company believes it can shortly
receive BOCA rating for its decking products after the extensive review is
completed by the agency.
The Company has accumulated significant product test data and begun the
internal preparation of proposed guidelines for wood-plastic composite materials
to be used in decking construction applications for an independent BOCA approval
rating. The consideration and evaluation of proposed testing standards for BOCA
is sometimes a lengthy process, typically requiring several months at a minimum.
The Company may also have to submit to additional independent testing to gain
approval. Management believes the Company's decking products can meet and
conform to nationally recognized BOCA performance standards and intends to
obtain an independent BOCA approval rating in the future for its decking
products. The Company believes that receiving an independent BOCA listing will
help further increase sales and market acceptance of its decking products.
COMPETITION
In seeking to identify MoistureShield(R) and ChoiceDek(R) composites as
alternative building materials to
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<PAGE> 12
high grade western pine and other woods, aluminum, high-performance plastics and
other construction materials, the Company competes with major forestry product
companies, aluminum fabricating companies, and major plastic and petrochemical
companies. The conventional material manufacturers with which the Company must
compete have, in many cases, long-established ties to the building and
construction industry and have proven well-accepted products.
Many large competitors also have research and development budgets,
marketing staffs and financial and other resources, which far surpass the
resources of the Company. There can be no assurance that such competitors will
not attempt to develop and introduce similar recycled composite materials. The
Company must also compete in the building materials market with certain other
plastics recyclers currently manufacturing recycled materials intended for
similar building material applications, including decking and fencing. Mobil Oil
Corporation entered the market in 1992, after purchasing the assets and
technology of a company called Rivenite. Mobil formed a composite products
division, opened a plant, and introduced a decking and fencing product called
Timbrex; which was later renamed Trex(R). Mobil initiated a large national
marketing and advertising program aimed at attaining significant distribution in
the decking market. Mobil divested this division in 1996 to a group of Trex
managers who named the new company The Trex Co., LLC. In April 1999, it became
Trex Company, Inc., and began trading on the New York Stock Exchange. Trex(R)
has continued to advertise heavily and generated composite decking sales in
excess of $74 million during 1999. Additional competition is emerging from
various sources for decking.
As the Company has developed its own plastics reclamation technologies,
it has in certain instances been required to compete for raw materials with
other plastics recyclers, or plastic resin producers, most of which are far
larger and better established than the Company. However, management believes
that its focus towards sources of contaminated polyethylene films that it
recycles and uses in its composites business are less attractive to most
producers of recycled plastics, other than plastic lumber producers. Additional
decking competitors of wood composite decking are Crane Plastics with a product
called TimberTech and U. S. Plastic Lumber with products called SmartDeck and
Carefree Decking. As a result, the increasing market demand for composite
products is now changing. Several additional competitors are starting to show
interest in poly waste and other plastics, and prices for scrap are increasing.
Further, the Company believes that the plastics reclamation processes it has
developed for its composite manufacturing business are targeted to the waste
management needs of particular industrial waste generators, to plastic film
wastes and to other plastic waste generators, whose potential as a recycling
source is not being utilized to a significant extent by current plastics
recyclers, rather than to post-consumer, source-separated plastic containers
recycling processes, in which a substantially greater number of plastics
recyclers compete for plastic waste materials.
As it grows, the Company expects to encounter new entrants into the
composites or plastics reclamation business, which could affect the Company's
source of raw materials supply. These new entrants may have substantially
greater financial and other resources than the Company, and may include beverage
bottlers, distributors and retailers, as well as forestry product producers,
petrochemical and other companies. For example, Trex Company, Inc. is now
competing with the Company for certain raw materials in connection with the
production of its Trex product described above. This competition may cause the
price of the Company's raw materials to continue to rise somewhat in the future.
EMPLOYEES
On December 31, 1999, the Company employed 113 employees at the Texas
facility, of which 7 are
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<PAGE> 13
executives or office personnel and 96 are full-time factory personnel. At the
Arkansas facility, there are 191 employees, of which 15 are executives or office
personnel and 163 are full-time factory personnel. The Company, from
time-to-time, employs additional persons on a part-time basis in its
manufacturing operations. The Company anticipates that as its business expands
it will employ additional management and factory personnel.
BOND FINANCING AND ESCROW
The Company received final approval for a $16.5 million bond issue from the
Springdale City Council in October 1999. The bonds are tax-exempt industrial
development revenue bonds, and are the type used to assist companies that
recycle products. The bonds are offered throughout the state of Arkansas, as
well as in Springdale. The bonds were sold to complete the expansion of the
existing manufacturing capacity in Springdale and to build another manufacturing
facility in Springdale in order to meet the strong demand for the Company's
products. The bonds were sold to Calvert Funds, a Maryland mutual fund company,
at an interest rate of 5.25%. The proceeds of the bonds have been placed in
escrow, pending the finalization of bond requirements. These requirements
include delivering to the Trustee such general items as project plans and
specifications, cost estimates, construction contracts and insurance coverage.
Furthermore, unless waived by the holder of 100% of the Bonds, the Company must
also deliver to the Trustee satisfactory evidence that for any consecutive 12
month period commencing on or after the date of the issuance of the bonds, the
long-term debt service coverage ratio, as defined, has been not less than 2.00
to 1, and the projected long-term debt service coverage ratio for the 24 month
period subsequent to the first disbursal from the Project Fund shall be not less
than 2.00 to 1. The plan is to have the escrowed bond funds released in segments
when and if the criteria are met. As of December 31, 1999, the Company has not
yet met the aforementioned criteria and there are no assurances the Company will
be successful in meeting the standards required to receive the bond financing
proceeds. In addition, the bonds are subject to mandatory tender for purchase by
the Company in whole on October 13, 2000 (the Reset Date), at which time the
Company will attempt to re-market the bonds. There are no assurances that the
Company will be successful in re-marketing the bonds, at which time the Company
will be required to buy back the bonds.
RISK FACTORS
An investment in the Company's securities involves a high degree of
risk. Prior to making an investment, prospective investors should carefully
consider the following factors, among others, and seek professional advice in
analyzing this Company. In addition, this Form 10-K contains certain
"forward-looking statements" within the meaning of Section 27A of the Securities
Act and Section 21E of the Exchange Act. Such forward-looking statements, which
are often identified by words such as "believes," "anticipates," "expects",
"estimates," "should," "may," "will" and similar expressions, represent the
Company's expectations or beliefs concerning future events. Numerous
assumptions, risks and uncertainties, including the factors set forth below,
could cause actual results to differ materially from the results discussed in
the forward looking statements. Prospective purchasers of the Shares should
carefully consider the factors set forth below, as well as the other information
contained herein or in the documents incorporated herein by reference.
The success of the Company's continuing operations will depend upon the
availability of cash flow from operations, profitability and the Company's
success in managing its debt. The expenses that might be incurred in
manufacturing, further developing and marketing the Company's products cannot be
predicted with certainty. There is no assurance that additional financing can be
obtained, or obtained on terms satisfactory to the Company.
ITEM 2. PROPERTY
The Company conducts its composite products manufacturing operations
from two separate facilities, including a 49,000 square foot manufacturing and
storage facility on a seven-acre site in Junction, Texas. The grounds and a
10,500 square foot building are leased from Marjorie S. Brooks, a major
shareholder, under an agreement that expires April 30, 2001. The Company owns
the building improvements located on the site and currently pays a monthly rent
of $1,519 for the lease. The Company believes that the Junction facility is
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<PAGE> 14
currently suitable for its composite materials manufacturing requirements. The
Company is upgrading and improving Junction to provide additional composite
capacity.
The Company's Springdale, Arkansas manufacturing facility consists of
103,000 square feet and is located on 10 acres with a rail siding in the
Springdale Industrial District. The Company added storage sheds of approximately
12,000 square feet during 1999. The facility has dual sprinkler systems, and is
leased by the Company for $19,000 per month with an option to purchase it for
$1.8 million. The Company intends to purchase said facility during 2000, once it
breaks escrow, with a portion of its $16.5 million financing.
In March 1999, the Company entered a lease agreement for an adjacent
office and storage building and parking lot in Springdale, Arkansas. The lease
is for $3,500 per month for 2-years, renewable yearly. The Company also leases a
parking area for $200 per month. The office and storage facility is comprised of
10,000 square feet on 2.36 acres and houses the Company's corporate offices. The
Company has an option to purchase this property for $360,000, with half of the
lease payments applicable to the purchase price. The Company completed its
purchase of 18.6 acres of land, south of and adjoining the existing facility, in
March 2000. This land is where the additional Springdale manufacturing facility
will be built, and was acquired for a price of $785,000.
ITEM 3. LEGAL PROCEEDINGS
In June 1992, Mobil Oil Corporation (Mobil) commenced an action against
the Company in the United States District Court for the District of Delaware
entitled "Mobil Oil Corporation v. Advanced Environmental Recycling
Technologies, Inc." In the complaint, Mobil sought entry of a declaratory
judgment that:
o AERT was without right or authority to threaten suit against
Mobil or our customers for alleged infringement of AERT patents;
o certain AERT patents were invalid and unenforceable; and
o Mobil had not infringed the AERT patents through any products or
method.
Mobil sought no monetary damages in that suit, but did seek
reimbursement of its attorneys' fees.
The Company denied Mobil's claims and asserted counterclaims against
Mobil and three Mobil executives for:
o an illegal combination or contract in restraint of trade in
violation of federal antitrust laws;
o a pattern of intentional misconduct constituting an attempt to
monopolize in violation of federal antitrust laws;
o breach of a confidential relationship between Mobil and AERT; and
o unfair competition.
The Company sought monetary damages, punitive damages and injunctive
relief.
In February 1994, after a trial on the patent issues, the court held
that four AERT patents on its composite product technology were invalid and that
Mobil had not infringed the patents.
In March 1995, the Company filed a motion with the Court alleging
prejudicial misconduct by Mobil prior to the trial. The Company also filed an
appeal with the U.S. Court of Appeals in July 1995. In June 1996, the U. S.
Court of Appeals reversed a portion of the earlier ruling which had held that
two of the patents were invalid, but nevertheless ruled that Mobil did not
infringe such patents. The Company did not further appeal this ruling.
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<PAGE> 15
In August 1994, Mobil filed a motion seeking an award of attorneys'
fees and costs for $2.7 million. In September 1999, the Delaware Court dismissed
the Mobil Motion for Attorneys' Fees, for a second time. The Court also
dismissed the Company's motion for new trial based upon discovery misconduct and
the Company's motion to supplement record.
Mobil recently filed an appeal brief regarding denial and dismissal of
the attorneys' fees motion by the Delaware Court. The Company recently answered
Mobil's appeal and cross-appealed the dismissal of its prejudicial misconduct
motion by the Delaware Court in March of 2000. The Company retained new legal
counsel for said appeal, which has extensive experience and specializes in
appellate actions. The Company's cross appeal involves allegations of tampering
with, altering and withholding critical evidence by Mobil prior to trial. It
seeks a final denial of Mobil's request for attorneys' fees and a new trial for
prejudicial discovery misconduct. The Company's counterclaims are still pending
although Mobil is no longer in the composite products business.
There can be no assurance that the Company can prevail on these issues
or that if it prevails, that Mobil will not further appeal to a higher court.
Furthermore, there can be no assurance that the Company will be awarded a new
trial upon appeal.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted by the Company to a vote of security
holders during the quarter ended December 31, 1999.
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<PAGE> 16
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Class A Common Stock is traded in the over-the-counter
market and is listed on The Nasdaq Stock Market(R) under the symbol AERTA. The
Company's Class B warrants (AERTZ) are no longer listed. In order to remain
listed on NASDAQ, the Company is required to meet certain criteria (Maintenance
Standards) established by NASDAQ. One such Maintenance Standard is a minimum bid
price of $1.00 per share. The Company has been formally notified by Nasdaq of
increased listing and maintenance standards for both the Nasdaq National and
SmallCap Markets. The increased Nasdaq listing standards went into effect on
February 23, 1998. The increased listing and maintenance standards include a
minimum bid $1.00 common stock price and a $2 million net asset value. On March
12, 1999, the Company attended a hearing in the matter of the continued listing
of the Company's stock on The Nasdaq Stock Market. The hearing was in regards to
the Company being notified on October 13, 1998, that it did not meet the $1.00
minimum bid price for continued listing. The Company was given ninety days,
until January 13, 1999, to regain compliance. The Company did not achieve
compliance during the grace period and requested the hearing. Subsequent to the
hearing, the Company was given an additional waiver to regain compliance and
meet minimum listing standards. The NASDAQ Listing Qualifications Panel notified
the Company in June 1999 that it had regained full compliance regarding listing
qualifications and that the Company's Class A common stock (AERTA) would
continue to be listed on the NASDAQ SmallCap Market. At December 31, 1999, the
Company's closing stock price per share was $3.09, and its net asset value was
$3,508,698.
The following table sets forth the ranges of high and low bid prices
(as reported by NASDAQ) of the Company's Class A Common Stock for the years
ended December 31, 1997, 1998 and 1999. The quotations
15
<PAGE> 17
represent prices between dealers, do not include retail markup, markdown or
commission, and do not necessarily represent actual transactions.
<TABLE>
<CAPTION>
Class A
Common Stock
High Low
---- ----
<S> <C> <C>
Fiscal 1997
First Quarter 0.56 0.31
Second Quarter 0.44 0.28
Third Quarter 0.63 0.34
Fourth Quarter 0.59 0.25
Fiscal 1998
First Quarter 1.938 0.375
Second Quarter 1.813 1.000
Third Quarter 1.438 0.531
Fourth Quarter 1.031 0.719
Fiscal 1999
First Quarter 1.000 0.813
Second Quarter 1.875 0.781
Third Quarter 2.156 1.625
Fourth Quarter 3.313 1.750
</TABLE>
The Class B Warrants, which expired in February 1999, were delisted in
1998 due to lack of trading activity.
As of December 31, 1999, there were 1,617 record holders of Class A
Common Stock and 11 record holders of Class B Common Stock. The number of
beneficial owners of the Class A Common Stock at December 31, 1999 is not known;
however, management believes the number of beneficial owners of Class A Common
Stock at December 31, 1999 was in excess of 5,000.
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<PAGE> 18
ITEM 6. SELECTED FINANCIAL DATA
The following tables set forth-selected historical data for the Company
for the years ended December 31, 1995 through 1999. For the years ended December
31, 1999, 1998 and 1997 the data was obtained from the Company financial
statements contained in this document at pages F-1 through F-24. Data for the
periods prior to December 31, 1997 was obtained from Item 6 of the Company's
Annual Report or Form 10-K for the year ended December 31, 1997.
STATEMENTS OF OPERATIONS DATA:
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED YEAR ENDED
DEC. 31, 1999 DEC. 31, 1998 DEC. 31, 1997 DEC. 31, 1996 DEC. 31, 1995
-------------- -------------- -------------- -------------- --------------
<S> <C> <C> <C> <C> <C>
Sales $ 19,917,133 $ 12,408,591 $ 7,982,381 $ 6,950,219 $ 5,581,172
-------------- -------------- -------------- -------------- --------------
Loss before
Extraordinary Gain (1,473,736) (3,605,180) (1,913,664) (2,933,698) (2,756,263)
Extraordinary Gain -- -- 757,644 36,666 --
Accrued dividends on
preferred stock (290,000) (47,890) -- -- --
-------------- -------------- -------------- -------------- --------------
Loss applicable to common
stock $ (1,763,736) $ (3,653,070) $ (1,156,020) $ (2,897,032) $ (2,756,263)
============== ============== ============== ============== ==============
Loss before
Extraordinary gain per common
share $ (.07) $ (.16) $ (.09) $ (.15) $ (.17)
Extraordinary gain per common -- -- .04 -- --
share
-------------- -------------- -------------- -------------- --------------
Net Loss per common
share(1) (Basic and Diluted) $ (.07) $ (.16) $ (.05) $ (.15) $ (.17)
============== ============== ============== ============== ==============
Weighted Average Number of
Shares Outstanding(1) 24,598,715 22,895,517 21,800,170 19,134,484 15,779,721
</TABLE>
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BALANCE SHEET DATA:
<TABLE>
<CAPTION>
Dec. 31, 1999 Dec. 31, 1998 Dec. 31, 1997 Dec. 31, 1996 Dec. 31, 1995
------------- ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C> <C>
WORKING CAPITAL (DEFICIT) $ (7,756,859) $ (4,625,935) $ (3,117,649) $ (892,995) $ (1,556,805)
TOTAL ASSETS 31,455,793 10,941,927 7,641,328 6,725,599 7,357,742
LONG-TERM DEBT
LESS CURRENT MATURITIES 59,656 227,376 588,412 955,776 1,266,642
TOTAL LIABILITIES 27,947,095 7,164,426 5,290,970 3,623,170 3,643,999
STOCKHOLDERS' EQUITY 3,508,698 3,777,501 2,350,358 3,102,379 3,713,743
</TABLE>
(1) The net loss per share of common stock is based on the combined weighted
average of shares of Class A and Class B Common Stock outstanding during
the period.
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<PAGE> 20
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Results of Operations
Year Ended December 31, 1999 Compared To Year Ended December 31, 1998
Net sales increased to $19,917,133 for the year ended December 31,
1999, which represented an increase of $7,508,542 or 61% over the year ended
December 31, 1998. Net sales were attained by subtracting from gross sales early
pay discounts, returns, allowances, and freight charges, which together totaled
$583,332 for 1999. The 1999 composite sales consisted of MoistureShield(R) net
sales of $9,602,405 and decking (ChoiceDek(R) and DreamWorks(TM)) net sales of
$10,314,728. These figures compare with 1998 MoistureShield(R) sales of
$8,148,422 and ChoiceDek(R) sales of $4,260,169.
The Texas plant increased net sales to $10,723,233 in 1999 from
$9,530,654 in 1998, a 12.5% increase. The Texas plant now produces primarily the
ChoiceDek(R) product line. Texas sold $9,423,033 of ChoiceDek(R) and $1,300,200
of MoistureShield(R) during 1999. The DreamWorks(TM) decking product line is now
produced in the Springdale plant. This move streamlined and focused the products
produced at the Texas plant and made it more efficient. We believe that in 2000,
with the investment made at the end of 1999 and in the first quarter of 2000 to
the extruding equipment, the Texas plant will be producing its increased
annualized capacity of $17 million. The Springdale plant reported composite
sales of $9,193,900 in 1999 compared to $2,877,937 in 1998, a 219% increase. The
Springdale plant sold $8,302,205 of MoistureShield(R) and $891,695 of
DreamWorks(TM) decking in 1999, as the decking projects experienced startup
delays during the fourth quarter of 1999. The Springdale plant was not in full
operation in 1998 and only had two of its three extrusion lines in operation in
1999. The third extrusion line is scheduled to be operational in April 2000.
With the additional capacity, the Springdale plant will initially have a first
year capacity in 2000 of $20 million. This capacity is intended to increase to
$33 million as efficiencies are realized and the third extrusion line commences
operation. The Springdale plant will produce the Company's MoistureShield(R)
lines for its door, window and industrial flooring customers, as well as the
DreamWorks(TM) line of decking.
Cost of goods sold increased $5,477,576 from $11,688,448 in 1998 to
$17,166,024 in 1999. This increase in cost of goods sold was primarily
attributed to increased payroll and payroll expenses, raw material costs and
utility and operating costs associated with operating the Company's composites
manufacturing units, even though direct labor costs as a percent of net sales
decreased 3% from 1998 to 1999. The Company also experienced significant
inefficiencies with an air transfer loading system, which would not attain its
manufacturers delivery objectives for speed or accuracy. This situation delayed
increased production on the initial lines and startup of the third line. When
this problem became apparent and well documented at the start of the fourth
quarter, the Company elected to modify and upgrade portions of the system to
increase accuracy and speed in conjunction with increasing capacity to
accommodate a new higher output extrusion design. Also, the Company incorporated
additional blending and mixing capabilities to allow it to utilize a wider range
of recycled plastic materials. The Company has expended approximately $1.1
million on this project, in addition to taking a fourth quarter net write-down
of approximately $84,089 for non-performing assets. The new material transfer
system started up on March 15, 2000 and is scheduled to be fully operational in
conjunction with the startup of the third Springdale extrusion line in early
April 2000. Springdale was in both an operational mode and a construction mode
in 1999, with installation of air quality environmental system, the refining of
the second extrusion line, rebuilding the material transfer system and working
on the installation of the third line for this plant.
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<PAGE> 21
Significant cost categories are as follows:
<TABLE>
<CAPTION>
Expense Category 1999 1998
- ---------------- ---- ----
<S> <C> <C>
Payroll and payroll taxes $ 5,997,364 $ 4,094,877
Depreciation 1,820,152 1,412,692
Raw Materials 5,301,905 2,976,338
Other 4,046,603 3,204,541
----------- -----------
Total cost of goods sold $17,166,024 $11,688,448
=========== ===========
</TABLE>
Payroll and payroll taxes increased due to the increase in the number
of personnel required to operate the Springdale plant in 1999 as production
capacity increased. Raw material costs increased as a result of the increase in
sales and an increase in raw material plastic costs. To offset the higher raw
material costs the Company implemented price increases on its products in early
2000. Other manufacturing costs increased $842,062 to $4,046,603 in 1999, up
from $3,204,541 in 1998. The increase in costs was due to the increase in sales
and the continued buildup of the Springdale facility to a fully operational
plant. As a percentage of net sales, manufacturing overhead decreased to 37% in
1999 from 45% in 1998, an 8% decrease. The manufacturing overhead did not grow
as fast a rate as the sales were increasing. Additional decreases in
manufacturing overhead as a percent of sales are intended as Springdale line
three comes on-line and efficiencies improve.
Selling, general and administrative expenses increased $546,546 in 1999
to $3,766,779, compared to $3,220,233 for 1998. The increase was due to an
increase in salaries, professional fees and commissions. These expenses are
normally associated with growing sales. As a percentage of net sales, SG&A
decreased to 19% from 26.0% in 1998, a 27% decrease. This decrease indicates
that while production and sales grew, the SG&A increased at a lower rate. The
Company initiated a national advertising program for decking in 1999, which
included print, trade shows and limited cable television advertising. Of the
Company's $10,314,728 in decking sales, $309,442 or 3% was targeted at creating
brand awareness and increased market acceptance for ChoiceDek(R). In 1999, this
amounted to 49% of the increase in SG&A. This marketing strategy was initiated
with the goal of significantly increasing sales of its ChoiceDek(R) decking
products into national distribution in conjunction with Weyerhaeuser, its North
American decking distributor.
The net loss for 1999 was $1,763,736 or a net loss per weighted average
common share outstanding of $.07. This compares to a loss of $3,653,070 or a net
loss per weighted average common share outstanding of $.16 for 1998. Of the 1999
loss, $1,493,874 or 85% was experienced in the fourth quarter, and was
attributable to delays associated with starting up the DreamWorks(TM) product
line in Springdale and with the shutting down of the Texas plant for extended
periods for maintenance and production upgrade work.
The Texas plant recorded a profit of $570,008 in 1999, an increase of
$758,546, from a net loss of $188,538 in 1998. This was the first profitable
year for that plant, although it had positive cash flow in 1998. The Springdale
plant recorded a net loss of $2,043,744, a reduction of $1,363,553, from the net
loss of $3,407,297 in 1998. As previously stated, Springdale was in an
operational mode and in construction mode, however it moved significantly toward
profitability.
In addition, the Company increased its plastics recycling and
processing capacity during the second half of the year by adding more cleaning
and production equipment. These additions are designed and intended to
20
<PAGE> 22
allow the Company's plastic recycling machinery to utilize and blend lower cost
recycled plastics. This system became operational during the first quarter of
2000.
During 1999, the Company expended approximately $4.5 million on capital
expenditures at the Springdale facility. The Company estimates that $1.5 million
will be required during the first half of 2000 to complete the initial phase of
the Springdale facility.
There can be no assurance that the Company can attain its anticipated
continued operating improvements, that raw material costs will not continue to
increase, or that its additional production efficiencies and resultant unit cost
reductions required for profitability will occur.
Year Ended December 31, 1998 Compared To Year Ended December 31, 1997
Net sales increased to $12,408,591 for the year ended December 31,
1998, which represented an increase of $4,426,210 or 55% over the year ended
December 31, 1997. The 1998 composite sales consisted of MoistureShield(R) sales
of $8,148,422 and ChoiceDek(R) sales of $4,260,169. This compares with 1997
MoistureShielD(R) sales of $6,145,420 and $1,836,961 for ChoiceDek(R) sales.
Decking sales were limited during 1998 due to construction and production
restraints associated with start-up problems at the new Springdale plant.
The Texas plant increased sales from $7,982,381 in 1997 to $9,530,654
in 1998, a 19% increase. However, further sales increases were not attained due
to start-up delays with the second Springdale composite extrusion plant. This
delayed the Company's plans to shift the Texas plant to more decking and
increasing production runs of decking until late in 1998. The Springdale plant
reported composite sales of $2,877,937 for 1998. The Springdale plant was not in
operation in 1997 for composite production. The Springdale plant has been
designed to focus on and produce the Company's MoistureShield(R) lines for its
door, window and industrial-flooring customers.
Construction problems and delays were encountered in starting up the
Springdale plant during the third and fourth quarters of 1998. The major problem
was a defective scale and air transfer system for conveying raw materials and
loading the extrusion lines, which would not work and move materials at the
desired throughput rate. This system, after several months of problems, was
replaced by the manufacturer with a larger system under warranty. This was done
in November and December 1998 and delayed the start-up of an additional
production line at the Springdale plant. It became operational to the
manufacturers design guarantee during January 1999. A second production line was
started up in December 1998 and commenced increased production during the first
quarter of 1999.
Cost of goods sold increased from $7,639,708 in 1997 to $11,688,448 in
1998. The increase in cost of goods sold was primarily attributed to increased
payroll and payroll expenses, raw material costs and utility and operating
costs, which were associated with starting up the Springdale plant and operating
two plants in 1998 vs. one in 1997. Further improvements in efficiencies were
limited due to the above mentioned obstacles which the Company encountered in
starting up the Springdale facility.
21
<PAGE> 23
Significant categories are as follows:
<TABLE>
<CAPTION>
Expense Category 1998 1997
- ---------------- --------------- ---------------
<S> <C> <C>
Payroll and payroll taxes $ 4,094,877 $ 2,594,056
Depreciation 1,412,692 1,076,570
Raw Materials 2,976,338 1,937,400
Other 3,204,541 2,031,682
--------------- ---------------
Total $ 11,688,448 $ 7,639,708
=============== ===============
</TABLE>
Payroll and payroll taxes in 1998 for two plants were approximately
$4,094,877 vs. $2,594,056 during 1997 in which one plant was not in operation
until late in the year. Increased raw material cost of $2,976,338, or $1,038,938
over 1997, was attributable to increased sales and some increases in plastic raw
material costs. Other expenses increased in 1998 vs. 1997 due to expansion of
the business and start-up of the Springdale plant.
Selling, General and Administrative expenses during 1997 were
$2,090,049 compared to $3,220,233 for 1998. The increase in Selling, General and
Administrative expenses was primarily attributable to increased professional
fees, additional insurance expense and overhead, which the Company had to incur
with the start-up of the Springdale facility. Lease payments for the Springdale
facility also contributed to the overhead increase.
The Company showed improvement, even with one plant under start-up
conditions, and recorded a positive gross margin of $720,143 vs. $342,673 for
the comparable period a year earlier. This amounted to a $377,470 improvement
over the prior period; however, further improvement was limited by lower than
desired throughputs and delays associated with bringing on-line the fourth and
fifth extrusion lines.
The net loss for 1997 was $1,156,020, or a net loss per weighted
average common share outstanding of $0.05. The loss before extraordinary item
for 1997 was $1,913,664 or $0.09 per share, which was reduced by a one time
extraordinary gain of $757,644 relating to a fire insurance settlement. This
compares to a loss of $3,653,070, or a net loss per weighted average common
share outstanding of $0.16 for 1998. The 1998 loss did include a one-time charge
of $135,000 that was related to a write-off of a bad debt, plus debt discounts
amortized to interest expense of $675,153. This was in addition to interest
expense of $429,937 for 1998.
The Company, during 1998, struggled to supply its existing customer
base while it worked to substantially increase its manufacturing capacities.
Management's objective continues to be to grow the business and maintain its
existing customer base. The decision to maintain a diversified customer base
with a larger number of products resulted in less than desired sales volumes and
limited operating efficiencies since the Springdale plant did not produce
effectively for most of the year and the Texas facility had to maintain the
customer base supply. The Company believes that it is better to maintain a
diversified customer base in several markets rather than focus on one market in
the short term. Establishing large OEM customer sales is a long, time consuming
and elaborate process and several of the Company's door and window customers had
completed years of testing prior to introducing AERT components into their
product lines. Component changeover is difficult for these types of customers
and after years of development work, AERT management was determined not to lose
its customer base, even when faced with the Rogers fires and later start-up
difficulties at the Springdale plant.
The Company continues to maintain additional security measures,
including installation of surveillance cameras, and the addition of on-site
security personnel, which are intended to better protect the Company's
facilities.
22
<PAGE> 24
There can be no assurance that the Company can attain its anticipated
continued operating improvements, that raw material costs will not continue to
increase, or that its additional production efficiencies and resultant unit cost
reductions required for profitability will occur.
Liquidity and Capital Resources
The Company, in conjunction with its major shareholder, contractors and
suppliers, completed a major capital expansion during 1999 at the Springdale
plant. As a result, at December 31, 1999, the Company had a working capital
deficit of $7,756,859 compared to a working capital deficit of $4,625,935 at
December 31, 1998. The deficit is primarily attributable to the Company's delays
in completing construction and starting up its additional extrusion lines in a
timely manner, and the resultant negative cash flow from the Springdale plant.
Management's decision to finance significant capital expenditures with
short-term bridge loans also contributed to the increased deficit. Of such
deficit involving total liabilities of approximately $27.5 million as of
December 31, 1999, $16.5 million was for bonds payable, which is currently
escrowed and offset by a $16.5 million restricted bond escrow fund, $2.4 million
was to the Company's major shareholder, $1.9 million was in short term bridge
loans, and approximately $5.2 million was in payables of which a significant
portion reflects the ongoing construction in progress at the Springdale
facility. Trade payables were $2,504,753 (96%) higher than a year ago. This
increase was due to the Company's ongoing capital expenditure program. The $7.75
million working capital deficit reflects management's decision to enter
short-term debt financing, while the Company is expanding, building and
improving its production and sales capacities to increase cash flows from
operations and attain profitability. The Company's plan was to acquire
short-term debt and refinance in the future, rather than enter into what it felt
would have been more expensive and dilutive equity financing at that time. Even
with the working capital deficit and loss in 1999, the Company generated
sufficient cash flow to more than cover debt service.
The Company also successfully closed a $16.5 million tax exempt bond
financing into escrow during the fourth quarter of 1999, which is intended to
refinance and shift its construction and expansion related accounts payable into
long-term financing. The Company plans to start up the third Springdale
production line, further increase production and positive cash flows, and then
break escrow of a portion of the bonds. Certain requirements must be met in
order for the Company to break escrow. These include delivering to the Trustee
such general items as project plans and specifications, cost estimates,
construction contracts and insurance coverage. Furthermore, unless waived by the
holder of 100% of the Bonds, the Company must also deliver to the Trustee
satisfactory evidence that for any consecutive 12 month period commencing on or
after the date of the issuance of the bonds, the long-term debt service coverage
ratio, as defined, has been not less than 2 to 1, and the projected long-term
debt service coverage ratio for the 24 month period subsequent to the first
disbursal from the Project Fund shall be not less than 2 to 1. As of December
31, 1999, the Company has not yet met the aforementioned criteria and there are
no assurances the Company will be successful in meeting the standards required
to receive the bond financing proceeds. In addition, the bonds are subject to
mandatory tender for purchase by the Company in whole on October 13, 2000 (the
Reset Date), at which time the Company will attempt to re-market the bonds.
There are no assurances that the Company will be successful in re-marketing the
bonds, at which time the Company will be required to buy back the bonds. Should
the Company be successful in its efforts to break escrow, the Company believes
it will have more than adequate debt service coverage for its pending long-term
bond debt.
On February 29, 2000, the Company closed a bank financing with an
Arkansas based bank totaling $4.5 million. This demand loan with a 15-year
amortization is 80% guaranteed by the U.S. Government and carries a 9.75%
interest rate. The loan proceeds were used to acquire the 18.6 acres of land
that adjoins the plant in Springdale, Arkansas. This land will be the site of
the third manufacturing facility and an additional plastic plant, as previously
mentioned. Also, the loan proceeds reduced the Company's accounts payable and
provided cash for liquidity of $600,000. The Company believes that with the
successful completion of its pending escrowed bond financing it will reduce and
later eliminate its working capital deficit by paying off the remaining bridge
note balance of $1.9 million during the remainder of 2000. In addition, the
Company will be reimbursed for approximately $4.0 million of working capital
used to pay vendors for costs eligible to be paid from bond proceeds. The
Company will also receive
23
<PAGE> 25
approximately $1.6 million for unpaid costs eligible for reimbursement, which
are reflected in the Company's accounts payable total. The bond funds will
greatly improve the working capital position, and will restructure a significant
portion of the Company's short-term indebtedness into long-term debt with more
favorable interest rates if the Company is able to meet the requirements of the
bond indenture previously described and break escrow. Purchasing the existing
manufacturing site over a longer term should also help improve operating costs
by reducing the monthly lease payment cash requirement. By having substantial
dollars allocated and available for capital expansion, the Company believes that
increasing cash flows generated from operations can be used for working capital
and to further reduce the deficit.
The Company recapitalized from June 1998 to February 1999 through a voluntary
conversion of Class B and Class C warrants in conjunction with a private
placement of preferred stock. The Company received voluntary conversions of
1,312,664 shares at prices ranging from $1.075 to $1.20 per share, yielding net
proceeds of $1,541,374. On February 12, 1999, all Class B and C warrants not
exercised (3,549,776) were allowed to expire by the Board of Directors. In
connection with the voluntary warrant conversion, a bonus warrant exercisable
for $3.00 per share for two years was reserved for Bonus warrants to be issued.
The Company issued 1,312,664 bonus warrants, which will expire in two years
after a pending S-3 registration statement becomes effective. In addition, 2,900
shares of preferred stock were issued to the major shareholder and several close
accredited investors for $1,000 per share. Classes were issued in Series A, B
and C with Series B having voting rights for the underlying shares and warrants.
On the 7th anniversary date of the issuance of the preferred stock, the
preferred stock will automatically be converted into shares of common stock with
the conversion price equal to the lower of the average of the closing bid prices
for the common stock for the 5 trading days immediately preceding the 7th
anniversary of the issuance or the fixed conversion price. The fixed conversion
price is $1.20. Under the terms of the preferred stock agreements, certain
continuing performance criteria are required of the Company, including: (1)
minimum sales of $6 million per quarter and (2) positive quarterly cash flow
from operations each quarter. If a milestone failure occurs, the conversion
price is the lower of the fixed conversion price or the variable conversion
price. The variable conversion price is the average of the closing bid prices
for the common stock during the 10 consecutive trading days ending on the
trading date immediately preceding the date of determination. A 10% premium is
payable per year. Series X and Y warrants were issued in connection with the
preferred stock and are exercisable at $1.20 and $2.50 per share, respectively.
Each of the warrants has cashless exercise features that are based on various
conversion amounts and terms. Series X warrants cannot be exercised for one year
from date of issuance. The preferred stock agreements require that the Company
register with the SEC the common stock underlying the convertible preferred
stock and warrants with an effective registration statement by August 1, 2000.
The Company may be required to pay certain penalties to the holders of the
preferred stock and warrants if the registration statement is not declared
effective by the SEC by August 1, 2000. The penalties increase over time until
the registration statement is effective. The preferred stock agreements contain
potential redemption events, which would cause the Company to have to redeem the
preferred stock. The agreements state that if a redemption event occurs, the
Company must pay each holder of preferred stock an amount equal to ten percent
of the aggregate stated value of the shares of preferred stock then outstanding.
The Company filed an initial registration statement for the preferred stock in
December 1999 and expects to have it declared effective by the SEC prior to
August 1, 2000.
Cash and cash equivalents decreased $427,321 in 1999. Significant
components of that decrease were: (i) cash provided by operating activities of
$587,771, which consisted of the net loss for the period of $1,763,736 reduced
by depreciation and amortization of $1,846,601 and other sources of cash of
$504,906; (ii) cash used in investing activities of $2,517,511, and (iii) cash
provided by financing activities of $1,502,419. Payments on notes during the
period were $760,414, and proceeds from the issuances of notes amounted to
$950,000. At December 31, 1999, the Company had bonds and notes payable in the
amount of $19,951,956, of which
24
<PAGE> 26
$19,946,033 were current bonds and notes payable or current portion of long-term
debt. Of the current bonds and notes payable, $3,351,728 or 97% was to the major
shareholder and other investors closely associated with the Company. During the
fourth quarter of 1998, the Company reduced the indebtedness of its $3.16
million bridge loan by $1 million through the issuance of preferred stock.
During the first quarter of 1999, the loan was further reduced by $200,000 to
$1.9 million. The Company intends to pay down the remaining $1.9 million from
cash flow and/or refinancing during 2000 and the final balance upon successful
completion of the bond financing.
The Company has five bridge financing agreements. The date of the first
agreement was October 30, 1997. The Company issued notes payable totaling $1.3
million that were originally due and payable on July 27, 1998, but they have
since been extended to July 1, 2000. Interest on the notes is payable every
three months at 12% with the Company's Class A common stock. In connection with
the notes, the Company issued 2,600,000 consulting warrants and 156,000
placement warrants and paid loan origination costs of $169,000 to the placement
agent. The warrants expire October 30, 2002, and are exercisable at a price of
$0.375 per share of Class A common stock for each warrant exercised. Per the
agreement, if the notes were extended, an additional 650,000 consulting warrants
and 78,000 placement warrants would be issued. The note holders have extended
the notes through July 1, 2000 without additional penalty warrants, with the
exception of 310,000 penalty warrants issued to one of the note holders, in
exchange for voluntary selling restrictions of the Company's stock by the
Company's officers and certain shareholders, without prior approval from the
issuer of the note. Also, during 1998, $1,050,000 of these bridge financing
notes were converted to preferred stock (See Note 6), and an additional $200,000
was paid on the notes in 1999, bringing the note balance to $50,000 at December
31, 1999.
The second bridge financing was completed on February 5, 1998. The
Company issued notes payable totaling $800,000 that was originally due and
payable on November 2, 1998, but they have since been extended without penalty
warrants to July 1, 2000. Interest on the notes is payable every three months at
12% in either cash or the Company's Class A common stock, at the option of the
Company. In connection with the notes, the Company issued 1,600,000 consulting
warrants and 96,000 placement warrants and paid loan origination costs of
$104,000 to the placement agent. If the notes are extended beyond July 1, 2000,
the Company may be required to issue 448,000 penalty warrants (400,000
consulting warrants and 48,000 penalty warrants). The warrants expire February
5, 2003, and are exercisable at a price of $0.375 per share of Class A common
stock for each warrant exercised.
A third bridge financing was completed on April 7, 1998. The Company
issued notes payable totaling $410,000 that were originally due and payable on
January 2, 1999, but have since been extended without penalty warrants to July
1, 2000. Interest on the notes is payable every three months at 12% in either
cash or the Company's Class A common stock, at the option of the Company. In
connection with the notes, the Company issued 820,000 consulting warrants and
49,200 placement warrants and paid loan origination costs of $53,300 to the
placement agent. If the notes are extended beyond July 1, 2000, an additional
205,000 consulting warrants and 24,600 placement warrants may be issued. The
warrants expire April 7, 2003, and are exercisable at a price of $0.375 per
share of Class A common stock for each warrant exercised.
A fourth bridge financing was completed on June 3, 1998. The Company
issued notes payable totaling $359,963 that were originally due and payable on
February 28, 1999, but have since been extended without penalty warrants to July
1, 2000. Interest on the notes is payable every three months at 12% in either
cash or the Company's Class A common stock, at the option of the Company. In
connection with the notes, the Company issued 719,926 consulting warrants and
43,195 placement warrants and paid loan origination costs of $46,795 to the
placement agent. If the notes are extended beyond July 1, 2000, an additional
179,981 consulting warrants and 21,597 placement warrants may be issued. The
warrants expire June 3, 2003, and are exercisable at a price of $0.375 per share
of Class A Common Stock for each warrant exercised.
25
<PAGE> 27
A fifth bridge financing was completed on August 21, 1998. The Company
issued notes payable totaling $287,500 that were originally due and payable on
May 18, 1999, but have since been extended without penalty warrants to July 1,
2000. Interest on the notes is payable every three months at 12% in either cash
or the Company's Class A common stock, at the option of the Company. In
connection with the notes, the Company issued 575,000 consulting warrants and
34,500 placement warrants and paid loan origination costs of $37,375 to the
placement agent. If the notes are extended beyond July 1, 2000, an additional
143,750 consulting warrants and 17,250 placement warrants may be issued. The
warrants expire August 21, 2003, and are exercisable at a price of $0.375 per
share of Class A common stock for each warrant exercised.
Delisting of the Company's stock would result in an event of default
under the bridge financing agreements. An event of default results in all the
then outstanding principal amounts and unpaid interest becoming due and payable
immediately.
During 1999, the Company had an agreement with an affiliate whereby the
Company agreed to transfer certain of its trade receivables as collateral, which
the affiliate deemed acceptable, up to $2 million at any one time. Upon
acceptance of a transfer of a receivable, the affiliate remitted to the Company
85% of the receivable, as defined in the agreement. Upon collection of the
receivable, the Company remitted to the affiliate 1% of the receivable as a
factoring charge and the additional 14% of the receivable were remitted to the
Company, less interest costs, which were based on the time period over which the
receivable was outstanding. The Company indemnified the affiliate for any loss
arising out of rejections or returns of any merchandise, or any claims asserted
by the Company's customers. In February 2000, the Company's major shareholder
increased the Company's factoring line to $2.5 million. It is currently
estimated that the factor charges will average approximately 1.75% during 2000.
The Company believes that further improvement and streamlining of the
extrusion production rates and efficiencies that it was experiencing at March
31, 2000, along with the addition of production capacity at its Springdale
facility and the further improvement of gross margins to significantly lower
unit production costs will enable the Company to achieve a level of operations
in periods subsequent to the first quarter of 2000 which will increase cash
flows from operations. These improvements, in conjunction with the release of
the currently escrowed bond financing for $16.5 million, will significantly
reduce or eliminate the Company's need for additional sources of capital to
support its operations. Management believes that increased production and sales,
to be obtained with the addition of the sixth composite line, an improved
product focus, increased throughputs from reduced changeovers and reduced
plastics division raw material costs will allow it to attain profitability.
Additional production volumes and resultant sales increases from its Springdale
plant combined with continued improvements in production efficiency and
capacity, as previously discussed, will be required for the Company to
26
<PAGE> 28
further increase sales levels to those necessary to attain profitable results
from operations, provide funds to repay the Company's outstanding obligations,
meet the requirements to remove the bond proceeds from escrow refinance all or a
portion of its short term debt into longer term debt and meet its debt service
schedule.
The foregoing plan assumes that the Company will maintain increasing
operating cash flows throughout the future and the bond proceeds will be
released from escrow. There can be no assurance that the Company will be able to
maintain its current operating levels or achieve increased production volumes
and sales levels required for increasing cash flows and profitability, or that
the Company will be successful in remarketing the bonds, or that the Company
will be able to release the funds from escrow after a successful remarketing of
the bonds.
The foregoing discussion contains certain estimates, predictions,
projections and other 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) that involve various risks and uncertainties. While these
forward-looking statements, and any assumptions upon which they are based, are
made in good faith and reflect the Company's current judgment regarding the
direction of its business, actual results will almost always vary, sometimes
materially, from any estimates, predictions, projections, assumptions, or other
future performance suggested herein. Some important factors (but not necessarily
all factors) that could affect the Company's sales volumes, growth strategies,
future profitability and operating results, or that otherwise could cause actual
results to differ materially from those expressed in any forward-looking
statement include the following: market, political or other forces affecting the
pricing and availability of plastics and other raw material accidents or other
unscheduled shutdowns affecting the Company's, its suppliers' or its customers'
plants, machinery, or equipment; competition from products and services offered
by other enterprises; state and federal environmental, economic, safety and
other policies and regulations, any changes therein, and any legal or regulatory
delays or other factors beyond the Company's control; execution of planned
capital projects; weather conditions affecting the Company's operations or the
areas in which the Company's products are marketed; adverse rulings, judgments,
or settlements in litigation or other legal matters. The Company undertakes no
obligation to publicly release the result of any revisions to any such
forward-looking statements that may be made to reflect events or circumstances
after the date hereof or to reflect the occurrence of unanticipated events.
Information Systems and the Impact of the Year 2000
Through the date of this report, the Company completed the transition
from calendar year 1999 to calendar year 2000 without any major problems or
disruptions because of year 2000 issues. Additionally, no problems are expected
to arise as a result of any year 2000 related failure in the future.
ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK.
The Company has no material exposures relating to its long-term debt,
due to virtually all of the Company's long-term debt bearing interest at fixed
rates. See Note 5 to the financial statements for a discussion of the Company's
debt. The Company depends on the market for favorable long-term mortgage rates
to help generate sales of its product to its customers for use in the
residential construction industry. Should mortgage rates increase substantially,
the Company could be impacted by a reduction in the residential construction
industry. Important raw materials purchased by the Company are recycled plastic
and wood fiber, which are subject to price fluctuations. The Company attempts to
limit the impact of price increases on these materials by negotiating with each
of its suppliers on a term basis.
27
<PAGE> 29
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The response to this item is submitted in a separate section of this
report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There have been no disagreements on accounting and financial
disclosures with accountants during the periods reported upon herein.
28
<PAGE> 30
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The directors and executive officers of the Company are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Joe G. Brooks 44 Chairman of the Board of Directors, Co-Chief Executive Officer
and Interim President
Sal Miwa 43 Vice-Chairman of the Board of Directors
Stephen W. Brooks 43 Co-Chief Executive Officer and Director
J. Douglas Brooks 40 Executive Vice-President
Marjorie S. Brooks 64 Secretary, Treasurer and Director
Edward J. Lysen 62 Chief Financial Officer
Jerry B. Burkett 43 Director
James H. Culp 55 Director
Peter S. Lau 46 Director
Michael M. Tull 45 Director
Thomas J. Hairston 57 Director
</TABLE>
The Company's Board of Directors elected JOE G. BROOKS as its Chairman
and the Company's Co-Chief Executive Officer on December 11, 1998. Mr. Brooks
has previously served as President and has been a director since the Company's
inception in December 1988. He was also previously Chairman and CEO from
inception until August 1993. Mr. Brooks is a director and Chairman of the
Standing Committee of the Arkansas Recycling Coalition for Buy Recycled Business
Alliance for the State of Arkansas and serves on their Executive Committee. He
is a member of Clean Texas 2000, appointed by Governor George Bush in 1995. He
is a past President, director and independent consultant of Juniper Products,
Inc., from July 1985 until December 1988, which was an artificial firelog
manufacturing entity in Junction, Texas. Mr. Brooks has been past President of
Southern Minerals and Fibers, Inc. (SMF), a producer of drilling mud and fluid
additives.
On December 11, 1998, the Company's Board of Directors elected SAL MIWA
as its Vice-Chairman. Mr. Miwa has served as its Chairman for 3 years before
this election. He has been an outside director of the Company since January
1994. Sal Miwa is President and CEO of Seiwa Optical Co., an importer of special
camera systems located in Woodcliff Lake, New Jersey. For the past 20 years he
has been engaged in various international businesses located in the U.S.,
Canada, Japan and Europe. He received his Masters degree in Aerospace
Engineering from the Massachusetts Institute of Technology.
The Company's Board of Directors elected STEPHEN W. BROOKS as Co-Chief
Executive Officer on December 11, 1998. Mr. Brooks has served as its Chief
Executive Officer and has been a director since January 1996. Mr. Brooks is CEO
and Chairman of the Board of Razorback Farms, Inc.; a Springdale, Arkansas based
firm that specializes in vegetables for processing. Mr. Brooks also serves on
the Board of the Ozark Food Processors Association.
The Board of Directors elected J. Grant Martin as President on December
11, 1998. The Board of Directors accepted the resignation of Mr. Martin in
November effective December 31, 1999. Joe G. Brooks is serving as the interim
President.
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<PAGE> 31
J. DOUGLAS BROOKS is Executive Vice-President and a previous board
member. Mr. Brooks serves on the Executive Committee and is in charge of
Technical Services, which includes Quality Assurance, R&D, Raw Material
Processing, Development and Sourcing. Mr. Brooks was previously Project Manager
for AERT's polyethylene recycling program with The Dow Chemical Company and is
joint inventor on several of AERT's process patents for recycling polyethylene
film for composites. Mr. Brooks has previously served as an independent
consultant to Juniper Industries, Inc. and as Vice President of SMF.
MARJORIE S. BROOKS has been Secretary, Treasurer, and a director since
the Company's inception in December 1988. Mrs. Brooks also serves as a director
of Juniper Industries, Inc. and Razorback Farms, Inc., and has served as
Secretary and Treasurer of Brooks Investment Co., a holding company for the
Brooks' family investments, for more than the past thirty years, and has served
as President of Haskell Foods, Inc.
EDWARD J. LYSEN joined AERT in April 1999 as Chief Financial Officer.
Mr. Lysen has over 30 years experience in financial management. Prior to
entering the private sector, Mr. Lysen was a consultant in the Management
Consulting Group, KPMG-Peat Marwick from 1966 to 1979. From 1979 to 1992, Mr.
Lysen was Sr. V.P, CFO and on the Board of Tuesday Morning, Inc., a publicly
traded retailer. From 1993 to 1996, he served as Chairman of the Board and CFO
of Distribution Data Management Systems, a computer service provider in the
office products industry. In 1996, Mr. Lysen entered the financial planning
industry with AAL, a leading fraternal benefits society. In 1998 to 1999, he was
the CFO of Hairston Roberson, a leading designer and manufacturer of women's
fashion apparel. He has an MBA in Finance from Northwestern University and is a
Certified Public Accountant.
JERRY B. BURKETT was appointed to the Board of Directors of the Company
on May 17, 1993. Mr. Burkett has been a rice and grain farmer since 1979 and has
been a principal in other closely held businesses. He is the past President of
the Arkansas County Farm Bureau.
DR. JAMES H. CULP received a B.S. Degree in Chemistry from the
University of Alabama and Ph.D. Degree in Analytical and Nuclear Chemistry from
Texas A&M University. Dr. Culp was an Assistance Professor at Texas A&M
University Chemical Oceanography for two years before joining The Dow Chemical
Company. Dr. Culp worked at Dow in research, manufacturing, business
development, and supply chain for 24 years. His last responsibility at Dow was
North American Supply Chain Director for Engineering Thermoplastics and North
American Recycle Plastics Director. Dr. Culp retired from Dow in April 1996. He
joined the AERT Board as Director of Technology in July 1996 and served as
special board assistant to the CEO in October 1996.
PETER S. LAU was appointed an outside director to the Board of
Directors of the Company in April 1997. Mr. Lau is currently a director and
Chief Financial Officer of Cathay Online, Inc. Mr. Lau is the former managing
director of corporate finance of American Fronteer Financial Corporation (AFFC),
formerly known as RAF Financial Corporation. Mr. Lau is a graduate of the
University of Hartford with a B.S. and M.S. in accounting.
MICHAEL M. TULL was appointed an outside director to the Board of
Directors of the Company in December 1998. Mr. Tull is the President and
majority owner of I. W. Tull Sales Company, a manufacturer's representative
company, which professionally represents nine manufacturing companies and is
responsible for sales and marketing of those companies' window and door related
components in the southeastern Unites States. Mr. Tull serves on boards of
several closely held family businesses and is the President and a Board of
Director member of the National Wild Turkey Federation, which is one of the
largest North American conservation organizations with membership of 200,000.
30
<PAGE> 32
DR. THOMAS J. HAIRSTON was elected an outside director to the Board of
Directors of the Company in July 1999. Dr. Hairston has twenty-seven years
experience with Dow Chemical Company as corporate Vice President, Director of
Research and Development, Business Manager, New Venture Manager and researcher
with eighteen patents and numerous publications and awards. He served as a past
member of the Board of Directors for Dow joint ventures Cynara(TM) and
Generon(TM) and C. D. Medical Co. Dr. Hairston, from June 1996 through August
1998, was Director of Biotechnology and Environmental Science at Stephen F.
Austin University, and from October 1994 until present has been a consultant in
the chemical, petrochemical and environmental areas for H & H Business Helpers,
Inc. Dr. Hairston received his Ph.D. in Chemistry from Texas A&M University.
Joe G. Brooks, Stephen W. Brooks and J. Douglas Brooks are brothers and
are sons of Marjorie S. Brooks. There are no other familial relationships
between the current directors and executive officers.
Each of the Company's directors has been elected to serve until the
next annual meeting of stockholders or until their successors are elected and
qualified. Officers serve at the discretion of the Board of Directors.
The Audit Committee of the Board of Directors consists of three outside
directors of Peter S. Lau (Chairman), James H. Culp, and Sal Miwa. The Audit
Committee recommends engagement of the Company's independent accountants and is
primarily responsible for approving the services performed by the Company's
independent accountants and for reviewing and evaluating the Company's
accounting principles and its system of internal accounting controls.
The Compensation and Stock Option Committee consists of Jerry B.
Burkett (Chairman), Sal Miwa, Marjorie S. Brooks and Michael M. Tull. The
Compensation and Stock Option Committee establishes and administers the
Company's compensation and stock option plans on behalf of the Board of
Directors and approves stock options granted thereunder.
The Executive Committee consists of three outside board members with
Sal Miwa (Chairman), James H. Culp and Michael M. Tull and three executive
management members of Joe G. Brooks, Stephen W. Brooks, and J. Douglas Brooks.
The Executive Committee establishes corporate policies, manpower, technology,
cost accounting and day-to-day operations of the Company.
The Litigation Committee consists of Joe G. Brooks (Chairman), James H.
Culp and Sal Miwa. The Litigation Committee establishes and administers the
Company's litigation plans on behalf of the Board of Directors.
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth the aggregate cash compensation paid by
the Company during the three years ended December 31, 1999 to each executive
officer of the Company whose aggregate cash compensation earned exceeded
$100,000, and to the chief executive officer.
31
<PAGE> 33
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
Annual Compensation Long-Term Compensation Awards
------------------- -----------------------------
Payouts
--------
Restricted Securities Long-term
Name and Other Annual Stock Underlying Incentive All Other
Principal Position Year Salary Bonus Compensation Awards Options Payouts Compensation
- ------------------ ---- ------ ----- ------------ ------ ------- ------- ------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Stephen W. Brooks
Co-CEO 1999 0 0 0 0 0 0 0
1998 0 0 0 0 0 0 0
1997 0 0 0 0 500,000 0 0
Joe Brooks
Co-CEO 1999 $105,000(*) 0 0 0 0 0 0
1998 75,000 0 0 0 0 0 0
1997 75,000 0 0 0 400,000 0 0
</TABLE>
* Accrued $35,000, which Mr. Brooks did not receive as of December 31, 1999
AGGREGATED OPTION EXERCISES IN YEAR ENDED DECEMBER 31, 1999
AND OPTION VALUES AT DECEMBER 31, 1999
<TABLE>
<CAPTION>
Number of Value of Unexercised
Number of Unexercised Options In-the-Money Options
Shares at December 31, 1999 at December 31, 1999
Acquired Value Exercisable/ Exercisable/
Name on Exercise Realized Unexercisable Unexercisable
- ---- ----------- -------- -------------------- ---------------------
<S> <C> <C> <C> <C>
Stephen W. Brooks 0 $0 375,000/150,000 $ 945,295/$370,350
Joe G. Brooks 0 $0 400,000/100,000 $1,058,970/$253,150
</TABLE>
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
The Board of Directors, as a whole, reviews and acts upon personnel
policies and executive compensation matters. Joe G. Brooks and Stephen W. Brooks
serve as executive officers of the Company; however such individuals do not
participate in compensation decisions or in forming compensation policies in
which they have a personal interest, nor do they vote on any such matter.
LIMITED LIABILITY OF OFFICERS AND DIRECTORS
The Delaware Supreme Court has held that a director's duty of care to a
corporation and its stockholders require the exercise of an informed business
judgment. Having become informed of all material information reasonably
available to them, directors must act with requisite care in the discharge of
their duties. The Delaware General Corporation law permits a corporation through
its Certificate of Incorporation to exonerate its directors from personal
liability to the corporation or its stockholders for monetary damages for breach
of the
32
<PAGE> 34
fiduciary duty of care as a director, with certain exceptions. The exceptions
include a breach of the director's duty of loyalty, acts or omissions not in
good faith or which involve intentional misconduct or knowing violations of law,
improper declarations of dividends and transactions from which the directors
derived an improper personal benefit. The Company's Certificate of Incorporation
exonerates its directors, acting in such capacity, from monetary liability to
the extent permitted by this statutory provision. The limitation of liability
provision does not eliminate a stockholder's right to seek non-monetary,
equitable remedies such as injunction or rescission to redress an action taken
by directors. However, as a practical matter, equitable remedies may not be
available in all situations and there may be instances in which no effective
remedy is available.
33
<PAGE> 35
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth, as of December 31, 1999, certain
information with regard to the beneficial ownership of the Company's capital
stock by each holder of 5% or more of the outstanding stock, by each director of
the Company, and by all officers and directors as a group:
<TABLE>
<CAPTION>
Name and Address Title of Number of Shares of Percentage of Class Percentage of
of Beneficial Owner Class(1) Common Stock(2) Outstanding (2)(16) Voting Power (2)(17)
- ------------------- -------- --------------- ------------------- --------------------
<S> <C> <C> <C> <C>
Marjorie S. Brooks Class A 10,997,998(3) 23.6% 28.0%
P. O. Box 1237 Class B 837,588(4) 57.2%
Springdale, AR 72765 Preferred- 400(5) 13.8%
Series B
Joe G. Brooks Class A 838,397(6) 1.8% 3.9%
HC 10, Box 116 Class B 284,396 19.4%
Junction, TX 76849
J. Douglas Brooks Class A 831,573(7) 1.8% 2.6%
P. O. Box 1237 Class B 131,051 8.9%
Springdale, AR 72765
Jerry B. Burkett Class A 165,000(8) * *
2110 Hemme Road Class B 33,311 2.3%
Stuttgart, AR 72160
Sal Miwa Class A 428,000(9) * *
c/o Seiwa Optical Co.
50 Tice Boulevard
Woodcliff Lake, NJ 07675
Stephen W. Brooks Class A 745,116(10) 1.6% 2.1%
P. O. Box 291 Class B 89,311 6.1%
Springdale, AR 72765
James H. Culp, Ph.D Class A 325,000(11) * *
120 Silver Lace Drive
Lake Jackson, TX 77566
Peter S. Lau Class A 104,715(12) * *
30 Wall Street, 11th Floor
New York, NY 10005
Michael M. Tull Class A 96,000(13) * 1.9%
c/o I. W. Tull Sales Co. Preferred- 400 13.8% *
1475 Holcomb Bridge Rd Series B
Suite 113
Roswell, GA 30076
Robert A. Mackie, Jr Class A 1,304,600(14) 2.8% 2.3%
P. O. Box 380 Preferred- 300 0.3% *
Irvington, NY 10533 Series C
Delbert & Pat Allen Class A 1,322,524(15) 2.8% 2.3%
3611 West Gulf Drive,
Sanibel Island, FL 33957
Officers and directors Class A 14,531,799 31.2% 40.5%
as a group (nine persons) Class B 1,375,657 93.9%
Preferred- 800 27.6%
Series B
* Less than 1%
</TABLE>
34
<PAGE> 36
(1) The Class B Common Stock is substantially identical to the Class A Common
Stock, except that each share of Class B Common Stock has five votes per share
and each share of Class A Common Stock has one vote per share. Each share of
Class B Common Stock is convertible into one share of Class A Common Stock. Each
share of Preferred Stock is convertible into 833-1/3 shares of Class A Common
Stock. The Series B Preferred Stock (900 shares) has voting rights of 2,500
votes per share. No other Preferred Stock carries any voting rights.
(2) Beneficial ownership of shares was determined in accordance with Rule
13d-3(d)(1) of the Exchange Act and included shares underlying outstanding
warrants and options which the named individual had the right to acquire within
sixty days of December 31, 1999.
(3) Includes 2,608,940 shares owned directly, 493,645 in trusts controlled by
Mrs. Brooks, 1,100,000 shares issuable upon exercise of stock options, 3,000
shares issuable upon exercise of Bonus Warrants, 325,000 shares issuable upon
exercise of Class C Warrants, 3,974,080 shares issuable upon exercise of Class F
and Class G Warrants issued in connection with a private placement of Class A
Common Stock in May of 1994, 2,000,000 shares issuable upon exercise of Class H
Warrants, and 493,333 shares issuable upon exercise of Series X and Series Y
Warrants owned indirectly through two corporations controlled by Mrs. Brooks.
(4) Includes 403,946 shares owned directly by Mrs. Brooks and 433,642 shares
owned by two corporations controlled by Mrs. Brooks. (Razorback Farms, Inc. is
the record owner of 312,320 shares and SMF is the record owner of 121,322
shares, representing approximately 21.3% and 8.3%, respectively, of the Class B
Common Stock). Excludes additional shares owned by adult children of Mrs.
Brooks, including Joe G. Brooks and J. Douglas Brooks, as to which she disclaims
a beneficial interest.
(5) Includes Series B Convertible Preferred Stock owned indirectly by Mrs.
Brooks. Razorback Farms, Inc. is the record owner of 165 shares. Brooks
Investment Company is the record owner of 235 shares.
(6) Includes 354,067 shares owned directly, 4,500 shares owned as custodian for
Joe G. Brooks' minor child, 38,205 shares owned as custodian for Brooks'
Children's Trust, 1,500 shares issuable upon exercise of Bonus Warrants owned as
custodian for Mr. Brook's minor child, 38,250 shares issuable upon exercise of
Bonus Warrants owned as custodian for Brook's Children's Trust, 1,875 shares
issuable upon exercise of Bonus Warrants owned directly and 400,000 shares
issuable upon exercise of stock options.
(7) Includes 370,932 shares owned directly, 33,021 shares owned indirectly,
7,620 shares issuable upon exercise of Bonus Warrants and 420,000 shares
issuable upon exercise of stock options.
(8) Includes 13,000 shares owned directly, 2,000 shares owned by Mr. Burkett as
custodian for his minor child, 10,000 shares owned by a partnership controlled
by Mr. Burkett and 140,000 shares issuable upon exercise of stock options.
(9) Includes 3,000 shares owned directly and 425,000 shares issuable upon
exercise of stock options.
35
<PAGE> 37
(10) Includes 370,116 shares owned directly and 375,000 shares issuable upon
exercise of stock options.
(11) Represents shares issuable upon exercise of stock options.
(12) Includes 75,000 shares issuable upon exercise of stock options and 29,715
shares issuable upon exercise of Class I Warrants.
(13) Includes 71,000 shares owned directly and 25,000 shares issuable upon
exercise of stock options.
(14) Mr. Mackie directly owns 250,000 shares of Class A common stock, 75,000
Bonus Warrants, 250,000 Series X Warrants, 120,000 Series Y Warrants and 300,000
Series Z Warrants of the Company. Mr. Mackie indirectly owns 309,600 Bonus
Warrants through R.A. Mackie & Co., L.P.
(15) Includes 338,624 shares owned directly, 789,526 shares owned indirectly,
160,000 shares issuable upon exercise of Bonus Warrants owned directly and
34,374 shares issuable upon exercise of Bonus Warrants owned indirectly.
(16) Class A Common Stock beneficial ownership is calculated based on 46,610,713
shares outstanding as of December 31, 1999, which includes 22,359,216 shares
which any person has the right to acquire through the exercise of options and
warrants within 60 days of December 31, 1999. Class B Common Stock beneficial
ownership is calculated based on 1,465,530 shares outstanding on December 31,
1999. Preferred stock beneficial ownership is calculated based on 2,900 shares
outstanding on December 31, 1999.
(17) Calculated based on 57,855,029 shares outstanding on December 31, 1999,
which includes voting rights on all classes of stock, options and warrants which
can be acquired within 60 days of December 31, 1999.
At December 31, 1999, there were 24,251,497 shares of Class A Common
Stock and 1,465,530 shares of Class B Common Stock issued and outstanding. The
previous table sets forth that directors, officers and 5% shareholders, as a
group, directly owned shares representing approximately 45.1% of the votes
entitled to be cast upon matters submitted to a vote of the Company's
stockholders, and Marjorie S. Brooks and corporations controlled by her owned
shares representing approximately 28.0% of the votes entitled to be cast and may
be in a position to control the Company.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
During 1999, the Company had an agreement with an affiliate whereby the
Company agreed to transfer certain of its trade receivables as collateral, which
the affiliate deemed acceptable, up to $2 million at any one time. In February
2000, the Company's major shareholder increased the Company's factoring line to
$2.5 million. The Company believes that the current terms for its factoring
agreement with its major shareholder is competitive with, if not better than,
terms that might be obtained from outside sources. Upon acceptance of a transfer
of a receivable, the affiliate remitted to the Company 85% of the receivable, as
defined in the agreement. Upon collection of the receivable the Company remitted
to the affiliate 1% of the receivable as a factoring charge, and the additional
14% of the receivable was remitted to the Company, less interest costs, which
were based on the time period over which the receivable was outstanding. The
Company indemnified the affiliate for any loss arising out of rejections or
returns of any merchandise, or any claims asserted by the Company's customers.
During 1999, the Company transferred an aggregate of approximately $20,500,000
in receivables under this
36
<PAGE> 38
agreement, of which $1,183,015 remained to be collected as of December 31, 1999.
During 1998 and 1997, the Company transferred an aggregate of approximately
$12,863,000 and $9,090,000, respectively, in receivables under this agreement,
none of which remains to be collected. Costs of approximately $202,034, $113,189
and $73,718 associated with the factoring agreement were included in selling and
administrative costs at December 31, 1999, 1998 and 1997, respectively.
At December 31, 1999, accounts payable-related parties included the
$1,183,015 discussed above and $352,982 relating to other items owed to related
parties.
37
<PAGE> 39
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a1), (a2), and (d). The Financial Statements listed in the
accompanying Index to Financial Statements are filed as part of this report and
such Index is hereby incorporated by reference. All schedules for which
provision is made in the applicable accounting regulation on the Securities and
Exchange Commission are not required under the related instructions or are
inapplicable, and therefore have been omitted.
(a3) and (c). The exhibits listed in the accompanying Index to Exhibits
are filed or incorporated by reference as part of this report and such Index is
hereby incorporated by reference.
(b) No reports on Form 8-K were filed during the last quarter of the
period covered by this report.
38
<PAGE> 40
SIGNATURES
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934,
as amended, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized, in the City of Springdale,
State of Arkansas, on the 12th day of April, 2000.
ADVANCED ENVIRONMENTAL RECYCLING
TECHNOLOGIES, INC.
BY: /s/ JOE G. BROOKS /s/ EDWARD J.LYSEN
------------------------------- -------------------------------
Joe G. Brooks, Edward J. Lysen,
Chairman Chief Financial Officer
Date: April 12, 2000 April 12, 2000
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been signed below by the following persons in the
capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- -----
<S> <C> <C>
/s/ JOE G. BROOKS Chairman of the Board, Co-CEO April 12, 2000
- ------------------------------- and Director
Joe G. Brooks
/s/ SAL MIWA Vice-Chairman and Director April 12, 2000
- -------------------------------
Sal Miwa
/s/ STEPHEN W. BROOKS Co-CEO and Director April 12, 2000
- -------------------------------
Stephen W. Brooks
/s/ JOE G. BROOKS Interim-President April 12, 2000
- -------------------------------
Joe G. Brooks
/s/ MARJORIE S. BROOKS Secretary, Treasurer and Director April 12, 2000
- -------------------------------
Marjorie S. Brooks
</TABLE>
39
<PAGE> 41
<TABLE>
<S> <C> <C>
/s/ JERRY B. BURKETT Director April 12, 2000
- --------------------------------
Jerry B. Burkett
/s/ JAMES H. CULP Director April 12, 2000
- --------------------------------
James H. Culp
/s/ PETER S. LAU Director April 12, 2000
- --------------------------------
Peter S. Lau
/s/ MICHAEL M. TULL Director April 12, 2000
- --------------------------------
Michael M. Tull
/s/ THOMAS J. HAIRSTON Director April 12, 2000
- --------------------------------
Thomas J. Hairston
</TABLE>
40
<PAGE> 42
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
Exhibit No. Description of Exhibit
- ----------- ----------------------
<S> <C>
3.1 Certificate of Incorporation, including Certificate of
Amendment filed on June 12, 1989(a), and Certificate of
Amendment filed on August 22, 1989.(b)
3.2 Certificate of Designation of Class B Common Stock.(a)
3.3 Bylaws of Registrant.(a)
4.1 Form of Class A Common Stock Certificate.(c)
4.2 Form of Class B Common Stock Certificate.(a)
4.3 Form of Warrant Agreement with American Stock Transfer
& Trust Company, including Class A and Class B Common
Stock Purchase Warrants.(a)
4.7 Form of Redeemable Class B Warrant Certificate.(c)
4.8 Form of Class C Warrant Certificate.(h)
4.9 Form of Class D Warrant Certificate.(h)
4.10 Form of Class E Warrant Certificate.(h)
4.11 Form of Class F Warrant Certificate.(i)
4.12 Form of Class G Warrant Certificate.(i)
4.13 Form of Class H Warrant Certificate.(j)
4.14 Form of Class I Warrant Certificate.(k)
4.15 Form of Class J Warrant Certificate.(l)
4.16 Form of Class K Warrant Certificate.(m)
10.1.1 Private Placement Agreement.(o)
10.1.2 Consulting Agreement.(o)
10.1.3 Note Purchase Agreement.(o)
10.1.4 Form of Note.(o)
10.1.5 Form of Private Placement Warrants.(o)
10.1.6 Form of Consulting Warrants.(o)
10.9 Form of Right of Refusal Agreement among Class B
Common Stockholders.(a)
10.10 1989 Stock Option plan.(a)
10.11 Form of Escrow Agreement with American Stock Transfer &
Trust Company.(c)
10.15 Lease Agreement dated June 1, 1990 between the Registrant
and J's Feed, Inc. for the Registrant's plastics reclamation
facility.(e)
10.16 Loan Agreement dated June 13, 1991 with Dow Credit
Corporation.(f)
10.16 Loan Agreement dated October 22, 1991 with Dow Credit
Corporation.(f)
10.16 Loan Agreement with City of Rogers, arranged through
Arkansas Industrial Development Commission.(f)
10.17 Lease Agreement dated June 15, 1992 between the Registrant
and George's, Inc. for the Registrant's corporate office
facility. (g)
</TABLE>
41
<PAGE> 43
<TABLE>
<S> <C>
10.18 Factoring Agreement dated April 30, 1993 between the
Registrant and Brooks Investment Company.(h)
10.23 Private Placement Distribution Agreement dated September 23,
1993 between the Registrant and Berkshire International
Finance, Inc.(h)
10.26 Lease Agreement dated June 16, 1994 between Registrant and
Marjorie S. Brooks.(i)
10.27 Line of Credit Promissory Note payable to Jim G. Brooks and
Marjorie S. Brooks.(i)
10.28 Amended and Restated Stock Option Plan.(i)
10.29 Non-Employee Director Stock Option Plan.(i)
10.30 Chairman Stock Option Plan.(i)
10.31 Factoring Agreement dated April 30, 1994 between the
Registrant and Brooks Investment Company.(i)
10.32 Lease agreement dated July 29, 1997 between Registrant and
Dwain A. Newman, et ux., and National Home Center, Inc.(n)
10.33 Securities Purchase Agreement.(p)
10.34 Certificate of Designation of Series A Preferred Convertible
Stock.(p)
10.35 Certificate of Designation of Series B Preferred Convertible
Stock.(p)
10.36 Certificate of Designation of Series C Preferred Convertible
Stock.(p)
10.37 Form of Series X Warrants.(p)
10.38 Form of Series Y Warrants.(p)
10.39 Registration Rights Agreement.(p)
10.40 Placement Agency Agreement.(p)
27.1 Financial data schedule.**
</TABLE>
- -------------
* The Registrant has no exhibits corresponding to Exhibits 1, 2, 5, 6, 7,
8, 9, 11, through 23, or 26 through 29.
** Filed herewith.
(a) Contained in Exhibits to Registration Statement on Form S-1, No.
33-29595, filed June 28, 1989.
(b) Contained in Exhibits to Amendment No. 1 to Registration Statement on
Form S-1, No. 33-29595, filed August 24,1989.
(c) Contained in Exhibits to Amendment No. 2 to Registration Statement on
Form S-1, No. 33-29595, filed November 8, 1989.
(d) Filed with Form 10-K for December 31, 1989.
(e) Filed with Form 10-K for December 31, 1990.
(f) Contained in Exhibits to Post Effective Amendment No. 1 to Registration
Statement on Form S-1, No. 33-29593, filed December 24, 1991.
(g) Filed with Form 10-K for December 31, 1992.
(h) Filed with Form 10-K for December 31, 1992.
(i) Filed with Form 10-K for December 31, 1994.
(j) Filed with Form 10-K for December 31, 1996.
(k) Filed with Form 10-K for December 31, 1996.
(l) Filed with Form 10-K for December 31, 1996.
(m) Filed with Form 10-K for December 31, 1996.
42
<PAGE> 44
(n) Filed with Form 10-K for December 31, 1997.
(o) Contained in Exhibits to Registration Statement on Form S-3, No.
333-42555 filed December 18, 1997.
(p) Filed with Form 10-K for December 31, 1998.
43
<PAGE> 45
ANNUAL REPORT ON FORM 10-K
ITEM 8, ITEM 14(a)(1) AND (2), (c) AND (d)
LIST OF FINANCIAL STATEMENTS
CERTAIN EXHIBITS
YEAR ENDED DECEMBER 31, 1999
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
SPRINGDALE, ARKANSAS
44
<PAGE> 46
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page
----
Financial Statements:
<S> <C>
Report of Independent Public Accountants F-2
Balance Sheets F-3 - F-4
Statements of Operations F-5
Statements of Stockholders' Equity F-6
Statements of Cash Flows F-7
Notes to Financial Statements F-8 - F-30
</TABLE>
F-1
<PAGE> 47
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders of
Advanced Environmental Recycling Technologies, Inc.:
We have audited the accompanying balance sheets of Advanced Environmental
Recycling Technologies, Inc. (a Delaware corporation) as of December 31, 1999
and 1998, and the related statements of operations, stockholders' equity and
cash flows for each of the three years in the period ended December 31, 1999.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Advanced Environmental
Recycling Technologies, Inc., as of December 31, 1999 and 1998, and the results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1999 in conformity with accounting principles generally
accepted in the United States.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As reflected in the accompanying
financial statements, the Company has incurred net losses since inception, has a
substantial working capital deficit at December 31, 1999, and is subject to
certain claims in litigation as discussed in Note 12. These factors, among
others, as discussed in Note 2, raise substantial doubt concerning the ability
of the Company 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 relating to the recoverability and classification of
asset carrying amounts or the amount and classification of liabilities that
might result should the Company be unable to continue as a going concern.
/s/ ARTHUR ANDERSEN LLP
Dallas, Texas
April 7, 2000
F-2
<PAGE> 48
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
BALANCE SHEETS
ASSETS
<TABLE>
<CAPTION>
December 31, December 31,
1999 1998
-------------- --------------
<S> <C> <C>
Current assets:
Cash $ 187,173 $ 614,494
Restricted bond escrow fund 16,593,696 --
Accounts receivable, net of allowance of
$20,000 in 1999 and 1998 1,587,368 712,894
Inventories 1,274,771 846,571
Prepaid expenses and other 149,682 89,266
-------------- --------------
Total current assets 19,792,690 2,263,225
-------------- --------------
Buildings and equipment:
Buildings and leasehold improvements 1,044,096 1,041,035
Machinery and equipment 13,981,153 10,937,425
Transportation equipment 162,400 108,355
Office equipment 210,024 159,295
Construction in progress 2,747,290 1,502,520
-------------- --------------
18,144,963 13,748,630
Less accumulated depreciation
and amortization 7,227,875 5,452,638
-------------- --------------
Net buildings and equipment 10,917,088 8,295,992
Other assets, at cost less accumulated
amortization of $300,161 (1999)
and $271,570 (1998) 746,015 382,710
-------------- --------------
$ 31,455,793 $ 10,941,927
============== ==============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-3
<PAGE> 49
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
December 31, December 31,
1999 1998
------------ ------------
<S> <C> <C>
Current liabilities:
Accounts payable - trade $ 5,110,787 $ 2,606,034
Accounts payable - related parties 1,535,997 895,170
Current maturities of long-term debt:
Related parties 494,265 648,425
Other 46,824 199,873
Current maturities of capital lease obligation 23,189 19,263
Accrued liabilities 933,543 435,070
Notes payable - related parties 550,000 --
Notes payable - other, net of debt discount
of $45,255 (1998) 2,354,944 2,085,325
Bonds payable 16,500,000 --
------------ ------------
Total current liabilities 27,549,549 6,889,160
------------ ------------
Long-term debt, less current maturities:
Related parties -- 97,707
Other 5,923 52,747
------------ ------------
Total long-term debt 5,923 150,454
------------ ------------
Capital lease obligation 53,733 76,922
------------ ------------
Accrued dividends payable on convertible
preferred stock 337,890 47,890
------------ ------------
Commitments and contingencies
Stockholders' equity, per accompanying statements:
Preferred stock, $1 par value; 5,000,000
shares authorized 2,900 2,900
Class A common stock, $.01 par value;
75,000,000 shares authorized 242,515 222,456
Class B convertible common stock, $.01 par
value; 7,500,000 shares authorized 14,655 14,655
Additional paid-in capital 28,459,192 26,984,318
Accumulated deficit (25,210,564) (23,446,828)
------------ ------------
Total stockholders' equity 3,508,698 3,777,501
------------ ------------
Total liabilities and stockholders' equity $ 31,455,793 $ 10,941,927
============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-4
<PAGE> 50
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year ended Year ended Year ended
December 31, December 31, December 31,
1999 1998 1997
--------------- --------------- ---------------
<S> <C> <C> <C>
Sales $ 19,917,133 $ 12,408,591 $ 7,982,381
Cost of goods sold 17,166,024 11,688,448 7,639,708
--------------- --------------- ---------------
Gross margin 2,751,109 720,143 342,673
Selling and administrative costs 3,766,779 3,220,233 2,090,049
--------------- --------------- ---------------
Operating loss (1,015,670) (2,500,090) (1,747,376)
Interest expense, net (458,066) (1,105,090) (166,288)
--------------- --------------- ---------------
Loss before extraordinary gain (1,473,736) (3,605,180) (1,913,664)
Extraordinary gain -- -- 757,644
--------------- --------------- ---------------
Loss before dividends on
redeemable convertible preferred stock (1,473,736) (3,605,180) (1,156,020)
Accrued dividends on redeemable
convertible preferred stock (290,000) (47,890) --
--------------- --------------- ---------------
Net loss applicable to common stock $ (1,763,736) $ (3,653,070) $ (1,156,020)
=============== =============== ===============
Loss per share of common stock
before extraordinary gain $ (.07) $ (.16) $ (.09)
Extraordinary gain per share of common
stock -- -- .04
--------------- --------------- ---------------
Net loss per share of
common stock (Basic and Diluted) $ (.07) $ (.16) $ (.05)
=============== =============== ===============
Weighted average number of common
shares outstanding 24,598,715 22,895,517 21,800,170
=============== =============== ===============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-5
<PAGE> 51
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Preferred Stock Class A Common Stock
Shares Amount Shares Amount
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Balance - December 31, 1996 -- $ -- 19,201,148 $ 192,012
Net proceeds from issuance of Class A
Common Stock -- -- 1,111,821 11,118
Issuance of Detachable Stock Warrants -- -- -- --
Net loss for the year ended
December 31, 1997 -- -- -- --
------------ ------------ ------------ ------------
Balance - December 31, 1997 -- $ -- 20,312,969 $ 203,130
Issuance of shares for payment
of interest on bridge financings -- -- 260,708 2,607
Exercise of stock options -- -- 493,333 4,933
Exercise of Class B Warrants -- -- 779,670 7,797
Exercise of Class C Warrants -- -- 275,000 2,750
Exercise of Consultant Warrants -- -- 60,000 600
Cashless exercise of Placement Warrants -- -- 40,434 404
Issuance of Class A Common Stock to Vendor -- -- 23,525 235
Issuance of extension warrants relating to
extension of first bridge financing -- -- -- --
Debt discount on consulting
and placement warrants -- -- -- --
Net proceeds from issuance of preferred stock 2,900 2,900 -- --
Net loss for year ended December 31, 1998 -- -- -- --
------------ ------------ ------------ ------------
Balance - December 31, 1998 2,900 $ 2,900 22,245,639 $ 222,456
Issuance of shares for payment
of interest on bridge financings -- -- 124,823 1,248
Issuance of options in payment of expenses -- -- -- --
Exercise of stock options -- -- 132,500 1,325
Exercise of Class B Warrants -- -- 257,994 2,580
Exercise of Class F Warrants -- -- 350,864 3,509
Exercise of Class G Warrants -- -- 481,810 4,818
Exercise of Class I Warrants -- -- 29,367 294
Exercise of Consulting Warrants -- -- 600,000 6,000
Exercise of Placement Warrants -- -- 28,500 285
Net loss for year ended December 31, 1999 -- -- -- --
------------ ------------ ------------ ------------
Balance - December 31, 1999 2,900 $ 2,900 24,251,497 $ 242,515
============ ============ ============ ============
</TABLE>
<TABLE>
<CAPTION>
Additional
Class B Common Stock Paid-in Accumulated
Shares Amount Capital Deficit Total
----------- ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Balance - December 31, 1996 1,465,530 $ 14,655 $ 21,533,450 $(18,637,738) $ 3,102,379
Net Proceeds from issuance of Class A
Common Stock -- -- 217,881 -- 228,999
Issuance of Detachable Stock Warrants -- -- 175,000 -- 175,000
Net loss for the year ended
December 31, 1997 -- -- -- (1,156,020) (1,156,020)
----------- ------------ ------------ ------------ ------------
Balance - December 31, 1997 1,465,530 $ 14,655 $ 21,926,331 $(19,793,758) $ 2,350,358
Issuance of shares for payment
of interest on bridge financings -- -- 282,803 -- 285,410
Exercise of stock options -- -- 148,267 -- 153,200
Exercise of Class B Warrants -- -- 926,233 -- 934,030
Exercise of Class C Warrants -- -- 327,250 -- 330,000
Exercise of Consultant Warrants -- -- 21,900 -- 22,500
Cashless exercise of Placement Warrants -- -- (404) -- --
Issuance of Class A Common Stock to Vendor -- -- 10,798 -- 11,033
Issuance of extension warrants relating to
extension of first bridge financing -- -- 19,685 -- 19,685
Debt discount on consulting
and placement warrants -- -- 619,355 -- 619,355
Net proceeds from issuance of preferred stock -- -- 2,702,100 -- 2,705,000
Net loss for year ended December 31, 1998 -- -- -- (3,653,070) (3,653,070)
----------- ------------ ------------ ------------ ------------
Balance - December 31, 1998 1,465,530 $ 14,655 $ 26,984,318 $(23,446,828) $ 3,777,501
Issuance of shares for payment
of interest on bridge financings -- -- 122,867 -- 124,115
Issuance of options in payment of expenses -- -- 12,347 -- 12,347
Exercise of stock options -- -- 160,600 -- 161,925
Exercise of Class B Warrants -- -- 274,763 -- 277,343
Exercise of Class F Warrants -- -- 210,518 -- 214,027
Exercise of Class G Warrants -- -- 437,138 -- 441,956
Exercise of Class I Warrants -- -- 27,238 -- 27,532
Exercise of Consulting Warrants -- -- 219,000 -- 225,000
Exercise of Placement Warrants -- -- 10,403 10,688
Net loss for year ended December 31, 1999 -- -- -- (1,763,736) (1,763,736)
----------- ------------ ------------ ------------ ------------
Balance - December 31, 1999 1,465,530 $ 14,655 $ 28,459,192 $(25,210,564) $ 3,508,698
=========== ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-6
<PAGE> 52
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Year ended Year ended Year ended
December 31, December 31, December 31,
1999 1998 1997
------------- ------------- -------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss applicable to common stock $ (1,763,736) $ (3,653,070) $ (1,156,020)
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities:
Depreciation and amortization 1,846,601 1,412,692 1,088,577
Amortization of other assets 76,652 412,505 65,319
Amortization of debt discount 45,255 675,153 38,889
Expenses paid from bond escrow fund 112,746 -- --
Interest earned on bond escrow fund (206,442) -- --
Interest paid through issuance of common stock 124,115 285,410 --
Expenses paid through issuance of stock options 12,347 -- --
Extraordinary gain -- -- (757,644)
Loss on disposition of equipment 82,052 1,964 --
Increase in other assets (391,895) (5,015) (125,098)
Changes in current assets and current liabilities 360,076 1,031,717 379,429
------------- ------------- -------------
Net cash provided by (used in) operating activities 297,771 161,356 (466,548)
------------- ------------- -------------
Cash flows from investing activities:
Additions to buildings and equipment (2,552,511) (3,674,969) (2,134,067)
Proceeds from sale of equipment 35,000 4,722 --
Insurance recoveries, net of fire related expenses -- -- 1,757,644
------------- ------------- -------------
Net cash used in investing activities (2,517,511) (3,670,247) (376,423)
------------- ------------- -------------
Cash flows from financing activities:
Proceeds from issuance of notes 950,000 1,380,842 1,304,229
Payments on notes (760,414) (364,020) (727,585)
Payments on capital lease obligation (19,263) (20,730) --
Dividends accrued on convertible preferred stock 290,000 47,890 --
Proceeds from issuance of common stock -- -- 228,999
Proceeds from issuance of preferred stock -- 1,155,000 --
Proceeds from exercise of stock options and
warrants, net 1,332,096 1,878,975 --
------------- ------------- -------------
Net cash provided by financing activities 1,792,419 4,077,957 805,643
------------- ------------- -------------
Increase (decrease) in cash (427,321) 569,066 (37,328)
Cash, beginning of period 614,494 45,428 82,756
------------- ------------- -------------
Cash, end of period $ 187,173 $ 614,494 $ 45,428
============= ============= =============
</TABLE>
The accompanying notes are an integral part of these financial statements.
F-7
<PAGE> 53
ADVANCED ENVIRONMENTAL RECYCLING TECHNOLOGIES, INC.
NOTES TO FINANCIAL STATEMENTS
Note 1: Description of the Company
Advanced Environmental Recycling Technologies, Inc. (the Company or AERT)
manufactures a line of composite building materials from reclaimed plastic and
wood fiber waste for certain specialized applications in the construction
industry. The Company markets this material as a substitute for wood and plastic
filler materials for standard door components, windowsills, brick mould, fascia
board, decking and heavy industrial flooring. The Company is comprised of two
manufacturing facilities located in Junction, Texas and Springdale, Arkansas.
The Company's customers primarily consist of a number of regional and national
door and window manufacturers, industrial-flooring companies and Weyerhaeuser,
the Company's primary decking customer.
Note 2: Future Operations
The financial statements of the Company have been prepared on the basis of
accounting principles applicable to a going concern, which contemplates the
realization of assets and the satisfaction of liabilities in the normal course
of business. At December 31, 1999, the Company had a substantial working capital
deficit of $7,717,859 and had incurred net losses of approximately $1.7 million,
$3.7 million and $1.2 million for the years ended December 31, 1999, 1998 and
1997, respectively. The Company has incurred net losses in each year since its
inception and has never operated at successful manufacturing levels over an
extended period. Further, The Company has limited additional financial resources
available to support its operations and in the past few years has, in large
part, been supported by certain major shareholders in conjunction with several
accredited investors. There is no commitment for such shareholders or accredited
investors to continue such support. As discussed in the following paragraphs,
the Company will require additional financial resources in order to complete its
production plan and fund maturities of debt and other obligations as they become
due.
The Company also has claims and litigation outstanding against it as described
in Note 12, the outcome of which is uncertain. If the litigated claims were to
be assessed against the Company, the Company would likely be unable to pay such
claims. These factors, among others, raise substantial doubt concerning the
ability of the Company to continue as a going concern. The financial statements
do not include any adjustments relating to the recoverability and
classification of asset carrying amounts or the amount and classification of
liabilities that might result should the Company be unable to continue as a
going concern. The ability of the Company to continue as a going concern is
dependent upon the ongoing support of its stockholders, investors, customers
and creditors and its ability to successfully mass produce and market its
products at economically feasible levels.
The Company is currently implementing a production plan, which management
believes will provide better operating efficiencies and correct the production
problems encountered in the past. The plan includes increasing production
capacity, further automating the production process and better utilizing
regrindable scrap. The Company anticipates reducing its working capital deficit
by paying off the bridge notes payable and being reimbursed for significant
working capital through the use of bond fund proceeds discussed below. During
2000, the Springdale plant will have its third extrusion line in operation, with
a new material transfer system. Furthermore, subsequent to year-end and as
discussed in Note 5, the Company obtained $4.5 million of additional bank
financing, the proceeds of which were used to acquire land adjacent to the
Springdale facility and reduce accounts payable.
As discussed in Note 5, the Company closed a $16.5 million tax-exempt
industrial bond financing into escrow in October 1999, intended to refinance
and shift its construction related accounts payable into long-term financing.
In order for the Company to receive the bond financing the Company must meet
certain financial and operating criteria unless waived by the holder of 100% of
the Bonds. These include delivering to the Trustee satisfactory evidence that
for any consecutive 12 month period commencing on or after the date of the
issuance of the bonds, the long-term debt service coverage ratio, as defined,
has been not less than 2 to 1, and the projected long-term debt service
coverage ratio for the 24 month period subsequent to the first disbursal shall
be not less than 2 to 1. There is no assurance the Company will be successful
in meeting the standards required to receive the bond financing proceeds or in
obtaining necessary financial resources from other sources.
Completion of the production plan will require that the Company receive the
proceeds from the bond financing or obtain additional debt or equity financing
beyond those resources currently available to the Company. Also, additional
financial resources will be necessary to fund maturities of debt and other
obligations as they come due in 2000. There is no assurance the Company will be
able to correct prior production problems and improve operating efficiencies or
that the Company will be successful in securing capital resources to complete
its production plan, fund maturities of debt and other obligations as they
become due in 2000 or to support the Company until such time, if ever, that the
Company is able to consistently generate income from operations.
F-8
<PAGE> 54
Note 3: Significant Accounting Policies
Statements of Cash Flows
In order to determine net cash provided by (used in) operating activities, net
loss has been adjusted by, among other things, changes in current assets and
current liabilities, excluding changes in cash and cash equivalents, current
maturities of long-
F-9
<PAGE> 55
term debt, capital lease obligations and current notes payable. Those changes,
shown as an (increase) decrease in current assets and an increase (decrease) in
current liabilities, are as follows:
<TABLE>
<CAPTION>
Year ended Year ended Year ended
December 31, December 31, December 31,
1999 1998 1997
------------- ------------- -------------
<S> <C> <C> <C>
Receivables $ (824,752) $ (172,155) $ (529,802)
Note receivable -- 81,571 (81,571)
Inventories (428,200) (110,874) (142,372)
Prepaid expenses and other 24,561 (95,581) 15,114
Accounts payable -
Trade and related parties 1,089,994 1,204,367 1,014,444
Accrued liabilities 498,473 124,389 103,616
------------- ------------- -------------
$ 360,076 $ 1,031,717 $ 379,429
============= ============= =============
Cash paid for interest $ 218,296 $ 52,395 $ 141,320
============= ============= =============
</TABLE>
Supplemental Disclosures of Non-cash Investing and Financing Activities:
<TABLE>
<CAPTION>
1999 1998 1997
------------- ------------- -------------
<S> <C> <C> <C>
Note payable for financing of insurance policies $ 133,038 $ 104,027 $ 109,207
Accounts / notes payable for equipment 2,125,547 280,248 --
Bond financing held in escrow 16,500,000 -- --
Receivables from exercise of stock options 26,375 -- --
Capital lease obligation for equipment -- 110,000 --
Class A Common Stock issued in payment of
accounts payable -- 11,033 --
Series B Preferred Stock issued in payment of
accounts payable - related parties -- 400,000 --
Series B Preferred Stock issued in payment of
notes payable -- 100,000 --
Series A Preferred Stock issued in payment of
notes payable -- 1,050,000 --
Non-cash payment for financing costs -- 19,685 --
</TABLE>
Buildings and Equipment
Buildings and equipment contributed to the Company in exchange for Class B
Common Stock are carried at the contributor's historical book value. Property
additions and betterments include capitalized interest and acquisition,
construction and administrative costs allocable to construction projects and
property purchases.
F-10
<PAGE> 56
Gains or losses on sales or other dispositions of property are credited or
charged to income.
Provision for depreciation of buildings and equipment is provided on a
straight-line basis for buildings, leasehold improvements, machinery,
transportation equipment and office equipment over the lesser of the estimated
useful life of the asset or the term of the lease. Estimated useful lives are:
buildings - 5 to 19 years, leasehold improvements - 6 years, transportation
equipment - 3 to 5 years, office equipment - 5 years and machinery and equipment
- - 3 to 8 years.
The Company has adopted Statement of Financial Accounting Standards (SFAS) No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed of". SFAS No. 121 requires an assessment of the
recoverability of the Company's investment in long-lived assets to be held and
used in operations whenever events or circumstances indicate that their carrying
amounts may not be recoverable. Such assessment requires that the future cash
flows associated with the long-lived assets be estimated over their remaining
useful lives and an impairment loss recognized when the future cash flows are
less than the carrying value of such assets.
The Company has assessed the recoverability of its investment in long-lived
assets to be held and used in operations under the guidelines set forth in SFAS
No. 121 and has determined that no impairment loss was required as of December
31, 1999. Such assessment required the Company to make certain estimates of
future production volumes, costs, sales volumes and prices, which are
expected to occur over the remaining useful lives of its long-lived assets. Such
long-lived assets primarily consist of the Company's Springdale and Junction
manufacturing facilities. The Company's estimates of these factors are based
upon management's belief that future production volumes will significantly
increase over previous historical production levels achieved by the Company's
manufacturing facilities and that future production costs per unit will also
decrease below previous historical cost levels.
Although the Company believes it has a reasonable basis for its estimates of
future production volumes and costs and future sales volumes and prices, it is
reasonably possible that the Company's actual performance could materially
differ from such estimates. Management expects that the Company's performance,
subsequent to the completion of its production plan, will provide additional
evidence to confirm or disprove such future estimates. Management also believes
that if such estimates are not confirmed, revisions to such estimates could
result in a material impairment loss on its long-lived assets constituting all
or a material portion of the carrying value of the Company's Springdale and
Junction manufacturing facilities, which was $10,917,088 at December 31, 1999.
Inventories
Inventories are stated at the lower of cost (first-in, first-out method) or
market. Inventories consisted of the following at December 31:
<TABLE>
<CAPTION>
1999 1998
------------- -------------
<S> <C> <C>
Raw materials $ 565,259 $ 486,068
Work in process 323,268 263,573
Finished goods 386,244 96,930
------------- -------------
$ 1,274,771 $ 846,571
============= =============
</TABLE>
F-11
<PAGE> 57
Other Assets
At December 31, 1999, other assets consisted primarily of debt acquisition costs
in the amount of $302,697, net, which are amortized over the term of the related
debt, and the costs for the preparation of patent applications of $293,026, net,
which are amortized using the straight-line method over 17 years.
Prepaid Expenses and Other
Prepaid expenses and other consisted primarily of prepaid insurance at December
31, 1999.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
SFAS No. 125
The Company accounts for transfers of receivables, with recourse, to a related
party under the guidelines of SFAS No. 125, "Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities", (SFAS 125).
This statement provides accounting and reporting standards for, among other
things, the transfer and servicing of financial assets, such as transfers of
receivables with recourse, and provides standards for distinguishing transfers
of financial assets that are sales from transfers that are secured borrowings.
Based on the requirements of SFAS No. 125, the receivables transferred to the
related party with recourse are accounted for as a secured borrowing because the
Company is not considered to have surrendered control over the transferred
assets. Accounts receivable and accounts payable-related parties at December 31,
1999 and 1998, were increased by $1,183,015 and $695,447, respectively, to
reflect these requirements (see Note 4).
SFAS No. 128
The Company calculates and discloses earning per share (EPS) in accordance with
SFAS No. 128, "Earnings Per Share" (SFAS 128). SFAS 128 replaces the
presentation of Primary EPS with Basic EPS and requires dual presentation of
Basic and Diluted EPS on the face of the statements of operations and requires a
reconciliation of the numerator and denominator of the Basic EPS computation to
the numerator and denominator of the Diluted EPS computation. Basic EPS excludes
dilution and is computed by dividing income available to common stockholders by
the weighted-average number of common shares outstanding for the period. Diluted
EPS reflects the potential dilution that could occur if securities or other
contracts to issue common stock were exercised or converted into common stock or
resulted in the issuance of common stock that then shared in the earnings of the
Company. Diluted EPS is computed similarly to Fully Diluted EPS pursuant to
Accounting Principles Board Opinion No. 15, "Earnings Per Share". SFAS 128
requires restatement of all prior-period EPS data presented.
F-12
<PAGE> 58
In computing Diluted EPS, only potential common shares that are dilutive--those
that reduce earnings per share or increase loss per share--are included.
Exercise of options and warrants or conversion of convertible securities is not
assumed if the result would be antidilutive, such as when a loss from continuing
operations is reported. The "control number" for determining whether including
potential common shares in the Diluted EPS computation would be antidilutive is
income from continuing operations. As a result, if there is a loss from
continuing operations, Diluted EPS would be computed in the same manner as Basic
EPS is computed, even if an entity has net income after adjusting for
discontinued operations, an extraordinary item or the cumulative effect of an
accounting change. The Company has incurred losses from continuing operations
and net losses for the years ended December 31, 1999, 1998 and 1997. Therefore,
Basic EPS and Diluted EPS are computed in the same manner. Although such
financial instruments were not included due to being antidilutive, the Company
does have potentially dilutive financial instruments in the form of warrants and
options (See Notes 6 and 8). The number of shares of common stock subject to
issuance under options and warrants at December 31, 1999 and not included due to
antidilutive effects was approximately 23.9 million.
Concentrations of Credit Risk
The Company's revenues are derived principally from a number of regional and
national door and window manufacturers, industrial-flooring companies and
Weyerhaeuser, the Company's primary decking customer. The Company extends
unsecured credit to its customers. This industry concentration has the potential
to impact the Company's exposure to credit risk because changes in economic or
other conditions in the construction industry may similarly affect the
customers.
Disclosure About Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value of
each class of financial instrument held by the Company:
Current assets and current liabilities -- The carrying value approximates fair
value due to the short maturity of those items.
Long-term debt -- The fair value of the Company's long-term debt has been
estimated by the Company based upon each obligation's characteristics, including
remaining maturities, interest rate, credit rating, collateral and amortization
schedule. The carrying amount approximates fair value.
Note 4: Related Party Transactions
During 1999, the Company had an agreement with an affiliate whereby the Company
agreed to transfer certain of its trade receivables as collateral, which the
affiliate deemed acceptable, up to $2 million at any one time. In February 2000,
the Company's major shareholder increased the Company's factoring line to $2.5
million. Upon acceptance of a transfer of a receivable, the affiliate remitted
to the Company 85% of the receivable, as defined in the agreement, and the
Company remitted to the affiliate 1% of the receivable as a factoring charge.
Upon collection of the receivable, the Company remitted to the affiliate 1% of
the receivable as a factoring charge and the additional 14% of the receivable
were remitted to the Company, less interest costs, which were based on the time
period over which the receivable was outstanding. The Company indemnified the
affiliate for any loss arising out of rejections or returns of any merchandise,
or any claims asserted by the Company's customers. During 1999, the Company
transferred an aggregate of approximately $20,500,000 in receivables under this
F-13
<PAGE> 59
agreement, of which $1,183,015 remained to be collected as of December 31, 1999.
During 1998 and 1997, the Company transferred an aggregate of approximately
$12,863,000 and $9,090,000, respectively, in receivables under this agreement,
none of which remains to be collected. Costs of approximately $202,034, $113,189
and $73,718 associated with the factoring agreement were included in selling and
administrative costs at December 31, 1999, 1998 and 1997, respectively.
At December 31, 1999, accounts payable-related parties included the $1,183,015
discussed above and $352,982 relating to other items owed to related parties.
Note 5: Notes Payable and Long-Term Debt
Notes Payable - Other
Notes payable - other, net of debt discounts consisted of the following at
December 31:
<TABLE>
<CAPTION>
1999 1998
---- ----
<S> <C> <C>
12% notes payable to preferred stockholders, due on demand $ 400,000 $ --
12% notes payable (the bridge financing), interest payable quarterly in shares
of the Company's Class A common stock or cash, principal due in cash on July 1,
2000. The effective interest rate on the debt is 33.0% (1) 50,000 250,000
12% notes payable (the bridge financing), interest payable quarterly in shares
of the Company's Class A common stock or cash, principal due in cash on July 1,
2000. The effective interest rate on the debt is 61.8% (1) 800,000 800,000
12% notes payable (the bridge financing), interest payable quarterly in shares
of the Company's Class A common stock or cash, principal due in cash on July 1,
2000. The effective interest rate on the debt is 188.9% (1) 410,000 410,000
12% notes payable (the bridge financing), net of debt discount of $20,255 for
1998, interest payable quarterly in shares of the Company's Class A common
stock or cash, principal due in cash on July 1, 2000. The effective interest
rate on the debt is 57.8% (1) 359,963 339,708
12% notes payable (the bridge financing), net of debt discount of $25,000 for
1998, interest payable quarterly in shares of the Company's Class A common
stock or cash, principal due in cash on July 1, 2000. The effective interest
rate on the debt is 37.1% (1) 287,500 262,500
Other 47,481 23,117
---------- ----------
Total $2,354,944 $2,085,325
========== ==========
</TABLE>
F-14
<PAGE> 60
(1) The Company has five bridge financing agreements. The date of the first
agreement was October 30, 1997. The Company issued notes payable totaling $1.3
million that were originally due and payable on July 27, 1998, but they have
since been extended to July 1, 2000. Interest on the notes is payable every
three months at 12% with the Company's Class A common stock. In connection with
the notes, the Company issued 2,600,000 consulting warrants and 156,000
placement warrants and paid loan origination costs of $169,000 to the placement
agent. The warrants expire October 30, 2002, and are exercisable at a price of
$0.375 per share of Class A common stock for each warrant exercised. Per the
agreement, if the notes were extended, an additional 650,000 consulting warrants
and 78,000 placement warrants would be issued. The note holders have extended
the notes through July 1, 2000 without additional penalty warrants, with the
exception of 310,000 penalty warrants issued to one of the note holders, in
exchange for voluntary selling restrictions of the Company's stock by the
Company's officers and certain shareholders, without prior approval from the
issuer of the note. Also, during 1998, $1,050,000 of these bridge financing
notes were converted to preferred stock (See Note 6), and an additional $200,000
was paid on the notes in 1999, bringing the note balance to $50,000 at December
31, 1999.
The second bridge financing was completed on February 5, 1998. The Company
issued notes payable totaling $800,000 that was originally due and payable on
November 2, 1998, but they have since been extended without penalty warrants to
July 1, 2000. Interest on the notes is payable every three months at 12% in
either cash or the Company's Class A common stock, at the option of the Company.
In connection with the notes, the Company issued 1,600,000 consulting warrants
and 96,000 placement warrants and paid loan origination costs of $104,000 to the
placement agent. If the notes are extended beyond July 1, 2000, the Company may
be required to issue 448,000 penalty warrants (400,000 consulting warrants and
48,000 penalty warrants). The warrants expire February 5, 2003, and are
exercisable at a price of $0.375 per share of Class A common stock for each
warrant exercised.
A third bridge financing was completed on April 7, 1998. The Company issued
notes payable totaling $410,000 that were originally due and payable on January
2, 1999, but have since been extended without penalty warrants to July 1, 2000.
Interest on the notes is payable every three months at 12% in either cash or the
Company's Class A common stock, at the option of the Company. In connection with
the notes, the Company issued 820,000 consulting warrants and 49,200 placement
warrants and paid loan origination costs of $53,300 to the placement agent. If
the notes are extended beyond July 1, 2000, an additional 205,000 consulting
warrants and 24,600 placement warrants may be issued. The warrants expire April
7, 2003, and are exercisable at a price of $0.375 per share of Class A common
stock for each warrant exercised.
A fourth bridge financing was completed on June 3, 1998. The Company issued
notes payable totaling $359,963 that were originally due and payable on February
28, 1999, but have since been extended without penalty warrants to July 1, 2000.
Interest on the notes is payable every three months at 12% in either cash or the
Company's Class A common stock, at the option of the Company. In connection with
the notes, the Company issued 719,926 consulting warrants and 43,195 placement
warrants and paid loan origination costs of $46,795 to the placement agent. If
the notes are extended beyond July 1, 2000, an additional 179,981 consulting
warrants
F-15
<PAGE> 61
and 21,597 placement warrants may be issued. The warrants expire June 3, 2003,
and are exercisable at a price of $0.375 per share of Class A Common Stock for
each warrant exercised.
A fifth bridge financing was completed on August 21, 1998. The Company issued
notes payable totaling $287,500 that were originally due and payable on May 18,
1999, but have since been extended without penalty warrants to July 1, 2000.
Interest on the notes is payable every three months at 12% in either cash or the
Company's Class A common stock, at the option of the Company. In connection with
the notes, the Company issued 575,000 consulting warrants and 34,500 placement
warrants and paid loan origination costs of $37,375 to the placement agent. If
the notes are extended beyond July 1, 2000, an additional 143,750 consulting
warrants and 17,250 placement warrants may be issued. The warrants expire August
21, 2003, and are exercisable at a price of $0.375 per share of Class A common
stock for each warrant exercised.
Delisting of the Company's stock results in an event of default under the bridge
financing agreements. An event of default results in all the then outstanding
principal amounts and unpaid interest becoming due and payable immediately.
In regard to the warrant shares issued under the bridge financing agreements, if
the resale of the warrant shares by the holders is not then registered pursuant
to an effective registration statement under the Securities Act, the warrant
holders may effect a cashless exercise at any time after the first anniversary
of the respective dates of the note agreements until the end of the respective
exercise periods. In the event of a cashless exercise, in lieu of paying the
exercise price in cash, the warrant holder shall surrender his warrant to the
Company for a certain number of shares of Class A Common Stock, based on the
market value of the stock at the time of exercise.
Under a placement agency agreement entered into concurrently with the October
30, 1997 bridge financing agreement, the placement agent has a two year option
to "put" up to an additional $342,537 aggregate principal amount of notes to the
Company. If the additional notes are issued, then the Company will issue 685,074
consulting warrants and 41,104 placement warrants in connection with the notes.
If the notes are extended, an additional 171,268 consulting warrants and 20,552
placement warrants may be issued. Both the additional notes and related
consulting and placement warrants will have terms and provisions similar to
those of previous bridge financings.
Notes Payable - Related Parties
Notes payable to related parties consisted of two notes payable to an investment
company owned by a significant shareholder. The outstanding principal balance at
December 31, 1999 on each note was $300,000 and $250,000, respectively. The
notes are due on demand and include interest at fixed rates of 10% and 12%,
respectively.
F-16
<PAGE> 62
Long-term Debt
Long-term debt, net of debt discount consisted of the following at December 31:
<TABLE>
<CAPTION>
1999 1998
------------ ------------
<S> <C> <C>
9.75% note payable to Marjorie S. Brooks (a related party), due in monthly
installments of principal and interest of $33,100, secured by a second
position on substantially all of the assets of the Company $ 494,265 $ 746,132
9.5% notes payable, due in monthly installments of $8,390, secured by
certain manufacturing equipment 40,973 216,959
8% note payable, paid off in 1999 -- 15,532
Other 11,774 20,129
------------ ------------
Total 547,012 998,752
Less current maturities (541,089) (848,298)
------------ ------------
Long-term debt, net of current maturities $ 5,923 $ 150,454
============ ============
</TABLE>
The aggregate maturities of long-term debt, net of debt discount, as of December
31, 1999 are as follows:
<TABLE>
<S> <C>
2000 $541,089
2001 4,686
2002 1,237
--------
$547,012
========
</TABLE>
Bonds Payable
In October 1999, the Company entered into an agreement with the City of
Springdale, Arkansas for the issuance of Series 1999 Industrial Development
Revenue Bonds (the Bonds). The Bonds are private activity bonds issued for a
limited number of purposes, including solid waste disposal projects. The Company
received the Bond
F-17
<PAGE> 63
allocation; however, given their current cash flow position, the Bonds are not
marketable. As a result, the Bonds have been issued and retained in escrow until
such time in which the Company meets certain criteria as defined in the Bond
agreement. As of December 31, 1999, the Company has debt with the City of
Springdale, Arkansas, secured by cash deposits sufficient to payoff the debt.
Proceeds of the Bonds were deposited as follows: $112,814 of the proceeds were
deposited in the Issuance Expense Fund while the remaining $16,387,186 were
deposited in the Project Fund and invested until the Reset Date (October 13,
2000). Concurrent with the closing, the funds were transferred to an investment
company and invested in selected low risk investment types as defined in the
Indenture of Trust. Any interest or other gain realized, as a result of any
investments of monies from the Project Fund shall be retained in or transferred
to the Project Fund. Should the escrow funds be devalued by the Reset Date, the
Company is liable for any deficiencies.
The Bonds carry an initial interest rate of 5.25%, a maturity date of October 1,
2029 and an original issue date of October 14, 1999. The Bonds shall be dated as
of October 14, 1999 with interest from the original interest date payable
semiannually on April 1 and October 1 of each year, commencing April 1, 2001.
The Bonds will bear interest at 5.25% from the date of issuance until the Reset
Date. Interest from the Reset Date to the maturity date will be calculated at a
variable rate equal to the lesser of (i) 9.75% per annum and (ii) a variable
rate of interest certified by a remarketing agent appointed by the Company. If a
remarketing agent fails to properly certify a new variable rate, the rate shall
be the same as the rate proceeding the Reset Date until the variable rate is so
certified.
In October 1999, an investment company agreed to purchase the Bonds from the
City of Springdale. The Bonds are issuable only as fully registered bonds in the
minimum denominations of $100,000 and in any integral multiple of $5,000 in
excess thereof. At or prior to disbursement of proceeds from the Project Fund,
assuming proceeds of the Bonds have not been used to redeem the Bonds, the
Company must deliver to the Trustee such general items as project plans and
specifications, cost estimates, construction contracts and insurance coverage.
Furthermore, unless waived by the holder of 100% of the Bonds, the Company must
also deliver to the Trustee satisfactory evidence that for any consecutive 12
month period commencing on or after the date of the issuance of the Bonds, the
long-term debt service coverage ratio, as defined, has been not less than 2.00
to 1, and the projected long-term debt service coverage ratio for the 24 month
period subsequent to the first disbursal from the Project Fund shall be not less
than 2.00 to 1. Although the Bonds will be called if the Company does not break
escrow by the Reset Date, if a negative arbitrage position does not exist, it is
possible that the bondholder will waive/roll the call for another year or sell
to another investor. However, the risk does exist that if another investor
cannot be identified, the Company will be required to buy back the Bonds at the
Reset Date.
All advancements under this agreement are secured by the Company's interest in
the land purchased subsequent to year-end, the improvements, the plans and
specifications, and any fixtures or appurtenances now or hereafter erected
thereon. In addition, the Company granted the Issuer a present security interest
in the pledged accounts, the funds, any trust accounts referred to in the
agreement, all tangible personal property, furniture, and machinery and
equipment located on the site.
The Bonds are subject to mandatory redemption under various circumstances
including, but not limited to, casualty loss or condemnation and occurrence of a
determination of taxability as defined in the Indenture of Trust. Furthermore,
the Bonds shall be subject to mandatory tender for purchase by the Company in
whole on the Reset Date, at a purchase price equal to the principal amount of
Series 1999 Bonds so tendered plus accrued interest to
F-18
<PAGE> 64
the Reset Date.
The Bonds are subject to mandatory sinking fund redemption at a redemption price
equal to 100 percent of the principal amount thereof and accrued interest to the
redemption date. As of October 1 of each year, there shall be deposited in the
Bond Principal Fund and Bond Interest Fund a sum which is sufficient to redeem
the following principal amounts and accrued interest to the redemption date:
<TABLE>
<CAPTION>
Year Amount
---------- -----------
<S> <C>
2000 $ 0
2001 200,000
2002 170,000
2003 185,000
2004 200,000
Thereafter 15,745,000
-----------
$16,500,000
===========
</TABLE>
The Company will incur certain costs related to remarketing the Bonds. During
1999, the Company entered an agreement with an investment company whereby the
Company has committed to pay the investment company 5% of Bond proceeds plus
495,000 shares of common stock upon satisfactory completion of the Bond
remarketing. In addition, at December 31, 1999, the Company believes it has
incurred approximately $4.6 million for certain construction expenditures that
qualify under the terms as defined in the Bond Agreement.
Subsequent Note Payable
Subsequent to December 31, 1999, the Company obtained bridge financing from a
bank in the amount of $4.5 million. The debt is due on demand, however if no
demand is made, it is due in 176 equal monthly payments of $49,156 including
interest at a fixed rate of 9.75%, beginning June 23, 2000, and maturing
February 23, 2015. The note is collateralized by real estate and improvements,
fixed assets, assignment of life insurance policy, personal guarantee of certain
stockholders and an 80% USDA Department of Rural Development guarantee. The note
contains certain financial covenants including a minimum debt to net worth
ratio, as defined, of no more than 3 to 1; a minimum current ratio of 1 to 1 by
August 2000; and a minimum current ratio of 2 to 1 by February 2001 and
thereafter. The Company was in compliance with the minimum debt to net worth
covenant at December 31, 1999.
Note 6: Stockholders' Equity
During 1998, the Company issued a series of voting and non-voting, convertible
preferred stock, which raised an additional $2.9 million in equity. The Company
issued 1,500 Series A shares, 900 Series B shares and 500 Series C shares at a
price of $1,000 per share. Such stock was purchased by the major stockholder, a
5% holder and accredited institutional investors. The preferred stock bears
interest at 10% per year. On the 7th anniversary date of the issuance of
preferred stock, the preferred stock will automatically be converted into shares
of common stock with the conversion price equal to the lower of the average of
the closing bid prices for the common stock for the 5 trading days immediately
preceding the 7th anniversary of the issuance or the fixed conversion price. The
fixed conversion price is $1.20. Under the terms of the preferred stock
agreements, certain continuing performance criteria are required of the Company,
including: (1) minimum sales of $6 million per quarter and (2) positive
quarterly cash flow from operations each quarter. If a milestone failure occurs,
the conversion price is the lower of the fixed conversion price or the variable
conversion price. The variable conversion price is the average of the closing
bid prices for the common stock during the 10 consecutive trading days ending on
the trading date immediately preceding the date of determination. During the
second quarter and fourth quarter of 1999, the Company realized sales of $4.8
million and $4.9 million, respectively. Therefore milestone failures have
occurred. The Company, at its option and two years from the issuance date, can
redeem the stock prior to conversion at a premium of 150 percent. The stock was
issued with a series of X and Y warrants, which can be exercised at $1.20 and
$2.50 per share, respectively, as described in the warrants section below.
The preferred stock agreements have been amended to extend the date by which the
Company is required to have an effective registration statement that registers
the common stock underlying the convertible preferred stock and warrants to
August 1, 2000. The Company may be required to pay certain penalties to the
holders of the preferred stock and warrants if the registration statement is not
declared effective by the SEC by August 1, 2000. The penalties increase over
time until the registration statement is declared effective. The preferred stock
F-19
<PAGE> 65
agreements contain potential redemption events, which would cause the Company to
have to redeem the preferred stock. The agreements state that if a redemption
event occurs, the Company must pay each holder of preferred stock an amount
equal to ten percent of the aggregate stated value of the shares of preferred
stock then outstanding.
The Class A Common Stock and the Class B Common Stock are substantially similar
in all respects except that the Class B Common Stock has five votes per share
while the Class A Common Stock has one vote per share. Each share of Class B
Common Stock is convertible at any time at the holder's option to one share of
Class A Common Stock and, except in certain instances, is automatically
converted into one share of Class A Common Stock upon any sale or transfer.
Class B Warrants
Each Class B Warrant entitled the holder to purchase one share of Class A Common
Stock at an exercise price of $1.075. One Bonus Warrant (described below) was to
be granted to the holder for each warrant exercised. During 1998, the Company
received net proceeds of $934,032 from the exercise of 779,670 Class B Warrants.
An additional 257,994 warrants were exercised in 1999, resulting in proceeds to
the Company of $277,343. The remaining warrants were not exercised, and expired
on February 12, 1999.
Class C Warrants
Each Class C Warrant is exercisable into one share of Class A Common Stock at an
exercise price of $1.075 per share. During 1998, the Company received net
proceeds of $330,000 from the exercise of 275,000 C Warrants. One bonus warrant
(described below) was granted to the holder for each warrant exercised. On
February 12, 1999, 50,000 Class C Warrants expired. The remaining 325,000 Class
C Warrants expire in June 2003.
Class F Warrants
In 1999, 350,864 Class F Warrants were exercised at a price of $0.61 per share,
resulting in proceeds of $214,027. The remaining 987,040 Class F Warrants expire
in June 2004, and are exercisable at a price of $0.61 per share of Class A
Common Stock for each Class F Warrant exercised.
Class G Warrants
In 1999, 481,810 Class G Warrants were exercised at prices ranging from $0.91 to
$0.92 per share, resulting in proceeds of $441,956. The remaining 2,987,040
Class G Warrants expire in June 2004, and are exercisable at a price of $0.92
per share of Class A Common Stock for each Class G Warrant exercised.
Class H Warrants
In 1995, in connection with the note payable to Marjorie S. Brooks and the
accounts payable-related parties (See Notes 4 and 5), the Company's Board of
Directors authorized the issuance of up to 2,000,000 Class H Warrants on a
one-for-one basis for each dollar advanced under the agreement and having an
exercise price equal to the per share market value of the Company's Class A
Common Stock on the date of such advances. While no warrants have been issued as
of the date of this filing, all authorized Class H Warrants are currently
issuable. Upon issue, the warrants will be exercisable at prices from $0.39 to
$0.49 per share of Class A Common Stock
F-20
<PAGE> 66
for each Class H Warrant exercised. The Class H Warrants will expire in February
2005.
Class I Warrants
In June 1996, the Company completed an offering to qualified foreign investors
under Regulation S of the Securities Act of 1933 with the issuance of 1,666,893
shares of Class A Common Stock. Net offering proceeds consisted of $1,146,000 in
cash. As part of the offering, the Company issued 242,878 Class I Warrants to
the Stock Placement Distributor. The Class I Warrants were to expire three years
from the date of issue and were exercisable at prices ranging from $0.9375 to
$1.125 per share of Class A Common Stock for each Class I Warrant exercised.
In May 1997, an additional 150,462 Class I warrants were issued in connection
with the December 1996 Regulation S Offering, as described below, at exercise
prices ranging from $0.31 to $0.56 per share of Class A Common Stock for each
Class I Warrant exercised.
In 1999, 29,367 Class I Warrants were exercised at a price of $0.9375 per share,
resulting in proceeds of $27,532, and 42,866 Class I Warrants expired. Also in
1999, 310,000 Class I Warrants were extended to 2002.
In December 1996, the Company received $185,000 in cash relating to an offering
to qualified foreign investors under Regulation S of the Securities Act of 1933
with the issuance of 228,571 and 134,454 shares of Class A Common Stock in 1996
and 1997, respectively. Also, in 1997, $228,999 was received and 977,367 shares
of Class A Common Stock were issued.
Class J and K Warrants
In December 1996, in connection with a note payable of $100,000 (See Note 5),
the Company authorized and issued two sets of Warrants, Class J for 200,000 and
Class K for 150,000. Each Class J and Class K Warrant is exercisable on a
one-for-one basis into common stock. Each Class J Warrant is exercisable at
$0.50 per share and each Class K Warrant is exercisable at $0.75 per share. Both
Class J and Class K Warrants expire five years from the date of issuance.
X and Y Warrants Issued in Connection with Preferred Stock
The preferred stock carries a series of X and Y Warrants, which will convert at
$1.20 and $2.50 per share. In connection with the 2,900 preferred shares, the
Company issued 2,900 X Warrants and 2,900 Y Warrants. Each of the Series X
Warrants entitles the holder the right to acquire 555 shares (for X Warrants
issued with Series A shares) and 833.33 shares (for X Warrants issued with
Series B and C shares) of the Company's common stock (1,999,162 shares). Each of
the Series Y Warrants entitles the holder the right to acquire 205 shares (for Y
Warrants issued with Series A shares) and 400 shares (for Y Warrants issued with
Series B and C shares) of the Company's common stock (867,500 shares). Each of
the warrants has cashless exercise features that are based on various conversion
amounts and terms.
X and Y Warrants to Placement Agent
The Series A preferred stock shares were placed through a placement agent. The
placement agent and certain officers of the placement agent were given Series X
Warrants to purchase, in the aggregate, 278.33 shares of the
F-21
<PAGE> 67
Company's common stock for each $1,000 of purchase price (417,495 shares) and
Series Y Warrants to purchase, in the aggregate, 102.7 shares of the Company's
common stock for each $1,000 of Purchase Price (154,050 shares). The Series X
Warrants are exercisable for a period of six years from the first anniversary of
the date of issuance at a price per share equal to $1.20 and the Series Y
Warrants are exercisable for a period of five years from the second anniversary
of the date of issuance at a price per share equal to $2.50. No placement agent
was used for the Series B and C shares.
Bonus Warrants
In connection with the exercise of the Class B and C Warrants during 1998 and
1999, the Company granted a new warrant on a one-for-one basis for each Class B
and C Warrant exercised. The Bonus Warrants, 1,054,670 and 257,994 issued in
1998 and 1999, respectively, expire February 12, 2001, and are exercisable at a
price of $3.00 per share of Class A Common Stock for each Bonus Warrant
exercised.
Consulting and Placement Warrants
In October 1997, the Company obtained bridge financing of $1.3 million (see Note
5). In connection with the financing obtained, 2,756,000 stock warrants were
issued. The stock warrants expire on October 30, 2002, and are exercisable at a
price of $0.375 per share of Class A Common Stock for each warrant exercised.
The debt and stock warrants were recorded at their estimated fair market value
at the date of the transaction. The value of the stock warrants was treated as a
debt discount and amortized over the life of the loan as interest expense. In
1999, 628,500 Consulting and Placement Warrants were exercised at a price of
$0.375 per share, resulting in proceeds of $235,688.
In February 1998, the Company obtained bridge financing of $800,000 (see Note
5). In connection with the financing obtained, 1,696,000 stock warrants were
issued. The stock warrants expire on February 5, 2003, and are exercisable at a
price of $0.375 per share of Class A Common Stock for each warrant exercised.
The debt and stock warrants were recorded at their estimated fair market value
at the date of the transaction. The value of the stock warrants was treated as a
debt discount and amortized over the life of the loan as interest expense.
In April 1998, the Company obtained bridge financing of $410,000 (see Note 5).
In connection with the financing obtained, 869,200 stock warrants were issued.
The stock warrants expire on April 7, 2003, and are exercisable at a price of
$0.375 per share of Class A Common Stock for each warrant exercised. The debt
and stock warrants were recorded at their estimated fair market value at the
date of the transaction. The value of the stock warrants was treated as a debt
discount and amortized over the life of the loan as interest expense.
In June 1998, the Company obtained bridge financing of $359,963 (see Note 5). In
connection with the financing obtained, 763,121 stock warrants were issued. The
stock warrants expire on June 3, 2003, and are exercisable at a price of $0.375
per share of Class A Common Stock for each warrant exercised. The debt and stock
warrants were recorded at their estimated fair market value at the date of the
transaction. The value of the stock warrants was treated as a debt discount and
amortized over the life of the loan as interest expense. In August 1998, the
Company obtained bridge financing of $287,500 (see Note 5). In connection with
the financing obtained, 609,500 stock warrants were issued. The stock warrants
expire on August 21, 2003, and are exercisable at a price of $0.375 per share of
Class A Common Stock for each warrant exercised. The debt and stock warrants
were recorded at their estimated fair market value at the date of the
transaction. The value of the stock warrants was treated as a debt discount and
amortized over the life of the loan as interest expense.
F-22
<PAGE> 68
Extension Warrants
In connection with the extension of the October 30, 1997 bridge financing,
310,000 extension warrants were issued. The stock warrants expire on November 5,
2003, and are exercisable at a price of $0.375 per share of Class A Common Stock
for each warrant exercised.
Series Z Placement Warrants
In 1998, the Company issued 300,000 Placement Warrants in connection with the
issuance of the Series C Preferred Stock. These warrants are exercisable at a
price of $1.00 per share of Class A Common Stock for each warrant exercised, and
expire on November 12, 2003.
At December 31, 1999, the Company had outstanding warrants as follows:
<TABLE>
<CAPTION>
Weighted
Warrants for Average
Class A Exercise
Common Stock Price
------------ -----
<S> <C> <C>
Class C Warrants 325,000 $1.075
Class F Warrants 987,040 $ 0.61
Class G Warrants 2,987,040 $ 0.92
Class H Warrants 2,000,000 $ 0.47
Class I Warrants 321,111 $ 0.75
Class J Warrants 200,000 $ 0.50
Class K Warrants 150,000 $ 0.75
Series X Warrants 1,999,162 $ 1.20
Series Y Warrants 867,500 $ 2.50
Series X Warrants - Placement Agent 417,495 $ 1.20
Series Y Warrants - Placement Agent 154,050 $ 2.50
Bonus Warrants 1,312,664 $ 3.00
Consulting Warrants 5,654,926 $0.375
Placement Warrants 290,395 $0.375
Extension Warrants 310,000 $0.375
Series Z Placement Warrants 300,000 $ 1.00
---------- ------
18,276,383 $ 0.97
========== ======
</TABLE>
In order to remain listed on the NASDAQ SmallCap Market, all publicly held
companies must meet certain criteria (maintenance standards) established by the
NASDAQ. Increased listing and maintenance standards include a minimum bid of
$1.00 common stock price and a $2 million net asset value. On March 12, 1999,
the Company attended a hearing in the matter of the continued listing of the
Company's stock on the NASDAQ SmallCap Market. The hearing was in regards to the
Company being notified on October 13, 1998, that it did not meet the $1.00
minimum bid price for continued listing. The Company was given ninety days,
until January 13, 1999, to regain compliance. The Company did not achieve
compliance during the grace period and requested
F-23
<PAGE> 69
the hearing. Subsequent to the hearing, the Company was given an additional
waiver to regain compliance and meet minimum listing standards. The NASDAQ
Listing Qualifications Panel notified the Company in June 1999 that it had
regained full compliance regarding listing qualifications, and that the
Company's Class A common stock (AERTA) would continue to be listed on the NASDAQ
SmallCap Market. As of December 31, 1999, the Company's closing stock price was
$3.09, and its net asset value was $3,508,698.
Note 7: Capital Lease Obligations
The capital lease agreements are for machinery and equipment. Under the
agreements, the Company is to make aggregate monthly payments of $3,259,
including interest ranging from 22.16% to 28.51%, which expire at various times
from August 2001 through August 2003. The Company has the option to purchase the
property at the end of the lease term for $1.00.
The following is a schedule of future minimum lease payments under capital
leases, together with the present value of the net minimum lease payments as of
December 31, 1999:
<TABLE>
<S> <C>
2000 $ 39,103
2001 33,274
2002 21,614
2003 14,409
----------
Total minimum lease payments 108,400
Less - amounts representing interest 31,478
----------
Present value of net minimum lease payments 76,922
Less - current maturities of capital leases 23,189
----------
$ 53,733
==========
</TABLE>
Note 8: Stock Option Plans
The Company's Stock Option Plans (the 1997 Plan, 1994 Plan, Director Plan,
Chairman Plan and the 1989 Plan) authorize the issuance of a total of 7,600,000
shares of the Company's Class A Common Stock to its directors, employees and
outside consultants. The option price of the stock options awarded must be at
least equal to the market value of the Class A Common Stock on the date of
grant. Stock options may not be granted to an individual to the extent that in
any calendar year in which options first become exercisable, the shares subject
to options first exercisable in such year have a fair market value on the date
of grant in excess of $100,000. No option may be outstanding for more than ten
years after its grant. The purpose of the Plans is to enable the Company to
encourage key employees, directors and outside consultants to contribute to the
success of the Company by granting such persons incentive stock options (ISOs)
and/or non-incentive stock options (nonqualified stock options). The ISOs are
available for employees only. In order to provide for disinterested
administration of the Plans for purposes of Rule 16b-3 under the Securities
Exchange Act of 1934, the Director Plan also provides that outside directors
will automatically receive annual awards of nonqualified stock options.
In June 1994, stockholders of the Company approved the adoption of the Amended
and Restated Stock Option Plan, which superseded and replaced the Company's 1990
Stock Option Plan. The new Plan provides for the granting of options to purchase
up to 1,000,000 shares of the Company's Class A Common Stock by recipients of
incentive stock options or nonqualified stock options as granted by the
Company's Board of Directors. The Company's stockholders also approved the
Non-Employee Director Stock Option Plan (the Director Plan),
F-24
<PAGE> 70
in 1994. The Director Plan provides for the issuance of options to purchase up
to an aggregate of 500,000 shares of the Company's Class A Common Stock to
eligible outside directors of the Company. Each eligible outside director will
be granted options to purchase 25,000 shares of common stock annually commencing
in 1995 and each year thereafter.
Also in June 1994, stockholders of the Company approved the Chairman Stock
Option Plan. The Plan provided for a grant of 500,000 shares of the Company's
Class A Common Stock.
In July 1997, stockholders of the Company approved the adoption of the Advanced
Environmental Recycling Technologies, Inc. 1997 Securities Plan (the 1997 Plan).
The 1997 Plan provides for certain awards to be given to senior and executive
management of the Company to encourage and reward superior performance. The
awards can be in the form of stock options, restricted stock and other
performance awards to be given. The aggregate number of shares which may be
offered pursuant to incentive stock options under the 1997 Plan originally was
not to exceed 3,000,000, but this amount was increased by approval of the
stockholders to 5,000,000 in July 1999. The aggregate number of shares which may
be offered for purchase pursuant to non-qualified stock options shall not exceed
500,000 shares. The stock options may not be granted with an exercise price less
than the fair market value of a share on the date the option is granted, unless
granted to a 10% shareholder, then the exercise price must be at least 110% of
the fair market value per share on the date such option is granted. The
Incentive Stock Options may not be exercised after ten years from the date the
option is granted unless the option is given to a 10% shareholder, then the
expiration date is five years from the date the option is granted. The options
must be exercised within three months after termination of employment.
A summary of the activity in the Company's Stock Option Plans during the years
ended December 31, 1999, 1998 and 1997 are as follows:
<TABLE>
<CAPTION>
1999 1998 1997
-------------------------- --------------------------- -------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C>
Outstanding at beginning of year 4,473,000 $ 0.67 4,103,000 $ 0.68 1,329,000 $ 1.30
Granted 1,350,000 $ 1.29 1,055,000 $ 0.89 3,300,000 $ 0.51
Exercised (132,500) $ 1.22 (245,000) $ 0.42 -- $ --
Forfeited (206,000) $ 1.73 (440,000) $ 1.48 (526,000) $ 1.16
---------- ---------- ---------- ---------- ---------- ----------
Outstanding at end of year 5,484,500 $ 0.77 4,473,000 $ 0.67 4,103,000 $ 0.68
</TABLE>
F-25
<PAGE> 71
The weighted-average fair value of options granted during 1999, 1998 and 1997
was $0.94, $0.53, and $0.32, respectively. The following table summarizes
information about stock options outstanding under the Company's Stock Option
Plans as of December 31, 1999:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
------------------------------------------------- ------------------------
Range Number Wtd. Avg. Wtd. Avg. Number Wtd. Avg.
of Outstanding Remaining Exercise Exercisable Exercise
Exercise Prices at 12/31/99 Contract Life Price at 12/31/99 Price
--------------- ------------- ------------- --------- ------------ --------
<S> <C> <C> <C> <C> <C>
$0.38 - $0.48 1,741,000 6.33 years $0.43 1,481,000 $0.43
$0.56 - $1.00 2,975,000 6.44 years $0.72 1,458,333 $0.65
$1.19 - $1.47 193,500 5.49 years $1.32 193,500 $1.32
$1.88 - $2.63 575,000 4.26 years $1.81 75,000 $1.88
--------- ---------- ----- --------- -----
5,484,500 6.13 years $0.77 3,207,833 $0.62
</TABLE>
SFAS No. 123, "Accounting for Stock-Based-Compensation", issued by the FASB in
October 1995, encourages but does not require companies to measure and recognize
in their financial statements a compensation cost for stock-based employee
compensation plans based on the "fair value" method of accounting set forth in
the statement. The Company continues to account for its stock option plans and
other stock-based compensation using the "intrinsic value" method of accounting
set forth in Accounting Principles Board (APB) Opinion No. 25, "Accounting for
Stock Issued to Employees", and related interpretations. Accordingly,
compensation cost for stock options is measured as the excess, if any, of the
quoted market price of the Company's common stock at the date of the grant over
the amount an employee must pay to acquire the stock.
Had compensation cost for the Company's stock option plans and other stock-based
compensation been determined consistent with SFAS No. 123, the Company's net
loss and net loss per share of common stock would have been increased to the
following pro forma amounts:
<TABLE>
<CAPTION>
1999 1998 1997
---- ---- ----
<S> <C> <C> <C> <C>
Net loss applicable to common stock As Reported $ (1,763,736) $(3,653,070) $(1,156,020)
Pro Forma (2,445,990) (3,915,670) (1,536,041)
Net loss per share of common stock As Reported (.07) (.16) (.05)
(Basic and Diluted) Pro Forma (.10) (.17) (.07)
</TABLE>
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions used for grants in 1999, 1998 and 1997, respectively: risk-free
interest rates of 5.4, 5.3 and 6.7 percent; expected lives of 5, 10 and 10
years; and expected volatilities of 90.5, 87.4 and 88.6 percent. Since no
dividends are expected to be paid by the Company during the expected lives of
the options, a dividend yield of zero was used for purposes of computing the
fair value of the options.
Note 9: Leases
At December 31, 1999, the Company was obligated under a non-cancelable lease
with a principal stockholder for land and a building where a production facility
is located. This lease has an expiration date of April 30, 2001 and rental
payments of $1,519 per month. In 1997, the Company entered into a non-cancelable
sublease for a
F-26
<PAGE> 72
production facility, which expires August 31, 2002. Lease payments on the
facility are $19,000 per month. The sublease contains an option to purchase the
facility for $1.8 million, exercisable at any time during the sublease, and a
renewal option to lease the property for an additional five years at an
increased rate. At December 31, 1999, the Company was obligated under various
operating leases covering certain equipment. Rent expense under operating leases
for the years ended December 31, 1999, 1998 and 1997 was $609,586, $432,356 and
$273,265, respectively. Future minimum lease payments required under operating
leases are as follows:
<TABLE>
<S> <C>
2000 $ 576,252
2001 549,244
2002 460,889
2003 274,696
2004 264,097
-----------
Total minimum payments required $ 2,125,178
===========
</TABLE>
Note 10: Income Taxes
The Company records income taxes in accordance with SFAS No. 109, "Accounting
for Income Taxes". Under this method, deferred income taxes reflect the net tax
effects of temporary differences between the carrying amounts of assets and
liabilities for financial reporting purposes and the amounts used for income tax
purposes. The Company has generated book and tax losses for the period and since
inception.
As of December 31, 1999, the Company had net operating loss carryforwards of
approximately $21.3 million for federal income tax purposes, which are available
to reduce future taxable income and will expire in 2004 through 2019 if not
utilized.
The tax effects of significant temporary differences representing deferred tax
assets and liabilities are as follows:
<TABLE>
<CAPTION>
December 31, December 31, December 31,
1999 1998 1997
----------- ----------- -----------
<S> <C> <C> <C>
Deferred tax assets-
Deferred start-up costs $ -- $ -- $ 605,000
Net operating loss carryforwards 7,509,146 7,311,702 6,355,000
Valuation allowance (6,961,445) (7,155,941) (6,247,000)
----------- ----------- -----------
Total deferred tax assets 547,701 155,761 713,000
Deferred tax liability-
Depreciation 547,701 155,761 713,000
----------- ----------- -----------
Net deferred tax $ -- $ -- $ --
=========== =========== ===========
</TABLE>
As the Company has generated net operating losses since its inception and there
is no assurance of future income, a valuation allowance of $6,961,445 has been
established at December 31, 1999, to recognize its deferred tax assets only to
the extent of its deferred tax liabilities. The Company will continue to
evaluate the need for such valuation allowance in the future.
F-27
<PAGE> 73
Note 11: Significant Customers
During the year ended December 31, 1999, the Company had net sales of
approximately $10.3 million to a single customer, which represented 50% of total
sales. Sales to this customer for the years ended December 31, 1998 and 1997
were approximately $4.4 million (34%) and $2.8 million (35%), respectively.
Additionally, the Company had sales of approximately $4.3 million to another
customer, which represents 21% of total sales for the year ended December 31,
1999. Sales to this customer in 1998 and 1997 were approximately $3.1 million
(24%) and $1.8 million (23%), respectively.
Note 12: Commitments and Contingencies
In June 1992, Mobil Oil Corporation (Mobil) commenced an action against the
Company in the United States District Court for the District of Delaware
entitled "Mobil Oil Corporation v. Advanced Environmental Recycling
Technologies, Inc." In the complaint, Mobil sought entry of a declaratory
judgment that:
o AERT was without right or authority to threaten suit against Mobil or
our customers for alleged infringement of AERT patents;
o certain AERT patents were invalid and unenforceable; and
o Mobil had not infringed the AERT patents through any products or
method.
Mobil sought no monetary damages in that suit, but did seek reimbursement of its
attorneys' fees.
The Company denied Mobil's claims and asserted counterclaims against Mobil and
three Mobil executives for:
o an illegal combination or contract in restraint of trade in violation
of federal antitrust laws;
o a pattern of intentional misconduct constituting an attempt to
monopolize in violation of federal antitrust laws;
o breach of a confidential relationship between Mobil and AERT; and
o unfair competition.
The Company sought monetary damages, punitive damages and injunctive relief.
In February 1994, after a trial on the patent issues, the court held that four
AERT patents on its composite product technology were invalid and that Mobil had
not infringed the patents.
In March 1995, the Company filed a motion with the Court alleging prejudicial
misconduct by Mobil prior to the trial. The Company also filed an appeal with
the U.S. Court of Appeals in July 1995. In June 1996, the U. S. Court of Appeals
reversed a portion of the earlier ruling, which had held that two of the patents
were invalid, but nevertheless ruled that Mobil did not infringe such patents.
The Company did not further appeal this ruling.
In August 1994, Mobil filed a motion seeking an award of attorneys' fees and
costs for $2.7 million. In September 1999, the Delaware Court dismissed the
Mobil Motion for Attorneys' Fees, for a second time. The Court also dismissed
the Company's motion for new trial based upon discovery misconduct and the
Company's motion to supplement record.
Mobil recently filed an appeal brief regarding denial and dismissal of the
attorneys' fees motion by the Delaware Court. The Company recently answered
Mobil's appeal and cross-appealed the dismissal of its prejudicial misconduct
motion by the Delaware Court in March of 2000. The Company retained new legal
counsel for said appeal, which has extensive experience and specializes in
appellate actions. The Company's cross-appeal involves
F-28
<PAGE> 74
allegations of tampering with, altering and withholding critical evidence by
Mobil prior to trial. It seeks a final denial of Mobil's request for attorneys'
fees and a new trial for prejudicial discovery misconduct. The Company's
counterclaims are still pending, although Mobil is no longer in the composite
products business.
There can be no assurance that the Company can prevail on these issues or that
if it prevails, that Mobil will not further appeal to a higher court.
Furthermore, there can be no assurance that the Company will be awarded a new
trial upon appeal.
Note 13: Other Litigation
In 1999, the Company settled a lawsuit involving payment for equipment in its
paint facility. As part of the settlement, the Company returned equipment with a
net book value of approximately $122,209, and received, or is to receive,
consideration in the approximate amount of $128,309. The Company realized a gain
on this settlement of $6,100. The Company is also a defendant in a federal
action in Texas, involving allegations from a former employee and officer of the
Company that the Company breached an employment agreement by terminating
employment. The Company believes this action is without merit and has filed a
motion to dismiss this suit for lack of jurisdiction. The Company is also
involved in an action whereby it is the plaintiff seeking to recover
approximately $200,000 for merchandise sold for which it was not paid. This
action is currently pending.
Note 14: New Accounting Pronouncement
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities", (SFAS 133), as
amended by Statement of Financial Accounting Standards No. 137, "Accounting for
Derivative Instruments and Hedging Activities - Deferral of the Effective Date
of FASB Statement No. 133". SFAS No. 133 establishes accounting and reporting
standards requiring that every derivative instrument (including certain
derivative instruments embedded in other contracts) be recorded in the balance
sheet as either an asset or liability measured at its fair value. SFAS No. 133
requires that changes in the derivative's fair value be recognized currently in
earnings unless specific hedge accounting criteria are met. Special accounting
for qualifying hedges allows a derivative's gains and losses to offset related
results on the hedged item in the income statement. Companies must formally
document, designate, and assess the effectiveness of transactions that receive
hedge accounting. SFAS No. 133 is effective for fiscal years beginning after
June 15, 2000; however, companies may implement the statement as of the
beginning of any fiscal quarter beginning on or after June 16, 1998.
SFAS No. 133 cannot be applied retroactively and must be applied to (a)
derivative instruments and (b) certain derivative instruments embedded in hybrid
contracts that were issued, acquired, or substantively modified after December
31, 1997 (and, at the Company's election, before January 1, 1998). The Company
has not yet quantified the impact of adopting SFAS No. 133 on its financial
statements and has not determined the timing of or method of the adoption of
SFAS No. 133. However, as of December 31, 1999, the Company had no outstanding
derivative instruments or embedded derivatives.
Note 15: Accounting for Rogers Plastic Reclamation Facility Fires
During 1996, the Company experienced two fires at the Rogers Plastic Reclamation
Facility. In September
F-29
<PAGE> 75
1996, the Company experienced an extraordinary gain of $67,100 relating to the
insurance proceeds for the loss of finished goods inventory destroyed. In
addition, the final settlement of the insurance claim relating to the capital
equipment destroyed in the September fire resulted in a gain of $167,034. The
impact of the extraordinary gain on the net loss per share of common stock was
immaterial.
In connection with the December 1996 fire, the Company recorded an extraordinary
loss at December 31, 1996, of $130,368 and a receivable from the insurance
company in the amount of $1,001,657, which represented the difference between
the net book value of equipment lost in the December fire which the Company
expected to be reimbursed for by insurance proceeds. During 1997, the Company
recognized an extraordinary gain of $757,644 from the insurance proceeds
received relating to the fire at the Rogers facility.
F-30
<TABLE> <S> <C>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> DEC-31-1999
<CASH> 187,173
<SECURITIES> 0
<RECEIVABLES> 1,587,368
<ALLOWANCES> 20,000
<INVENTORY> 1,274,771
<CURRENT-ASSETS> 19,792,690
<PP&E> 18,144,963
<DEPRECIATION> 7,227,875
<TOTAL-ASSETS> 31,455,793
<CURRENT-LIABILITIES> 27,549,549
<BONDS> 16,500,000
2,900
0
<COMMON> 257,170
<OTHER-SE> 3,248,628
<TOTAL-LIABILITY-AND-EQUITY> 31,455,793
<SALES> 19,917,133
<TOTAL-REVENUES> 19,917,133
<CGS> 17,166,024
<TOTAL-COSTS> 20,932,803
<OTHER-EXPENSES> 290,000
<LOSS-PROVISION> 20,000
<INTEREST-EXPENSE> 458,066
<INCOME-PRETAX> (1,763,736)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,763,736)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,763,736)
<EPS-BASIC> (.07)
<EPS-DILUTED> (.07)
</TABLE>
