<PAGE>
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-QSB
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTER ENDED MARCH 31, 1999
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE TRANSITION PERIOD FROM ___________ TO ___________
Commission File Number 1-12614
SEVENTH GENERATION, INC.
------------------------
(Exact name of small business issuer as specified in its charter)
Vermont 03-0300509
------- ----------
(State or other jurisdiction of (IRS Employer Identification Number)
incorporation or organization)
1 Mill Street, Burlington, VT 05401
-----------------------------------
(Address of principal executive offices)
(802) 658-3773
--------------
(Issuer's telephone number)
- --------------------------------------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes [ X ] No [ ]
The number of shares of Common Stock, $0.000333 par value, outstanding as of
April 30, 1999 was 2,428,791. The number of Redeemable Common Stock Purchase
Warrants outstanding as of April 30, 1999 was 1,540,869.
Transitional Small Business Disclosure Format (check one) Yes [ ] No [ X ]
TOTAL NUMBER OF PAGES: 19 EXHIBIT INDEX APPEARS ON PAGE: 17
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
--------------------
SEVENTH GENERATION, INC.
CONSOLIDATED BALANCE SHEETS
March 31, 1999 and December 31, 1998
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
------------ ------------
(Unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 552,255 $ 381,977
Short-term marketable securities 70,765 161,283
Accounts receivable-trade, net of allowance for doubtful
accounts of $25,415 at March 31, 1999 and $29,306 at
December 31, 1998 1,090,898 979,828
Accounts receivable-other 12,652 3,438
Inventories 457,326 416,533
Other assets 79,400 52,178
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Total current assets 2,263,296 1,995,237
---------- ----------
Equipment:
Computer equipment 91,840 91,840
Equipment and furniture 42,016 42,016
---------- ----------
133,856 133,856
Less accumulated depreciation and amortization 71,033 67,283
---------- ----------
Equipment and furniture, net 62,823 66,573
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Deposits and other assets 15,794 17,646
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Total assets $2,341,913 $2,079,456
========== ==========
</TABLE>
See accompanying notes to financial statements
2
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SEVENTH GENERATION, INC.
CONSOLIDATED BALANCE SHEETS
March 31, 1999 and December 31, 1998
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
------------ ------------
(Unaudited)
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Current portion of capital leases $ 2,435 $ 2,435
Accounts payable-trade 867,550 463,629
Other accrued expenses 277,936 323,328
------------ ------------
Total current liabilities 1,147,921 789,392
Long-term debt:
Obligations due under capital leases 4,501 4,501
Subordinated convertible debentures net of unamortized
discount of $53,287 at March 31, 1999 and $55,920 at
December 31, 1998 1,019,213 1,016,580
------------ ------------
Total liabilities 2,171,635 1,810,473
------------ ------------
Commitments and contingencies
Stockholders' equity:
Preferred stock - $.001 par value; 2,500,000 shares authorized;
none issued
Common stock-$.000333 par value; 15,000,000 shares authorized;
2,428,791 shares issued and outstanding in 1999 and 1998 809 809
Additional paid-in capital 12,327,123 12,327,123
Accumulated deficit (12,157,654) (12,058,949)
------------ ------------
Total stockholders' equity 170,278 268,983
------------ ------------
Total liabilities and stockholders' equity $ 2,341,913 $ 2,079,456
============ ============
</TABLE>
See accompanying notes to financial statements
3
<PAGE>
SEVENTH GENERATION, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
<TABLE>
<CAPTION>
For the Three Months Ended
March 31, March 31,
1999 1998
----------- -----------
(Unaudited) (Unaudited)
<S> <C> <C>
Sales $ 2,374,885 $ 2,287,702
Cost of sales 1,535,058 1,613,361
----------- -----------
Gross profit 839,827 674,341
----------- -----------
Operating expenses:
Selling and marketing expenses 491,055 326,910
Operations and distribution expenses 200,394 157,945
General and administrative expenses 223,719 221,881
----------- -----------
Total operating expenses 915,168 706,736
----------- -----------
Other income (expense):
Interest income 7,711 12,129
Interest expense (28,471) (26,043)
Other (2,604) (1,852)
----------- -----------
Total other expense, net (23,364) (15,766)
----------- -----------
Net loss $ (98,705) $ (48,161)
=========== ===========
Loss per common share: $ (0.04) $ (0.02)
Weighted average shares outstanding during the period 2,428,791 2,428,791
</TABLE>
See accompanying notes to financial statements
4
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SEVENTH GENERATION, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998
<TABLE>
<CAPTION>
For the Three Months Ended
March 31, March 31,
1999 1998
--------- ---------
(Unaudited) (Unaudited)
<S> <C> <C>
Cash flows from operating activities:
Net loss $ (98,705) $ (48,161)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 6,383 4,420
Bad debt expense 2,350
Gain on short-term securities (9,118)
Changes in assets and liabilities:
Increase in accounts receivable-trade (113,420) (544,516)
(Increase) decrease in accounts receivable-other (9,214) 28,905
Increase in inventories (40,793) (355,049)
Increase in other assets (27,222) (22,885)
Decrease in deposits and other assets 1,852 1,852
Increase in accounts payable-trade 403,921 600,045
(Decrease) increase in accrued expenses (45,392) 43,444
--------- ---------
Net cash provided by (used in) operating activities 79,760 (201,063)
--------- ---------
Cash flows from investing activities:
Sales of short-term securities 90,518 182,265
Purchases of short-term securities (77,718)
Purchases of equipment (27,373)
--------- ---------
Net cash provided by investing activities 90,518 77,174
--------- ---------
Cash flows from financing activities:
Principal payments on capital leases (505)
--------- ---------
Net cash used in financing activities (505)
--------- ---------
Net increase (decrease) in cash and cash equivalents 170,278 (124,394)
Cash and cash equivalents, beginning of period 381,977 311,226
--------- ---------
Cash and cash equivalents, end of period $ 552,255 $ 186,832
========= =========
</TABLE>
See accompanying notes to financial statements
5
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SEVENTH GENERATION, INC.
Notes to Consolidated Financial Statements
March 31, 1999 and 1998
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-QSB and Item 310(b)
of Regulation S-B. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
consolidated financial statements.
In the opinion of management, all adjustments (consisting solely of
normal recurring adjustments) considered necessary for a fair statement of the
interim financial data have been included. Results from operations for the
three month period ended March 31, 1999 are not necessarily indicative of the
results that may be expected for the fiscal year ending December 31, 1999.
For further information, please refer to the financial statements and
footnotes filed as Item 7 in the Form 10-KSB for Seventh Generation, Inc. for
the fiscal year ended December 31, 1998, under Commission File # 1-12614.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Business. Seventh Generation, Inc. (the "Company") began operations
in 1988 for the purpose of marketing a variety of environmentally friendly
consumer products primarily through its mail-order catalog. In 1992, the
Company began selling its Seventh Generation(R) brand products to retailers on a
wholesale basis. Since the sale of its catalog in May 1995, the Company has
focused exclusively on the wholesale business.
Principles of Consolidation. Effective January 1, 1994, the Company
formed a wholly owned subsidiary, Seventh Generation Wholesale, Inc., to carry
on the operations of its wholesale business. The accompanying Consolidated
Financial Statements include all of the accounts of Seventh Generation, Inc. and
its wholly owned subsidiary, Seventh Generation Wholesale, Inc. All significant
intercompany balances and transactions have been eliminated in consolidation.
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 reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
Revenue Recognition, Sales Discounts and Sales Returns. Sales are
recorded upon shipment of products to customers. The Company maintains an
allowance for estimated future sales returns and doubtful accounts. Revenue is
recorded net of sales discounts.
Cash and Cash Equivalents. Cash and cash equivalents include highly
liquid investments with original maturities of three months or less.
Short-Term Investments. Short-term investments consist of marketable
corporate debt securities, which are recorded at market value.
6
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Inventories. Inventories include purchased goods that are stated at the
lower of cost or market using the first-in, first-out (FIFO) method.
Furniture and Equipment. Furniture and equipment are recorded at cost net
of depreciation using the straight-line method over the estimated useful lives
of the assets. When assets are sold, retired or otherwise disposed of, the
applicable costs and accumulated depreciation are removed from the accounts and
the resulting gain or loss is recognized.
Stock Based Compensation. The Company has elected to continue
accounting for the issuance of stock based compensation under APB Opinion No.
25, "Accounting for Stock Issued to Employees."
Advertising. Advertising expenses are expensed as they are incurred
and are classified as "selling and marketing expenses" in the consolidated
statements of operations. The amounts spent on advertising and trade promotion
expenses for the three months ended March 31, 1999 and 1998 were approximately
$240,000 and $82,000, respectively. Included in advertising expenses for the
three months ended March 31, 1999 and 1998 was approximately $28,000 and
$25,000, respectively, for co-op advertising with distributors and retailers,
and approximately $212,000 and $57,000, respectively, for charge-backs related
to marketing promotions.
3. EARNINGS PER SHARE
Basic and diluted net loss per common share are computed by dividing net
loss by the weighted average number of common shares outstanding during the
respective periods. The impact of the stock options and warrants outstanding as
common stock equivalents was not dilutive for 1999 and 1998 and thus did not
affect basic or diluted net loss per common share.
4. TRANSACTIONS WITH GAIAM
Pursuant to a Supply Agreement with Gaiam, Inc., the purchaser of the
Company's former catalog ("Gaiam"), the Company sells its brand name products to
Gaiam, which Gaiam resells through its mail order catalog. Gross margins from
these sales are lower than on sales to other customers. Pursuant to the Supply
Agreement with Gaiam, the Company now sells its brand name products to Gaiam at
cost plus 5%. During the three months ended March 31, 1999, Gaiam purchased
approximately $169,500 of product at cost plus 5%, yielding sales of
approximately $177,700. Gross margin from these sales was approximately 4.8%.
During the three months ended March 31, 1998, Gaiam purchased approximately
$311,700 of product at cost plus 5% under the terms of the Supply Agreement,
yielding approximately $327,300 in sales. Gross margins from these sales was
approximately 4.8%.
The following table summarizes sales to Gaiam and other customers and the
corresponding gross profit percentages for the periods indicated. All sales are
approximate.
<TABLE>
<CAPTION>
Gaiam Others Total
<S> <C> <C> <C>
Three months ended March 31, 1999 $177,700 $2,197,200 $2,374,900
Gross profit percentage 4.8% 37.9% 35.4%
Three months ended March 31, 1998 $327,300 $1,960,400 $2,287,700
Gross profit percentage 4.8% 33.6% 29.4%
Percentage (decrease) increase
in sales 1999 (45.7%) 12.1% 3.8%
</TABLE>
7
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The Company also entered into a Licensing Agreement with Gaiam, pursuant to
which the Company has granted Gaiam the limited right to use the Seventh
Generation(R) trademark in connection with a consumer mail order catalog. In
June of 1998, Gaiam paid the Company a non-refundable license fee of $100,000
for continued use of the rights through May 23, 1999. The license fee requires
no further performance by the Company and was recognized as revenue in 1998.
Gaiam has changed the name on its mail order catalog to "Harmony" and may choose
at any time to completely discontinue use of the Seventh Generation(R) name.
Accordingly, the Company does not anticipate receiving any further licensing
revenue pursuant to this Agreement.
The Company also entered into a limited Non-Compete Agreement with Gaiam,
pursuant to which the Company agreed not to sell environmental products directly
to end users through a mail order catalog operated by the Company.
5. SUBORDINATED DEBENTURES
<TABLE>
<CAPTION>
March 31, 1999 December 31, 1998
-------------- -----------------
<S> <C> <C>
Variable rate subordinated debentures,
unsecured, due June 30, 2002 $ 847,500 $ 847,500
Variable rate subordinated debentures,
unsecured, due May 31, 2003 225,000 225,000
---------- ----------
Total subordinated debentures 1,072,500 1,072,500
Less unamortized discount (53,287) (55,920)
---------- ----------
Subordinated debentures, less unamortized discount $1,019,213 $1,016,580
========== ==========
</TABLE>
The variable rate debentures due May 31, 2003, bear interest at an initial
annual rate of 10.85% through May 31, 1999. Effective as of June 1, 1999 and
through the remainder of the term of the debentures, the Company has the option
to pay interest at the annual rate of (a) 22% or (b) the lesser of (i) 4% over
the May 31 five-year United States Treasury Note yield (which is currently
9.40%) or (ii) 12.5%, in which event the debentures become convertible into
shares of the Company's common stock at the option of the holder at any time
after May 31, 1999. If the Company elects to pay interest at 22% per annum, the
Company is required to pay a premium of 25% over the amount of the debenture on
May 31, 2003. If the Company elects the second interest option, the holders of
the debentures will have the option to convert the debentures into shares of the
Company's common stock (i) effective as of May 31, 1999 at a discount to the
fair market value of the common stock on such date based on certain stock price
benchmarks, subject to a $1.00 minimum conversion price or (ii) at any time
prior to maturity based on the fair market value of the common stock on May 31,
1999 at no discount, but subject to a $1.50 minimum conversion price.
Accordingly, a minimum of 225,000 shares of common stock are reserved for the
potential conversion of these debentures. A portion of the proceeds in the
amount of $62,500 from the offering was allocated to paid in capital as a
discount on the debentures. The discount amount represents the difference
between the potential conversion price and the fair market value of the
Company's common stock at the date of issuance of the debentures. This discount
will be amortized and recorded as interest expense over the term of the
debentures.
The variable rate debentures due June 30, 2002 bore interest at 4% over the
June 30 five-year United States Treasury Note yield, which is currently 9.40%,
and allow holders to convert all or part of their debentures into Common Stock
at a conversion price of $0.57407 per share. Accordingly, a minimum of
1,476,301 shares of Common Stock have been reserved for the potential conversion
of these debentures.
8
<PAGE>
6. COMMITMENTS AND CONTINGENCIES
Uncertainties:
The Company has historically incurred losses from operations, which
resulted in part from its catalog operations. In 1995, the Company sold the
catalog business and focused on expanding sales through the wholesale
distribution channels. The Company relies on a limited number of customers,
including Gaiam, the purchaser of the catalog segment. The Company's
contractual relationship with Gaiam is uncertain. Moreover, the Company is
currently obligated to sell its products to Gaiam at cost plus 5%, which has
reduced the Company's sales and its profit margins on sales to Gaiam. If the
number of distributors or direct customers were reduced, principal customers do
not meet their commitments, or sales and gross profit margins do not reach
sufficient levels to provide positive cash flow, the Company may not have
adequate liquidity to sustain long term operations and meet long term
obligations.
7. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying values of the Company's financial instruments at March 31,
1999 approximate their estimated fair values. The following methods and
assumptions were used to estimate the fair value of each class of financial
instruments:
Cash and Cash Equivalents. The carrying amount approximates fair
value due to the short-term maturity of these instruments.
Short-Term Investments. Short-term investments consist of marketable
corporate debt securities, which are recorded at market value.
Subordinated Debentures. The carrying amount approximates fair value
as the interest rates on the debentures approximate the Company's current
borrowing rate.
8. RELATED PARTY TRANSACTIONS
During 1997, the Company engaged KSV Communicators, the firm of two of its
directors, Yoram Samets and Sarah Finnie Cabot, to perform marketing services.
During the three months ended March 31, 1999 and 1998, the Company spent
approximately $64,300 and $89,000, respectively, for such services.
9. CONCENTRATIONS OF CREDIT RISK
Concentration of credit risk consists primarily of cash and cash
equivalents. From time to time the Company has on deposit with certain banks
and financial institutions cash and cash equivalents which exceed the amount
subject to federal insurance. The Company attempts to mitigate this risk by
depositing its cash and cash equivalents with high credit quality financial
institutions.
10. MAJOR SUPPLIERS AND CUSTOMERS
The Company purchased approximately 82% of its product from four suppliers
during the three months ended March 31, 1999.
The Company had sales of approximately 43% to one customer during the three
months ended March 31, 1999 and approximately 45% of accounts receivable were
due from two customers as of March 31, 1999.
During the three months ended March 31, 1999 and during 1998, Jeffrey A.
Hollender, the Chief Executive Officer of the Company, guaranteed up to $300,000
of the obligations of the Company to one of its principal suppliers.
9
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11. NEW ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board issued SFAS No.133, "Accounting
for Derivative Instruments and Hedging Activities," which is required to be
adopted by the Company for all fiscal quarters of all fiscal years beginning
after June 15, 1999. It requires that an entity recognize all derivatives as
either assets or liabilities in the statement of financial position and measure
those instruments at fair value. Management does not believe the of adoption of
this pronouncement will have a material impact on the financial position or
results of operation of the Company.
12. LITIGATION
An action entitled Venus Laboratories, Inc. v. Seventh Generation, Inc. was
commenced on September 10, 1998 in the United States District Court for the
Northern District of Illinois Eastern Division. The complaint alleges that the
Company unfairly competed with the plaintiff in violation of the Lanham Act by
distributing promotional materials which falsely claimed that the plaintiff's
product contained petroleum-based surfactants according to independent test
results. The complaint seeks injunctive relief, unspecified damages, trebled,
and attorneys' fees. The Company intends to defend this claim vigorously.
However, the Company does not believe that the final disposition of this matter
will have a material adverse effect on the Company's financial condition or
results of operation.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Overview
The following discussion and analysis provides information that the
Company's management believes is relevant to an assessment and understanding of
the Company's results of operations and financial condition. The discussion
should be read in conjunction with the financial statements and footnotes, which
appear elsewhere in this report, as well as the Company's 10-KSB filing for the
fiscal year ending December 31, 1998. With the exception of historical
information, the matters discussed in the following analysis are forward-looking
statements, as that term is defined in the Private Securities Litigation Reform
Act of 1995, Section 27A of the Securities Act of 1993 and Section 21E of the
Securities Exchange Act of 1934. The words "believe," "expect," "anticipate,"
"intend," "estimate," and other expressions which are predictions of or indicate
future events and trends and which do not relate to historical matters identify
forward-looking statements. The Company cautions investors that there can be no
assurance that actual results or business conditions will not differ materially
from those projected or suggested in such forward-looking statements as a result
of various risk factors, including, but not limited to, continuing relationships
with the Company's key customers, the stability of the Company's suppliers,
their manufacturing capacity and the availability of raw materials, economic
conditions, the regulatory and trade environment, competitive products and
pricing, the risk of entering into new market segments, product demand, ability
to enforce trademarks, the effects of the year 2000 on customers' and
suppliers' computer systems, and other unforeseen risks and uncertainties. The
Company undertakes no obligation to publicly update or revise any forward-
looking statement, whether as a result of new information, future events or
otherwise.
The Company's primary strategic objective is to establish Seventh
Generation(R) as the leading brand name for household products that are "safer
for you and the environment." The Company believes that it is today one of the
leading marketers of environmentally friendly household products in the United
States and Western Canada. The Company sells Seventh Generation(R) brand name
products through distributors to natural products stores throughout the United
States and in Central and Western Canada, is expanding sales of its brand name
products into upscale supermarkets primarily in the Northeast and West Coast.
The Company's products are also marketed through the Internet and through the
Harmony mail order catalog, formerly the Seventh Generation(R) mail order
catalog (the "Catalog"), which was sold to
10
<PAGE>
Gaiam on May 24, 1995, and is operated by Gaiam using the Seventh Generation(R)
trademarked name pursuant to a Licensing Agreement further described below.
Seventh Generation(R) brand name products include: paper towels, bathroom
and facial tissues, napkins and paper plates that are all made from 100%
recycled fiber and are manufactured without the use of chlorine bleach, cleaning
and laundry products that are non-toxic, renewable-resource based, phosphate-
free and biodegradable, plastic trash bags made from 80% recycled plastic, full
spectrum light bulbs, baby wipes, a food freshness system for refrigerators, and
feminine hygiene products. The Company markets and distributes, but does not
manufacture, its products.
The Company's sales strategy is to focus primarily on the Natural Products
Industry and, secondarily, on sales to select supermarkets, mail order catalogs
and the Internet. In addition, the Company sells a limited number of privately
labeled products to a limited number of select major customers. This approach
is designed to reduce the Company's risks by focusing sales efforts primarily on
those accounts that serve customers consistent with the Company's current
account base.
The Company's marketing strategy focuses on building awareness of the
Seventh Generation(R) brand, educating consumers on the health and environmental
benefits of the Company's' products and stimulating trial and repeat purchases.
The Company's marketing strategy also focuses on in-store promotional activity
in natural products stores and supermarkets, rather than more costly marketing
strategies such as television advertising and mass-delivered consumer
promotions.
The Company's other marketing activities have included public relations
programs that have led to news coverage on television, in magazines and
newspapers, in-store point of purchase displays and educational literature,
participation in environmental events and activities, trade promotions directed
to the natural products and supermarket industries, the distribution of product
samples to encourage new customers to try the Company's products, the
development of the Company's web site www.seventhgen.com to provide information
and education, selling of product through the web site www.greenmarketplace.com,
and the licensing of the Company's name for use on the Gaiam mail order catalog
which is distributed directly to consumers.
During the third quarter of 1998, the Company introduced a new performance-
based cooperative advertising and promotion strategy designed to increase the
number of the Company's products carried by retail outlets. Retailers were given
the opportunity to enter into an agreement whereby the Company would provide
certain financial reimbursement for their merchandising activities of the
Company's products. The key objective of the program is to expand distribution
and shelf presence for the Company's 38-item product line. The agreement states
that the retailer must stock a minimum of 25 core products. The retailer also
must agree to give the Company's products an equal or greater number of shelf
facings as compared to the Company's principal competitors. This additional
shelf space provides the Company with increased product exposure that could, if
successful, increase sales. Through this new program, the Company will also
receive detailed information of product sales by these retailers.
The Company plans to continue with its primary focus of expanding its sales
and marketing efforts in the Natural Products Industry as well as continuing to
expand sales to upscale supermarket chains in the Northeast and West Coast.
Although the Company has started to realize sales to supermarkets, there can be
no assurance that the Company will be successful with its marketing strategy.
11
<PAGE>
RESULTS OF OPERATIONS
Three Months Ended March 31, 1999 Compared to Three Months Ended March 31, 1998
- -------------------------------------------------------------------------------
Operations
Net sales increased $87,183, or 3.8%, during the three months ended March
31, 1999 to $2,374,885, compared to $2,287,702 during the three months ended
March 31, 1998. This performance was due primarily to the continued growth of
sales of the Company's products in the Natural Products Industry.
Gross profit was $839,827 in the three months ended March 31, 1999,
compared to $674,341 during the three months ended March 31, 1998, an increase
of $165,486 over the same period in 1998, or 24.5%. Gross profit increased to
35.4% as a percentage of sales in the 1999 period, compared to 29.4% in 1998,
due primarily to the decrease in lower profit margin sales to Gaiam.
Operating expenses were $915,168 in the three months ended March 31, 1999
compared to $706,736 during 1998, an increase of 8.4% as a percentage of sales
from 30.1% of sales in the 1998 period to 38.5% of sales for the 1999 period.
The additional expenditures were due primarily to variable selling and marketing
expenses which increase with additional sales volume, increased general and
administrative expenses, and increased freight costs due to higher sales volume
and consolidation of warehouse operations.
Sales and marketing expenses were $491,055 in the three months ended March
31, 1999, compared to $326,910 in the 1998 period. Sales and marketing expenses
increased 50.2%. Sales and Marketing expenses as a percentage of sales increased
from 14.3% in the three months ended March 31, 1998 to 20.7% in the three months
ended March 31, 1999. The increase in expenditures was primarily due to
increased trade promotions and additional sales management staff.
Operations and distribution expenses were $200,394 in the three months ended
March 31, 1999, compared to $157,945 in the 1998 period. The increase in
expenses incurred was primarily due to increased freight costs as a result of
the consolidation of warehouse operations, a change in the allocation of certain
personnel costs from general and administrative to operations, and the higher
sales volume. Operations and distribution expenses increased as a percentage of
sales from 6.9% in the 1998 period to 8.4% in the 1999 period.
General and administrative expenses were $223,719 in the three months ended
March 31, 1999, compared to $221,881 in the 1998 period. The increase in
expenses incurred was primarily due to increased personnel costs. General and
administrative expenses decreased from 9.7% of sales in the 1998 period to 9.4%
of sales in the 1999 period.
Net other expenses increased in 1999 as a result of $225,000 of new variable
rate debentures, which were issued in the third quarter of 1998. See Footnote 5
of the financial statements for a more complete description of the Company's
outstanding debentures.
The net loss in the 1999 period was $98,705, compared to $48,161 in 1998, an
increase of $50,544. This increase was primarily due to the increased sales and
marketing expenditures for the Company's new marketing program, addition of
sales management and increased warehousing and freight costs.
12
<PAGE>
Transactions with Gaiam
Pursuant to a Supply Agreement with Gaiam, the purchaser of the Company's
former catalog, the Company sells its brand name products to Gaiam, which Gaiam
resells through its mail order catalog. Gross margins from these sales are
lower than on sales to other customers. Pursuant to the Supply Agreement, the
Company now sells its brand name products to Gaiam at cost plus 5%. During the
three months ended March 31, 1999, Gaiam purchased approximately $169,500 of
product at cost plus 5%, yielding sales of approximately $177,700. Gross margin
from these sales was approximately 4.8%. During the three months ended March 31,
1998, Gaiam purchased approximately $311,700 of product at cost plus 5% under
the terms of the Supply Agreement, yielding approximately $327,300 in sales.
LIQUIDITY AND CAPITAL RESOURCES
During the three months ended March 31, 1999, approximately $80,000 of cash
was provided from operating activities. The Company used approximately $123,000
to finance the growth of accounts receivable, approximately $41,000 to increase
its inventory, and approximately $27,000 to increase prepaid expenses.
Additionally, the Company has increased its accounts payable by approximately
$404,000, while decreasing its accrued liabilities by approximately $45,000. As
of March 31, 1999, the Company's primary sources of liquidity were approximately
$552,000 in cash, approximately $71,000 in marketable securities, and
approximately $1,090,000 in accounts receivable.
The Company has one customer whose purchases of the Company's products
accounted for 43% of the Company's total sales in the first three months of
1999. No other customer exceeded 10% of the Company's sales. The loss of this
customer, or a decision to significantly reduce its purchases or any disruption
to its relationship with the Company could adversely affect the Company's
liquidity.
As the Company continues its expansion into natural products stores and
targeted supermarkets in the Northeast, West Coast, and other targeted markets,
it plans to carefully monitor its expenses, and will focus on reducing them
where possible. During the first three months of 1999, the Company's net loss
was $98,705, compared to $48,161 in 1998, an increase of $50,544. The Company
increased trade promotions in the first quarter which significantly increased
its marketing expenses.
During the third quarter of 1998, the Company issued $225,000 of new
variable rate debentures. The 1998 variable rate debentures are due May 31,
2003, and bear interest at an initial annual rate of 10.85% through May 31,
1999. Effective as of June 1, 1999 and through the remainder of the term of the
debentures, the Company has the option to pay interest at the annual rate of (a)
22% or (b) the lesser of (i) 4% over the May 31 five-year United States Treasury
Note yield (which is currently 9.40%) and (ii) 12.5%, in which event the
debentures become convertible into shares of the Company's common stock at the
option of the holder at any time after May 31, 1999. If the Company elects to
pay interest at 22% per annum, the Company is required to pay a premium of 25%
over the amount of the debenture on May 31, 2003. If the Company elects the
second interest option, the holders of the debentures will have the option to
convert the debentures into shares of the Company's common stock (i) effective
as of May 31, 1999 at a discount to the fair market value of the common stock on
such date based on certain stock price benchmarks, subject to a $1.00 minimum
conversion price or (ii) at any time prior to maturity based on the fair market
value of the common stock on May 31, 1999 at no discount, but subject to a $1.50
minimum conversion price. A portion of the proceeds in the amount of $62,500
from the offering was allocated to paid in capital as a discount on the
debentures. The discount amount represents the difference between the fair
market value and the potential conversion price of the Company's common stock at
the date of issuance of the debentures. This discount will be amortized and
recorded as interest expense over the term of the debentures.
13
<PAGE>
In November 1997, the Company issued $847,500 of variable rate debentures
due June 30, 2002, which bear interest at an initial annual rate of 10.85%. The
Company had the option to pay interest semi-annually at the lesser of 4% over
the June 30 five-year United States Treasury Note and, allow holders to convert
all or part of their debentures into Common Stock at a conversion price of 25%
less than the average of the last reported sales price per share on the NASDAQ
OTC Bulletin Board for the twenty consecutive business days prior to January 1,
1999, or to continue paying interest on the outstanding principal balance at the
annual rate of 22% for the remainder of the term. The Company elected to pay
interest at 4% over the June 30 five-year United States Treasury Note yield,
which is currently 9.40%, and allow holders to convert their debentures to
Common Stock at a conversion price of $0.57407per share. Accordingly, a minimum
of 1,476,301 shares of Common Stock have been reserved for the potential
conversion of these debentures.
The Company has entered into an agreement with a bank whereby the Company
may elect to sell up to $500,000 of eligible accounts receivable to the bank at
the Company's option. Under the agreement, the bank purchases the receivables
at face value, withholding 20% as a reserve against uncollectable amounts. The
reserve is adjusted semi-monthly to reflect payments received by the bank. In
connection with this agreement, the Company must pay the bank a service fee of
$1.00 per invoice plus a processing fee based upon the timeliness of payments
received by the bank. The processing fees range from .47% to 2.04% of the face
value of the invoice. The Company is obligated to repurchase any invoices that
exceed 60 days in age. To date, the Company has not elected to sell any of its
accounts receivable to the bank.
YEAR 2000
The Year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. Any of the Company's
computer programs that have date-sensitive software or embedded micro-
controllers may recognize a date using "00" as the year 1900 rather than the
year 2000. This could result in a system failure or miscalculations causing
disruptions of operations, including, among other things, a temporary inability
to process transactions, send invoices, or engage in other normal business
activities.
During fiscal 1998, the Company completed an initial review of its
information and non-information technology systems, including its existing and
planned computer software and hardware. After the initial review, the Company
has identified three areas of potential Year 2000 risk: financial and ancillary
software, computers and embedded-chip hardware and non-compliance of vendors and
customers.
As a result, a more in-depth analysis is currently ongoing. Internally,
this second analysis will include the testing of internally developed systems.
The internal portion of the second analysis just recently commenced and is not
expected to be completed until the end of the second quarter of 1999. The
Company has, however, implemented financial and operational software packages
that currently utilize six digits to identify the transaction year and period.
Additionally, the Company has been actively upgrading its computers and
embedded-chip hardware to ensure Year 2000 compliance. Currently, the Company
estimates that 95% of its computers and embedded-chip hardware are Year 2000
compliant. The Company intends to reach 100% compliance by the end of the
second quarter of 1999. The Company has completed modifications to existing
software and conversions to new software and systems, the Year 2000 issue will
not pose significant operational problems for its computer and other information
systems.
If required, the Company will utilize additional internal and external
resources to reprogram, replace (if necessary), and test its software and
systems for Year 2000 modifications. Externally, the Company's preparations for
the Year 2000 issue will consist of soliciting and obtaining certification of
Year 2000 compliance from third-party software vendors and determining the
readiness of its significant suppliers and customers. This process is expected
to be completed by the end of the second quarter of 1999.
14
<PAGE>
If such modifications, conversions and/or replacements are not made, are
not completed timely, or if any of the Company's suppliers or customers do not
successfully deal with the Year 2000 issue, the Year 2000 issue could have
material impact on the operations of the Company. The Company could experience
delays in receiving or distributing products that would increase its costs and
that could cause the Company to lose business and even customers and could
subject the Company to claims for damages. Problems with the Year 2000 issue
could also result in delays in the Company invoicing its customers or in the
Company receiving payments from them. The severity of these possible problems
would depend on the nature of the problem and how quickly it could be corrected
or an alternative implemented, which is unknown at this time. In the extreme,
such problems could bring the Company to a standstill.
While management has not yet specifically determined the costs associated
with its Year 2000 readiness efforts, monitoring and managing the Year 2000
issue will result in additional direct and indirect costs to the Company.
Direct costs include potential charges by third-party software vendors for
product enhancements, costs involved in testing software products for Year 2000
compliance and any resulting costs for developing and implementing contingency
plans for critical software products which are not enhanced. The Company
estimates the total cost for upgrading its computer system and embedded-chip
hardware will be approximately $15,000. Indirect costs will principally consist
of the time devoted by existing employees in monitoring software vendor
progress, testing enhanced software products and implementing any necessary
contingency plans. Such costs have not been material to date. Both direct and
indirect costs of addressing the Year 2000 issue will be charged to earnings as
incurred.
After evaluating its internal compliance efforts as well as the compliance
of third parties as described above, the Company will develop during calendar
year 1999 appropriate contingency plans to address situations in which various
systems of the Company, or of third parties with which the Company does
business, are not Year 2000 complaint. Some risks of the Year 2000 Issue,
however, are beyond the control of the Company and its suppliers and customers.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
- -------------------------
An action entitled Venus Laboratories, Inc. v. Seventh Generation, Inc. was
commenced on September 10, 1998 in the United States District Court for the
Northern District of Illinois Eastern Division. The complaint alleges that the
Company unfairly competed with the plaintiff in violation of the Lanham Act by
distributing promotional materials which falsely claimed that the plaintiff's
product contained petroleum-based surfactants according to independent test
results. The complaint seeks injunctive relief, unspecified damages, trebled,
and attorneys' fees. The Company intends to defend this claim vigorously.
However, the Company does not believe that the final disposition of this matter
will have a material adverse effect on the Company's financial condition or
results of operation.
ITEM 2. CHANGES IN SECURITIES
- -----------------------------
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
- ---------------------------------------
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF THE SECURITY HOLDERS
- ---------------------------------------------------------------
Not applicable.
15
<PAGE>
ITEM 5. OTHER INFORMATION
- -------------------------
Not applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
- -----------------------------------------
(a) The following documents are filed as a part of this Report:
EXHIBITS:
Exhibit # Description
- --------- -----------
(11) Statement re: Computation of Loss Per Share
(27) Financial Data Schedule
(b) Reports on Form 8-K: No reports on Form 8-K were filed during the
quarter ended March 31, 1999.
SIGNATURES
In accordance with the requirements of Section 13 or 15(d) of the Exchange
Act, the Registrant caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.
SEVENTH GENERATION, INC.
-------------------------
Date: May 14, 1999 By: /s/ Jeffrey A. Hollender
------------ -------------------------
Jeffrey A. Hollender
President and Chief Executive Officer
(Principal Executive & Financial Officer)
16
<PAGE>
INDEX TO EXHIBITS
Sequentially
Exhibit Number Numbered Page
- -------------- -------------
11 23
27 25
17
<PAGE>
EXHIBIT 11
SEVENTH GENERATION, INC.
Calculation of Shares Used in Determining
Basic and Diluted Earnings Per Common Share
<TABLE>
<CAPTION>
Three Months Ended March 31,
----------------------------
1999 1998
---------- ----------
<S> <C> <C>
Loss applicable to common stockholders $ (98,705) $ (48,161)
Weighted average shares outstanding 2,428,791 2,428,791
Basic and diluted earnings per share $ (0.04) $ (0.02)
</TABLE>
The calculation above for diluted earnings per common share excludes
the potentially dilutive effect of both common stock equivalents (stock options
and warrants) and the impact of conversion of any debentures into the Company's
common stock since the impact would be anti-dilutive for both 1999 and 1998.
18
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<CASH> 552,255
<SECURITIES> 70,765
<RECEIVABLES> 1,116,313
<ALLOWANCES> (25,415)
<INVENTORY> 457,326
<CURRENT-ASSETS> 2,263,296
<PP&E> 133,856
<DEPRECIATION> (71,033)
<TOTAL-ASSETS> 2,341,913
<CURRENT-LIABILITIES> 1,147,921
<BONDS> 1,019,213
0
0
<COMMON> 809
<OTHER-SE> 12,327,123
<TOTAL-LIABILITY-AND-EQUITY> 2,341,913
<SALES> 2,374,885
<TOTAL-REVENUES> 2,374,885
<CGS> 1,535,058
<TOTAL-COSTS> 1,535,058
<OTHER-EXPENSES> 915,168
<LOSS-PROVISION> (98,705)
<INTEREST-EXPENSE> 28,471
<INCOME-PRETAX> (98,705)
<INCOME-TAX> 0
<INCOME-CONTINUING> (98,705)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (98,705)
<EPS-PRIMARY> (.04)
<EPS-DILUTED> (.04)
</TABLE>
