================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For quarterly period ended December 31, 1998
-----------------
Commission File Number 0-22619
-------
VALUESTAR CORPORATION
(Exact name of registrant as specified in its charter)
Colorado 84-1202005
-------- ----------
(State or other jurisdiction of (I.R.S. Empl. Ident. No.)
incorporation or organization)
1120A Ballena Blvd., Alameda, California 94501
---------------------------------------- -----
(Address of principal executive offices) (Zip Code)
(510) 814-7070
--------------
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. YES X NO
--- ---
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:
Common Stock, $.00025 par value 9,182,496
- ------------------------------- ---------
(Class) (Outstanding at February 5, 1999)
Transitional Small Business Disclosure Format (check one): YES NO X
--- ---
================================================================================
<PAGE>
<TABLE>
VALUESTAR CORPORATION
INDEX
<CAPTION>
<S> <C> <C>
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited):
Consolidated Balance Sheets as of December 31, 1998 and
June 30, 1998 3
Consolidated Statements of Operations for the three and six
months ended December 31, 1998 and 1997 4
Consolidated Statements of Cash Flows for the six
months ended December 31, 1998 and 1997 5
Notes to Interim Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 10
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 15
Item 2. Changes in Securities 15
Item 3. Defaults upon Senior Securities 16
Item 4. Submission of Matters to a Vote of Security Holders 16
Item 5. Other Information 16
Item 6. Exhibits and Reports on Form 8-K 16
SIGNATURES 16
</TABLE>
2
<PAGE>
<TABLE>
VALUESTAR CORPORATION
CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
<CAPTION>
DECEMBER 31, JUNE 30,
1998 1998
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash $ 94,675 $ 398,604
Receivables 336,121 361,369
Inventory 14,900 24,396
Prepaid expenses -- 3,902
------------------------------
Total current assets 445,696 788,271
PROPERTY AND EQUIPMENT - net 146,371 56,697
DEFERRED COSTS 56,951 130,930
------------------------------
Total assets $ 649,018 $ 975,898
==============================
LIABILITIES AND STOCKHOLDERS' DEFICIT
CURRENT LIABILITIES
Bank line of credit $ 350,000 $ 250,000
Accounts payable 433,832 197,410
Accrued liabilities and other payables 176,604 145,445
Current portion of term note 6,244 --
Deferred revenues 29,906 27,020
Shareholder loans 300,000 --
------------------------------
Total current liabilities 1,296,586 619,875
------------------------------
LONG-TERM DEBT 1,626,518 1,525,357
------------------------------
STOCKHOLDERS' DEFICIT
Common stock, $.00025 par value; 20,000,000 shares
authorized, 8,982,496 and 8,682,496 shares
issued and outstanding, respectively 2,246 2,171
Additional paid-in capital 4,617,085 4,247,160
Accumulated deficit (6,893,417) (5,418,665)
------------------------------
Total stockholders' deficit (2,274,086) (1,169,334)
------------------------------
Total liabilities and stockholders' deficit $ 649,018 $ 975,898
==============================
<FN>
See accompanying notes to interim consolidated financial statements.
</FN>
</TABLE>
3
<PAGE>
<TABLE>
VALUESTAR CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<CAPTION>
Three Months Ended Six Months Ended
December 31, December 31,
1998 1997 1998 1997
----------------- -------------- --------------- --------------
<S> <C> <C> <C> <C>
REVENUES $ 470,608 $ 267,477 $ 1,076,268 $ 791,693
----------------- -------------- --------------- --------------
OPERATING EXPENSES
Cost of revenues 257,257 100,743 450,604 254,258
Selling 327,723 193,949 709,943 370,521
Marketing and promotion 134,583 33,438 428,912 295,116
General and administrative 427,391 163,116 820,094 318,770
----------------- -------------- --------------- --------------
1,146,954 491,246 2,409,553 1,238,665
----------------- -------------- --------------- --------------
LOSS FROM OPERATIONS (676,346) (223,769) (1,333,285) (446,972)
----------------- -------------- --------------- --------------
OTHER INCOME (EXPENSE)
Interest expense (76,509) (9,968) (136,068) (15,197)
Miscellaneous (1,330) -- (5,399) --
----------------- -------------- --------------- --------------
(77,839) (9,968) (141,467) (15,197)
----------------- -------------- --------------- --------------
NET LOSS $ (754,185) $(233,737) $ (1,474,752) $ (462,169)
================= ============== =============== ==============
LOSS PER COMMON SHARE $ (0.09) $ (0.03) $ (0.17) $ (0.06)
================= ============== =============== ==============
WEIGHTED AVERAGE OF COMMON SHARES
OUTSTANDING 8,689,018 8,404,888 8,685,756 8,365,567
================= ============== =============== ==============
<FN>
See accompanying notes to interim consolidated financial statements.
</FN>
</TABLE>
4
<PAGE>
<TABLE>
VALUESTAR CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<CAPTION>
Six Months Ended
December 31,
1998 1997
------------------ ------------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (1,474,752) $ (462,169)
Adjustments to reconcile net loss to net
cash used by operating activities:
Depreciation 21,278 5,198
Amortization of bond discount 36,316 --
Warrants issued for services 60,000 20,000
Changes in:
Receivables 25,248 4,731
Inventory 9,496 20,663
Prepaid expenses 3,902 7,035
Deferred costs 73,979 (19,689)
Accounts payable 236,422 (123,486)
Accrued liabilities and other payables 31,159 (49,073)
Deferred revenues 2,886 480
------------------ ------------------
Net cash used by operating activities (974,066) (596,310)
------------------ ------------------
CASH FLOWS FROM INVESTING ACTIVITIES
Property and equipment acquisitions (110,952) (2,988)
------------------ ------------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from sale of stock 300,000 227,500
Net borrowings under line of credit 100,000 250,000
Proceeds from debt 385,000 250,000
Payments on debt (3,911) --
--------------------------------------
Net cash provided by financing activities 781,089 727,500
------------------ ------------------
NET INCREASE (DECREASE) IN CASH (303,929) 128,202
CASH, beginning of period 398,604 44,225
------------------ ------------------
CASH, end of period $ 94,675 $ 172,427
================== ==================
SUPPLEMENTAL CASH-FLOW INFORMATION:
Cash paid during the period for:
Interest $ 84,002 $ 15,197
Income taxes $ -- $ --
Non-cash investing and financing activities:
Notes converted to stock $ 30,000
Warrants issued for bank guarantee $ 20,000
<FN>
See accompanying notes to interim consolidated financial statements.
</FN>
</TABLE>
5
<PAGE>
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1998
1. OPERATIONS
The Company, a Colorado corporation, conducts its operations through ValueStar,
Inc., a wholly-owned subsidiary. ValueStar, Inc. was incorporated in California
in 1991, and is a rating company that has pioneered a new business certification
mark (ValueStar Certified(R)) - - signifying high customer satisfaction - -
enabling consumers to quickly determine the best local service businesses. The
Company generates revenues by conducting customer satisfaction research on local
service companies in 300 industries; certifying highly rated businesses; and
selling ancillary materials and services. The Company's activities are currently
concentrated within one industry segment in California. The Company communicates
information about highly rated service and professional firms that have earned
"ValueStar Certified" to consumers through various media including its Internet
Web site (www.valuestar.com) and the Consumer ValueStar Report ("CVR"), a
bi-annual publication.
The Company's revenues are primarily from certification and rating fees, and are
recognized when all related services are provided to the customer. Rating
services include a research survey of prior customers and the delivery of a
research report. Services associated with certification include an orientation
on becoming a ValueStar Certified business and the delivery of certification
materials and manuals. Businesses must reapply for certification each year.
Sales of marketing materials and Web advertising and other services are
recognized as materials are shipped or over the period services are rendered.
Costs incurred in printing and distributing the Company's CVR consumer
publication published in January and July, and any related revenues are
recognized upon publication.
2. STATEMENT PRESENTATION
The accompanying unaudited interim financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. They do not include all information and footnotes required by
generally accepted accounting principles. The interim financial statements and
notes thereto should be read in conjunction with the Company's audited financial
statements and notes thereto for the year ended June 30, 1998.
In the opinion of management, the interim financial statements reflect all
adjustments of a normal recurring nature necessary for a fair statement of the
results for interim periods. Operating results for the three and six month
periods are not necessarily indicative of the results that may be expected for
the year.
Certain reclassifications have been made in the prior year to conform to the
current period presentation.
3. INVENTORY
Inventory is recorded at the lower of cost (using the first-in first-out method
of accounting) or market. Inventory consists of brochures and related materials
for resale.
4. DEFERRED COSTS
All direct costs related to marketing and advertising the ValueStar
certification to businesses and consumers are expensed in the period incurred,
except for direct-response advertising costs, which are capitalized and
amortized over the expected period of future benefits. Deferred costs are
periodically evaluated to determine if adjustments for impairment are necessary.
Based on an ongoing evaluation of the expected period of future benefits from
the direct-response advertising, the period of amortization has been reduced
from twelve months to sixty days. Revenues associated with the direct-response
advertising costs, which are primarily certification fees from businesses new to
ValueStar, are being recognized approximately sixty days after the
direct-response telemarketing costs are incurred. This change in estimate of the
amortization period resulted in a one-time, non-cash increase in selling
expenses of $81,788 in the first fiscal quarter ended September 30, 1998.
6
<PAGE>
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1998
5. LINE OF CREDIT
The Company has a $350,000 revolving bank line of credit, with interest at prime
plus 2%. The bank's commitment under this agreement matures in December 1999.
The three directors of the Company guarantee the line of credit.
6. SHAREHOLDER LOAN
The Company is obligated pursuant to a 15% unsecured subordinated note to a
company related to a shareholder/director in the amount of $300,000 due June 30,
1999.
<TABLE>
<CAPTION>
7. LONG-TERM DEBT
<S> <C>
Long-term debt at December 31, 1998, consists of the following:
12% Notes Payable - $100,000 of Notes payable with interest at 12%
payable monthly; with all principal due on March 31, 2001, or sooner at
the Company's discretion; unsecured; net of unamortized bond discount
of $8,182 $ 91,818
12% Subordinated Notes Payable - $1,000,000 principal of subordinated
notes payable with interest at 12% payable monthly; with all principal
due on June 30, 2000, or sooner at the Company's discretion; unsecured.
Net of unamortized bond discount of $40,345 959,655
6% Convertible Notes Payable - $525,000 principal of subordinated
convertible notes payable with interest at 6% payable in kind on
conversion or at maturity on June 30, 2001; no prepayment is allowed;
unsecured; convertible at $1.00 per common share. Net of unamortized
bond discount of $46,375. Includes accrued interest of $21,575 due at
maturity 500,200
15% Term Equipment Note - $85,000 of principal, payable in monthly
installments of principal and interest of $2,022 to maturity in August
2003; secured by equipment and software 81,089
-----------
$1,632,762
Less current potion 6,244
-----------
$1,626,518
===========
</TABLE>
At December 31, 1998, the 6% Convertible Notes and accrued interest thereon
would have been convertible into 546,575 common shares.
<TABLE>
8. STOCKHOLDERS' DEFICIT
The following table summarizes equity transactions during the six months ended
December 31, 1998:
<CAPTION>
Shares Par Value Paid in Capital Total $
------ --------- --------------- -------
<S> <C> <C> <C> <C>
Balance June 30, 1998 8,682,496 $2,171 $4,247,160 $4,249,331
Private placement at $1.00 per unit, consisting of
one share and one warrant 300,000 75 299,925 300,000
Value assigned to 50,000 warrants granted for
note refinancing -- -- 10,000 10,000
Value assigned to 200,000 warrants issued for services -- -- 60,000 60,000
--------- ------ ---------- ----------
Balance December 31, 1998 8,982,496 $2,246 $4,617,085 $4,619,331
========= ====== ========== ==========
</TABLE>
In January 1999 the Company sold an additional 200,000 units at $1.00 per unit,
each unit consisting of one share and one warrant exercisable into an additional
share at $1.00 per share until December 31, 2003.
7
<PAGE>
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1998
8. STOCKHOLDERS' DEFICIT (Continued)
<TABLE>
The Company has reserved 250,000 shares of common stock for each of its 1992 ISO
Plan and 1992 NSO Plan, 300,000 shares of common stock for the 1996 Stock Option
Plan and 500,000 shares of common stock for the 1997 Stock Option Plan. The
Company has also issued options on 200,000 shares outside of the option plans.
The following table summarizes option activity for the period ended December 31,
1998:
<CAPTION>
Weighted Average Weighted
Shares Exercise Price Average Life
--------- -------------- ------------
<S> <C> <C> <C>
Outstanding July 1, 1998 877,550 $0.59 2.45
Granted 341,600 $1.15
Canceled (107,050) $0.71
Exercised --
Expired --
Outstanding December 31, 1998 1,112,100 $0.75 2.85
========= ===== ====
Exercisable at December 31, 1998 753,800 $0.56
========= =====
</TABLE>
At December 31, 1998 the Company had the following stock purchase warrants
outstanding each exercisable into one common share:
Number Exercise Price Expiration Date
------ -------------- ---------------
150,000 $0.75 April, 2002
200,000 $1.25 June, 2002
300,000 $1.25 September, 2002
200,000 $1.25 December, 2002
500,000 $1.25 December, 2000
262,500 $1.25 April, 2003
262,500 $2.00 April, 2003
50,000 $1.75 May, 2003
50,000 $1.25 March, 2001
200,000 $0.75 October, 2003
300,000 $1.00 December, 2003
---------
2,475,000
=========
Subsequent to December 31, 1998 the Company issued warrants on 200,000 common
shares at $1.00 per share in connection with the sale of the units described
above.
The Company has authorized 5 million shares of capital stock as preferred stock,
with a par value of $0.00025 per share. No preferred stock is issued or
outstanding.
9. INCOME TAXES
At December 31, 1998 a valuation allowance has been provided to offset the net
deferred tax assets as management has determined that it is more likely than not
that the deferred tax asset will not be realized. The Company has for federal
income tax purposes net operating loss carryforwards of approximately $4,800,000
which expire through 2013 of which certain amounts are subject to limitations
under the Internal Revenue Code, as amended.
8
<PAGE>
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
December 31, 1998
10. NET LOSS PER SHARE
The Company has implemented Statement of Financial Accounting Standards ("SFAS")
No. 128, "Earnings Per Share." Previously the Company followed the provisions of
Accounting Principles Board Opinion ("APB") 15, "Earnings Per Share." SFAS No.
128 provides for the calculation of "Basic" and "Diluted" earnings per share
("EPS"). Basic EPS includes no 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 of
securities that could share in the earnings of an entity, similar to fully
diluted earnings per share. The Company's net losses for the periods presented
cause the inclusion of potential common stock instruments outstanding to be
antidilutive and, therefore, in accordance with SFAS No. 128, the Company is not
required to present a diluted EPS. Stock options, warrants and convertible notes
exercisable into 4,133,675 of common stock were outstanding at December 31,
1998. These securities were not included in the computation of diluted EPS
because of the net losses but could potentially dilute EPS in future periods.
11. RECENT ACCOUNTING PRONOUNCEMENTS
Effective July 1, 1998, the Company adopted the Financial Accounting Standards
Board SFAS No. 130, "Reporting Comprehensive Income". This statement established
standards for reporting and display of comprehensive income and its components
(revenue, expenses, gains and losses) in a full set of general-purpose financial
statements. Reclassification of financial statements for earlier periods
provided for comparative purposes is required. The adoption of this statement
had no material impact on the Company's financial condition or results of
operation as of December 31, 1998 and for the six month periods ended December
31, 1998 and 1997. Total comprehensive income did not differ from the Company's
net loss for the six months ended December 31, 1998 or 1997.
The Company has also adopted SFAS No. 131, "Disclosures about Segments of an
Enterprise and Related Information", which supersedes Statement of Financial
Accounting Standards No. 14, "Financial Reporting for Segments of a Business
Enterprise." SFAS 131 establishes standards for the way that public companies
report information about operating segments in annual financial statements and
requires reporting of selected information about operating segments in interim
financial statements issued to the public. It also establishes standards for
disclosures regarding products and services, geographic areas and major
customers. SFAS 131 defines operating segments as components of a company about
which separate financial information is available that is evaluated regularly by
the chief operating decision maker in deciding how to allocate resources and in
assessing performance. Quarterly disclosures are not required in this first year
of adoption. Management believes that SFAS 131 will not have a significant
impact on the Company's disclosure of segment information in the future.
The Financial Accounting Standards Board ("FASB") has issued SFAS No. 132,
"Employers' Disclosure about Pensions and Other Post-retirement Benefits" and
SFAS No. 133 "Accounting for Derivative Instruments and Hedging Activities."
SFAS No. 132 standardizes the disclosure requirements for pensions and other
post-retirement benefits and requires additional information on change in the
benefit obligations and fair values of plan assets that will facilitate
financial analysis. SFAS No. 133 requires companies to record derivatives on the
balance sheet as assets or liabilities, measured at fair market value. Gains or
losses resulting from changes in the values of those derivatives are accounted
for depending on the use of the derivative and whether it qualifies for hedge
accounting. The key criterion for hedge accounting is that the hedging
relationship must be highly effective in achieving offsetting changes in fair
value or cash flows.
SFAS No. 132 is effective for years beginning after December 15, 1997, and
requires comparative information for earlier years to be restated, unless such
information is not readily available. SFAS No. 133 is effective for all fiscal
quarters of fiscal years beginning after June 15, 1999. Management believes that
the adoption of SFAS No.
132 and SFAS No. 133 will have no material effect on its financial statements.
12. YEAR 2000 COMPLIANCE
The Company, like most owners of computer software, will be required to modify
significant potions of its software so that it will function properly in the
year 2000. Preliminary estimates of the total costs to be incurred by the
Company to resolve this problem range from $10,000 to $20,000. Since the Company
mainly uses third party "off-the-shelf" software, it does not anticipate a
problem in resolving the year 2000 problem in a timely manner. Maintenance or
modification costs will be expensed as incurred, while the costs of new software
will be capitalized and amortized over the software's useful life.
9
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
THE FOLLOWING DISCUSSION INCLUDES FORWARD-LOOKING STATEMENTS WITH RESPECT TO THE
COMPANY'S FUTURE FINANCIAL PERFORMANCE. ACTUAL RESULTS MAY DIFFER MATERIALLY
FROM THOSE CURRENTLY ANTICIPATED AND FROM HISTORICAL RESULTS DEPENDING UPON A
VARIETY OF FACTORS, INCLUDING THOSE DESCRIBED BELOW AND IN THE COMPANY'S ANNUAL
REPORT ON FORM 10-KSB FOR THE YEAR ENDED JUNE 30, 1998.
Overview
ValueStar Corporation is a consumer research and rating company that has
designed a new rating system and certification mark, ValueStar Certified(R), for
service businesses. ValueStar's rating system is designed to enable consumers to
quickly determine those local service businesses that have attained the highest
level of customer satisfaction. ValueStar's ratings are provided on the Internet
at ValueStar.com, in print in the Consumer ValueStar Report and through service
business promotions and customer interactions.
ValueStar is expanding regionally after establishing a centralized base of
operations in Northern California. In July 1998 ValueStar commenced operations
in Southern California and in early February commenced sales activities in the
greater Chicago market.
The Company's revenues are generated primarily from research and rating fees
paid by new and renewal businesses, certification fees from highly rated
businesses and from the sale of information products and services. An important
aspect of the Company's business model is the recurring nature of revenues from
businesses renewing their certification.
Certification fees, ranging from $995 to approximately $2,000 depending on
business size, are recognized when material services or conditions relating to
the certification have been performed. The material services are the delivery of
certification materials along with an orientation and the material condition is
the execution of the certification agreement specifying the conditions and
limitations on using the certification. Research and rating fee revenue, ranging
up to $570, is deferred until the research report is delivered. Sales of
marketing materials and Web advertising and other services are recognized as
materials are shipped or over the period services are rendered. The Company from
time to time provides discounts, incentives from basic pricing and payment terms
on fees. Cancellations by certified businesses are nominal, less than 2%.
The Company expenses research and rating costs as incurred. Costs incurred in
printing and distributing the Company's Consumer ValueStar Report ("CVR")
publication for consumers, currently published in January and July, and any
related revenues are recognized upon publication. Accordingly, the revenues and
costs in the Company's first and third fiscal quarters are impacted by the costs
and revenues from the CVR publication.
Effective July 1, 1994, with the adoption by the Company of Statement of
Position No. 93-7 (SOP 93-7), Reporting on Advertising Costs, certain
direct-response advertising costs are deferred and amortized over the expected
period of future benefits. These costs, which relate directly to targeted new
business solicitations, primarily include targeted direct-response advertising
programs consisting of direct telemarketing costs. No indirect costs are
included in deferred advertising costs. Costs incurred for other than specific
targeted customers, including general marketing and promotion expenses, are
expensed as incurred.
Prior to July 1, 1998 the Company was amortizing deferred costs on a
straight-line basis over twelve months. Based on an ongoing evaluation of the
expected period of future benefits from the direct-response advertising, the
period of amortization has been reduced from twelve months to sixty days.
Revenues associated with the direct-response advertising costs, which are
primarily certification fees from businesses new to ValueStar, are being
recognized approximately sixty days after the telemarketing costs are incurred.
This change in estimate of the amortization period resulted in a one-time,
non-cash increase in selling expenses of $81,788 in the first fiscal quarter
ended September 30, 1998.
Deferred costs are periodically evaluated to determine if adjustments for
impairment are necessary.
Since inception the Company has been growing and developing its business and has
incurred losses in each year since inception and at December 31, 1998 had an
accumulated deficit of $6,893,417. There can be no assurance of future
profitability.
10
<PAGE>
Effect of Growth in Certified Businesses and Renewals
The Company's business revenue model, similar to other membership based
organizations, is predicated on a growing number of certified businesses and
maintaining high renewal rates. Certified businesses that renew contribute
higher gross margins than new applicants due to reduced sales and rating costs.
Also a growing and larger base of certified businesses reduces the costs
(relative to revenues) associated with printing and distributing the Company's
Consumer ValueStar Report to consumers, maintaining the VALUESTAR.COM Internet
site and providing other services. The marginal fixed costs associated with
servicing more certified businesses is minimal compared to these base printing,
distribution and maintenance costs.
Since a considerable portion of the Company's operations are engaged towards the
solicitation of new service and professional business applicants in order to
expand the base of certified businesses, the Company incurs substantial costs
towards this activity. Currently the Company is only deferring direct telephone
sales costs and amortizing them at the time of certification, an average of
approximately 60 days. Other costs are expensed as occurred.
At December 31, 1998 the Company had approximately 1,320 certified businesses.
The Company believes as a market region matures, and the Company has a larger
base of certified businesses, fixed and indirect costs will decline as a
percentage of revenues. The Company also believes that the opening of new market
regions will provide additional revenues to cover certain base fixed selling,
marketing, administration and overhead costs. Management believes that the more
established Northern California market has achieved a base of certificate
holders sufficient to provide positive regional operating margins (prior to
allocation of corporate administration and overhead). Management also estimates
that it could substantially reduce operating costs to achieve break-even
operations on reduced levels of new sales and by maintaining the existing base
of renewing businesses. However, any such dramatic cutbacks would curtail growth
and the ability to expand regionally in the future.
Future operations are impacted by changes in cost structure and elections
regarding advertising, promotions and growth rates (due to the lower margins in
the first year). Management intends, subject to financial resources, to continue
to expand the business geographically requiring increased numbers of sales,
marketing and support personnel, the exact number which is not currently
estimable and is dependent on decisions regarding expansion. Rapid growth, due
to the nature of the Company's operations, is expected to contribute to
continued operating losses in the foreseeable future.
During the first two quarters of the current year, the Company expanded
personnel, computer systems and overhead to support expansion into Southern
California and to prepare for future regional expansion, subject to financing.
This increased operating losses. The number of personnel has grown to 59
full-time and 26 part-time persons at December 31, 1998. During the first
quarter the Company added four new executive positions to support growth and
regional expansion. The Company also incurred marketing, selling and
administrative costs in connection with the Southern California region startup
contributing to the larger operating losses.
At December 31, 1998 the Company had 405 (353 new and 52 renewal) business
customers in the application and rating phase compared to 410 (349 new and 61
renewal) at June 30, 1998. The total at December 31, 1998 represents
approximately 70 days sales. Management has installed new hardware, software and
systems to more automate the research and rating process. Based on management's
experience, the business customers in the rating phase are expected to represent
approximately $300,000 of revenues that should be recognized in the third
quarter of fiscal 1999 (generally analogous to backlog).
Results of Operations
Revenues. Revenues consist of certification and rating fees from new and renewal
business applicants, sale proceeds from information materials and premium
listings in the CVR and on the Web site, and other ancillary revenues. The
Company reported total revenues of $1,076,268 for the six months ended December
31, 1998, a 36% increase over revenues of $791,693 for the first six months of
the prior year. Revenues for the second quarter were $470,608, a 76% increase
over the second quarter of the prior fiscal year. The first quarter of fiscal
1998 revenues of $524,216 was the highest revenue quarter of the prior year due
to timing of new sales and renewals. This accounts for the difference in the
second quarter percentage increase compared to the increase for the six month
period.
11
<PAGE>
The growth in revenues is the result of the expansion to Southern California in
the current year, improved new sales velocity and the impact of a larger base of
renewals. During the first six months of fiscal 1999 certification fees
accounted for 74% of revenue (75% for the prior year's comparable six months).
Although renewing business revenue grew in dollar amount, they represented 56%
of certification fees in the current year's first six months compared to 63% in
the prior comparable period. This percentage reduction is due to increased new
business revenue resulting from the emphasis on new sales and territorial
expansion. Management expects renewing businesses to continue to grow in dollar
amount, however the percentage contribution attributable to renewals will vary
depending in part on the volume of new businesses being certified in any
particular period.
The Company reported approximately $94,000 of revenue from premium listings in
the CVR publication in July, an increase of $49,000 from the $45,000 reported in
July 1997. The increase results from improved marketing efforts focused on
expanding ancillary revenues.
Revenues can vary from quarter to quarter due to the impact of distributing the
semi-annual CVR publication to consumers, seasonality, effectiveness of sales
methods and promotions, levels of expenditures targeted at prospective
businesses, the numbers of certificate holders up for renewal, renewal rates,
pricing policies, timing of completion of research and ratings and other
factors, some of which are beyond the control of management.
Cost of Revenues. Cost of revenues consists primarily of rating costs incurred
for performing customer satisfaction research on business applicants, costs
related to verifying insurance and complaint status, Web site operating costs
and costs of information products and certification materials. During December
1997, the Company made a change from using an outside vendor to perform customer
satisfaction research on applicants to in-house employees and related facility
and operating costs. This change has reduced rating costs on a per unit basis
and as a percentage of revenues. Cost of revenues represented 42% of revenues
during the first six months ended December 31, 1998 (54% in the second quarter)
compared to 32% for the prior year's first six months (38% for the second
quarter). The increase in the current year results from the addition of rating
management personnel in preparation for market expansion and increased staffing
employed to catch up on rating backlog and to prepare for market expansion and
increased volumes. Management is focusing efforts on automating systems and
procedures to make ratings more efficient and economical at increased volumes
that are expected to reduce the percentage of revenues associated with certain
fixed rating costs. Cost of revenues may vary significantly from quarter to
quarter both in amount and as a percentage of sales.
Selling Costs. Selling costs consist primarily of personnel costs for outside
sales consultants interacting with customers and direct marketing costs
including lead generation and telemarketing costs. Sales costs for the first six
months of fiscal 1999 were $709,943, or 66% of revenues, compared to $370,521,
or 47% of revenues for the prior year's first six months. Second quarter selling
costs were 69% of revenues comparable to the 72% for the prior year's second
quarter. The current year's first quarter included an $81,788 one-time, non-cash
expense resulting from the change in estimate for deferred costs described
above. Also in the first quarter the Company initiated sales activities in a new
market region, Southern California, incurring an estimated $57,000 of
non-deferred sales costs consisting of $27,000 of outside sales personnel
related costs and $30,000 of lead generation costs. In the first quarter of
fiscal 1999 the Company reported only nominal revenues from the Southern
California region due to the approximately 60 day lag from selling activities to
initial revenues. Other than direct targeted telemarketing costs, the Company
expenses sales costs as incurred. The Company added management personnel in the
current period for both the Southern California expansion and to prepare for
additional expansion. The Company expects sales costs as a percentage of
revenues will vary in future periods resulting from levels of future revenues,
variances in renewal rates, the effect of new sales promotions and costs
thereof, timing of research and rating completions, timing and costs of opening
new market regions, level and percentage of fixed selling costs and other
factors, some beyond the control of management.
Marketing and Promotion Expenses. Marketing and promotion expenses aggregated
$428,912 or 40% of revenues during the first six months of fiscal 1999
comparable to $295,116 or 37% of revenues incurred for the first six months of
fiscal 1998. Marketing and promotion expenses represented 29% of revenues in the
second quarter compared to 13% in the prior years second quarter when the
Company employed only nominal media. Included in marketing and selling expenses
in first quarter of each period were printing and distribution costs of the
Company's CVR publication targeted at consumers. Printing and distribution costs
of $107,000 in fiscal 1999's first quarter were comparable to fiscal 1998's
first quarter total of $102,000, however the company was able to print and
distribute more copies with additional pages due to better pricing. During the
first six months of fiscal 1999 the Company expended $150,000 on paid
advertising targeted at expanding consumer awareness of ValueStar Certified.
Paid advertising of $65,000 was employed in the prior year's first
12
<PAGE>
six months. In the first six months of fiscal 1999 the Company expended $100,000
on promotions for consumers compared to $32,000 for the prior comparable period
with the increase due to an increased number of promotions in the period.
Generally the first and third fiscal quarters have increased marketing and
promotions costs because the CVR publication is printed and distributed as a
service to consumers during these quarters. Also, the Company generally expends
less advertising in the second fiscal quarter due to higher media costs in the
calendar fourth quarter.
Marketing and promotion expenses are subject to significant variability based on
decisions regarding the timing and size of distribution of the CVR publication
and decisions regarding paid advertising, public relations and market and brand
awareness efforts. The Company anticipates continuing to make significant
expenditures in marketing and promotion efforts as the Company expands to new
regions but anticipates these costs will decrease as an annual percentage of
revenues as revenues grow. However, amounts and percentages on a quarterly basis
may vary significantly.
General and Administrative Expenses. General and administrative expenses consist
primarily of expenses for finance, office operations, administration and general
and executive management activities, including legal, accounting and other
professional fees. They totaled $820,094 for the six months ended December 31,
1998, compared to $318,770 for the comparable period of the prior year, an
increase of $501,324. The major increases include a $140,000 increase in
compensation and benefits due primarily to the increased number of executive and
management personnel added in connection with regional expansion; a $120,000
increase in occupancy and telephone costs due to additional personnel and
expanded operations; a $40,000 increase in bad debt and guarantee provisions
versus the prior comparable period; a $16,000 increase in depreciation due to
additional equipment; a $110,000 increase in corporate costs (legal, accounting,
filing, public relations and consulting) due to increased audit and legal costs
as a public company which includes $60,000 of non-cash expense in the second
quarter attributable to the issuance of warrants for services, and; a $15,000
increase in travel and entertainment due to expanded operations. General and
administrative costs increased to $427,391 during the second quarter compared to
$163,116 for the prior year's second quarter. Management anticipates that
general and administrative costs will continue to exceed prior period levels due
to increased executive personnel added in anticipation of continued growth,
increased general computer, operating, occupancy and corporate costs as a
publicly traded company.
To date, development expenses associated with the design, development and
testing of the Company's programs and services have not been material and are
included in sales and marketing or general and administrative expenses (if
performed by executive management). In the future, as the Company develops new
programs or services, it anticipates that it may segregate development expenses
as an expense category.
The Company incurred interest expense in the first six months of fiscal 1999 of
$136,068 that included $52,066 of non-cash interest from amortization of bond
discount and accrued paid-in-kind interest. Interest for the prior comparable
six-month period was $15,197. The increase resulted from the significant
additions of debt to finance growth and the related losses incurred by the
Company.
Net Loss. The Company had a net loss of $1,474,752 for the six months ended
December 31, 1998, compared to a net loss of $462,169 for the comparable six
months ended December 31, 1997. The increased loss is attributable primarily to
(a) the increased selling costs resulting from the change in amortization
estimate and expansion of sales personnel to the Southern California market and
(b) the increased general and administrative costs associated with additional
executive management and support for expanded market regions. The Company
anticipates that it will continue to experience operating losses until it
achieves a critical mass base of renewing certificate holders as it pursues
aggressive growth. As the Company is increasing its business volume (new and
renewal certifications) immediate future quarterly results will be greatly
impacted by decisions regarding new markets and growth rates. Achievement of
positive operating results will require obtaining a sufficient base of new and
renewal business certifications to support operating and corporate costs. There
can be no assurance the Company can sustain renewal rates or achieve a
profitable base of operations.
Liquidity and Capital Resources
Since the Company commenced operations, it has had significant negative cash
flow from operating activities. The negative cash flow from operating activities
was $974,066 for the six months ended December 31, 1998 and $1,629,721 for the
fiscal year ended June 30, 1998. At December 31, 1998 the Company had a working
capital deficit of $850,890. For the six months ended December 31, 1998 the
negative cash flow from operating activities was due to the continued operating
losses, expansion to the Southern California region, addition of new executive
management and investment in business growth. Included in the working capital
deficit at December 31, 1998 is net accounts receivable of $336,121,
representing approximately 57 days of revenues and an annualized turnover ratio
of approximately 6.4 times. This
13
<PAGE>
compares favorably to approximately 82 days of revenues and turnover of
approximately 4.4 times at June 30, 1998. The improved turnover and reduced
accounts receivable level results primarily from increased revenues and more
diligent collection efforts. Management believes that 60 to 90 days revenues in
receivables is reasonable based on the nature of the Company's business and the
terms it provides certifying companies. At December 31, 1998 the Company has not
experienced and does not anticipate any significant accounts receivable
recoverability problems.
The Company has financed its operations primarily through the sale of common
equity and debt financing. During the six months ended December 31, 1998 the
Company obtained an additional $100,000 from a bank line of credit, $385,000 in
note and debt financing and $300,000 from common stock sales. The three
directors of the Company guarantee the bank line of credit. Other than the
credit line that was fully utilized at December 31, 1998, there are no
commitments for future investments and there can be no assurance that the
Company can continue to finance its operations through these or other sources.
In the past shareholders, including from time to time directors, have advanced
funds and at times converted funds to debt or equity financing on terms of new
forms of financing. There can be no assurance that such shareholders or
directors will continue to provide any future financing to the Company. The
Company is negotiating on new financing to fund operations and further expand
operations to new market regions. There can be no assurance any such financing
can be obtained or the terms thereof.
Other than cash on hand of $94,675 at December 31, 1998 and net accounts
receivable of $336,121, the Company has no material unused sources of liquidity
at this time, and the Company expects to incur additional operating losses in
future fiscal quarters as a result of continued operations and investments in
growth. The timing and amounts of these expenditures and the extent of operating
losses will depend on many factors, some of which are beyond the Company's
control. Subsequent to December 31, 1998 the Company obtained an additional
$200,000 from common stock sales.
The Company expects that it will require a minimum of $1,000,000 to finance
operations during the next twelve months. This estimate is based on a base level
of operations, anticipated renewal revenues, anticipated sales levels in current
markets, and budgeted operating costs. The Company has plans to continue to
expand into new market regions and would require and is seeking additional
financing for such expansion. The Company's actual results could differ
significantly from management's plans, and therefore the Company may require
substantially greater additional operating funds. In such an event, should the
required and/or additional funds not be available or planned operations not meet
management's expectations, the Company may be required to significantly curtail
or scale back staffing, advertising and other marketing expenditures and general
operations in more reliance on higher profitable renewals and limit new growth.
There can be no assurance that additional funding will be available or on what
terms. Potential sources of such funds include exercise of warrants and options,
loans from existing shareholders or other debt financing or additional equity
offerings.
New Accounting Pronouncements and Issues
The Financial Accounting Standards Board has issued a number of new
pronouncements as discussed in the footnotes to the Company's interim financial
statements (see page 9, Note 11). As discussed in the notes to the interim
financial statements, the implementation of these new pronouncements is not
expected to have a material effect on the financial statements.
On September 28, 1998, the SEC issued a press release and stated the "SEC will
formulate and augment new and existing accounting rules and interpretations
covering revenue recognition, restructuring reserves, materiality, and
disclosure;" for all publicly-traded companies. Until such time as the SEC staff
issues such interpretative guidelines, it is unclear what, if any, impact such
interpretative guidance will have on the Company's current accounting practices.
The Company's practices have been consistently applied since its initial filing
and review by the SEC in 1997. However, the potential changes in accounting
practice being considered by the SEC staff, if applied to certifications in a
manner different than currently recognized by the Company, could have a material
impact on the manner in which the Company recognizes revenue. Any such changes
would have no effect on reported cash flow or the economic value of the
Company's certifications.
Year 2000 Compliance
The Company is aware of the issues associated with the programming code in
existing computer systems as the Year 2000 approaches. The "Year 2000" problem
is concerned with whether computer systems will properly recognize date
sensitive information when the year changes to 2000. Systems that do not
properly recognize such information could generate erroneous data or cause a
system to fail. The Year 2000 problem is pervasive and complex as the computer
operation of virtually every company will be affected in some way.
14
<PAGE>
The Company, like most owners of computer software, will be required to modify
significant potions of its software so that it will function properly in the
Year 2000. Preliminary estimates of the total costs to be incurred by the
Company to resolve this problem range from $10,000 to $20,000. Maintenance or
modification costs will be expensed as incurred, while the costs of new software
will be capitalized and amortized over the software's useful life.
Since the Company mainly uses third party "off-the-shelf" software, it does not
anticipate a problem in resolving the Year 2000 problem in a timely manner. The
Company is currently taking steps to ensure that its computer systems and
services will continue to operate on and after January 1, 2000. However, there
can be no assurance that Year 2000 problems will not occur with respect to the
Company's computer systems. Furthermore, the Year 2000 problem may impact other
entities with which the Company transacts business, and the Company cannot
predict the effect of the Year 2000 problem on such entities or the resulting
effect on the Company. As a result, if preventative and/or corrective actions by
the Company and those the Company does business with are not made in a timely
manner, the Year 2000 issue could have a material adverse effect on the
Company's business, financial condition and results of operations. The Company
has not yet developed a contingency plan to operate in the event that any
noncompliant critical systems are not remedied by January 1, 2000, but the
Company intends to develop such a plan in the near future.
Tax Loss Carryforwards
As of June 30, 1998, the Company had approximately $4.8 million of federal tax
loss carryforwards. A valuation allowance has been recorded for the net deferred
tax asset arising primarily from such tax loss carryforwards because, in the
Company's assessment, it is more likely than not that the deferred tax asset
will not be realized.
Forward-Looking Statements and Business Risks
This Form 10-QSB includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended and Section 21E of the
Securities Exchange Act of 1934, as amended. The words "anticipate," "believe,"
"expect," "plan," "intend," "project," "forecasts," "could" and similar
expressions are intended to identify forward-looking statements. All statements
other than statements of historical facts included in this Form 10-QSB regarding
the Company's financial position, business strategy, budgets and plans and
objectives of management for future operations are forward-looking statements.
Although the Company believes that the expectations reflected in such
forward-looking statements are reasonable, no assurance can be given that actual
results may not differ materially from those in the forward-looking statements
herein for reasons including the effect of competition, the level of sales and
renewal certifications, marketing and other expenditures, economic conditions,
the legislative and regulatory environment and the condition of the capital and
equity markets.
Readers are cautioned to consider the specific business risk factors described
in the Company's annual report on Form 10-KSB for the fiscal year ended June 30,
1998 and not to place undue reliance on the forward-looking statements contained
herein, which speak only as of the date hereof. The Company undertakes no
obligation to publicly revise forward-looking statements to reflect events or
circumstances that may arise after the date hereof.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
None
Item 2. Changes in Securities and Use of Proceeds
(a) None
(b) None
(c) The following is a description of equity securities sold by the
Company during the second fiscal quarter ended December 31, 1998
that were not registered under the Securities Act:
(1) During October 1998 the Company issued to one firm for services
warrants exercisable into 200,000 common shares at $0.75 per
share until October 20, 2003. No underwriter was utilized in the
offering. The Company expensed $60,000 as the value assigned to
the warrants. The issuance and sale of the warrants was exempt
by reason of Section 4(2) of the Act in reliance on the private
nature of the transaction, restrictions on transfer on the
shares and based on representations of the purchasers. An
appropriate legend was placed on the shares and warrants.
(2) During December 1998 the Company sold 300,000 shares of its
Common Stock at $1.00 per share in cash and warrants to purchase
300,000 common shares at $1.00 per share until December 31,
2003. The
15
<PAGE>
Company without an underwriter sold the securities to two
qualified investors (already shareholders). These securities
were offered and sold without registration under the Act, in
reliance upon the exemption provided by Regulation D thereunder
and an appropriate legend was placed on the shares and warrants.
(d) None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
At the Company's fiscal 1998 Annual Meeting of Stockholders held on December 29,
1998 the following members, constituting all of the members, were elected to the
Board of Directors: James Stein, James A. Barnes and Jerry Polis.
<TABLE>
The following proposals were approved at the Company's Annual Meeting of
Stockholders:
<CAPTION>
1. Election of Directors:
Affirmative Votes Negative Votes Votes Withheld
----------------- -------------- --------------
<S> <C> <C> <C>
James Stein 4,473,406 -0- 1,575
James A. Barnes 4,473,406 -0- 1,575
Jerry E. Polis 4,473,406 -0- 1,575
2. Authorization to approve an amendment to the Company's 1997 Stock
Option Plan to increase the number of shares reserved for issuance
thereunder by 300,000 to an aggregate of 500,000 shares.
Affirmative Votes Negative Votes Votes Withheld
----------------- -------------- --------------
4,396,806 28,075 50,100
3. Authorization to ratify the selection of Moss Adams LLP as
independent auditors for the Company for fiscal year ending June 30,
1999.
Affirmative Votes Negative Votes Votes Withheld
----------------- -------------- --------------
4,471,306 3,075 600
</TABLE>
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
4.16 Form of Stock Purchase Warrant granted in December
1998 and January 1999 to seven investors exercisable
into an aggregate of 500,000 common shares at $1.00
per share until December 31, 2003 (individual
warrants differ as to number, date and holder).
Officer/director James A. Barnes is the indirect
holder of a warrant on 25,000 of these shares.
10.12 Promissory Note between the Company and Davric
Corporation dated November 15, 1998.
27 Financial Data Schedule
(b) Reports on Form 8-K:
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, Registrant
has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
VALUESTAR CORPORATION
Date: February 9, 1999 By: /s/JAMES A. BARNES
-------------------
James A. Barnes
Secretary and Treasurer
(Principal Financial Officer and duly
authorized to sign on behalf
of the Registrant)
16
EXHIBIT 4.16
98BR-__
THIS WARRANT AND THE SHARES ISSUABLE UPON ITS EXERCISE HAVE NOT BEEN REGISTERED
WITH THE U.S. SECURITIES AND EXCHANGE COMMISSION UNDER THE U.S. SECURITIES ACT
OF 1933 ("ACT"), AND THEY MAY NOT BE SOLD, OFFERED FOR SALE, PLEDGED OR
HYPOTHECATED IN THE ABSENCE OF A REGISTRATION STATEMENT IN EFFECT WITH RESPECT
TO THE SECURITIES UNDER SUCH ACT OR AN OPINION OF COUNSEL SATISFACTORY TO THE
COMPANY THAT SUCH REGISTRATION IS NOT REQUIRED.
STOCK PURCHASE WARRANT
RIGHT TO PURCHASE ________ SHARES OF COMMON STOCK
THIS CERTIFIES THAT ___________ and all registered and permitted assigns
("Holder") is entitled to purchase, on or before December 31, 2003,
_____________ THOUSAND (________) shares of the common stock ("Common Stock" or
"Shares") of VALUESTAR CORPORATION (the "Corporation" or "Company") upon
exercise of this Warrant along with presentation of the full purchase price as
provided herein. The purchase price of the common stock upon exercise (the
"Warrant Shares") is equal to One Dollar and No Cents ($1.00) per share (the
"Exercise Price").
1. Exercise.
(a) This Warrant may be exercised one time, in whole or minimum increments of
10,000 shares (or the balance of the Warrant), on any business day on or before
the expiration date listed above by presentation and surrender hereof to the
Corporation at its principal office of a written exercise request and the
Exercise Price in lawful money of the United States of America in the form of a
wire transfer or check, subject to collection, for the Warrant Shares specified
in the exercise request. If this Warrant should be exercised in part only, the
Company shall, upon surrender of this Warrant, execute and deliver a new Warrant
evidencing the rights of the Holder hereof to purchase the balance of the
Warrant Shares purchasable hereunder. Upon receipt by the Corporation of an
exercise request and representations, together with proper payment of the
Exercise Price, at such office, the Holder shall be deemed to be the holder of
record of the Warrant Shares, notwithstanding that the stock transfer books of
the Corporation shall then be closed or that certificates representing such
Warrant Shares shall not then be actually delivered to the Holder. The
Corporation shall pay any and all transfer agent fees, documentary stamp or
similar issue or transfer taxes payable in respect of the issue or delivery of
the Warrant Shares.
2. Redemption of Warrants.
The Corporation may elect on one occasion, by written notice as provided herein
(the "Company Notice"), to redeem all of this Warrant, in whole but not in part,
on any date (the "Redemption Date") fixed by the Company at a price of $.01 per
effective Warrant Share (the "Redemption Price") following such time as the
Closing Bid Price (as defined below) of the Company's Common Stock for the ten
(10) consecutive Trading Days (as defined below) equals or exceeds five hundred
percent (500%) of the Warrant Exercise Price; provided, however, that this
Warrant may be exercised by the Holder at any time prior to 5:00 p.m.,
California time, on the business day immediately preceding the Redemption Date.
No notice shall be effective, unless otherwise agreed by Holder, unless the
Warrant Shares issuable are duly registered under the Securities Act of 1933, as
amended. Holder shall, in any event, cooperate with the Company to register such
Warrant Shares as the Company may reasonably request.
For purposes hereof, (i) the term "Trading Day" shall mean any day on which
securities are traded on the applicable securities exchange or in the applicable
securities market; and (ii) the term "Closing Bid Price" in respect of a Trading
Day shall mean the reported last closing bid price, on the principal national
securities exchange on which the Common Stock of the Company is listed or
admitted to trading or, if not listed or admitted to trading on any national
securities exchange, on the Nasdaq Stock Market or, if not admitted to trading
or quoted on the Nasdaq Stock Market, the closing bid price in the
over-the-counter market as furnished by any quotation medium or any member firm
of a national securities exchange or the Nasdaq Stock Market selected from time
to time by the Company for that purpose.
The Company shall provide at least 10 days written notice to the Holder
("Company Notice") prior to the Redemption Date specified in such written
notice.
3. Adjustment of Exercise Price and Number of Shares Deliverable Upon Exercise
of Warrant.
1
<PAGE>
The Exercise Price and the number of Shares purchasable upon the exercise of
this Warrant are subject to adjustment from time to time upon the occurrence of
the events enumerated in this paragraph.
(a) In case the Corporation shall at any time after the date of this Warrant:
(i) Pay a dividend of its shares of its Common Stock or make a
distribution in shares of its Common Stock with respect to its
outstanding Common Stock;
(ii) Subdivide its outstanding shares of Common Stock;
(iii) Combine its outstanding shares of Common Stock; or
(iv) Issue any other shares of capital stock by reclassification of
its shares of Common Stock;
the Exercise Price in effect at the time of the record date of such dividend,
subdivision, combination, or reclassification shall be proportionately adjusted
so that Holder shall be entitled to receive the aggregate number and kind of
shares which, if this Warrant had been exercised prior to such event, Holder
would have owned upon such exercise and been entitled to receive by virtue of
such dividend, subdivision, combination, or reclassification. Such adjustment
shall be made successively whenever any event listed above shall occur.
(b) In case the Corporation shall fix a record date for the issuance of rights,
options, or warrants or make a distribution of shares of Common Stock to all
(but not less than all) holders of its outstanding Common Stock entitling them
to subscribe for or purchase shares of Common Stock (or securities convertible
into shares of Common Stock) at a price per share (or having a conversion price
per share, if a security convertible into Common Stock) less than the market
price of the shares (based on the closing price on the record date on NASDAQ or
a listed securities exchange of the Corporation's Common Stock, or if no such
quote is available, the shareholders equity on the date of the last financial
statement divided by the total number of shares outstanding) (the "Market
Price"), the Exercise Price to be in effect after such record date shall be
determined by multiplying the then current Exercise Price in effect immediately
prior to such record date by a fraction, of which the numerator shall be the
number of shares of Common Stock outstanding on such record date plus the number
of shares of Common Stock which the aggregate offering price of the total number
of shares of Common Stock so to be offered (or the aggregate initial conversion
price of the convertible securities so to be offered) would purchase at such
Market Price and of which the denominator shall be the number of shares of
Common Stock outstanding on such record date plus the number of additional
shares of Common Stock to be offered for subscription or purchase (or into which
the convertible securities so to be offered are initially convertible). Such
adjustment shall be made successively whenever such a record date is fixed; and
in the event that such rights or warrants are not so issued, the Exercise Price
shall again be adjusted to be the Exercise Price which would then be in effect
if such record date had not been fixed.
(c) In case of any reorganization of the Corporation, or in case of any
reclassification or change of outstanding Common Stock issuable upon exercise of
this Warrant (other than a change in par value, or from par value to no par
value, or from no par value to par value, or as a result of a subdivision or
split-up or combination of the Common Stock), or in case of any consolidation or
merger of the Company with or into another entity (other than a consolidation or
merger with a subsidiary or a continuing corporation), or in case of any sale or
conveyance to another entity of all or substantially all of the property of the
Corporation, then, as a condition of such reorganization, reclassification,
change, consolidation, merger, sale, or conveyance, the Corporation or such
successor or purchasing entity, as the case may be, shall forthwith provide to
Holder a supplemental warrant (the "Supplemental Warrant") which will make
lawful and adequate provision whereby Holder shall have the right thereafter to
receive, upon exercise of such Supplemental Warrant, the kind and amount of
shares and other securities and property which would have been received upon
such reorganization, reclassification, change, consolidation, merger, sale, or
conveyance by a holder of a number of shares of Common Stock equal to the number
of Shares issuable upon exercise of this Warrant immediately prior to such
reorganization, reclassification, change, consolidation, merger, sale, or
conveyance. Such Supplemental Warrant shall include provisions for adjustments
which shall be as nearly equivalent as may be practicable to the adjustments
provided for in this paragraph. The above provisions of this paragraph shall
similarly apply to successive reorganizations, reclassifications, and changes of
Common Stock and to successive consolidations, mergers, sales, or conveyances.
4. Restrictions on Transfer.
Holder has been advised and understands that the Warrants and the Warrant Shares
purchasable thereby are characterized as "restricted securities" under the
federal securities laws because they are being acquired from Corporation in a
transaction not involving a public offering and that under such laws and
applicable regulations such securities may be resold without registration under
the Act only in certain limited circumstances. Holder further understands that
the certificates evidencing the Warrant Shares will bear the following or
comparable legend: "These securities have not been
2
<PAGE>
registered under the Securities Act of 1933. They may not be sold, offered for
sale, pledged or hypothecated in the absence of a registration statement in
effect with respect to the securities under such Act or an opinion of counsel
satisfactory to the Company that such registration is not required or unless
sold pursuant to Rule 144 under such Act."
The Holder understands that the Company may place, and may instruct any transfer
agent or depository for the Warrant Shares to place, a stop transfer notation in
the securities records in respect of the Warrant Shares.
5. Registration Rights.
Holder shall have the right, at any time and from time to time until December
31, 2003, to include all of the shares purchased or purchasable upon the
exercise of this Warrant ( the "Registrable Shares") within any Registration
Statement of the Corporation filed by the Corporation covering shares of its
Common Stock other than a Registration Statement filed solely with respect to
any employee benefit plan of the Corporation or an offering solely related to an
acquisition or for which such Registrable Shares cannot, in the sole judgment of
the Company, be appropriately registered. The Corporation shall promptly give
written notice to Holder of any intended registration of its Common Stock not
less than forty-five (45) days prior to the anticipated effective date of the
Registration Statement, and Holder shall, within fifteen (15) days of receipt
thereof, notify the Corporation of the number of Registrable Shares it desires
to include in the Registration Statement. The number of Registrable Shares which
may be included by the Holder in any such Registration Statement may be
restricted by the Corporation if, in the opinion of the Corporation's managing
underwriter, the number of shares proposed to be sold by the Holder and by the
Corporation in such offering exceeds the number of securities which can be sold
in such offering. In such event, the Registrable Shares of Holder to be included
within such Registration Statement shall not exceed the number approved for
inclusion therein by the Corporation and its managing underwriter. All costs or
expenses, incident to the registration, qualification or listing of such
securities shall be paid by the Corporation, and the Corporation shall comply
with all reasonable requests of Holder made in connection with the registration,
qualification, listing or sale of Registrable Shares.
Each Holder of Warrants and Warrant Shares to be sold pursuant to any
Registration Statement (each, a "Distributing Holder") shall severally, and not
jointly, indemnify and hold harmless the Company, its officers and directors,
each underwriter and each person, if any, who controls the Company and such
underwriter, against any loss, claim, damage, expense or liability, joint or
several, as incurred, to which any of them may become subject under the
Securities Act or any other statute or at common law, in so far as such loss,
claim, damage, expense or liability (or actions in respect thereof) arises out
of or is based upon any untrue statement or alleged untrue statement of any
material fact contained in any such Registration Statement, any preliminary
prospectus or final prospectus contained therein, or any amendment or supplement
thereto, or any omission or alleged omission to state therein a material fact
required to be stated therein or necessary to make the statements therein, in
light of the circumstances under which they were made, not misleading, in each
case to the extent, but only to the extent, that such untrue statement or
alleged untrue statement or omission or alleged omission was made in reliance
upon and in conformity with written information furnished to the Company by such
Distributing Holder specifically for use therein. Such Distributing Holder shall
reimburse the Company, such underwriter and each such officer, director or
controlling person for any legal or other expenses reasonably incurred by any of
them in connection with investigating or defending any such liability, as
incurred. Notwithstanding the foregoing, such indemnity with respect to such
preliminary prospectus or such final prospectus shall not inure to the benefit
of the Company, its officers or directors, or such underwriter (or such
controlling person of the Company or the underwriter) if the person asserting
any such loss, claim, damage, expense or liability purchased the securities that
are the subject thereof and did not receive a copy of the final prospectus (or
the final prospectus as then amended, revised or supplemented) at or prior to
the time such furnishing is required by the Securities Act in any case where any
such untrue statement or omission of a material fact contained in the
preliminary prospectus was corrected in the final prospectus (or, if contained
in the final prospectus, was subsequently corrected by amendment, revision or
supplement).
6. Public Offering Lock-Up.
In connection with any public registration of this Company's securities, the
Holder (and any transferee of Holder) agrees, upon the request of the Company or
the underwriter(s) managing such underwritten offering of the Company's
securities, not to sell, make any short sale of, loan, grant any option for the
purchase of, or otherwise dispose of this Warrant, any of the shares of Common
Stock issuable upon exercise of this Warrant or any other securities of the
Company heretofore or hereafter acquired by Holder (other than those included in
the registration) without the prior written consent of the Company and such
underwriter(s), as the case may be, for a period of time not to exceed one
hundred eighty (180) days from the effective date of the registration. Upon
request by the Company, Holder (and any transferee of Holder) agrees to enter
into any further agreement in writing in a form reasonably satisfactory to the
Company and such underwriter(s). The
3
<PAGE>
Company may impose stop-transfer instructions with respect to the securities
subject to the foregoing restrictions until the end of said 180-day period. Any
shares issued upon exercise of this Warrant shall bear an appropriate legend
referencing this lock-up provision.
7. Assignment or Loss of Warrant.
(a) The Holder of this Warrant shall be entitled, without obtaining the consent
of the Corporation, to assign its interest in this Warrant, or any of the
Warrant Shares, in whole or in part to any person, provided, however, that the
transferee, prior to any such transfer, provides the Corporation with a legal
opinion, in form and substance satisfactory to the Company, that such transfer
will not violate the Act or any applicable state securities or blue sky laws.
Otherwise without obtaining the prior written consent of the Company, Holder
shall not transfer or assign its interest in this Warrant, or any of the Warrant
Shares prior to exercise, in whole or in part to any transferee.
(b) Upon receipt of evidence satisfactory to the Company of the loss, theft,
destruction or mutilation of this Warrant, and (in the case of loss, theft or
destruction) of indemnification satisfactory to the Company, and upon surrender
and cancellation of this Warrant, if mutilated, the Company shall execute and
deliver a new Warrant of like tenor and date.
8. Reservation of Shares.
The Company hereby agrees that at all times there shall be reserved for issuance
and delivery upon exercise or exchange of this Warrant all shares of its Common
Stock or other shares of capital stock of the Company from time to time issuable
upon exercise or exchange of this Warrant. All such shares shall be duly
authorized and, when issued upon the exercise or exchange of the Warrant in
accordance with the terms hereof, shall be validly issued, fully paid and
nonassessable, free and clear of all liens, security interests, charges and
other encumbrances or restrictions on sale (other than as provided in the
Company's articles of incorporation and any restrictions on sale set forth
herein or pursuant to applicable federal and state securities laws) and free and
clear of all preemptive rights.
The Holder shall not have any rights as a shareholder of the Company with regard
to the Warrant Shares prior to actual exercise resulting in the purchase of the
Warrant Shares.
9. Arbitration. In the event that a dispute arises between the Corporation and
the holder of this Warrant as to any matter relating to this Warrant, the matter
shall be settled by arbitration in Alameda County, California in accordance with
the Rules of the American Arbitration Association and the award rendered by such
arbitrator(s) shall not be subject to appeal and may be entered in any federal
or state court located in Alameda County having jurisdiction thereof, and
actions or proceedings shall be brought in no other forum or venue.
IN WITNESS WHEREOF, the Corporation has caused this Warrant to be executed by
its duly authorized officers and the corporate seal hereunto affixed on this
___th day of _____, 19__.
VALUESTAR CORPORATION
/s/ JAMES STEIN
James Stein, President and CEO
/s/ JAMES A. BARNES
James A. Barnes, Secretary
4
EXHIBIT 10.12
(ALL AMOUNTS IN U.S. DOLLARS)
VALUESTAR CORPORATION
15% SUBORDINATED PROMISSORY NOTE
Due June 30, 1999
Note Date: November 15, 1998 US $300,000.00
Alameda, California
FOR VALUE RECEIVED, ValueStar Corporation, the undersigned Colorado
corporation (together with all successors, the "Company"), hereby promises to
pay to the order of
Payee: DAVRIC CORPORATION
(a Nevada corporation)
or its successors or assigns
(collectively, "Noteholder") at
Address: 980 American Pacific Drive, #111
Henderson, Nevada 89014
or at such other address or addresses as Noteholder may subsequently designate
in writing to the Company, the principal sum of Three Hundred Thousand and
NO/100 Dollars ($300,000.00), due and payable in one installment on June 30,
1999 ("Maturity Date"), plus simple interest thereon at the rate of fifteen
percent (15.00%) per annum, in lawful monies of the United States of America.
Interest shall accrue and be computed on a 360 day year and 30 day months and be
payable monthly on the fifteenth day of each month, commencing on the 15th day
of December 1998, until this Note is paid in full ("Interest Date"). If an
Interest Date or the Maturity Date should fall on a weekend or national holiday,
payment shall be due on the following business day.
1. Any payment shall be deemed timely made if received by Noteholder
within fifteen (15) calendar days of the due date. Payments received shall be
imputed first to late or penalty charges, if any, then due, next to interest
payments then due, and next to the remaining unpaid principal balance.
An "Event of Default" occurs if (a) the Company does not make the
payment of interest or principal of this Note when the same becomes due and
payable and such default shall continue for a period of fifteen (15) calendar
days, (b) the Company fails to comply with any of its other agreements in this
Note that do not otherwise have separate remedies or provisions and such failure
continues for the period and after the notice specified below, (c) pursuant to
or within the meaning of any Bankruptcy Law (as hereinafter defined), the
Company: (i) commences a voluntary case; (ii) consents to the entry of an order
for relief against it in an involuntary case; (iii) consents to the appointment
of a Custodian (as hereinafter defined) of it or for all or substantially all of
its property or (iv) makes a general assignment for the benefit of its creditors
or (v) a court of competent jurisdiction enters an order or decree under any
Bankruptcy Law that: (A) is for relief against the Company in an involuntary
case; (B) appoints a Custodian of the Company or for all or substantially all of
its property or (C) orders the liquidation of the Company, and any order or
decree remains unstayed and in effect for a period of sixty (60) days. As used
herein, the term "Bankruptcy Law" means Title 11 of the United States Code or
any similar federal or state law for the relief of debtors. The term "Custodian"
means any receiver, trustee, assignee, liquidator or similar official under any
Bankruptcy Law.
A default above is not an Event of Default until the Noteholder
notifies the Company of such default and the Company does not cure it within
fifteen (30) days after receipt of such notice, which must specify the default,
demand that it be remedied and state that it is a "Notice of Default." If an
Event of Default occurs and is continuing, the Noteholder hereof by notice to
the Company, may declare the principal of and accrued interest on this Note to
be due and payable immediately.
<PAGE>
2. The Company may prepay this Note at any time and from time to time,
in whole or in part, without any penalty or premium and without the prior
written agreement of Noteholder. Any prepayment of this Note shall be applied
first against any accrued interest and then against principal. Upon payment in
full of the principal amount of this Note and interest thereon, the Noteholder
shall surrender this Note for cancellation.
3. "Senior Indebtedness" means the principal of and premium, if any,
and interest on indebtedness of the Company or any subsidiary, whether
outstanding on the date of issuance of this Note or thereafter created, incurred
or assumed for money borrowed from (a) banks, insurance companies, financial
institutions or other persons which regularly engage in the business of lending
money, unless the instrument creating such indebtedness shall specifically
designate such indebtedness as not being senior in right of payment to the
Notes, or (b) such other persons as to which indebtedness the Board of Directors
of the Company shall designate as senior in right of payment to the Note.
The Company agrees, and the Noteholder, by acceptance hereof likewise
agrees, expressly for the benefit of the present and future holders of Senior
Indebtedness, that, except as otherwise provided herein, upon (i) an event of
default under any Senior Indebtedness, or (ii) any dissolution, winding up or
liquidation of the Company, whether or not in bankruptcy, insolvency or
receivership proceeding, the Company shall not pay, and the Noteholder shall not
be entitled to receive, any amount in respect of the principal and interest of
this Note unless and until the Senior Indebtedness shall have been paid or
otherwise discharged. Upon (A) an event of default under any Senior
Indebtedness, or (B) any dissolution, winding up or liquidation of the Company,
any payment or distribution of assets of the Company, which the Noteholder would
be entitled to receive but for the provisions hereof, shall be paid by the
Custodian directly to the holders of Senior Indebtedness ratably according to
the aggregate amounts remaining unpaid on Senior Indebtedness after giving
effect to any concurrent payment or distribution to the holders of any Senior
Indebtedness. Subject to the payment in full of the Senior Indebtedness and
until this Note is paid in full, the Noteholder shall be subrogated to the
rights of the holders of the Senior Indebtedness (to the extent of payments or
distributions previously made to the holders of Senior Indebtedness pursuant
hereto) to receive payments or distributions of assets of the Company applicable
to the Senior Indebtedness.
In the event that any Event of Default shall occur and as a result this
Note is declared due and payable, and such declaration shall not have been
rescinded or annulled, the Company shall not make any payment on account of the
principal of or interest on this Note unless at least thirty (30) days shall
have elapsed after said declaration and unless all principal of and interest on
Senior Indebtedness due at the time of such payment (whether by acceleration of
the maturity thereof or otherwise) shall first be paid in full. Nothing shall
preclude the payment of this Note on its due date in the normal course
irrespective of Senior Debt being outstanding.
Nothing contained in this Note is intended to impair, as between the
Company, its creditors (other than the holders of Senior Indebtedness) and the
Noteholder of this Note, the unconditional and absolute obligation of the
Company to pay the principal of and interest on this Note or affect the relative
rights of the holder of this Note and the other creditors of the Company, other
than the holders of Senior Indebtedness. Nothing in this Note shall prevent the
holder of this Note from exercising all remedies otherwise permitted by
applicable law upon default under this Note, subject to the rights, if any, of
the holders of Senior Indebtedness in respect to cash, property or securities of
the Company received upon the exercise of any such remedy.
4. If this Note becomes worn, defaced or mutilated but is still
substantially intact and recognizable, the Company or its agent may issue a new
Note in lieu hereof upon its surrender. Where the Noteholder claims that the
Note has been lost, destroyed or wrongfully taken, the Company shall issue a new
Note of like tenor in place of the original Note if the Noteholder so requests
by written notice to the Company together with an affidavit of the Noteholder
setting forth the facts concerning such loss, destruction or wrongful taking and
such other information in such form with such proof or verification as the
Company may request. The Company in addition may require, at its sole
discretion, indemnification as the Company deems satisfactory.
5. If the indebtedness represented by this Note or any part thereof is
collected in bankruptcy, receivership or other judicial proceedings or if this
Note is placed in the hands of attorneys for collection after default, the
Company agrees to pay, in addition to the principal and interest payable
hereunder, reasonable attorneys' fees and costs incurred by the Noteholder.
6. Any notice, demand, consent or other communication hereunder shall
be in writing addressed to the Company at its principal office or, in the case
of Noteholder, at Noteholder's address appearing above, or to such other
2
<PAGE>
address as such party shall have theretofore furnished by like notice, and
either served personally, sent by express, registered or certified first class
mail, postage prepaid, sent by facsimile transmission, or delivered by reputable
commercial courier. Such notice shall be deemed given (a) when so personally
delivered, or (b) if mailed as aforesaid, five (5) days after the same shall
have been posted, or (c) if sent by facsimile transmission, as soon as the
sender receives written or telephonic confirmation that the message has been
received and such facsimile is followed the same day by mailing by prepaid first
class mail, or (d) if delivered by commercial courier, upon receipt.
7. The Company hereby waives present, demand for performance, notice of
non-performance, protest, notice of protest and notice of dishonor. No delay on
the part of Noteholder in exercising any right hereunder shall operate as a
waiver of such right or any other right.
8. With respect to any offer, sale or other disposition of this Note,
the Noteholder will give written notice to the Company prior thereto, describing
briefly the manner thereof, together with a written opinion of such Noteholder's
counsel, to the effect that such offer, sale or other distribution may be
effected without registration or qualification (under any federal or state law
then in effect, including Securities Act of 1933, as amended (the "Act")).
Promptly upon receiving such written notice and reasonably satisfactory opinion,
if so requested, the Company, as promptly as practicable, shall notify such
Noteholder that such Noteholder may sell or otherwise dispose of this Note, as
the case may be, all in accordance with the terms of the written notice
delivered to the Company. If a determination has been made pursuant to this
Section 8 that the opinion of counsel for the Noteholder is not reasonably
satisfactory to the Company, the Company shall so notify the Noteholder promptly
after such determination has been made.
9. This Note shall be governed by and construed in accordance with the
laws of the State of California applicable to contracts between residents of
such state entered into and to be performed entirely within such state.
10. Each provision of this Note shall be interpreted in such manner as
to be effective and valid under applicable law, but if any provision of this
Note is held to be prohibited by or invalid under applicable law, such provision
shall be ineffective only to the extent of such prohibition or invalidity,
without invalidating the remainder of this Agreement.
IN WITNESS WHEREOF, the undersigned Company has executed this Note and has
affixed hereto its corporate seal.
VALUESTAR CORPORATION
By /s/ JAMES A. BARNES
James A. Barnes, Secretary and Treasurer
3
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM UNAUDITED
FINANCIAL STATEMENTS FOR SIX MOONTHS ENDED DECEMBER 31, 1998 INCLUDED IN THE
QUARTERLY REPORT ON FORM 10-QSB AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-START> JUL-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 94,675
<SECURITIES> 0
<RECEIVABLES> 361,226
<ALLOWANCES> 25,105
<INVENTORY> 14,900
<CURRENT-ASSETS> 445,696
<PP&E> 180,577
<DEPRECIATION> 34,206
<TOTAL-ASSETS> 649,018
<CURRENT-LIABILITIES> 1,296,586
<BONDS> 1,626,518
0
0
<COMMON> 2,246
<OTHER-SE> (2,276,332)
<TOTAL-LIABILITY-AND-EQUITY> 649,018
<SALES> 42,726
<TOTAL-REVENUES> 1,076,268
<CGS> 21,495
<TOTAL-COSTS> 450,604
<OTHER-EXPENSES> 1,904,996
<LOSS-PROVISION> 53,953
<INTEREST-EXPENSE> 136,068
<INCOME-PRETAX> (1,474,752)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,474,752)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,474,752)
<EPS-PRIMARY> (0.17)
<EPS-DILUTED> (0.17)
</TABLE>
