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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-KSB/A2
(Mark One)
[ X ] Annual Report to Section 13 or 15(d) of the Securities Exchange Act of
1934
For the fiscal year ended September 30, 1997
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
Commission File No. 0-22432
DIPLOMAT CORPORATION
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(Exact name of registrant as specified in its charter)
Delaware 13-3727399
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
25 Kay Fries Drive, Stony Point,New York
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(Address of principal executive offices) (Zipcode)
Registrant's telephone number, including area code (914) 786-5552
Securities registered pursuant to Section 12(b) of the Act:
Title of each Class Name of exchange on which
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Applicable registered Nasdaq Stock Market
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Securities registered pursuant to Section 12(g) of the Act:
Common Stock,$.0001 par value and Common Stock Purchase Warrants
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(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter prior that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No
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Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B in this form, and no disclosure will be contained, to the best of
the registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment
to this Form 10-KSB (X)
The issuer's net sales for the most recent fiscal year were $35,147,333.
The aggregate market value of the voting stock held by non-affiliates
based upon the closing bid price on February 20, 1998 was approximately
$26,620,930.
As of February 20, 1998 there were 10,904,433 shares of Common Stock,
par value $.0001 per share, outstanding.
Certain exhibits listed in Part IV have been incorporated by reference.
The index to exhibits appears on Page 39.
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PART I
Item 1. Business
The term "the Company" shall include Diplomat Corporation and its
wholly-owned subsidiaries, Biobcttoms, Inc. ("Biobottoms"), Lew Magram Ltd.
("Lew Magram") and Brownstone Holdings, Inc. ("Brownstone") unless otherwise
indicated. The term "Diplomat" shall refer to the operations of Diplomat
Corporation exclusive of its subsidiaries.
Except for historical information contained herein, the
statements in this Item are forward-looking statements that are made pursuant to
the safe harbor provisions of the Private Securities Litigation Reform Act of
1995. Forward-looking statements involve known and unknown risks and
uncertainties which may cause the Company's actual results in future periods to
differ materially from forecasted results. Those risks include, among others,
risks associated with the integration of the operations of Lew Magram and
Brownstone, the receipt and timing of future customer orders, price pressures
and other competitive factors leading to a decrease in anticipated revenues and
gross profit margins.
General
The Company's core business has historically focused on the
wholesale marketing and distribution of infant and toddler apparel and
accessories. Through recent acquisitions, the Company has expanded its business
to direct mail catalog retailing with a significant emphasis on the women's
apparel market.
The Company manufactures and distributes, through its Diplomat
division, primarily cloth diapers, diaper covers, furniture covers, layette,
infant and child travel products and other infants accessories marketed
principally under the Ecology Kids(TM) trademark, principally to major mass
merchandisers.
On February 9, 1996, the Company completed the acquisition of
Biobottoms, a California corporation located in Petaluma, California. Biobottoms
is a children's, mail order catalog company selling apparel and accessories in
the United States for newborns through preteens.
On October 30, 1997, Brownstone, a newly formed wholly owned
subsidiary of the Company, acquired out of bankruptcy all of the assets of Jean
Grayson's Brownstone Studios, Inc., a mail order catalog company. As a result of
this acquisition, the scope of the Company's business has expanded into the
mature women's apparel and accessories markets primarily through direct mail
catalog.
On February 19, 1998, the Company completed the acquisition of
Lew Magram Ltd., a New York corporation, resulting in Lew Magram becoming a
wolly-owned subsidiary of the Company. Lew Magram is a direct-mail cataloger of
women's fashion clothing founded approximately 50 years ago. The Company, which
effectively took control over Lew Magram in July 1997, has integrated the
operations of Brownstone and Lew Magram.
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Description of Business
The Company currently operates three lines of business (i)
direct mail catalog retail sales of women's apparel through its Lew Magram and
Brownstone subsidiaries, (ii) direct mail catalog retail sales of infant and
toddler apparel and accessories through its Biobottoms subsidiary and (iii)
sales of apparel and accessories for toddlers through preteens to mass
merchandisers through its Diplomat/Ecology Kids(TM) division.
Lew Magram
Lew Magram, which has been engaged in the sale of women's
apparel since 1984 as the successor to a men's apparel business founded in 1948,
is a leading calalog marketer of fashionable women's apparel. Lew Magram has
customers in all fifty states and in many foreign countries. For each of the
past two years, Lew Magram mailed over 30 million catalogs in ten different
issues.
The Lew Magram trademarked tagline "the Latest Fashions...the
Greatest Values," means unique, modern, affordable women's apparel to hundreds
of thousands of women across the nation. Lew Magram focuses on selecting and
developing clothing and accessories which enable it to meet or surpass its
customers' expectations while allowing pricing that maintains its high gross
margins. Lew Magram has built strong relationships with over 350 vendors and
has presented such well-known design houses as Kenneth Cole, Guess, Mary
McFadden, Oleg Cassini and ABS, all of which recognize that the Lew Magram
catalog affords them an opportunity to showcase their designs before millions
of prospective shoppers every year.
Lew Magram's products are marketed to a diverse audience,
from the value-oriented middle-income customer to the fashion-conscious
executive who spends hundreds of dollars per purchase. Lew Magram has
developed an extensive database containing more than two million names, of which
1.5 million are customers, 209,000 are gift recipients and 325,000 are catalog
inquiries. More than 22% of Lew Magram's 12-month buyers spend at least $200
per order. The average order from the catalog for the twelve months ended
December 31, 1996 and December 31, 1997 was $158 and $160, respectively. The
buyer file includes more than 500,000 customers who have made at least two
purchases from Lew Magram. In addition to accepting all major credit cards, Lew
Magram also sells its merchandise through a private label credit card which was
launched in 1993. Approximately 200,000 people have the Lew Magram credit card
which accounts for approximately 30% of Lew Magram's sales.
Lew Magram's primary customer is the working woman with high
disposable income. In 1992, 68.3% of Lew Magram's customers were employed. By
1995, 74.1% of Lew Magram's customers worked outside the home. Moreover, almost
59% of Lew Magram's customers have no children in the household and so have more
discretionary income to spend on apparel. Lew Magram's customers typically live
in a single-family home, are approximately 40 years old and have a median
household income of $57,000. Using a combination of in-studio and on-location
photography, Lew Magram has created a catalog that is well-known as an industry
trend-setter. Products are carefully photographed with strategic use of both
strong and soft lighting to ensure that merchandise appears at its best. To
maximize sales per page, catalog spreads are crafted based on the historical
performance of carryover items and the merchants' knowledge of consumer
buying trends.
Brownstone
Two of the most significant assets acquired by Brownstone from
Jean Grayson's Brownstone Studio, Inc. were (i) the tradename "Jean Grayson's
Brownstone Studio" and the related goodwill, and (ii) the Jean Grayson's
Brownstone Studio, Inc. customer list from both the Brownstone Studio as well as
Studio Collection catalogs. Brownstone acquired the Jean Grayson's Brownstone
Studio, Inc. customer database containing approximately 1.6 million names, of
which 1.1 million are customers, 150,000 are gift recipients and 350,000 are
catalog inquirers. For the Fall 1997 season, Jean Grayson's Brownstone
Studio, Inc. was not operational and, as a result, incurred damage to its
customer base. Brownstone has begun to rejuvenate the "Jean Grayson's
Brownstone Studio" name by resuming publication of fashionable catalogs,
producing and shipping orders in a more timely manner, offering gift
certificates to potential customers to compensate for amounts owing to customers
of Jean Grayson's Brownstone Studio, Inc., and, shortly, offering customers the
benefit of a private label credit card similar to the credit card instituted by
Lew Magram in 1993.
Based on information provided by Jean Grayson's Brownstone
Studio, Inc., the average age of its customers is 62, and, based on sales over
the past five years, the average order is $140. Over the past two years,
approximately 20 million Brownstone Studio and Studio Collection catalogs have
been distributed annually.
Since the acquisition, Brownstone has mailed a total of
approximately 10 million catalogs of five different issues. The average order
from these catalogs was approximately $140.
The Company has integrated the operations of Lew Magram and
Brownstone to reduce duplication of costs and to increase efficiencies by
combining fulfillment, inbound telemarketing, creative services, marketing,
finance, human resources administration and management information systems. The
Company plans to issue 30 million Lew Magram catalogs and 23 million Brownstone
catalogs over the next year and to achieve substantial response and increased
average orders. The Company believes that it can achieve these objectives
through continuing the strong performance of Lew Magram catalogs and
strengthening customer relations of Brownstone.
Biobottoms
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Biobottoms is a direct mail catalog company selling apparel and
accessories primarily for newborns through preteens. The majority of the
products offered for sale by Biobottoms are made of natural fibers and are
designed by Biobottoms with an emphasis on comfort and ease of care. Biobottoms
mailed over 9 million catalogs to its existing and prospective customers and
shipped over $18 million in merchandise during 1996. A new catalog is created
four times a year and is mailed as many as 13 times a year to a combination of
customers and prospective customers. The catalog is divided into product
categories, generally by the age of the child and the size of the products being
offered. Biobottoms operated a retail store selling overstocks and out-of-season
items. The store was closed in December 1997.
Nearly 70% of Biobottoms' products are designed to its
specifications and marketed under Biobottoms' brand name. Established national
brands, such as CONVERSE and SARA'S PRINTS round out the product offering.
Unlike other segments of the apparel industry, the demand for children's
clothing is driven by the physical growth of the child, rather than changing
fashions. As a result, Biobottoms' staple, or basic, products account for much
of the merchandise mix, with low return rates and low markdowns.
Management believes that products which carry the Biobottoms'
brand name allow the Company to distinguish itself from other catalogs and
retailers. The lower cost of these products also gives management more pricing
flexibility. Biobottoms has increased its average order size in each of the
past few years by increasing the number of items per order while decreasing
the average item price. Biobottoms has also significantly expanded the age
range to which it appeals.
Product development and selection are based upon reliability of
vendors, visual appeal, perceived customer value, and uniqueness of design.
Biobottoms utilizes customers feedback on products' performance and their
reported preferences for new product designs, fabrications and category
expansion. Biobottoms' sales are generated from both house file customers
(persons who have either previously purchased from Biobottoms or requested a
catalog) and rented mailing lists (names of current customers from other catalog
companies). Analysis of this segmentation allows Biobottoms to mail frequently
and selectively to its most responsive customers.
Diplomat/Ecology Kids(TM)
Even though the Company has shifted its emphasis to the mail
order business, it continues to market the Ecology Kids(TM) line of
infant-related products principally to major mass merchandisers.
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Manufacturing and Sourcing
Lew Magram and Brownstone do not have any production facilities.
Their product development and sourcing personnel are a significant element in
their private label merchandise strategy. They select manufacturers based on
such manufacturers' ability to produce high quality products on a cost effective
basis. The product design teams select and source fabrics, product patterns,
specifications and templates used for cutting fabric and other pre-production
work.
Lew Magram and Brownstone sell domestically produced and
imported branded merchandise from numerous vendors, none of which supplied more
than 5% of the merchandise for either Lew Magram or Brownstone for the past
fiscal year. A portion of their merchandise is imported directly from the Far
East and Europe. Approximately 5% of Lew Magram's and 15% of Brownstone's
merchandise is imported directly from outside the United States. Consequently,
a portion of the Company's women's apparel segment is subject to the risks
generally associated with conducting business abroad, including risks associated
with economic events or political instability that might affect imports,
including duties, quotas and work stoppages. To date, these factors have not
caused any material disruption of the Company's women's apparel operations. As
with other companies that denominate purchases in dollars, declines in the
dollar relative to foreign currencies could increase the cost to the Company of
merchandise purchased in foreign countries which could adversely affect the
Company's results of operations. The Company is unable to predict the effect,
if any, of the above, however, the Company believes that these risks exist for
many other retailers.
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The Diplomat/Ecology Kids(TM) division obtains substantially all
of its raw materials required for the manufacture of its products and ships
such materials to contract manufacturers who assemble the products in accordance
with Diplomat's specifications and under its supervision, either from facilities
at the Company's Rockland County, New York warehouse and distribution
facilities, or other locations in New York State.
Biobottoms provides for manufacturing and sourcing of products
in a number of ways. Private label vendors supply some high volume basics,
such as shirts, play pants and knit shorts, where price competitiveness is
critical.
Other manufacturers, that may be more costly compared to private
label vendors, may be used for products requiring shorter lead times or testing
fashion trends. This provides greater flexibility for inventory management.
Manufacturing groups provide control of the manufacturing process by closely
supervising all phases of production with local consultants and contractors.
Manufacturing groups are a convenient source for testing new private label
product concepts. Branded merchandise from a variety of manufacturers is a
further source of products for Biobottoms.
Major Customers and Seasonality
As a result of the Company's increasing reliance on the direct
mail catalog business, the Company is less dependent on major mass merchandisers
for its source of revenue. Consistent with most catalog apparel retailers,
neither Lew Magram nor Brownstone has a single customer which accounts for a
significant portion of its sales.
For the fiscal year ended September 30, 1996, three of the
Diplomat division's customers, Toys `R' Us, Wal-Mart and Target Stores
individually accounted for approximately 17%, 36% and 6%, respectively, of the
Diplomat division's net sales. For the fiscal year ended September 30, 1997,
such customers individually accounted for 31%, 11% and 21%, respectively, of the
Diplomat division's sales. Sales to such customers accounted for approximately
27% of the Company's sales for the nine month period ended September 30, 1996
and 12% of the Company's sales for the year ended September 30, 1997. The
loss of these customers would have a material adverse effect on the Company's
business.
In addition, the Company sold its products to approximately 500
retail accounts consisting primarily of mass merchandisers and toy retailers,
and, to a lesser extent, drug store chains, catalog showrooms, mail order
operations and food store chains. In addition to Toys 'R' Us and Wal-Mart, the
Company's customers include Burlington Coat Factory, Kids `R' Us, Winn-Dixie
Supermarkets, American Drug Stores, Eckerd Drugs, Walgreens, Caldor, Target
Stores and Publix Supermarkets. A reduction in the number of retail accounts
from prior periods reflects
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a change in customer mix, with an increased emphasis on mass merchandisers and
chain stores. The decrease also reflects general economic conditions which
include a decrease generally in the number of retailers.
Seasonality of product is generally not a factor affecting
Diplomat's sales. Sales fluctuations are, however, affected by special seasonal
promotional activities of merchandise retailers. The sales of mail order
companies are generally affected by seasonality with the winter holiday season
being the strongest.
Governmental Regulation
The Company's direct mail catalog business and the catalog
industry in general are subject to regulation by a variety of state and federal
laws relating to, among other things, advertising, imports and sales taxes. The
U.S. Federal Trade Commission regulates the Company's advertising and trade
practices and the Consumer Product Safety Commission has issued regulations
governing the safety of the products the Company sells in its catalogs. The
Company also is subject to Department of Treasury customs regulations with
respect to goods that it directly imports, including customs duties, quotas and
other import restrictions. Under current law, catalog retailers are permitted
to make sales in states where they do not have a physical presence without
collecting sales tax. The Company believes that it collects sales tax in all
jurisdictions in which it is currently required to do so.
As a seller of infant products, the Company is subject to laws
and regulations administered by various states and the Federal Trade Commission.
As a seller of bedding products, the Company is also required to maintain
licenses in the various states where it conducts business. These licenses
subject the Company to compliance with a variety of laws and regulations
regarding the labeling and cleanliness of its products. In addition, the Company
has all of its bedding products produced to the upholstered product
specifications required by the flammability laws of
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the State of California, which the Company believes to be the most stringent in
the United States. The Company believes that it complies with the laws and
regulations in all material respects.
Management Information Systems
The Lew Magram and Brownstone businesses have been fully
integrated within the Commercialware Mozart system - a state of the art mail
order technology - for order-taking, shipping, credit card authorization and
billing, inventory control and maintenance of online perpetual inventory.
This system operates on an IBM AS400 which has been recently upgraded to
provide for future growth and expansion. Lew Magram's and Brownstone's combined
call center operates on a common telephone system which, utilizing special
features offered by AT&T, handles over 130 incoming and outgoing telephone
lines. Approximately 5,000 calls per day are received in the Company's Teaneck,
New Jersey facility.
Product Liability
The Company currently has an aggregate of $2,000,000 of product
liability insurance for its current products with an umbrella policy of up to an
aggregate of $3,000,000. Lew Magram has a separate policy covering Lew Magram
and Brownstone for $2,000,000 product liability insurance with an umbrella
policy up to $10,000,000. The Company does not intend to increase such
coverage upon commercialization of any other product under development. There
can be no assurance that the existing coverage will be sufficient to cover any
liability resulting from any product liability claims or that the Company or any
subsidiaries would have funds available to pay any claims over the limit of its
insurance. Either an under insured or an uninsured claim could have a
materially adverse effect on the Company.
Trademarks, Patents and Proprietary Rights
The Company's success depends, in part, upon the continued
development of strong brand identification for its current and proposed
products. The Company has registered trademark protection for the names Ecology
Kids(TM), Lew Magram(TM), Jean Grayson's Brownstone Studio(TM) and Fresh Air
Ware(TM), with the latter being in connection with the sale of Biobottoms'
products, among other trademarks as well as many supporting trade names.
The Company may apply to register other trademarks as it deems
appropriate. There can be no assurance that future trademark protection will be
obtained, or that if obtained, will not be infringed upon by others. In
addition, if any of the Company's trademarks are infringed upon, there can be no
assurance that the Company can successfully challenge any alleged infringement.
In the event that it becomes necessary to establish recognition of alternative
trademarks, the cost of such development could be substantial, and, as a result,
materially adversely affect the Company's business and prospects.
In November 1992 the Company acquired the four-year
exclusive license to a United States patented thermochromatic process that can
be utilized with a diaper cover to indicate wetness and soiling through heat
generated color changes. The Company did not exercise its right to extend the
license.
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Competition
The markets in which the Company's segments participate are highly
competitive and served by a number of catalog companies and retailers including
traditional department stores, discount retailers, and specialty chains. The
Company's success is highly dependent upon its ability to maintain its existing
customer lists, solicit new customers, identify distinct fashion trends and
continue to address the needs and fashion tastes of its customers.
Lew Magram competes in the highly competitive retail women's
apparel market specifically the retail direct market catalog women's apparel
market. Direct competitors include Spiegel, Victoria's Secret, Chadwick's of
Boston and J. Crew, each of which have substantially greater resources and
market share than Lew Magram.
The mature women's apparel and accessories markets are extremely
competitive. Brownstone competes in three size categories, petite, missy and
large sizes. Brownstone competes with several catalogs serving these markets
including Talbot's, Nicole Somers, Damon's & Draper's Papillon, as well as, to
various degrees, specialty store catalogs such as Nordstrom's, Sak's and Nieman
Marcus.
There is a wide range of catalogs selling infant and children's
apparel in competition with Biobottoms. These vary from general catalog
merchandisers, such as JC Penney, to smaller specialty children's, apparel
catalogs. Biobottoms believes it competes primarily with the latter, which group
includes: Hanna Anderson, Playclothes, Childrens Wear Digest, Storybook
Heirlooms and Wooden Soldier. Companies in the catalog business compete on
price, product quality, features, benefits, brand name and customer service.
Biobottoms seeks to market a product line that is distinctive from its
competitors. Biobottoms also competes with non-mail order children's clothing
retailers, including specialty stores, department stores, major chains and
discount retailers. Gap Kids, Gymboree and other national retailers are also
competitors outside the direct mail industry. Although certain of these direct
competitors have greater financial and marketing resources, Biobottoms believes
that it has been able to be competitive because of its ability to offer quality
products at reasonable prices and outstanding customer service.
The infant and toddler products industries are extremely
competitive in the United States and Diplomat faces substantial competition in
each of its product lines. The Company competes in a variety of segments within
these product categories, including disposable diapers, infant and juvenile
furnishings, and mature women's apparel and accessories. Competitive factors
include quality, price, style, name recognition and service. Although the
Company believes that it can compete favorably in these areas, there can be no
assurance thereof.
Employees
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As of December 26, 1997, Diplomat had 32 full time employees in
its Stony Point facility. Of such employees, four act in executive capacities,
two are full time sales and marketing personnel, one is a customer service
representative and 25 are administrative and warehouse personnel. None of the
employees are covered by a collective bargaining agreement. The Company
considers its relations with the employees to be good.
Biobottoms employs permanent, full time and part time employees,
part time casual (not eligible for benefits), and temporary workers due to
seasonal increases in its sales volume. This allows for optimal employment
levels during peak and slack times. Also, it allows a portion of the work force
the option of flexible working hours. At December 26, 1997, Biobottoms employed
124 employees 85 of which are full time. None of the Biobottoms employees are
represented by any labor union.
At December 27, 1997, Lew Magram and Brownstone employed a total
of 331 employees, including 63 management, 227 full time employees and 41 part
time employees utilized almost exclusively for catalog orders. None of the
Brownstone or Lew Magram employees are represented by a labor union.
Item 2. Properties
Properties and Facilities
In December 1992, Loshell Realty Corporation ("Loshell"), owner of
the real estate and buildings housing the warehouse and distribution
facilities for the Diplomat/Ecology Kids (TM) division located at 25 Kay Fries
Drive, Stony Point, New York (the "Facilities'), transferred to the Company a
fee interest in the Facilities, subject to purchase money mortgage indebtedness.
The Facilities consist of five buildings aggregating approximately 40,000 square
feet, located on approximately seven acres. The Facilities had an adjusted basis
of $1,984,857 when transferred to the Company. Approximately 1,000 square feet
of the Facilities are utilized by the Company's contract manufacturers located
at the premises. Sheldon R. Rose, the Company's former President and Chief
Executive officer and his wife were the sole shareholders of Loshell. In
connection therewith, the Company assumed purchase money mortgage indebtedness
of Loshell aggregating approximately $1,799,000 ($1,101,000 with respect to a
first mortgage note due August 2010, bearing interest at an initial rate of
$11.75% adjusted every three years, commencing July 1993 (currently 6.375%) and
$698,000 with respect to a subordinated mortgage note originally due July 1995,
but extended to January 1998, bearing interest at an initial rate of 11.5% per
annum. The Company is currently negotiating the refinance of the mortgages. Mr.
Rose and his wife have personally guaranteed payment of the first mortgage, and
Mr. Rose and Loshell are co-makers of the subordinated mortgage note. The
Company pays approximately $26,000 per month for both mortgage payments and real
estate taxes.
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Biobottoms leases approximately 17,60O square feet of office
space and 18,700 square feet of warehouse space in Petaluma, California. Total
fixed monthly payments (exclusive of any applicable common area maintenance
charges) currently under these leases is $28,632 and the lease agreements
provide for fixed annual increases. The office lease expires on July 1, 1998.
The warehouse lease has been renewed which will expire July 1, 1999, but may be
terminated by Biobottoms on July 1, 1998 if Biobottoms gives notice of
termination by March 31, 1998. Other suitable facilities are available at
competitive prices and terms.
Brownstone has moved from its Secaucus facility and is operating
from the facilities of Lew Magram in Teaneck, New Jersey. Lew Magram leases
approximately 73,000 square feet of warehouse and office space in Teaneck, New
Jersey. Total fixed monthly charges are approximately $49,000 subject to annual
escalation clauses. The lease expires in August 1999, subject to two five-year
renewal options. Lew Magram also leases approximately 11,000 square feet in New
York City at $19,000 per month.
Item 3. Legal Proceedings
In September 1996, the Company was named as a defendant in an
action brought in the Supreme Court of the State of New York, County of Rockland
(Richard Tracy and Anne Tracy v. Insulx Product Corporation, Consolidated Rail
Corporation, Diplomat Corporation and Bruce M. Smith Contracting Corporation).
Mr. Tracy alleges that the defendants' negligent maintenance of a railroad
crossing adjacent to the Company's property caused him to collide with a train.
Mr. Tracy is seeking $10,000,000 in damages for his injuries, and Mrs. Tracy is
seeking an additional $1,000,000 in damages for loss of Mr. Tracy's services.
The Company and its insurance carrier intend to defend vigorously against these
claims. The ultimate outcome of this litigation cannot presently be determined.
Accordingly, no provision for the liability has been made in the accompanying
financial statements.
In February 1997, Francine Nichols, a former consultant to the
Company, commenced an action against the Company in the Supreme Court of the
State of New York, New York County, to recover approximately $240,000 allegedly
due under a consulting agreement between Ms. Nichols and the Company. The
Company disputes each claim and intends to defend vigorously against them.
However, should the claimant prevail, the result may have a material adverse
affect on the Company.
In July 1997, Federal Express commenced an action against
Biobottoms claiming approximately $180,000 in unpaid delivery invoices.
Biobottoms has disputed this claim and has filed a counter claim on
several
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bases, one of which is nonperformance. Although Biobottoms intends to defend
vigorously against the claim, should the claimant prevail, the result may have a
material adverse affect on Biobottoms and the Company.
In November 1997, Lew Magram was served with a proposed assessment
from the State of New York related to a sales tax audit aggregating
approximately $2.4 million, including penalties and interest. Lew Magram
disputes the assessment and intends to defend vigorously against it. Although
the Company is entitled to indemnification by certain selling Lew Magram Ltd
shareholders, an unfavorable result could have a material adverse effect on the
Company.
In January 1998 Erin's Babies, Inc. filed a civil suit against
Biobottoms alleging among other claims, breach of contract and fraud, and
requesting compensatory damages of approximately $15,000 and punitive damages.
Although Biobottoms disputes the allegations, an award of punitive damages may
have a material adverse effect on Biobottoms.
In March 1998, Paul Russo filed a complaint against the Company
alleging that he is entitled to the Unit Purchase Option granted by the Company
as part of the Company's initial public offering in November 1993. Mr. Russo
demands unspecified compensatory and punitive damages. The Company disputes Mr.
Russo's right to any of the Unit Purchase Option.
Other than the above claims, the Company has no notice of any
pending material litigation.
Item 4. Submission of Matters To A Vote Of Security Holders
During the fiscal year covered by this report, the Company did not
submit any matters to a vote of security holders.
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PART II
Item 5. Market for the Company's Common Stock and Warrants
As of the date hereof, the Company has outstanding its Common Stock $.0001
par value ("Common Stock") and Warrants to purchase its Common Stock
("Warrants"). The principal market for the Common Stock and Warrants is the
NASDAQ Small Cap Market ("NASDAQ") under the symbols of DIPL and DIPLW,
respectively. The following table sets forth the closing high and low bid prices
for the Common Stock and Warrants for each calendar quarter.The prices represent
inter-dealer quotations without adjustment for retail markups, markdowns or
commissions and may not represent actual transactions. NASDAQ quotations do not
assume that the market for the Company's securities will be sustained,
Common Stock Warrants
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Bid
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For Fiscal Year Ending
September 30, 1996 High Low High Low
- ------------------ ----- ---- ----- ---
First Quarter 3 3/8 1 5/8 1/16 1/4
Second Quarter 2 1/2 1 1/8 1/2 1/4
Third Quarter 2 1/8 1 1/16 - 3/16
Fourth Quarter 2 1 5/16 1/4 1/16
September 30, 1997
- ------------------
First Quarter 2 7/8 3/16 3/16
Second Quarter 2 3/8 7/8 7/16 1/4
Third Quarter 3 1/2 1 5/8 15/16 1/4
Fourth Quarter 3 5/8 2 5/8 1 7/16
The Common Stock and Warrants commenced trading on NASDAQ on November
4,1993.
The Company believes that there are approximately 2,200 beneficial
owners of each of its securities.
DIVIDEND POLICY
The Company has not paid any dividends on its Common Stock and
does not anticipate paying cash dividends in the foreseeable future, The Company
intends to retain any earnings to finance the growth of the Company. There can
be no
14
<PAGE>
assurance that the Company will ever pay cash dividends pursuant to the
Company's credit agreement with its commercial lender and the terms of
indebtedness incurred in connection with the acquisition of Biobottoms.
15
<PAGE>
Item 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
Twelve Months Ended September 30, 1997 Compared to Twelve Months Ended September
30, 1996
NET SALES
Consolidated net sales for the Twelve Month Period ended September 30,
1997 ("1997 Period") increased approximately $14,571,000 or 71% from the Twelve
Month Period ended September 30, 1996 ("1996 Period"), primarily as a result of
the Lew Magram sales of $10,663,000 from July 1, 1997, the date the Company took
effective control of Lew Magram even though the aquisition was not completed
until February 19, 1998. The sales of Diplomat for the 1997 Period were
$6,893,000 as compared to $8,904,000 for the 1996 Period and the sales of
Biobottoms were $17,592,000 in the 1997 Period as compared to $17,378,000 in the
1996 Period.
Consolidated cost of sales was 47% of net sales in the 1997 Period
and 71% in the 1996 Period. The cost of sales of $16,665,000 in the 1997 Period
included $5,006,000 from Lew Magram. Cost of sales of Diplomat for the 1997
Period were $3,585,000 as compared to $8,738,000 in the 1996 Period. The
reduction of 59% was the result of the restructuring of the Company during the
1997 Period and from lower sales. Cost of sales of Biobottoms decreased 1% even
though sales increased less than 1% from the 1996 Period to the 1997 Period.
OPERATING EXPENSES
Consolidated operating expenses, which include selling, general, administrative,
warehouse and distribution expenses increased approximately $3,200,000 from the
1996 Period to the 1997 Period primarily as a result of $5,045,000 of Lew Magram
operating expenses not incurred in the 1996 Period. Operating expenses of
Diplomat for the 1997 Period were $1,872,000 as compared to $4,809,000 in the
1996 Period. The reduction of 61% resulted from decreased expenses from
restructuring, in addition to elimination of licensing fees and lower
professional, advertising and consulting fees in the 1997 Period together with
the settlement of lawsuits and adjustment of accrued expenses. Operating
expenses of Biobottoms decreased 4% from the 1996 Period. Consolidated operating
expenses were 48% of net sales in the 1997 Period and 66% in the 1996 Period.
Interest expense decreased 52% from 1996 to 1997 as a result of the
conversion of debt to preferred stock by a principal stockholder.
The net income for the 1997 Period was $1,328,000 as compared to a net
loss of $8,404,000 for the 1996 Period.
16
<PAGE>
At September 30, 1997, the Company has recorded deferred tax assets of
$1,362,000. The full utilization of such deferred tax assets is dependent upon
the Company realizing taxable income in future years. The total amount of future
taxable income necessary for utilizing such deferred tax assets will be
approximately $3,400,000. Based on the current year's operations, such
realization would take approximately three years.
Nine Months Ended September 30, 1996 Compared to Nine Months Ended September 30,
1995
NET SALES
Consolidated Net Sales for the Nine Month Period ended September 30,
1996 ("1996 Period") decreased approximately $958,000 from the Nine Month Period
ended September 30, 1995 ("1995 Period") primarily as a result of lower sales of
Diplomat for the period. The lower sales in 1996 were impacted significantly by
an adverse retail environment that continued from the last quarter of 1995. The
sales of Diplomat decreased 24% and the sales of Biobottoms increased 16% from
1995 to 1996.
Consolidated cost of sales were 69% of net sales in 1996 and 52% in
1995. Cost of sales of Diplomat increased 32% primarily from a writedown of
inventory from its restructuring.
Cost of sales of Biobottoms increased 16% as a result of an increase
in sales.
For the 1996 period, Toys "R" Us and Wal-Mart represented 11% and 40%
respectively of the Diplomat sales as compared to 32% and 22% in 1995.
OPERATING EXPENSES
Consolidated operating expenses, which include selling, general,
administrative, warehouse and distribution expenses, increased $1,400,000 from
1995 to 1996. The increase resulted primarily from increased catalog expenses of
Biobottoms. The operating expenses of Diplomat increased by a minor amount from
1995 to 1996. Consolidated operating expenses were 55% of net sales in 1996 and
45% in 1995.
The Company restructured its Stony Point, New York operations by
eliminating several of its unprofitable retail lines and downsizing its
distribution facility. The Company intends to focus its Stony Point operations
on its traditional core business. The restructuring expenses totaled
approximately $1,739,000 for the period ended September 30, 1996.
Interest expenses decreased $141,000 in 1996 as a result of Biobottoms
decreased borrowing at lower rates.
17
<PAGE>
The net loss for the 1996 Period was $7,225,000 as compared to a net
loss of $721,000 for the 1995 Period. Significantly lower sales of Diplomat
during 1996, without corresponding reductions in operating expenses and
additional interest expenses from the acquisition were the principal components
for the loss in 1996, in addition to the restructuring expenses. Biobottoms had
a net loss of $1,150,000 from the date of acquisition.
The following summary combines the consolidated results of operations
of the Company and Biobottoms as if the acquisition of Biobottoms had occurred
at the beginning of fiscal 1995, after giving effect to the amortization of
goodwill and increased interest expense on the acquisition debt.
Nine Months Pro-Forma
Ended Nine Months Ended
September 30, 1996 September 30, 1995
Net Sales $19,222,801 $20,180,355
Cost of Sales 13,334,588 10,569,150
---------- ----------
Gross Profit 5,888,213 9,611,205
----------- ----------
Selling, General & Administrative 10,589,561 9,179,201
Restructuring Expense 1,738,975 0
--------- -
Operating Income(Loss) (6,440,323) 432,004
Interest Expense 784,577 933,895
------- --------
Loss before Income Taxes (7,224,900) (501,891)
Income Taxes (Benefit) 0 (173,072)
- ---------
Net Loss $(7,224,900) $(328,819)
Liquidity and Capital Resources
The Company completed an initial public offering on November 13, 1993
and received net proceeds of approximately $4,454,000. Proceeds of the offering
were used for purchases of inventory, marketing and promotion, product
development, reduction of accounts payable and repayment of loans from a
principal stockholder and executive officer. The Company has relied upon the
proceeds of its initial public offering, borrowings from an institutional
lender, a principal stockholder and director of the Company, and proceeds from
the additional issuance of its securities in order to fund its operations,
including financing the approximately $3,817,000 decrease in cash flow from
operations for the twelve months ended September 30, 1997, which was primarily a
result in an increase in inventory required for the sale of seasonal products.
The Company's principal working capital credit facility is provided by
Congress Financial Corporation ("Congress Financial").
18
<PAGE>
In April 1994, the Company entered into an agreement with Congress
Financial providing the Company with a maximum $3,000,000 secured line of credit
to be used for loans and trade letters of credit. The loans are secured by
substantially all of the Company's personal property, including without
limitation, accounts receivable, inventory and trademarks. The interest rate on
loans is two (2%) above the prime rate announced by Core States Bank. The credit
agreement contains restrictions relating to the payment of dividends.
Additionally, prior to amendment, the Company was required to maintain a minimum
of $3,500,000 in stockholders equity and a minimum of $4,500,000 of working
capital (excluding the Congress loan and certain subordinated debt). At
September 30, 1996, the Company was not in compliance with these financial
covenants, however Congress continued to extend the Company credit under the
terms of the original agreement. On February 25, 1997, the violations were
waived by Congress, and the Company and Congress agreed on revised financial
covenants. Under the revised agreement, the stockholders equity and working
capital minimums (excluding the Congress loan and certain subordinated debt)
were reduced to ($750,000) and $500,000, respectively, and was increased during
the fiscal year ending September 30, 1997 to ($250,000) and $1,500,000,
respectively. The Company has been in compliance with the revised financial
covenants at each measurement date.
Under the terms of the credit agreement, the Company could borrow up to
85% (reduced to 80% in the third quarter of 1997) of the amount of eligible
accounts receivable (as defined in the agreement), not to exceed the maximum
credit. In February 1995 the Agreement was amended to adjust the formula used to
determine the amount available for revolving loans by including therein an
amount based upon eligible inventory not to exceed $750,000.
In connection with the Biobottoms acquisition, Biobottoms established
an inventory based credit facility with Congress Financial secured by a first
priority security interest in substantially all of the assets of Biobottoms and
a guaranty of such obligations by the Company. The maximum credit available
under the facility is $2,000,000.
The credit facility is guaranteed by the Company and a default
thereunder constitutes a default under the Company's Loan and Security Agreement
with Congress Financial. The interest rate charged on the loan is the prime rate
as announced by Core States Bank, N.A. (the 'Prime Rate') plus 2%. At September
30, 1996, Biobcttoms was not in compliance with certain covenants of the loan
agreement, however Congress Financial continued to extend Biobottoms credit
under the terms of the original agreement. On February 25, 1997 the violations
were waived by Congress Financial, and Congress Financial and the Company agreed
on revised financial covenants for the remainder of the Company's fiscal year
ending September 30, 1997. The Company expects to be in compliance with the
revised financial covenants at each measurement date.
As of October 30, 1997, Brownstone entered into a loan agreement with
Congress Financial providing Brownstone with a maximum $5.5 million secured line
of credit to be used for loans and trade letters of credit. The line of credit
is secured by all of the assets of Brownstone and guaranteed by the Company and
Lew Magram. The interest rate is two percent (2%) above the prime rate announced
by Core States Bank. The loan agreement provides for certain restrictive
covenants, including restrictions on Brownstone's debt financing, dividends and
distributions, and transactions with the Company and its subsidiaries. The loan
agreement also requires Brownstone maintain a net worth (excluding debt
subordinated to the Congress Financial loan) of $300,000 until June 30, 1998,
and $500,000 thereafter.
Prior to the acquisition of Lew Magram, Lew Magram had entered into a
loan agreement, dated as of August 13, 1996, with Congress Financial providing
Lew Magram with a maximum $5.0 million secured line of credit to be used for
loans and trade letters of credit. The line of credit is secured by all of the
assets of Magram and guaranteed by the Company and Brownstone. The interest rate
is one and one-half percent (1 1/2%) above the prime rate announced by Core
States Bank. The loan agreement provides for certain restrictive covenants,
including restrictions on Lew Magram's debt financing, dividends and
distributions and transactions with the Company and its subsidiaries. The loan
agreement also requires Lew Magram maintain working capital of at least
$1,500,000 and net worth (excluding debt subordinated to the Congress Financial
loan) of $1,600,000. Upon the acquisition of Lew Magram, these convenants were
waived by Congress Financial, and the Company and Congress Financial are
currently negotiating revised convenants.
The lines of credit between Congress and each of the Company,
Brownstone and Magram are each guaranteed by Robert M. Rubin, a director and
principle stockholder of the Company, up to an aggregate maximum amount of
$500,000.
The Company has also financed its operations and acquisitions through
loans from Mr. Rubin, including opproximately $2,900,000 in connection with the
acquisition of Biobottoms in February 1996, a $600,000 working capital loan in
November 1996, a $200,000 working capital loan in February 1997, and, with Jay
Kaplowitz, a $2,205,000 loan for the financing of Jean Grayson's Brownstone
Studio, Inc. prior to the asset acquisition by Brownstone and working capital
for Biobottoms and the Company. Except for the $200,000 working capital loan,
each of the above mentioned loans have been converted into the Company's stock.
A significant source of financing for the Company was the sale of
common stock.
In July 1995, the Company, in connection with a financial consulting
agreement, issued to Boulder Enterprises, Inc., Class B, Class C and Class D
Warrants, each exercisable for 500,000 shares of common stock, at $1.37, $1.00
and $3.00 per share, respectively. All of the Class B Warrants were exercised
during 1995 providing the Company with net proceeds of $628,000. The Class D
warrants expired in July, 1996. The Class C Warrants were exercised in April
1997 providing the Company with proceeds of $500,000.
In August 1996, the Company, in connection with a Non-Qualified Stock
Option Plan, issued 500,000 options which were exercised at a price of $.95 per
share. In November 1996, the Company, in connection with an Incentive Stock
option Plan, issued 1,060,000 options at an exercise price of $1.00 per share,
and in May 1997 issued an additional 150,000 options at an exercise price of
$2.375 per share.
In May 1997, the Company, in connection with a Private Placement,
offered 1,250,000 shares of Common Stock at a price of $2.00 per share.
22
<PAGE>
There can be no assurance that the Company will operate profitably in
the future or that cash from operations will become the principal source of
funds for operations. The Company and Biobottoms have borrowed the maximum
amounts available under their respective credit facilities with Congress
Financial unless additional collateral is provided. The Company is currently
negotiating with Congress Financial to make additional funds available.
<PAGE>
PART III
Item 9. Directors and Executive Officers, Promotors and Control Persons
Compliance with Section 16(a) of the Exchange Act
Directors and Executive Officers and Key Employees
The Directors, Executive Officers and Key Employees of the Company are as
follows:
Name Age Position
---- --- --------
Robert M. Rubin 57 Chairman of the Board and Director
Jonathan Rosenberg 37 President, Chief Executive Officer
and Director
Stuart A. Leiderman 53 Executive Vice President of Sales
and Marketing and Director
Warren H. Golden* 55 Executive Vice President, Chief
Operating Officer and Director
Irwin Oringer 61 Chief Accounting Officer and
Controller
Howard Katz 56 Director
Wesley C. Fredericks, Jr. 49 Director
Jonathan Rosenberg was appointed to the Board of Directors in July 1995
and has been President and Chief Executive officer since November 1996. Since
1993, Mr. Rosenberg served as an independent consultant to the Company,
providing advice in the operations and finance areas and in long-term strategic
planning. From 1987 until 1993, he was President and Chief operating officer of
Servtex International, Inc., a New York based company engaged in international
sourcing of imports and manufacturing activities on an agency basis for textile
related products.
Stuart A. Leiderman has served as Executive Vice President of Sales and
Marketing since July 1989, and has been a Director of the Company since June
1992. From 1985 to 1989, Mr. Leiderman was a Divisional Vice President for
Hasbro, Inc.,
24
<PAGE>
Playskool Baby Division, a company engaged primarily in the development, sales
and marketing of toys.
Robert M. Rubin has served as a Director of the Company since June 1992
and has been Chairman since November 1996. In October 1996, Mr. Rubin became a
director of Med-Emerg International Inc., an operator of nursing homes and
related healthcare services. Mr. Rubin has served as the Chairman of the Board
of Directors of Western Power Equipment Corporation ("WPEC"), a construction
equipment distributor since November 20, 1992 . Between November 20, 1992 and
March 7, 1993, Mr. Rubin served as Chief Executive Officer of WPEC. Between
October 1990 and January 1, 1994 Mr. Rubin served as the Chairman of the Board
and Chief Executive Officer of American United Global Inc., a technology and
software company ("AUGI") and since January 1, 1994, solely as Chairman of the
Board of AUGI. Mr. Rubin was the founder, President, Chief Executive Officer and
a Director of Superior Care, Inc. ("SCI") from its inception in 1976 until May
1986 and continued as a Director of SCI (now known as Olsten Corporation
("Olsten") until the latter part of 1987. Olsten, a New York Stock Exchange
listed company is engaged in providing home care and institutional staffing
services and health care management services. Mr. Rubin is also a Director and
minority stockholder of Response USA, Inc., a public company engaged in the
sale and distribution of personal emergency response systems. Mr. Rubin is also
Chairman and a principal stockholder of ERD Waste Corp.("ERD"),a public
company specializing in the management and disposal of municipal solid
waste, industrial and commercial nonhazardous solid waste and hazardous waste.
In September 1997 ERD and its subsidiaries filed a petition under Chapter 11 of
the federal bankruptcy laws, which is pending.
Warren H. Golden has been with Lew Magram Ltd. since 1991. From 1989 to
1991, he was with S.C. Corporation, most recently as President. From 1983 to
1989, he was Vice President of Operations, CFO and Treasurer of Honeybee, Inc.
In 1986, he
25
<PAGE>
became a Director of Honeybee. Prior to Honeybee, Mr. Golden was Senior Vice
President, Operations and Control, for Plymouth Shops, a New York apparel
retailer. Mr. Golden is a graduate of Long Island University.
Irwin Oringer, a Certified Public Accountant, has been Chief Accounting
Officer and Controller of the Company since September 1992. From October 1991,
until he joined the Company in September 1992, Mr. Oringer was Corporate
Controller of Trans-National Trade Development Corporation, a company engaged in
the business of importing diversified consumer products. From 1968 to 1991 he
held a variety of financial management positions with subsidiaries of Kenrich,
Inc., a holding company for businesses engaged in the wire and cable business.
In February 1991, Kenrich and its subsidiaries filed a petition
under Chapter 11 of the Federal bankruptcy laws and was subsequently liquidated.
Howard Katz has been a Director of the Company since October 1996. Mr.
Katz has been Executive Vice President of American United Global, Incorporated
since April 15, 1996. From December 1995 through April 15, 1996 Mr. Katz was a
consultant for, and from January, 1994 through December, 1995 he held various
executive positions, including Chief Financial Officer with, National Fiber
Network (a fiber optics telecommunications company). From January 1991 through
December 1993 Mr. Katz was the President of Katlaw Construction Corporation, a
company that provides general contractor services to foreign embassies and
foreign missions located in the United States.
Wesley C. Fredericks, Jr. has been a director of the Company since July
1997. Since 1994, he has been a member of the law firm of Gersten, Savage,
Kaplowitz & Fredericks, LLP. From 1990-1994, Mr. Fredericks was a principal in
and president of Manufacturers Products Co., an automotive supply company.
On December 23, 1997, the Board approved an increase in the size of the
Board from five to seven directors. Directors of the Company are elected for one
year terms or until their successors are elected, and Officers serve at the
pleasure of the Board of Directors.
* In accordance with the Agreement and Plan of Merger to acquire Lew Magram, Mr.
Golden was appointed as a director and as Executive Vice President and Chief
Operating Officer of the Company upon completion of the acquisition of Lew
Magram on February 19, 1998.
Item 10. Executive Compensation
The following table sets forth a summary of the compensation paid to or accrued
by the Company during the fiscal period ended September 30, 1997 to the
Company's Chief Executive Officer and to each of the other most highly
compensated executive officers of the Company determined as of the end of the
last fiscal year.
Name Annual
and Compensation (1) Restricted
Principal Position Year Salary Stock Award
- ------------------ ---- ------ -----------
Sheldon R. Rose 9/30/96 $159,375 0
CEO 1995 $191,047
26
<PAGE>
(Resigned 11/96)
Jonathan Rosenberg 9/30/97 $190,769 0
CE0 9/30/96 $130,804
(Elected 11/96)
Stuart Leiderman 9/30/97 $150,000 0
Executive Vice 9/30/96 $112,500
President 1995 $139,334
(1) The Company did not issue any bonuses, other annual compensation, stock
appreciation rights or long term incentive plan payouts to any of the named
individuals in the Summary Compensation Table.
In January 1996, Jonathan Rosenberg, a director of the Company, became
a full time employee of the Company, serving with the title of chief operating
officer. His compensation on an annualized basis for 1996 was $175,000. In
addition to benefits generally available to senior level employees of the
Company, he receives an automobile allowance of $750 per month. In connection
with his employment, he was granted 75,000 incentive stock options, having an
exercise price of $1.50 per share, exercisable over a five (5) year period,
15,000 shares per year.
OPTIONS/SAR GRANTS IN LAST FISCAL YEAR
--------------------------------------
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------
Name Number of Percent of Exercise Expiration
(a) Securities Total or Date
Underlying Options/SARs Base Price (e)
options/SARs Granted to ($/Sh)
Granted (#) Employees in (d)
(b) Fiscal Year
(c)
- ---------------------------------------------------------------------
<S> <C> <C> <C> <C>
Jonathan 250,000 100% $1.00 2006
Rosenberg
- ---------------------------------------------------------------------
Stuart 100,000 100% $1.00 2006
Leiderman
- ---------------------------------------------------------------------
</TABLE>
27
<PAGE>
Employment and Related Agreements
Sheldon R. Rose was employed under a three-year employment agreement
commencing on or about November 4, 1993, pursuant to which he was paid a base
salary of $175,000 per annum. In April 1994 the Board of Directors approved a
$37,500 increase to Mr. Rose's employment agreement. In November 1996, the
Company entered into a termination agreement with Mr. Rose. The termination
agreement provided for the cancellation of Mr. Rose's agreement with the Company
and his resignation as a Director of the Company.
The agreement provided that the Company will pay Mr. Rose an aggregate of
$70,833 over a four month period as severance pay. As part of the agreement, the
Company and certain of its affiliates would either purchase or cause to be
purchased an aggregate of 1,019,000 shares of the Company's Common Stock for an
aggregate of $475,000.
Stuart A. Leiderman was employed under a three-year employment agreement
commencing on or about November 4, 1993, pursuant to which he was paid a base
salary of S150,000 per annum and was entitled to an annual bonus as determined
by the Board of Directors. No bonuses have been paid to Mr. Leiderman. The
Company also provides and maintains an automobile for Mr. Leiderman. Although
the employment agreement has expired, Mr. Leiderman is currently employed under
the same terms.
In January 1994, the Company entered into a three year financial
consulting agreement with Robert M. Rubin, a director and principal stockholder
of the Company, pursuant to which he is paid $125,000 per annum. In September
1996, this agreement was extended until December 31, 1998.
28
<PAGE>
In September 1996, the Company entered into an arrangement with Gersten,
Savage, Kaplowitz & Fredericks, LLP ("GSK&F") which provided that GSK&F will
provide certain legal and consulting services to the Company over an extended
period of time.
As compensation for its services, certain individual members of GSK&F
received an aggregate of 350,000 shares of Common Stock and options to purchase
an aggregate of 150,000 shares of Common Stock at $2.50 per share.
In accordance with the Agreement and Plan of Merger to acquire Lew
Magram Ltd., upon completion of the acquistion on February 19, 1998 each of
Irving Magram, Warren Golden and Stephanie Sobel entered into employment
agreements with the Company or Lew Magram effective February 2, 1998. The
employment agreement between the Company and Warren Golden provides that Mr.
Golden will be employed as the Company's Executive Vice President and Chief
Operating Officer and Lew Magram's Executive Vice President for three years,
subject to annual renewals, at an annual salary of $235,000 subject to
certain periodic increases based on performance. The employment agreement
between Irving Magram and Lew Magram
29
<PAGE>
provides that Mr. Magram will be employed as President of Lew Magram for three
years, subject to annual renewals, at an annual salary of $235,000 subject to
certain periodic increases based on performance. The employment agreement
between Stephanie Sobel and Lew Magram provides that Ms. Sobel will be
employed as Senior Vice President of Marketing for three years, subject to
annual renewals, at an annual salary of $187,500 subject to certain periodic
increases based on performance. Messrs. Golden and Magram and Ms. Sobel will
also receive cash bonuses based on Lew Magram meeting certain profitability
criteria. The maximum aggregate cash bonus to Messrs. Golden and Magram and Ms.
Sobel is $185,000 per year.
1992 Stock Option Plan
The Company's 1992 Stock Option Plan ("1992 Stock Option Plan")
provides for the issuance of up to 200,000 shares of Common Stock upon exercise
of incentive stock options and is intended to qualify under Section 422 of the
Internal Revenue Service Code of 1986, amended ("Code").
The Stock Option Plan may be administered by the Board of Directors or
by a stock option committee of the Board of Directors (the "Committee").
incentive stock options are granted under the Stock Option Plan to employees
generally on the basis of the recipient's responsibilities and the achievement
of performance objectives. Subject to the limitations set forth in the Stock
Option Plan, the Board or the Committee has the authority to determine when the
options may be exercised and vest. Under the Plan, the per share exercise price
may not be less than the greater of 100% of the fair market value of the shares
on the date of grant. With respect to any participant who owns stock possessing
more than 10% of the voting rights of the Company's outstanding capital stock,
the per share exercise price must be at least 110% of the fair market value on
the date of grant and the term may not be longer than five years. As of this
date, the Company has outstanding under this plan an aggregate of 130,000 Stock
options, exercisable at $1.50 per share, all of which are held by affiliates or
employees of the Company at the time of grant.
August 1996 Stock Option Plan
The Company also established a non-qualified stock option plan
providing for the issuance of up to 1,500,000 shares of Common Stock to its
directors, officers, key employees and consultants (the "August 1996 Plan"). To
date, the Company has granted directors, officers and key employees an aggregate
of 150,000 incentive and non-qualified stock options, at an exercise price of
$2.00 per share and 500,000 non-qualified stock options issued and exercised by
a consultant. Future grants could have an adverse affect on the market price of
the Company's securities.
November 1996 Stock Option Plan
Under the Company's November 1996 Incentive Stock Option Plan (the
"November 1996 Plan), options to purchase a maximum of 1,500,000 shares of
30
<PAGE>
Common Stock of the Company (subject to adjustments in the event of stock
splits, stock dividends, recapitalizations and other capital adjustments) may be
granted to employees, officers and directors of the Company and other
persons who provide services to the Company. 1,060,000 of such options have been
granted at an exercise price of $1.00, and 150,000 have been granted at an
exercise price of $2.375. The options to be granted under the Plan are
designated as incentive stock options or non-incentive stock options by the
Board of Directors which also has discretion as to the persons to be granted
options, the number of shares subject to the options and the terms of the option
agreements. Only employees, including officers and part time employees of the
Company, and non-employee directors, consultants and advisors and other persons
who perform significant service for or on behalf of the Company, may be granted
incentive stock options. officers and directors who currently own more than 5%
of the issued and outstanding stock are not eligible to participate in the Plan.
The Plan provides that options granted thereunder shall be
exercisable during a period of no more than ten years from the date of grant,
depending upon the specific option agreement, and that, with respect to
incentive stock options, the option exercise price shall be at least equal to
100% of the fair market value of the Common Stock at the time of the grant.
Employee Pension Plan
In 1985, the Company instituted a pension plan (the "Pension Plan"),
which is a defined benefit pension plan maintained for all employees. Benefits
are payable based on 60% of average compensation for the three highest paid
consecutive years of service, reduced for less than 29 years of service prior to
retirement. The Pension Plan is funded as required by the Employee Retirement
Income Security Act of 1974 ("ERISA") and does not require employee
contributions. Full vesting occurs immediately upon joining the Plan. As of this
date, Sheldon R. Rose and Stuart A. Leiderman have accrued 22 and 5 years,
respectively, of service under the Pension Plan. As of February 1993, the plan
was curtailed and no additional pension benefits will accrue.
Directors Compensation
Wesley C. Fredericks, Jr. and Howard Katz, independent directors of
the Company, received options to purchase 100,000 and 125,000 shares of common
stock. Mr. Fredericks' options are exercisable at $2.375 per share and expire
May 2002. 50,000 of Mr. Katz' options are exercisable at $2.375 and 75,000 at
$1.00 which expire in May 2002 and November 2001, respectively. Nonindependent
directors receive no compensation for their services as directors.
31
<PAGE>
Item 11. Security Ownership of Certain Beneficial Owners and Management
The following sets forth as of February 20, 1998, certain information
with respect to stock ownership of (i) all persons known by the Company to be
beneficial owners of 5% or more of its outstanding common stock and (ii) each
director and executive officer. Unless otherwise indicated, the beneficial
owners have sole voting and investment power over the securities listed below:
Percentage
Name and Number of Shares(2)(3) Beneficially
Address(l) Beneficially Owned Owned
---------- --------------------- -------
Stuart A. Leiderman(4) 308,000 2.81%
Robert M. Rubin(5) 9,130,579 53.65%
Jonathan Rosenberg(6) 165,000 1.49%
Wesley C. Fredericks, Jr.(7) 258,333 2.35%
Warren Golden 418,832 3.72%
Howard Katz(8) 66,500 *
Irving Magram 933,217 7.95%
Jay Kaplowitz 705,549 6.33%
All officers and
directors as a group
(5 persons) 10,347,244 58.32%
* less than one percent.
(1) Unless otherwise indicated, the address of all officers and directors listed
above is in the care of the Company.
(2) Beneficial ownership is determined in accordance with the rules of the
Securities and Exchange Commission and generally includes voting or investment
power with respect to securities and includes Shares of Common Stock issuable
upon conversion of outstanding preferred stock, or subject to Options, or
warrants currently exercisable or convertible, or exercisable or convertible
within 60 days. The percentage of stock outstanding for each stockholder is
calculated by dividing (i) the number of shares of Common Stock deemed to be
beneficially held by such stockholder as of February 20, 1998 by (ii) the sum of
(A) the number of shares of Common Stock outstanding as of February 20, 1998
plus (B) the number of shares issuable upon exercise of options or warrants held
by such stockholder which were exercisable as of February 20, 1998 or which will
become exercisable within 60 days after February 20, 1998.
32
<PAGE>
(3) The table includes the beneficial ownership of the Company's Common Stock
issued upon the closing of the acquisition of Lew Magram Ltd. In December 1997,
the Company entered into an Agreement and Plan of Merger with Lew Magram Ltd.,
Robert Rubin, Jay Kaplowitz, Irving Magram, Warren Golden and Stephanie Sobel,
all of the shareholders of Lew Magram Ltd. (the "Merger"). Prior to the closing,
Messrs. Magram and Golden and Ms. Sobel owned all of the outstanding common
stock of Lew Magram Ltd. and Messrs. Rubin and Kaplowitz owned all of the
outstanding Senior Convertible Preferred Stock of Lew Magram Ltd., which Messrs.
Rubin and Kaplowitz acquired in May 1997, which is convertible into one-half of
the outstanding common stock of Lew Magram Ltd. after giving effect to the
conversion. Upon the closing of the Merger on February 19, 1998, the Company
issued 95,000 shares of Series D Preferred Stock to each of the Lew Magram Ltd.
shareholders of which Mr. Rubin received 46,253 shares. Mr. Magram received
24,999 shares, excluding 2,497 shares sold to third parties who converted the
shares to Common Stock. Mr. Kaplowitz received 5,417 shares. Mr. Golden received
10,556 shares. Ms. Sobel received 5,278 shares. In addition, Mr. Magram, Mr.
Golden and Ms. Sobel received 100,000, 66,667 and 33,333 shares of the Company's
Common Stock, respectively, excluding 50,000 shares of the Company's Common
Stock issued to their counsel at the closing. Each share of the Company's Series
D Preferred Stock shall be convertible into 33 1/3 shares of the Company's
Common Stock.
(4) Represents (i) 268,000 shares of Common Stock currently owned, and (ii)
40,000 shares of Common Stock issuable upon exercise of currently exercisable
options granted under the November 1996 Plan. Mr. Leiderman also has an
additional 60,000 options under the November 1996 Option Plan which are not
currently exercisable and will not become exercisable in the next sixty days.
(5) Represents (i) 3,016,750 shares of Common Stock currently owned,(ii)
1,000,000 shares of Common Stock issuable upon conversion of 100,000 shares of
the Company's Series A Preferred Stock, (iii) 290,000 shares of Series B
Preferred Stock which provide for certain conversion rights and entitle him to
2,900,000 votes, (iv) 60,000 shares of Series C Preferred Stock which provide
for certain conversion rights and entitle him to 600,000 votes, (v) 1,541,612
shares of Common Stock issuable upon conversion of 46,253 shares of Series D
Preferred Stock, (vi) 20,000 shares of Common Stock issuable upon exercise of
currently exercisable options issued pursuant to the 1992 Stock Option Plan, and
(vii) 52,217 shares of Common Stock approved for issuance but not yet issued.
(6) Represents (i) 65,000 shares of Common Stock issuable upon exercise of
currently exercisable options granted pursuant to the 1992 Stock Option Plan ,
and (ii) 100,000 shares of Common stock issuable upon the exercise of currently
exercisable
33
<PAGE>
options granted pursuant to the November 1996 Plan. Mr. Rosenberg
also has an additional 30,000 options under the 1992 Stock Option Plan and
150,000 options under the November 1996 Option Plan which are not currently
exercisable and will not become exercisable in the next sixty days.
(7) Represents (i) 157,500 shares of Common Stock currently owned, (ii) 67,500
shares which may be issued upon exercise of currently exercisable options issued
pursuant to the August 1996 Stock Option Plan, and (iii) 33,333 shares of Common
Stock issuable upon currently exercisable options issued pursuant to the
November 1996 Plan. Mr. Fredericks also has an additional 66,664 options under
the November 1996 Plan which are not currently exercisable and will not become
exercisable within the next sixty days.
(8) Includes 66,500 shares of Common Stock issuable upon exercise of currently
exercisable options granted pursuant to the November 1996 Stock Option Plan. Mr.
Katz also has an additional 58,500 options which are not currently exercisable
and will not become exercisable within the next sixty days.
Item 12. Certain Relationships and Related Transaction
In April 1994, the Company entered into an agreement with Congress
Financial Corporation providing the Company with a $3.0 million secured line of
credit to be used for loans and trade letters of credit (the "Agreement"). The
loans are secured by substantially all of the Company's personal property,
including without limitation, accounts receivable, inventory and trademarks. The
interest rate on loans is two percent above the prime rate announced by Core
States Bank. Under the terms of the Agreement, the Company may borrow up to 80%
of the amount of eligible accounts receivable (as defined in the Agreement), not
to exceed the maximum credit. In February 1995, the Agreement was amended to
adjust the formula used to determine the amount available for revolving loans by
including therein an amount based upon eligible inventory not to exceed
$750,OO0. At the present time, the Company is fully utilizing its line of
credit. On February 9, 1996, the date of closing of the purchase of Biobottoms
by Diplomat, Congress entered into a loan and security agreement with Biobottoms
providing for a line of credit of $2.0 million limited to 45% of eligible
inventory (as defined in the Agreement).
In April 1994 and in connection with the Congress agreement, the
Company borrowed from Mr. Rubin $590,000 on a secured term loan basis,
subordinated to Congress, in order to repay in full its then existing
outstanding principal indebtedness to Citibank, N.A. Such Citibank facility in
the initial principal amount of $650,000 was established in June, 1993, secured
by certain assets of the Company and a shareholder guaranty by Mr. Rubin. The
loan from Mr. Rubin was repayable with interest at the prime rate plus 1%, with
required principal payment amortization identical to the terms applicable to the
Citibank loan terms. Accordingly, the Company
34
<PAGE>
was required to make principal payments on the loan from Mr. Rubin of $120,000
in 1994, $120,000 in 1995, $120,000 in 1996 and the balance in 1997. At
September 30, 1996 the outstanding balance of $310,000 was converted into
preferred stock.
Initial borrowings from Congress in the amount of $1,065,192 were used
to repay indebtedness to the American Insured Receivables Fund, the Company's
former asset based lender. In February 1995, the Agreement was amended to adjust
the formula used to determine the amount available for revolving loans by
including therein an amount based upon eligible inventory not to exceed
$750,000. In connection with this amendment, Robert Rubin, a director and
principal stockholder of the Company, furnished the lender with a personal
limited guaranty up to an aggregate maximum liability of $375,000, pertaining to
loans made based upon eligible inventory.
In January 1994, the Company entered into a three year financial
consulting agreement with Robert M. Rubin, a director and principal stockholder
of the Company, providing for the payment to him of $125,000 per annum. Mr.
Rubin consults with the Company on financial management and long term planning
matters, including consideration of acquisitions. The term of the agreement was
extended to December 31, 1998 in consideration of Mr. Rubin's subordinated loan
to the Company made in connection with the credit agreement described above.
In July 1995, pursuant to the Company's 1992 Stock Option Plan, the
Company granted each of Jonathan Rosenberg and Robert M. Rubin, options to
purchase 20,000 shares of the Company's Common Stock, and Irwin Oringer options
to purchase 15,000 shares of the Company's Common Stock, all at an exercise
price of $1.50 per share, exercisable over a five year term expiring July 14,
2000. The common shares underlying such options were included in a registration
statement that became effective in March 1995. As of the date hereof, none of
these options have been exercised.
In 1996, pursuant to the Company's 1992 Stock Option Plan, the Company
granted Jonathan Rosenberg options to purchase 75,000 shares of the Company's
Common Stock at an exercise price of $1.50. To date, none have been exercised.
In February 1996, Mr. Rubin loaned the Company $2,353,500 to be used as
part of the acquisition price of Biobottoms. In connection with such loan, the
Company issued Mr. Rubin 100,000 shares of its Series A Preferred Stock,
convertible into 1,000,000 shares of common stock at the option of Mr. Rubin.
The holder of such shares of preferred stock will have the right, subject to a
subordination and intercreditor agreement by and among Congress, Robert Rubin,
American United Global, Inc. and Joan Cooper and Anita Dimondstein as Agents,
during any period during which there shall be an Event of Default under the
Rubin/American United Loans, as such term is defined therein, to designate a
majority of the members of the Board of Directors of the Company. This right of
designation continues during the duration of any such Event of
35
<PAGE>
Default. The Company has agreed, at its sole cost and expense, to include the
common shares issuable upon conversion of the shares in any registration filed
with the Securities and Exchange Commission by the Company within six months of
the date of the issue. In the absence of such filing, the Company has agreed, at
its sole cost and expense and upon the request of Mr. Rubin, to file and use its
best efforts to effect a registration of such shares within three (3) months of
his written request.
In November 1996, the Company authorized the issuance to Mr. Rubin an
aggregate of 550,000 shares of Common Stock in consideration of Mr. Rubin's
waiver of certain compensation owed to him and for restructuring certain debt
owed to him, waiving certain defaults and providing an additional loan to the
Company in the aggregate amount of $600,000.
As of September 30, 1996, the $600,000 loan was converted into 60,000
Shares of Series C Preferred Stock. The Series C Preferred Stock, which has a
liquidation value of $10.00 per Share, is convertible into Common Stock at 75%
of the current market price based on the average closing price for the Common
Stock for the 10 days preceding the conversion. Each share of Series C Preferred
Stock entitles the holder to 10 votes per share. The Series C Preferred Stock
pays an annual dividend of 9%, based on the per Share liquidation value. In the
event that the dividend, which is payable monthly, is not paid for three
consecutive months , Mr. Rubin shall be entitled to an additional 100,000 Shares
of Common Stock for each month that the dividend is not paid.
As of September 30, 1996, Robert Rubin, a director and principal
stockholder of the Company, converted an aggregate of approximately $2,900,000
in outstanding debt into an aggregate of 290,000 Shares of Series B Preferred
Stock. The Series B Preferred Stock, which has a liquidation value of $10 per
share, is convertible into Common Stock at 75% of the current market price based
on the average closing price for the Common Stock for the 10 days preceding the
conversion. In addition, each share of Series B Preferred entitles the holder
thereof to 10 votes per share. The Series B Preferred Stock pays an annual
dividend of 9%, based on the per Share liquidation value. In the event that the
dividend, which is payable monthly, is not paid for three consecutive months,
Mr. Rubin shall be entitled to an additional 100,000 Shares of Common Stock for
each month that the dividend is not paid.
In March 1997, the Company approved the issuance of 52,217 shares of
Common Stock to Mr. Rubin in lieu of the dividend payments due under the Series
B and Series C Preferred Stock, as well as for an adjustment in salary, for the
period from January 1, 1997 through March 31, 1997.
On September 9, 1996, the Company entered into an arrangement with
Gersten, Savage, Kaplowitz & Fredericks , LLP ("GSK&F") which provided that
GSK&F will provide certain legal and consulting services to the Company over an
extended
36
<PAGE>
period of time. As compensation for its services, certain individual members of
GSK&F received an aggregate of 350,000 shares of Common Stock and options to
purchase an aggregate of 150,000 shares of Common Stock at $2.50 per share. Of
such securities, 157,500 shares of Common Stock and 67,500 options were issued
to Wesley C. Fredericks who has since then become a director of the Company.
In November 1996, the Company issued an aggregate of 1,060,000 options
to 35 employees of the Company, including two executive officers and one outside
director, pursuant to the November 1996 Plan. The Options are exercisable at
$1.00 per share, vest over a period of five years, and expire ten years from the
date of grant, if not sooner due to termination or death of the employee.
In May 1997, the Company issued an aggregate of 150,000 options
pursuant to the November 1996 Plan, 50,000 of which were issued to Howard Katz,
a director of the Company, and 100,000 of which were issued to Mr. Fredericks in
connection with his agreeing to become a member of the Company's board of
directors,
In May 1997, the Company authorized the issuance of 200,000 shares of
Common Stock to Mr. Rubin in consideration of Mr. Rubin extending loans to the
Company as well as extending a personal guarantee to Congress on behalf of the
Company.
Between May and July 1997, the Company issued an aggregate of 158,408
shares of Common Stock and options to acquire 200,000 shares of Common Stock to
six consultants. Of the 200,000 options, 50,000 are exercisable at $1.75 per
share and 150,000 are exercisable at $1.875 per share.
From May 1997 through September 1997, the Company sold 1,250,000
shares of its Common Stock in a private placement of its securities in which it
raised $2,500,000. In addition to these shares, the Company issued to European
Community Capital a placement agent's warrant exercisable to purchase up to
200,000 shares of Common Stock at $3.3125 per share. The Company issued an
option to a principle of the placement agent to purchase up to 100,000 shares of
on Stock at $2.00 per share.
In September 1997, Robert Rubin and Jay Kaplowitz advanced $2,205,000
for the financing of Jean Grayson's Brownstone Studio, Inc. prior to the asset
acquisition by Brownstone and for working capital for Biobottoms and the
Company.
In October 1997, in part to raise capital for the Company's acquisition
out of bankruptcy of the assets of Brownstone, the Company completed a private
offering of its securities which raised $3,480,000 from accredited investors.
The private placement consisted of units, each unit consisting of ten shares of
Series E Preferred Stock and 7,500 shares of Common Stock at a purchase price of
$10,000 per unit. As a result the Company has issued an aggregate of 3,480
shares of Series E Preferred Stock and 2,610,000 shares of Common Stock. Robert
Rubin and Jay Kaplowitz purchased 220.5 of the units for $2,205,000, the
proceeds of which repaid the $2,205,000 advance by Messrs. Rubin and Kaplowitz
made in September 1996.
37
<PAGE>
In December 1997, the Company entered into an Agreement and Plan of
Merger with Lew Magram Ltd., Robert Rubin, Jay Kaplowitz, Irving Magram, Warren
Golden and Stephanie Sobel, all of the shareholders of Lew Magram Ltd.
("Merger"). Simultaneous with the closing of the Merger on February 19, 1998,
Lew Magram Ltd. merged with Magram Acquisition Corp. resulting in Lew Magram
becoming a wholly owned subsidiary of the Company. Prior to the closing Messrs.
Magram and Golden and Ms. Sobel owned all of the outstanding common stock of Lew
Magram Ltd. and Messrs. Rubin and Kaplowitz owned all of the outstanding Senior
Convertible Preferred Stock of Lew Magram Ltd., which Messrs. Rubin and
Kaplowitz acquired in May 1997, which was convertible into one-half of the
outstanding common stock of Lew Magram Ltd. after giving effect to the
conversion. At the closing of the Merger, the Company issued 95,000 shares of
the Series D Preferred Stock to each of the Lew Magram Ltd. shareholders of
which Mr. Rubin received 46,253 shares, Mr. Magram received 24,999 shares
(excluding 2,497 shares sold to third parties who converted the shares to Common
Stock), Mr. Kaplowitz received 5,417 shares, Mr. Golden received 10,556 shares,
and Ms. Sobel received 5,278 shares. In addition, Mr. Magram, Mr. Golden and Ms.
Sobel received 100,000, 66,667 and 33,333 shares of the Company's Common Stock,
respectively, excluding 50,000 shares of the Company's Common Stock issued to
their counsel at the closing. Each share of the Company's Series D Preferred
Stock is convertible into 33 1/3 shares of the Company's Common Stock. Each of
the stockholders have agreed to indemnify the Company for any material breach of
the representations made by Lew Magram Ltd. in the Merger Agreement limited to
$9,500,000 and which claims for indemnification must be brought within one year
of the closing date of the Merger. Messrs. Rubin and Kaplowitz assigned to the
Company their rights to any claim either of them may have for breach of any
warranty made by Lew Magram Ltd. in the May 1997 Senior Convertible Preferred
Stock Purchase Agreement in return for a release of their indemnification
obligations under the Merger Agreement.
38
<PAGE>
Item 13. Exhibits, Lists and Reports an Form 8-K
(a). Exhibits (numbered in accordance with Item 601 of Regulation S-B).
Exhibit
No. Description
--- -----------
3a Certificate of Incorporation, as amended(1)
3b By-laws, amended(1)
3c Amendment to Certificate of Incorporation(1)
4a Form of Common Stock Certificate(1)
4b Form of Warrant Agency Agreement between the Registrant and North
American Transfer Company(1)
4c Revised form of Unit Purchase Option(1)
4d Common Stock Purchase Warrant(1)
4e Certificate of Designation of Series B and Series C Preferred Stock(5)
4f Amended and Restated Certificate of Designation of Series D Preferred
Stock(9)
4g Certificate of Designation of Series A Preferred Stock(10)
4h Certificate of Designation of Series E Preferred Stock(10)
5 Opinion of Gersten, Savage, Kaplowitz, Fredericks & Curtin, LLP(1)
10a Employment Agreement with Stuart A. Leiderman(1)
10b Stock Option Plan(1)
10c November 1996 Stock Option Plan(5)
10f Loshell Realty mortgages with Union State Bank and Stony Point
Technical Park, Inc. and related Mortgage Notes, including Sheldon Rose
guarantee of Union State Bank(1)
10g Agreement dated as of March 1, 1994 by and between Francine H. Nichols
and Diplomat Corporation(2)
39
<PAGE>
10i Collateral Assignment of Trademarks and Trademark Licenses (Security
Agreement) by and between Congress Financial Corporation and Diplomat
Corporation(2)
10l Amendments No. 1, No. 2 and No. 3 to Loan and Security Agreement by and
between Congress Financial Corporation and Diplomat Corporation.(4)
10m Loan and Security Agreement made as of February 9, 1996 by and among
Robert M. Rubin, American United Global, Inc., Diplomat Corporation and
Biobottoms, Inc.(4)
10r Loan and Security Agreement dated February 9, 1996 by and between
Congress Financial Corporation and Biobottoms, Inc.(4)
10s Diplomat Corporation Guarantee dated February 9, 1996 to Congress
Financial Corporation of Biobottoms, Inc. Indebtedness.(4)
10t Collateral Assignment of Trademarks and Trademark Licenses dated
February 9,1996 between Biobottoms, Inc. and Congress Financial
Corporation.(4)
40
<PAGE>
10u Security Agreement (Rights in Agreement and Plan of Merger) dated
February 9, 1996 between Biobottoms, Inc. Diplomat Corporation and
Congress Financial Corporation.(4)
10v Agreement and Plan of Merger by and among Diplomat Corporation,
Diplomat Acquisition Corporation, Biobottoms, Inc. and Principal
Stockholders, together with Amendment No. I thereto.(4)
10y Asset Purchase Agreement dated as of September 24, 1997 by and among
Diplomat Corporation and Jean Grayson's Brownstone Studio, Inc. and
Wilroy Inc.(7)
10z Bill of Sale provided by Jean Grayson's Brownstone Studio, Inc. and
Wilroy, Inc.(7)
10aa Assignment and Assumption Agreement dated October 30, 1997 between
Brownstone Holdings, Inc., Jean Grayson's Brownstone Studio, Inc. and
Wilroy, Inc.(7)
10bb Loan and Security Agreement by and among Congress Financial Corporation
and Jean Grayson's Brownstone Studio, Inc. dated February 28, 1997, as
amended September 17, 1997.(7)
10cc Junior Participation Agreement between Congress Financial Corporation,
Robert M. Rubin and Jay M. Kaplowitz dated September 27, 1997.(7)
10dd Agreement and Plan of Merger by and among Diplomat Corporation, Magram
Acquisition Corp and Lew Magram Ltd.(8)
10ee Employment Agreement between Irving Magram and Lew Magram Ltd. dated
February 2, 1998(9)
10ff Employment Agreement between Warren Golden and Diplomat Corporation
dated February 2, 1998.(9)
10gg Employment Agreement between Stephanie Sobel and Lew Magram Ltd. dated
February 2, 1998.(9)
10hh Lease Agreement between Franklin Associates and Lew Magram Ltd. dated
May 15, 1992.(9)
10ii Loan and Security Agreement by and between Congress Financial
Corporation and Lew Magram Ltd. dated August 13, 1996(9)
21 Subsidiaries of the Registrant(10)
27 Financial Data Schedule(10)
(1) Incorporated by reference to Diplomat Corporation Registration
Statement No. 33-66910 NY
(2) Incorporated by reference to Diplomat Corporation Annual Report on Form
10-KSB for the year ended January 1, 1994.
(3) Incorporated by reference to Diplomat Corporation Registration
No33-95986
41
<PAGE>
(4) Incorporated by reference to Diplomat Corporation Annual Report on Form
10-KSB for the year ended December 31, 1995.
(5) Incorporated by reference to Diplomat Corporation Annual Report on Form
10-KSB for the year ended September 30, 1996.
(6) Incorporated by reference to Diplomat Corporation report on Form 8-K
dated November 15, 1997.
(7) Incorporated by reference to Diplomat Corporation Registration Form
SB-2 dated November 17, 1997.
(8) Incorporated by reference to Diplomat Corporation report on Form 10-KSB
dated January 13, 1998.
(9) Incorporated by reference to Diplomat Corporation report on Form 8-K
dated March 6, 1998.
(10) Included in this Form 10-KSB/A2
(b) Reports on Form 8-K
No reports were filed on Form 8-K during the last quarter of the
Company's fiscal year ending September 30, 1997.
42
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Annual Report on Form
10-KSB/A2 to be signed on its behalf by the undersigned, thereunto duly
authorized.
DIPLOMAT CORPORATION
By:/s/ Jonathan Rosenberg
-----------------------
Jonathan Rosenberg
President, Chief Executive Officer
Dated: March 16, 1998
Pursuant to the requirements of the Securities Exchange Act of 1934,
this Report has been signed below by the following persons, which include the
Chief Executive Officer, the Chief Financial Officer and a majority of the Board
of Directors, on behalf of the Registrant and in the capacities and on the dates
indicated:
Name Title Date
---- ----- ----
/s/ Jonathan Rosenberg President, Chief Executive March 16, 1998
- ---------------------- Officer and Director
Jonathan Rosenberg (Principal Exec Officer)
/s/ Robert M. Rubin Chairman of the Board March 16, 1998
- -------------------
Robert M. Rubin
/s/ Stuart Leiderman Executive Vice President of March 16, 1998
- -------------------- Sales and Marketing and a
Stuart Leiderman Director
/s/ Warren Golden Executive Vice President, March 16, 1998
- -------------------- Chief Operating Officer
Warren Golden and a Director
/s/ Howard Katz Director March 16, 1998
- ----------------
Howard Katz
/s/ Wesley C. Fredericks, Jr. Director March 16, 1998
- ----------------------------
Wesley C. Fredericks, Jr.
/s/ Irwin Oringer Principal Accounting Officer March 16, 1998
- ----------------- and Controller
Irwin Oringer
43
<PAGE>
DIPLOMAT CORPORATION AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS
INDEX
Page
Number
-------------
INDEPENDENT AUDITORS' REPORT F - 2
CONSOLIDATED BALANCE SHEET F - 3
CONSOLIDATED STATEMENTS OF OPERATIONS F - 4
CONSOLIDATED STATEMENTS OF CHANGES IN
STOCKHOLDERS' EQUITY F - 5
CONSOLIDATED STATEMENTS OF CASH FLOWS F - 6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS F - 7
F - 1
<PAGE>
INDEPENDENT AUDITOR'S REPORT
----------------------------
To the Board of Directors and Stockholders
Diplomat Corporation
Stony Point, New York
We have audited the accompanying consolidated balance sheet of
Diplomat Corporation and Subsidiaries as of September 30, 1997 and the related
consolidated statements of operations, stockholders' equity, and cash flows for
the year ended September 30, 1997 and the nine months ended September 30,
1996.These financial statements are the responsibility of the Company's
management.Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted
auditing standards.Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements.An audit also
includes assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall financial statement
presentation.We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above
present fairly, in all material respects, the financial position of Diplomat
Corporation and Subsidiaries as of September 30, 1997 and the results of its
operations and its cash flows for the year ended September 30, 1997 and the nine
months ended September 30, 1996 in conformity with generally accepted accounting
principles.
/s/ Feldman Radin & Co., P.C.
Feldman Radin & Co., P.C.
Certified Public Accountants
New York, New York
January 13, 1998 and
February 19, 1998 as to
Note 3 and Note 10(d)
F - 2
<PAGE>
DIPLOMAT CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
SEPTEMBER 30, 1997
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 59,750
Accounts receivable, net of allowance of $147,001 2,212,856
Inventories 10,005,057
Prepaid catalogs 2,452,858
Prepaid expenses 1,396,881
Other current assets 938,802
------------
TOTAL CURRENT ASSETS 17,066,204
PROPERTY AND EQUIPMENT, net 3,465,493
OTHER ASSETS:
Goodwill 10,879,788
Customer List 4,875,000
Other 728,437
------------
$ 37,014,921
============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expense $11,713,554
Loans payable - Stockholder 1,435,000
Loans payable - Congress Financial Corp. 4,130,136
Open prepaid orders 335,948
Outstanding merchandise credits 2,981,521
Current maturities of long term debt 893,936
------------
TOTAL CURRENT LIABILITIES 21,490,095
LONG TERM DEBT, less current maturities 1,235,754
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $.10 par value, 1,000,000 shares
authorized 505,000 shares issued and outstanding 12,883,048
Common stock, $.0001 par value, 50,000,000 shares
authorized, 8,001,933 shares issued and outstanding 801
Paid-in capital 9,266,908
Accumulated deficit (7,861,684
------------
TOTAL STOCKHOLDERS' EQUITY 14,289,073
------------
$ 37,014,921
============
See notes to financial statements.
F - 3
<PAGE>
DIPLOMAT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Nine
Year ended months ended
September 30, September 30,
1997 1996
------------- -------------
NET SALES $ 35,147,333 $ 19,222,801
COST OF GOODS SOLD 16,665,203 13,334,588
------------- ------------
GROSS PROFIT 18,482,130 5,888,213
------------- ------------
SELLING, GENERAL, AND ADMINISTRATIVE EXPENSES 16,720,829 10,589,561
RESTRUCTURING AND REORGANIZATION COSTS -- 1,738,975
------------- ------------
OPERATING INCOME (LOSS) 1,761,301 (6,440,323)
INTEREST EXPENSE (644,233) (784,577)
------------- ------------
INCOME (LOSS) BEFORE INCOME TAXES 1,117,068 (7,224,900)
INCOME TAXES (BENEFIT) (210,433) --
------------- ------------
NET INCOME (LOSS) 1,327,501 (7,224,900)
PREFERRED STOCK DIVIDENDS (362,892) --
------------ ------------
NET INCOME (LOSS) TO COMMON SHAREHOLDERS $ 964,609 $(7,224,900)
============ ============
NET INCOME (LOSS) PER COMMON SHARE $ 0.16 $ (1.59)
============ ============
AVERAGE NUMBER OF SHARES USED IN COMPUTATION 5,892,454 4,549,525
============ ============
See notes to financial statements.
F - 4
<PAGE>
DIPLOMAT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEAR ENDED SEPTEMBER 30, 1997 AND
NINE MONTHS ENDED SEPTEMBER 30, 1996
<TABLE>
<CAPTION>
Common Stock Preferred Stock
------------------ ---------------------- Paid-in Accumulated
Shares Amount Shares Amount Capital Deficit Total
---------- ------ -------- ------------ ----------- ------------ ------------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at December 30, 1995 4,493,525 $ 458 - $ - $ 5,201,441 $ (1,675,393) $ 3,526,507
Exercise of options, issuance of 500,000
shares of common stock par .0001 @ .95 500,000 50 474,950 475,000
Issuance of common stock 400,000 400,000
Issuance of preferred stock 410,000 4,100,000 4,100,000
Net loss (7,224,900) (7,224,900)
---------- ------ -------- ------------ ----------- ------------ ------------
Balance at September 30, 1996 4,993,525 508 410,000 4,100,000 6,076,391 (8,900,293) 1,276,607
Private placements 1,250,000 125 2,174,875 2,175,000
Exercise of warrants 500,000 50 499,950 500,000
Issuance of shares 1,258,408 118 515,692 515,810
Preferred stock issued for Magram acquisition 95,000 8,691,668 8,691,668
Preferred stock issued for interest 91,380 91,380
Net income 1,327,501 1,327,501
Preferred stock dividends (288,892) (288,892)
---------- ------ -------- ------------ ----------- ------------ ------------
Balance at September 30, 1997 8,001,933 $ 801 505,000 $ 12,883,048 $ 9,266,908 $ (7,861,684) $ 14,289,073
========== ====== ======== ============ =========== ============ ============
</TABLE>
See notes to financial statements.
F - 5
<PAGE>
DIPLOMAT CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the For the nine
year ended months ended
September 30, September 30,
1997 1996
------------- -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 1,327,501 $ (7,224,900)
Adjustment to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Amortization 375,333 --
Depreciation 384,857 211,237
Issuance of stock for expenses 91,380 400,000
CHANGES IN ASSETS AND LIABILITIES:
(Increase) decrease in accounts receivable 297,154 (282,507)
(Increase) decrease in inventories (3,076,019) 2,551,187
(Increase) decrease in prepaid expenses 512,723 1,041,372
(Increase) decrease in prepaid catalogs (1,982,124) (641,132)
(Increase) decrease in other current assets (205,824) 702,866
(Increase) decrease in other assets (92,373) 500,202
Increase (decrease) in accounts payable and accrued expenses (1,685,718) 2,054,897
Increase (decrease) outstanding merchandise credits 214,242 --
Increase (decrease) prepaid orders 22,130 --
------------- -------------
NET CASH USED BY OPERATING ACTIVITIES (3,816,738) (686,778)
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Cash paid for Biobottoms, Inc. (net of cash acquired) -- (2,899,211)
Cash acquired in Magram acquisition 2,051,007 --
Purchase of trademark (75,000) --
Purchase of property and equipment (189,780) (211,096)
------------- -------------
NET CASH FLOWS PROVIDED BY (USED) BY INVESTING ACTIVITIES 1,786,227 (3,110,307)
------------- -------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repayment of Biobottoms aquisition loan (1,500,000) --
Proceeds of loans payable, affiliate -- 450,000
Revolving credit loans (735,145) 583,650
Preferred stock dividends paid (288,892) --
Issuance preferred and common stock 3,190,809 475,000
Borrowings from stockholder 1,435,000 2,620,000
Repayment of long term debt and loan payables (80,769) (393,678)
------------- -------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 2,021,003 3,734,972
------------- -------------
NET DECREASE IN CASH (9,508) (62,113)
CASH AND CASH EQUIVALENTS, at beginning of period 69,258 131,371
------------- -------------
CASH AND CASH EQUIVALENTS, at end of period $ 59,750 $ 69,258
============= =============
SUPPLEMENTAL CASH FLOW INFORMATION:
Cash paid during the year for:
Interest $ 764,000 $ 706,000
============= =============
Income taxes $ -- $ --
============= =============
</TABLE>
See notes to financial statements.
F - 6
<PAGE>
DIPLOMAT CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THE YEAR ENDED SEPTEMBER 30, 1997
AND NINE MONTHS ENDED SEPTEMBER 30, 1996
1. SIGNIFICANT ACCOUNTING POLICIES:
A. The financial statements include the accounts of the
Company and its wholly-owned subsidiaries. All significant intercompany
balances and transactions have been eliminated.
B. Inventories are stated at the lower of cost or market. Cost
is determined by the first-in, first-out (FIFO) method.
C. Property and equipment are stated at cost. Depreciation is
provided using primarily the straight-line method and accelerated
methods (for machinery and equipment) over the expected useful lives of
the assets, which range from 31.5 years for the building and real
property, to between five and 10 years for machinery, furniture and
equipment.
D. The Company follows SFAS 109 for income taxes. Pursuant to
SFAS 109 deferred tax assets and liabilities are determined based on
differences between the financial reporting and tax basis of assets and
liabilities and are measured by applying enacted tax rates and laws to
taxable years in which such differences are expected to reverse.
E. For purposes of the statement of cash flows, the Company
considers all highly liquid debt instruments purchased with an original
maturity of three months or less to be cash equivalents.
F. The preparation of financial statements in conformity with
generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of
revenues and expenses during the reported period. Actual results could
differ from those estimates.
G. In March 1995, the Financial Accounting Standards Board
("FASB") issued Statement of Financial Accounting Standards ("SFAS")
No. 121, "Accounting For the Impairment of Long Lived Assets and For
Long Lived Assets to be Disposed Of ". SFAS No. 121 requires the
Company to review long-lived assets and certain identifiable assets and
any goodwill related to those assets for impairment whenever
circumstances and situations
F - 7
<PAGE>
change such that there is an indication that the carrying amounts may
not be recoverable. The adoption of SFAS No. 121 did not result in any
material adjustments in the financial statements.
H. Effective December 30, 1995, the Company adopted SFAS No.
107, "Disclosures About Fair Value of Financial Instruments", which
requires disclosure of fair value information about financial
instruments whether or not recognized in the balance sheet. The
carrying amounts reported in the balance sheet for cash, trade
receivables, accounts payable and accrued expenses approximate fair
value based on the short term maturity of these instruments.
I. The Company accounts for stock transactions with employees
in accordance with APB No. 25, "Accounting for Stock Issued to
Employees". In accordance with SFAS No. 123, " Accounting for Stock
based Compensation", the Company has adopted the pro-forma disclosure
requirements contained therein.
J. Direct response advertising costs, consisting primarily of
catalog preparation, printing and postage expenditures, are amortized
over the period during which the benefits are expected. Advertising
costs, principally the amortization of such prepaid catalog costs,
included in the accompanying statement of operations were $16,804,708
for the year ended September 30, 1997 and $3,033,000 for nine months
ended September 30, 1996. Included in current assets at September 30,
1997, is $2,452,858 of prepaid catalog costs.
K. Revenue is recognized at the time merchandise is shipped to
customers. Proceeds received for merchandise not yet shipped are
reflected as "customers' unshipped orders," a current liability.
L. Magram issues merchandise credits for certain returns of
merchandise sold with substantial discounts. Unused credits are
periodically written off into income.
2. BUSINESS:
The Company is engaged in two lines of business and
accordingly its operations are classified into two business segments:
mail order catalog retail operations, and the manufacturing marketing
and distribution of infants accessories principally to mass merchants.
As of 1995, the Company reported its results of operations on
a fifty-two/fifty-three week year ending on the Saturday closest to
December 31. However, on November 12, 1996, the Company has changed its
reporting date to September 30.
F - 8
<PAGE>
3. ACQUISITION OF LEW MAGRAM, LTD.:
On February 19, 1998, the Company (through its wholly-owned
subsidiary, Magram Acquisition Corp.) acquired Lew Magram,
Ltd.(Magram), a New York corporation with a place of business in
Teaneck, New Jersey, which is in the business of mail order catalogue
sales of womens' clothing. For accounting purposes, the acquisition
was effected as of July 1, 1997, the date that the Company assumed
effective control of Magram. The acquisition was accounted for as a
purchase and the consideration consisted of the issuance of 95,000
shares of the Company's $.10 par value, Series D, convertible
preferred stock. The Series D preferred stock is convertible into
3,166,667 shares of the Company's common stock, (which assumes a market
value of $4.00 per share). The preferred Stock does not pay any
dividends, but participates with common in any Company distributions.
The preferred stock has a liquidation preference of $100 per share.
An additional 250,000 shares of common stock were also given as
consideration. The fair market value of the consideration was
approximately $8.7 million and acquisition costs were approximately
$646,000. The Company recorded the carryover basis for a certain
selling stockholder of Magram who is also a principal stockholder of
the Company.
The net fair market of identifiable assets acquired was
approximately $1.9 million, and included customer lists valued at $5
million. The customer lists are being amortized over a period of 10
years. Goodwill amounted to approximately $7.4 million and is being
amortized over 25 years.
The following unaudited pro-forma summary combines the
consolidated results of operations of the Company and Magram as if the
acquisition had occurred at the beginning of 1996, after giving effect
to certain adjustments, including amortization.
Nine months
Year ended ended
September 30, September 30,
--------------- ---------------
1997 1996
(unaudited) (unaudited)
Net sales $ 72,764,211 $ 55,546,294
Net loss (4,900,554) (8,321,654)
Net loss per common share (.80) (1.73)
The pro-forma results do not necessarily represent results
which would have occurred if the acquisition had taken place on the
basis assumed above, nor are they indicative of the results of future
combined operations.
4. ACQUISITION OF BIOBOTTOMS, INC. AND RELATED FINANCING:
F - 9
<PAGE>
A. Acquisition of Biobottoms, Inc.: On February 9, 1996, the
Company completed the acquisition of Biobottoms, Inc. ("Biobottoms"), a
California-based mail-order catalog company, specializing in apparel
and accessories for newborn through preteen children, pursuant to an
Agreement and Plan of Merger made as of December 22, 1995 by and among
Diplomat Corporation, Diplomat Acquisition Corp., a wholly-owned
subsidiary of the Company, organized under the laws of the State of
Delaware ("DAC"), Biobottoms and Joan Cooper and Anita Dimondstein,
individuals and principal stockholders of Biobottoms (the "Merger
Agreement"). Biobottoms has become a wholly-owned subsidiary of the
Company and will continue its principal place of business in Petaluma,
California.
The Company paid $2,500,000 for Biobottoms, $1,000,000 in cash
and $1,500,000 in the form of two promissory notes to Biobottoms'
shareholders, each in the amount of $750,000 ("Acquisition notes"). The
notes bear interest at 1% over the prime rate as defined in the
agreements. One such note is due six months from the acquisition date
and the second note is due in two equal installments of $375,000, nine
months and eighteen months after the date of acquisition, respectively.
The Company did not make the payments which were required in August and
November 1996. On December 9, 1996, the Company received notification
of the default from the former Biobottoms shareholders, which required
that the Company cure the default on the notes within 270 days, or be
subject to enforcement action. On February 25, 1997, the former
Biobottoms shareholders agreed not to initiate enforcement action under
this or susequent defaults until not earlier than December 31, 1997. In
connection with obtaining this agreement, Diplomat agreed to pay the
Biobottoms shareholders ten installemnts of $5,000 to be applied
against the acquisition notes, commencing on February 21, 1997 and to
undertake to conduct a private placement of its securities to raise
funds for the remaining balance due on the acquisition notes. In July
1997, the Company received proceeds from a private placement and
pursuant to an agreement with the Biobottoms shareholders paid
$1,500,000 in full satisfaction of all amounts due under the
acquisition notes, and also amended its consulting agreement with Joan
Cooper and Anita Dimondstein to provide for additional compensation of
29,204 shares each of the Company's common stock. Additionally, the
Company incurred costs related to the acquisition in the amount of
approximately $720,000. Of this amount, $600,000 represents the
estimated fair value of 100,000 shares of the Company's convertible
Series A preferred stock issued to a significant stockholder (who is
also a member of the Board of Directors), as a fee for his assistance
in consummating the acquisition. The Series A preferred shares are
convertible into 1,000,000 common shares of the Company. The Series A
preferred stock is not entitled to any specific dividends or
liquidation rights.
The acquisition of Biobottoms has been accounted for as a
purchase and accordingly, its results of operations are included with
the Company's beginning February 9, 1996.
The following unaudited pro-forma summary combines the
consolidated results of operations of the Company and Biobottoms as if
the acquisition had occurred at the beginning of 1995, after giving
effect to certain adjustments, including amortization of
F - 10
<PAGE>
goodwill, increased interest expense on the acquisition debt, and the
adjustments required as a result of changes to certain employment
agreements as a direct result of the acquisition.
Year ended
December 30,
1995
---------------
(unaudited)
Net sales $ 27,137,857
Net loss (1,719,030)
Net loss per common share (0.38)
The pro-forma results do not necessarily represent results
which would have occurred if the acquisition had taken place on the
basis assumed above, nor are they indicative of the results of future
combined operations.
B. Financing: Simultaneously with the closing of the
Biobottoms acquisition, the Company and Biobottoms entered into a loan
and subordinated security agreement with a director and principal
stockholder of the Company and an affiliate of such individual pursuant
to which the Company borrowed from such director and principal
stockholder and affiliate $2,353,100 and $450,000, respectively. The
loan from the director and principal stockholder was utilized to fund
the acquisition of Biobottoms in part. The loan from the affiliate has
been utilized for working capital purposes. Subject to an intercreditor
agreement between the Company's asset based lender and other lenders,
the $450,000 loan was paid in full on May 4, 1997.
In connection with such aforementioned loan by a director and
principal stockholder of the Company in the amount of $2,353,100, the
Company issued 100,000 shares of its Series A Preferred Stock, which
are convertible into 1,000,000 shares of common stock at the option of
the director and principal stockholder. The holder of such shares of
preferred stock will have the right, subject to a subordination and
intercreditor agreement by and among Congress Financial Corporation and
others, during any period during which there shall be an Event of
Default under such loans, as such term is defined therein, to designate
a majority of the members of the Board of Directors of the Company.
Such right of designation will continue during the duration of any such
Event of Default. The Company has agreed at its sole cost and expense
to include the common shares issuable upon conversion of the shares in
any registration statement filed with the Securities and Exchange
Commission by the Company within six months of the date hereof.
F - 11
<PAGE>
5. RESTRUCTURING OF OPERATIONS:
During the quarter ended September 30, 1996, management
instituted various actions designed to significantly cut costs in the
Company's manufacturing operation located in Stony Point, New York, and
to refocus the operation on its most profitable product lines and
channels of distribution. Towards this end, the following significant
decisions were made: (i) the former Chief Executive Officer's contract,
which expired in October 1996, was not renewed, and all ties with this
officer were severed; (ii) certain royalty agreements, specifically
those related to products which the Company is discontinuing, were not
renewed by the Company; (iii) a decision was made to target primarily
mass merchant customers; and (iv) significant permanent cutbacks in
personnel and other operating costs were made.
As a result of the actions taken, the Company incurred
restructuring charges of approximately $1,738,975. The restructuring
charges include approximately $568,000 primarily for write-offs and
other costs associated with the discontinuance of various products and
$771,000 for severance pay and professional and consulting fees payable
in connection with the restructuring plan.
6. CONVERSION OF STOCKHOLDER DEBT AND ISSUANCE OF SERIES B
PREFERRED STOCK:
Effective September 30, 1996, a significant stockholder and
member of the Company's Board of Directors converted $3,500,285 of
indebtedness into 290,000 shares of Series B preferred stock of the
Company and 60,000 shares of the Company's Series C preferred stock.
Both the Series B and C shares of preferred stock have a liquidation
preference of $10 per share ("Liquidation Value") and a normal dividend
of 9% of Liquidation Value, payable monthly. Should the Company not pay
the dividends on either the Series B or C preferred stock for three
consecutive months, the holder will be entitled to receive 100,000
shares of the Company's common stock for each month that the dividend
has not been paid as a penalty. The preferred stock, based on
Liquidation Value is convertible into common stock of the Company at
75% of the average market value of the common stock for the ten trading
days immediately preceding the day of conversion. The preferred stock
also has voting rights equal to 3,500,000 shares of common stock on all
matters on which common stock votes, including election of directors.
As part of the consideration for the conversion the holder was issued
500,000 shares of the Company's common stock. The issuance of the
common stock was valued at approximately $0.80 per share, the estimated
fair value of such shares at the time of issuance.
In September 1997, this significant shareholder loaned the
Company an additional $1.2 million, with interest at 9%.
7. INVENTORIES:
F - 12
<PAGE>
Inventories consist of the following at September 30, 1997:
Raw materials and packaging $ 375,510
Work-in-process 365,333
Finished goods 9,264,214
----------------------
$ 10,005,057
======================
8. PROPERTY AND EQUIPMENT:
Property and equipment consist of the following at September
30, 1997:
Land $ 420,000
Building 1,517,600
Equipment 6,659,639
----------------------
8,597,239
Less accumulated depreciation 5,131,746
----------------------
$ 3,465,493
======================
9. OTHER ASSETS:
Other assets consist of the following at September 30, 1997:
Noncurrent deferred tax asset $ 581,535
Other 146,902
----------------------
$ 728,437
======================
F - 13
<PAGE>
10. REVOLVING CREDIT AGREEMENTS:
(a) In April 1994, the Company entered into an agreement with Congress
Financial Corporation ("Congress") providing the Company with a
$3,000,000 collateralized line of credit to be utilized for loans and
trade letters of credit. The loan is collateralized by substantially
all of the Company's personal property, including accounts receivable,
inventory, and trademarks. The interest rate on loans is 2% above the
prime rate announced by Philadelphia National Bank. The prime rate was
8.5% and 8.25% at September 30, 1997 and 1996, respectively. The
outstanding balance was $820,186 at September 30, 1997.
Pursuant to the amended terms dated October 1995, the Company
may borrow up to an amount equal to the sum of:
(i) 80% of eligible accounts receivable (as defined)
(ii) 100% of cash collateral
(iii) the lesser of 35% of eligible inventory (as defined) or
$1,250,000, less
(iv) any availability reserves.
The revolving credit agreement contains restrictions relating
to the payment of dividends, and the maintenance of working capital and
stockholders' equity. Up to $375,000 of such loan is guaranteed by a
director and significant stockholder.
(b) On February 9, 1996, the Company's wholly owned subsidiary
(Biobottoms), entered into a new financing arrangement with Congress
which includes a $2,000,000 revolving credit line, restricted to the
lesser of 45% of the value of eligible inventory or 80% of the value of
an orderly liquidation of such inventory. Borrowings on the line of
credit bear interest at the prime rate plus 2% and it expires on
February 9, 1999. Fees are paid on the unused line of credit at the
rate of 1/2%. The line of credit is collateralized by substantially all
of the Company's assets. The balance on this loan was $1,046,240 at
September 30, 1997.
(c) In August 1996, Magram entered into a committed line of credit with
Congress Financial Corp. The agreement provides for borrowings subject
to a borrowing base formula consisting of 50% of inventory and is
secured by substantially all the assets of the Company. Interest on
borrowings under the agreement is at 1.5% over the bank prime rate and
is calculated on a minimum borrowing of $2,000,000. As of September 30,
1997, the outstanding balance under this agreement was $2,263,711 at a
current rate of interest of 10.00%.
(d) In connection with the February 19, 1998 closing of the Lew Magram
acquisition, a certain principal shareholder and director guarranteed
the above agreements up to an aggregare of $500,000. The above
agreements impose certain restrictions on the Company's ability to pay
dividends.
F - 14
<PAGE>
11. LONG-TERM DEBT:
Long-term debt consists of the following at September 30, 1997:
Note payable - bank, payable in monthly
installments of $10,018 which includes interest at
8.375%, due August 2010. The note is collateralized
by land and buildings and is guaranteed by a
stockholder.
$ 952,806
Note payable - bank, payable in monthly
installments of $7,201 which includes interest at
12%. The note is collateralized by land and
buildings and is cosigned by a stockholder.(b) 564,540
Equipment Loans - payable in monthly installments 450,851
Other 161,493
Acquisition notes payable(a) -
----------------
2,129,690
Current maturities 893,936
----------------
Long - term debt $ 1,235,754
================
The maturities of long term debt is as follows:
1998 $ 893,936
1999 215,976
2000 50,233
2001 55,733
Thereafter 913,812
------------------
$2,129,690
==================
(a) The Company paid $2,500,000 for Biobottoms, $1,000,000 in cash and
$1,500,000 in the form of two promissory notes to Biobottoms'
shareholders, each in the amount of $750,000 ("Acquisition Notes"). The
notes bear interest at 1% over the prime rate as defined in the
agreements as long as no default occurs. One such note was due six
months from the acquisition date and the second note was due in two
equal installments of $375,000, nine months and eighteen months after
the date of acquisition, respectively. The Company did not make the
payments which were required in August and November 1996. On December
9, 1996, the Company received notification of the default from the
former Biobottoms shareholders, which required that the Company cure
the default under the notes within 270 days, or be subject to
enforcement action. On February 25, 1997, the Biobottoms former
shareholders agreed not to initiate enforcement action as a result of
this or subsequent
F - 15
<PAGE>
defaults until not earlier than December 31, 1997. In connection with
obtaining this agreement, Diplomat agreed to pay the Biobottoms
shareholders ten installments of $5,000 to be applied against the
acquisition notes, commencing on February 21, 1997 and to undertake to
conduct a private placement of its securities to raise funds for the
remaining balance due on the acquisition notes. In July 1997, the
Company received proceeds from a Private Placement and pursuant to an
agreement with the Biobottoms shareholders paid $1,500,000 in full
satisfaction of all amounts due under the acquisition notes, and also
amended its consulting agreements with Joan Cooper and Anita
Dimondstein to provide for additional compensation of 29,204 shares
each of the Company's common stock. Additionally, the Company incurred
notes related to the acquisition in the amount of approximately
$720,000. Of this amount, $600,000 represents the estimated fair value
of 100,000 shares of the Company's convertible Series A Preferred Stock
issued to a significant stockholder (who is also a member of the Board
of Directors), as a fee for his assistance in consummating the
acquisition. The Series A Preferred shares are convertible to 1,000,000
common shares of the Company. The Series A Preferred Stock is not
entitled to any specific dividends or liquidation rights.
(b) Full payment of this mortgage was due on January 26, 1997. The
lender agreed to extend the mortgage for an additional twelve months in
exchange for an extension fee of $15,000 and the agreement to bring
certain past due amounts current.
12. STOCKHOLDERS' EQUITY:
A. On December 31, 1992, the Board of Directors adopted a stock
option plan which allows for the grant of option to employees and
non-employees to purchase up to 200,000 shares of the Company's common
stock. The exercise price per share cannot be less than the fair market
value of the Company's common stock on the date of grant. During each
of 1996 and 1995, the Company issued 75,000 options exercisable at
$1.50 per share. There were no options exercised or canceled during
either of the years presented.
B. There are currently 581,175 warrants outstanding to purchase
shares of the Company's common stock at $3.50 per share. The warrants,
which were issued in connection with the Company's initial public
offering of its common stock, are exercisable until November 4, 1998.
To date, these warrants have not been exercised.
C. During 1995, warrants to purchase 1,500,000 shares of common
stock were granted; 500,000 of these warrants, exercisable at $1.37
per share, were exercised during 1995 resulting in net proceeds to the
Company of $628,000. The remaining 1,000,000 warrants were exercisable
as follows, (i) 500,000 at $3.00 per share expiring on July 18, 1996
and (ii) 500,000 at $1.00 per share expiring on July 18, 1997, which
were exercised during 1997. The warrants expiring July 18, 1996 were
not exercised.
D. In September 1996, the Company issued 500,000 common shares at
$0.95 per share to previously unrelated investors from the exercise of
options. Net proceeds to the Company were $475,000.
F - 16
<PAGE>
E. In May 1997, the Company issued to Mr. Rubin of an aggregate of
550,000 shares of Common Stock in consideration of Mr. Rubin's waiver
of certain compensation owed to him and for restructuring certain debt
owed to him, waiving certain defaults and providing an additional loan
to the Company in the aggregate amount of $600,000 during 1996.
F. In March 1997, the Company approved the issuance of 52,217
shares of Common Stock to Mr. Rubin in lieu of the dividend payments
due under the Series B and Service C Preferred Stock, as well as for an
adjustment in salary, for the period from January 1, 1997 through March
31, 1997.
G. In September 9, 1996, the Company entered into an arrangement
with Gersten, Savage, Kaplowitz & Fredericks, LLP ("GSK&F") which
provided that GSK&F will provide certain legal and consulting services
to the Company over an extended period of time. As compensation for its
services, certain individual members of GSK&F received an aggregate of
350,000 shares of Common Stock and options to purchase an aggregate of
150,000 shares of Common Stock at $2.50 per share. Of such securities,
157,500 shares of Common Stock and 67,500 options were issued to Wesley
C. Fredericks who has since then become a director of the Company.
H. In November 1996, the Company issued an aggregate of 1,060,000
options to 35 employees of the Company, including two executive
officers and one outside director, pursuant to the November 1996 Plan.
The Options are exercisable at $1.00 per share, vest over a period of
five years, and expire ten years from the date of grant, if not sooner
due to termination or death of the employee.
I. In May 1997, the Company issued an aggregate of 150,000 options
pursuant to the November 1996 Plan, 50,000 of which were issued to
Howard Katz, a director of the Company, and 100,000 of which were
issued to Mr. Fredericks in connection with his agreement to become a
member of the Company's board of directors. Such options are
exercisable at $2.38 per share.
J. In May 1997, the Company authorized the issuance of 200,000
shares of Common Stock to Mr. Rubin in consideration of Mr. Rubin
extending loans to the company as well as extending a personal
guarantee to Congress on behalf of the Company.
K. Between May and July 1997, the Company issued an aggregate of
158,408 shares of Common Stock and options to acquire 200,000 shares of
Common Stock to six consultants. Of the 200,000 options, 50,000 are
exercisable at $1.75 per share and 150,000 are exercisable at $1.875
per share.
L. From May 1997 through September 1997, the Company sold
1,250,000 shares of its Common Stock in a private placement of its
securities in which it raised $2,500,000. In addition to these shares,
the Company issued to European Community Capital a placement agent's
warrant exercisable to purchase up to 200,000 shares of Common Stock at
$3.3125 per share. The Company issued an option to a principal of the
placement agent to purchase up to 100,000 shares of Common Stock at
$2.00 per share.
F - 17
<PAGE>
M. In September 1997, Mr. Rubin made an additional loan to the
Company in the amount of $1,200,000.
N. In October 1997, in part to raise capital for the Company's
acquisition out of bankruptcy of the assets of Brownstone, the Company
completed a private offering of its securities which raised $3,480,000
from accredited investors. The private placement consisted of units,
each unit consisting of ten shares of Series E Preferred Stock and
7,500 shares of Common Stock at a purchase price of $10,000 per unit.
As a result the Company will be issuing an aggregate of 3,480 shares of
Series E Preferred Stock and 2,610,000 shares of Common Stock.
13. CONCENTRATION OF CREDIT RISKS:
Financial instruments that potentially subject the Company to
concentrations of credit risk consist principally of trade accounts
receivable. Concentrations of credit risk with respect to trade
receivables include concentrations of trade accounts in the juvenile
products industry.
14. NET SALES:
For the year ended September 30, 1997 and the nine months ended
September 30, 1996 two customers of Diplomat accounted for 6% and 4%
and 6% and 15% of net sales, respectively.
15. COMMITMENTS AND CONTINGENCY:
A. Sales tax audit
In November 1997, Magram was served with a proposed assessment
related to a sales tax audit aggregating approximately $2.4 million,
(including penalties and interest). Magram is vigorously contesting
this assessment and believes this matter will ultimately be settled for
an immaterial amount and has accrued $50,000 at September 30, 1997 as
an estimated loss. The Company's acquisition agreement with Magram's
former shareholders indemnifies it for any amounts in excess of
$100,000 that could ultimately be due from this matter.
B. Merchandise credits
Because of Magram's policy of periodically writing off into income
unused merchandise credits issued without expiration dates in
connection with the return of sale merchandise, it may be liable for
future claims on such amounts previously written off.
F - 18
<PAGE>
C. Employment agreements
In connection with the Magram acquisition, the Company will enter
into three year employment agreements with three former principals of
Magram to serve in executive capacities with the acquired Company.
Aggregate annual compensation under these agreements is $657,000 for
the first two years and $692,500 for the third year.
D. Leases
The Company rents real and personal property under long-term lease
agreements which expire at various dates through December 2004. Future
minimum rentals under noncancellable operating leases are as follows:
Fiscal year ending Amount
------------------ ------
1998 $ 553,861
1999 570,309
2000 574,291
2001 570,064
2002 and thereafter 1,031,945
Rent expense amounted to approximately $823,277 and $226,000 for
the year ended September 30, 1997 and the nine months ended September
30, 1996, respectively.
E. Litigation
In September 1996, the Company was named as a defendant in an
action brought in the Supreme Court of New York. The plaintiff alleges
that the defendants' (including the Company) negligent maintenance of a
railroad crossing adjacent to the Company's property caused him to
collide with a train. The plaintiff is seeking $10,000,000 in damages
for his injuries, and his spouse is seeking an additional $1,000,000 in
damages for loss of the plaintiff's services. The Company and its
insurance carrier intend to vigorously defend this action. The ultimate
outcome of the litigation cannot be presently determined. The Company
does maintain $1,000,000 of insurance coverage which could be applied
to any liability posed by this matter.
In February 1997, Francine Nichols, a former consultant to the
Company, commenced an action against the Company in the Supreme Court
of the State of New York, New York County, to recover approximately
$240,000 allegedly due under a consulting agreement between Ms Nichols
and the Company. The Company disputes
F - 19
<PAGE>
each claim and intends to vigorously defend against them and believes
that it will prevail.
In July 1997, Federal Express commenced an action against
Biobottoms claiming approximately $180,000 in unpaid delivery invoices.
Biobottoms has disputed this claim and has filed a counter claim on
several bases, one of which is nonperformance. Biobottoms intends to
vigorously defend against the claim, and believes that it will prevail.
16. INCOME TAXES:
The following analyzes the deferred tax assets at September 30,
1997:
Deferred tax asset:
Net operating loss carry forward $ 2,915,000
Depreciation 102,000
Inventory 1,016,000
Other items 164,000
------------------
4,197,000
Less: Valuation allowance (2,835,000)
------------------
Deferred tax asset $ 1,362,000
==================
A valuation allowance is provided to reduce the deferred tax
assets to a level which, more likely than not, will be realized. The
net deferred tax asset reflects management's estimates of the amount
which will be realized from future profitability which can be predicted
with reasonable certainty. The valuation allowance was $2,835,000 at
September 30, 1997, which represents a decrease of $212,000 over the
amount reported at September 30, 1996. The current portion of the
deferred tax asset amounts to $780,464, and is included with other
current assets. The long term portion amounts to $581,536 and is
included with other assets.
As of September 30, 1997, the Company has net operating loss carry
forwards for Federal income tax purposes of approximately $7,300,000
which are available to offset future Federal taxable income through
2009.
F - 20
<PAGE>
The provision for income taxes differs from the amount computed by
applying the 34% federal statutory income tax rate to the net loss
before provision for income taxes as follows:
<TABLE>
<CAPTION>
Nine
Year ended months ended
September 30, September 30,
1997 1996
------------------- ------------------
<S> <C> <C>
Income tax benefit computed at statutory rate $ 451,000 $ (2,456,000)
Tax benefit of net operating loss carry forward (451,000)
State tax benefit, net of federal tax benefit 1,567 (313,000)
Adjustment to valuation allowance (212,000) 2,769,000
------------------- ------------------
Income tax (benefit) as reported $ (210,433) $ -
=================== ===================
</TABLE>
17. BUSINESS SEGMENT INFORMATION:
Summarized financial information by business segment for nine
months ending September 30, 1997 is as follows:
Year ended
September 30,
1997
-----------------------
Net sales:
Specialty catalog retail $ 28,254,609
operations
Mass merchant manufacturing 6,892,724
and distribution
-----------------------
35,147,333
-----------------------
Operating income:
Specialty catalog retail 324,867
operations
Mass merchant manufacturing 1,436,434
and distribution
-----------------------
1,761,301
-----------------------
F - 21
<PAGE>
Total assets:
Specialty catalog retail 31,599,588
operations
Mass merchant manufacturing 5,415,333
and distribution
-----------------------
37,014,921
-----------------------
Depreciation and amortization:
Specialty catalog retail 655,066
operations
Mass merchant manufacturing 105,124
and distribution
-----------------------
760,190
-----------------------
Capital expenditures:
Specialty catalog retail 176,206
operations
Mass merchant manufacturing 20,138
and distribution
-----------------------
$ 196,344
-----------------------
18. YEAR ENDED SEPTEMBER 30, 1996 (UNAUDITED):
The following summarizes the Company's results of operations
for year ended September 30, 1996:
Year ended
September 30, 1996
-----------------------
Net sales $ 20,576,697
Cost of sales 14,579,343
-----------------------
Gross profit 5,997,354
F - 22
<PAGE>
Operating expenses 13,543,927
-----------------------
Operating loss (7,546,573)
Other income 3,980
Interest expense (908,664)
-----------------------
Loss before income taxes (8,451,257)
Income taxes 47,000
-----------------------
Net loss $ (8,404,257)
-----------------------
Net loss per share $ (1.97)
-----------------------
Number of shares used in 4,267,640
computation
19. STOCK OPTION PLANS
The Company's 1992 Stock Option Plan ("1992 Stock Option Plan")
provides for the issuance of up to 200,000 shares of Common Stock upon
exercise of incentive stock options and is intended to qualify under
Section 422 of the Internal Revenue Service Code of 1986, amended
("Code").
The Stock Option Plan may be administered by the Board of
Directors or by a stock option committee of the Board of Directors (the
"Committee"). Incentive stock options are granted under the Stock
Option Plan to employees generally on the basis of the recipient's
responsibilities and the achievement of performance objectives. Subject
to the limitations set forth in the Stock Option Plan, the Board or the
Committee has the authority to determine when the options may be
exercised and vest. Under the Plan, the per share exercise price may
not be less than the greater of 100% of the fair market value of the
shares on the date of grant. With respect to any participant who owns
stock possessing more than 10% of the voting rights of the Company's
outstanding capital stock, the per share exercise price must be at
least 110% of the fair market value on the date of grant and the term
may not be longer than five years. As of this date, the Company has
outstanding an aggregate of 130,000 Stock options, exercisable at $1.50
per share, all of which are held by affiliates or employees of the
Company at the time of grant.
August 1996 Stock Option Plan -- The Company also established a
non-qualified stock option plan providing for the issuance of up to
1,500,000 shares of Common Stock to its directors, officers, key
employees and consultants (the "August 1996 Plan"). To date, the
Company has granted directors, officers and key employees an aggregate
of 150,000 incentive and non-
F - 23
<PAGE>
qualified stock options, at an exercise price of $2.00 per share and
500,000 non-qualified stock options issued and exercised by a
consultant. Future grants could have an adverse affect on the market
price of the Company's securities.
November 1996 Stock Option Plan -- Under the Company's November 1996
Incentive Stock Option Plan (the "November 1996 Plan"), options to
purchase a maximum of 1,500,000 shares of Common Stock of the Company
(subject to adjustments in the event of stock splits, stock dividends,
recapitalizations and other capital adjustments) may be granted to
employees, officers and directors of the Company and other persons who
provide services to the Company. As of the date of this Prospectus,
1,060,000 of such options have been granted at an exercise price $1.00,
and 150,000 have been granted at an exercise price of $2.375. The
options to be granted under the Plan are designated as incentive stock
options or non-incentive stock options by the Board of Directors which
also has discretion as to the persons to be granted options, the number
of shares subject to the options and terms of the option agreements.
Only employees, including officers and part time employees of the
Company, and non-employee directors, consultants and advisors and other
persons who perform significant service for or on behalf of the
Company, may be granted incentive stock options, officers and directors
who currently own more than 5% of the issued and outstanding stock are
not eligible to participate in the Plan.
The Plan provides that options granted thereunder shall be
exercisable during a period of no more than ten years from the date of
grant, depending upon the specific option agreement, and that, with
respect to incentive stock options, the option exercise price shall be
at least equal to 100% of the fair market value of the Common Stock at
the time of the grant.
In fiscal 1997, the Company adopted the disclosure provisions of
SFAS No. 123, "Accounting for Stock-Based Compensation". For disclosure
purposes, the fair value of options is estimated on the date of grant
using the Black-Scholes option option pricing model with the following
weighted average assumptions used for stock options granted during the
years ended September 30, 1997 and 1996: annual dividends of $0;
expected volatility of 94.99%; risk-free interest rate of 7% and
expected life of five years. The weighted average fair value of stock
options granted during the years ended September 30, 1997 and 1996 was
$1.17 and $1.48, respectively. If the Company had recognized
compensation cost for stock options in accordance with SFAS No. 123,
the Company's proforma net loss and net loss per share would have been
$328,099 and $.06 per share for the fiscal year ended September 30,
1997 and $8,298,400 and $1.82 per share for the nine months ended
September 30, 1996.
20. SUBSEQUENT EVENT
In October 1997, the Company acquired out of bankruptcy all of the
assets of Brownstone Studios, Inc., a mail-order catalog company.
F - 24
<PAGE>
EXHIBIT INDEX
Exhibit
No. Description
--- -----------
3a Certificate of Incorporation, as amended(1)
3b By-laws, amended(1)
3c Amendment to Certificate of Incorporation(1)
4a Form of Common Stock Certificate(1)
4b Form of Warrant Agency Agreement between the Registrant and North
American Transfer Company(1)
4c Revised form of Unit Purchase Option(1)
4d Common Stock Purchase Warrant(1)
4e Certificate of Designation of Series B and Series C Preferred Stock(5)
4f Amended and Restated Certificate of Designation of Series D Preferred
Stock(9)
4g Certificate of Designation of Series A Preferred Stock (10)
4h Certificate of Designation of Series E Preferred Stock (10)
5 Opinion of Gersten, Savage, Kaplowitz, Fredericks & Curtin, LLP(1)
10a Employment Agreement with Stuart A. Leiderman(1)
10b Stock Option Plan(1)
10c November 1996 Stock Option Plan(5)
10f Loshell Realty mortgages with Union State Bank and Stony Point
Technical Park, Inc. and related Mortgage Notes, including Sheldon Rose
guarantee of Union State Bank(1)
10g Agreement dated as of March 1, 1994 by and between Francine H. Nichols
and Diplomat Corporation(2)
10i Collateral Assignment of Trademarks and Trademark Licenses (Security
Agreement) by and between Congress Financial Corporation and Diplomat
Corporation(2)
10l Amendments No. 1, No. 2 and No. 3 to Loan and Security Agreement by and
between Congress Financial Corporation and Diplomat Corporation.(4)
10m Loan and Security Agreement made as of February 9, 1996 by and among
Robert M. Rubin, American United Global, Inc., Diplomat Corporation and
Biobottoms, Inc.(4)
10r Loan and Security Agreement dated February 9, 1996 by and between
Congress Financial Corporation and Biobottoms, Inc.(4)
10s Diplomat Corporation Guarantee dated February 9, 1996 to Congress
Financial Corporation of Biobottoms, Inc. Indebtedness.(4)
10t Collateral Assignment of Trademarks and Trademark Licenses dated
February 9,1996 between Biobottoms, Inc. and Congress Financial
Corporation.(4)
10u Security Agreement (Rights in Agreement and Plan of Merger) dated
February 9, 1996 between Biobottoms, Inc. Diplomat Corporation and
Congress Financial Corporation.(4)
10v Agreement and Plan of Merger by and among Diplomat Corporation,
Diplomat Acquisition Corporation, Biobottoms, Inc. and Principal
Stockholders, together with Amendment No. I thereto.(4)
10y Asset Purchase Agreement dated as of September 24, 1997 by and among
Diplomat Corporation and Jean Grayson's Brownstone Studio, Inc. and
Wilroy Inc.(7)
10z Bill of Sale provided by Jean Grayson's Brownstone Studio, Inc. and
Wilroy, Inc.(7)
10aa Assignment and Assumption Agreement dated October 30, 1997 between
Brownstone Holdings, Inc., Jean Grayson's Brownstone Studio, Inc. and
Wilroy, Inc.(7)
10bb Loan and Security Agreement by and among Congress Financial Corporation
and Jean Grayson's Brownstone Studio, Inc. dated February 28, 1997, as
amended September 17, 1997.(7)
10cc Junior Participation Agreement between Congress Financial Corporation,
Robert M. Rubin and Jay M. Kaplowitz dated September 27, 1997.(7)
10dd Agreement and Plan of Merger by and among Diplomat Corporation, Magram
Acquisition Corp and Lew Magram Ltd.(8)
10ee Employment Agreement between Irving Magram and Lew Magram Ltd. dated
February 2, 1998(9)
10ff Employment Agreement between Warren Golden and Diplomat Corporation
dated February 2, 1998.(9)
10gg Employment Agreement between Stephanie Sobel and Lew Magram Ltd. dated
February 2, 1998.(9)
10hh Lease Agreement between Franklin Associates and Lew Magram Ltd. dated
May 15, 1992.(9)
10ii Loan and Security Agreement by and between Congress Financial
Corporation and Lew Magram Ltd. dated August 13, 1996(9)
21 Subsidiaries of the Registrant(10)
27 Financial Data Schedule(10)
(1) Incorporated by reference to Diplomat Corporation Registration
Statement No. 33-66910 NY
(2) Incorporated by reference to Diplomat Corporation Annual Report on Form
10-KSB for the year ended January 1, 1994.
(3) Incorporated by reference to Diplomat Corporation Registration
No33-95986
(4) Incorporated by reference to Diplomat Corporation Annual Report on Form
10-KSB for the year ended December 31, 1995.
(5) Incorporated by reference to Diplomat Corporation Annual Report on Form
10-KSB for the year ended September 30, 1996.
(6) Incorporated by reference to Diplomat Corporation report on Form 8-K
dated November 15, 1997.
(7) Incorporated by reference to Diplomat Corporation Registration Form
SB-2 dated November 17, 1997.
(8) Incorporated by reference to Diplomat Corporation report on Form 10-KSB
dated January 13, 1998.
(9) Incorporated by reference to Diplomat Corporation report on Form 8-K
dated March 6, 1998.
(10) Included in this Form 10-KSB/A2
<PAGE>
DIPLOMAT CORPORATION
CERTIFICATE OF DESIGNATIONS, POWERS
PREFERENCES AND RIGHTS OF THE SERIES A
PREFERRED STOCK, $.01 par value
------------
Pursuant to Section 151 of the
General Corporation Law of the State of Delaware
Diplomat Corporation, a Delaware Corporation (the "Company") by its
President and Assistant Secretary hereby certify that the following resolution
has been duly adopted by the Board of Directors of the Company:
Resolved, that pursuant to the authority expressly granted to and vested
in the Board of Directors of the Company by the provisions of the Certificate
of Incorporation, there is hereby created, out of the 1,000,000 shares of
Preferred Stock authorized in Article Fourth of the Certificate of
Incorporation, a series of 100,000 shares, which seris shall have the
following designations, powers, preferences, rights, qualifications,
limitations, and restrictions set forth in the Certificate of Incorporation
which are applicable to the Preferred Stock.
The designation of said series of the Preferred Stock shall be Series A
Preferred Stock. The number of shares of Series A Preferred Stock shall be
100,000 and shall be issued as full shares having a par value of $.01 per
share.
1. The holders of Series A Preferred Stock shall be entitled at the
option of the holder to convert at any time each share of Series A Preferred
Stock into ten (10) shares of the Company's common stock ("Conversion Rate"),
which shares, when issued, will be duly authorized, fully paid for and
nonassessable, subject to adjustment as hereinafter provided:
(a) In case of any consolidation with or merger of the Company with or
into another corporation, or in case of any sale, lease or
conveyance to another corporation of the assets of the Corporation
as an entirety or substantially as an entirety, each share of Series
A Preferred Stock shall after the date of such consolidation,
merger, sale, lease or conveyance be convertible into the number of
shares of stock or other securities or property (including cash) to
which the common stock issuable (at the time of such consolidation,
merger, sale, lease or conveyance) upon conversion of such share of
Series A Preferred Stock would have been entitled upon such
consolidation, merger, sale, lease or conveyance; and in any such
case, if necessary, the provisions set forth herein with respect to
the rights and interests thereafter of the holder of the shares of
Series A Preferred Stock shall be appropriately adjusted so as to be
applicable, as nearly as may reasonably be, to any shares of stock
of other securities or property thereafter deliverable on the
conversion of the shares of Series A Preferred Stock.
<PAGE>
(b) If the Corporation shall (i) declare a dividend or make a
distribution on its Common Stock in shares of its common stock, (ii)
subdivide or reclassify the outstanding shares of common Stock into a
greater number of shares, or (iii) combine or reclassify the outstanding
common stock into a smaller number of shares, the Conversion Rate in effect
at the time of the record date for such dividend or distribution or the
effective date of such subdivision, combination or reclassification shall
be proportionately adjusted so that the holder of any shares of Series A
Preferred Stock surrendered for conversion after such date shall be
entitled to receive the number of shares of common stock which he would
have owned or been entitled to receive had such Series A Preferred Stock
been converted immediately prior to such date. Successive adjustments in
the conversion Rate shall be made whenever any event specified above shall
occur.
Shares of Common Stock issuable upon conversion of the Series A Preferred Stock
shall bear a legend stating that such shares of common stock are subject to a
voting agreement by and between the registered holders thereof and Sheldon R.
Rose and Lola Rose. A copy of such agreement shall be maintained at the
principal offices of the Company.
2. The holders of a majority of the shares of the Company's Series A
Preferred Stock shall have the right, by vote or action upon written consent in
lieu of a meeting, during any period during which there shall be an Event of
Default under the Secured Subordinated Term Note dated February 9, 1996 from the
Corporation to Robert M. Rubin (as such term is therein defined), after all
applicable grace periods shall have expired, to designate a majority of the
members of the Board of Directors of the Company, and such right and the
authority of any such persons so designated to serve as directors, shall
continue for the duration of any such Event of Default and only for such period.
3. If at any time after the date hereof the Company proposes to
register any of its equity securities under the Securities Act on Forms SB-2,
S-1, S-2 or S-3 or any other form which include substantially the same
information as would be required to be included on such forms as presently
constituted or any other registration form at the time in effect on which the
shares of common stock issuable upon conversion of the Series A Preferred Stock
could be registered for sale by the holders thereof (other than a registration
in connection with an acquisition of or merger with another entity or the sale
of shares registered on Form S-8), the Company shall give written notice to the
holders of the Series A Preferred Stock. Upon the written request of a majority
of the holders of such shares, given within 10 days after receipt of any such
notice, the Company shall include the shares of common stock issuable upon
conversion of the Series A Preferred Stock in such registration statement, file
the registration statement and use its best efforts to effect the registration
under the Securities Act of 1933 (the "Securities Act") of all of such shares
that the holders thereof have requested. The Company shall only be obligated to
file one (1) such registration statement provided that such registration
statement shall have become effective under the Securities Act.
4. In the event that the Company shall not have filed any registration
statement described under Section 3 hereof within six months of the date hereof,
as would have enabled the holders of the Series A Preferred Stock to include the
shares of common stock issuable upon conversion thereof in such registration
statement in accordance with Section 3 hereof, then, in such event, upon the
request of a majority of the holder of the Series A
<PAGE>
Preferred Stock, the Company shall file a registration statement under the
Securities Act covering the shares of common stock issuable upon such conversion
of the shares of Series A Preferred Stock owned by such holders or a portion
thereof, and the Company shall use its best efforts to, within 90 days of
receipt of the request by a majority of such holders, effect the registration of
any of such securities which the Company has been requested to register. The
Company shall not be obligated to file more than one (1) such registration
statement provided that such registration statement shall have become effective
under the Securities Act.
5. With respect to the registration of shares pursuant to either
Section 3 or Section 4 hereof, the Company shall pay all Registration Expenses,
except for underwriting discounts and selling commissions applicable to the sale
of the shares. As used herein, the term Registration Expenses shall mean all
expenses incidental to the Company's performance of its obligation to register
shares under said Sections 3 and 4 and shall include all fees and disbursements
of counsel for the Company and of its independent public accountants, including
the expenses of any special audits required by or incident to such performance,
and all other fees, costs and expenses which may be incurred in effecting the
registration of shares of stock of the bolder: of the Series A Preferred Stock,
including, any state or federal transfer taxes payable with respect to the sales
of such shares, all registration and filing fees, all fees and expenses of
complying with securities of blue sky laws and all printing expenses, but shall
not include the fees and disbursements of counsel to the holders of the Series A
Preferred Stock, or underwriting discounts and selling commissions applicable to
the sale of shares.
The certificate of designation herein certified has been duly adopted
by the Board of Directors of the Company in accordance with Section 151 of the
General Corporation Law of the State of Delaware pursuant to authority vested in
the Board of Directors by the Certificate of Incorporation of the Company, as
amended.
Signed and attested to on February 27, 1996
/s/ Sheldon R. Rose
----------------------------------
Sheldon R. Rose, President
Attest:
/s/ Irwin Oringer, Asst. Sec.
- -----------------------------
Irwin Oringer, Ass't Secretary
<PAGE>
EXHIBIT 4(h)
CERTIFICATE OF DESIGNATION
OF
SERIES E PREFERRED STOCK
OF
DIPLOMAT CORPORATION
Pursuant to Section 151 of the Delaware General Corporation Law,
Diplomat Corporation (the "Corporation"), a corporation organized and existing
under and by virtue of the provisions of the Delaware General Corporation Law
that pursuant to authority conferred upon the Board of Directors of the
Corporation (the "Board") by the Certificate of Incorporation of the
Corporation, the Board, by a Unanimous Written Consent dated September 23, 1997,
adopted the following resolution authorizing the creation and issuance of a
series of 3,480 shares of Series E Preferred Stock, (the "Series E Preferred
Stock" or the "Series"), which resolution is as follows:
RESOLVED, that pursuant to authority expressly granted to and
vested in the Board of Directors by the Certificate of Incorporation, as
amended, of the Corporation, the Board hereby creates a series of 3,480 shares
of Series E Preferred Stock, of the Corporation and authorizes the issuance
thereof, and hereby fixes the designation thereof, preferences and relative,
participating, optional and other special limitations or restrictions thereon
(in addition to the designations, preferences and relative, participating and
other special rights, and the qualifications, limitations or restrictions
thereof, set forth in the Certificate of Incorporation, as amended, of the
Corporation, which are applicable to the preferred stock of all series, if any)
as follows:
1. DESIGNATION. The shares of the Series shares shall be
designated "Series E Preferred Stock", and the number of shares constituting the
Series shall be 3,480.
2. DIVIDENDS. Holders of the Series E Preferred Stock (the
"Holders") shall be entitled to an annual cumulative dividend of six percent
(6%) of the Liquidation Value of the Series E Preferred Stock for a period of
three years commencing on the date of issuance, and twelve percent (12%)
thereafter, all dividends being payable annually in arrears. Dividends will be
payable in cash or, at the option of the Company, in Common Stock. Dividends
payable for any period less than a full year, will be computed on the basis of a
360 day year with equal months of 30 days.
3. LIQUIDATION.
(a) Liquidation Preference. Upon any liquidation,
dissolution, or winding up of the Corporation, whether voluntary or involuntary,
and after provision for the payment of creditors, the
<PAGE>
Holders shall be entitled to be paid an amount equal to $1000.00 per share
("Liquidation Value") of Series E Preferred Stock held, before any distribution
or payment is made upon any shares of Common Stock and any other series of stock
junior to the Series E Preferred Stock but subject to the prior preferences of
any series or class of stock of the Corporation senior to the Series E Preferred
Stock.
(b) Ratable Distribution. If upon any liquidation,
dissolution or winding up of the Corporation, the net assets of the Corporation
to be distributed among the Holders shall be insufficient to permit payment in
full to the Holders of such Series E Preferred Stock, then all remaining net
assets of the Corporation after the provision for the payment of the
Corporation's debts and distribution to any senior stockholders shall be
distributed ratably in proportion to the full amounts to which they would
otherwise be entitled to receive among the Holders.
(c) Corporate Changes. The sale, lease or exchange of
all or substantially all of the Corporation's assets or the merger or
consolidation of the Corporation which results in the holders of Common Stock of
the Corporation receiving in exchange for such Common Stock cash, notes,
debentures or other evidences of indebtedness or obligations to pay cash, or
preferred stock of the surviving entity which ranks on a parity with or senior
to the Series E Preferred Stock as to dividends or upon liquidation, dissolution
or winding-up shall be deemed to be a liquidation, dissolution or winding up of
the affairs of the Corporation within the meaning of this Section 3(c). In the
case of mergers or consolidations of the Corporation where holders of Common
Stock of the Corporation receive, in exchange for such Common Stock, common
stock or preferred stock in the surviving entity (whether or not the surviving
entity is the Corporation) of such merger or consolidation, or common stock or
preferred stock of another entity (in either case, such preferred stock to be
received in exchange for common stock is herein referred to as "Exchanged
Preferred Stock"), which is junior as to dividends and upon liquidation,
dissolution or winding up to the Series E Preferred Stock, the merger agreement
or consolidation agreement shall expressly provide that the Series E Preferred
Stock shall become preferred stock of such surviving entity or other entity, as
the case may be, with the same annual dividend rate and equivalent rights to the
rights set forth herein; provided however that if the Exchanged Preferred Stock
is to be mandatorily redeemed in whole or in part through the operation of a
sinking fund or otherwise the merger or consolidation agreement shall expressly
provide that, or other provisions shall be made so that, all shares of the
Series E Preferred Stock shall be mandatorily redeemed prior to the first
mandatory redemption of the Exchanged Preferred Stock; and provided further,
that in the event the Corporation or an affiliate of the
2
<PAGE>
Corporation optionally redeems or otherwise acquires any or all of the then
outstanding shares of Exchanged Preferred Stock, the Corporation shall redeem
all shares of Series E Preferred Stock. In the event of a merger or
consolidation of the Corporation where the consideration received by the holders
of common stock consists of two or more types of the consideration set forth
above, the holders of the Series E Preferred Stock shall be entitled to receive
either cash or securities based upon the foregoing in the same proportion as the
holders of common stock of the Corporation are receiving cash or debt
securities, or equity securities in the surviving entity or other entity.
4. REDEMPTION. The Company may at any time it may lawfully do so,
redeem in whole or in part the Series E Preferred Stock by paying in cash
therefore a sum equal to $1,000 per share of Series E Preferred Stock (as
adjusted for any stock dividends, combinations or splits with respect to such
shares) plus all unpaid dividends on such shares ("Redemption Price").
5. VOTING RIGHTS. Except as required under Delaware law, the
Holders shall not have any right or power to vote on any question or in any
proceeding or to be represented at or to receive notice of any proceeding or
meeting of the stockholders.
6. CONVERSION RIGHTS. The Series E Preferred Stock shall not be
convertible into Common Stock.
7. NO PREEMPTIVE RIGHTS. No holders of Series E Preferred Stock,
whether now or hereafter authorized, shall, as such holder, have any preemptive
right whatsoever to purchase, subscribe for or otherwise acquire, stock of any
class of the Corporation nor of any security convertible into, nor of any
warrant, option or right to purchase, subscribe for or otherwise acquire, stock
of any class of the Corporation, whether now or hereafter authorized.
8. EXCLUSION OF OTHER RIGHTS. Except as may otherwise be required
by law, the shares of Series E Preferred Stock shall not have any preferences or
relative, participating, optional or other special rights, other than those
specifically set forth in this resolution (as such resolution may be amended
from time to time) and in the Corporation's Certificate of Incorporation. The
Shares of Series E Preferred Stock shall have no preemptive or subscription
rights.
9. HEADINGS OF SUBDIVISIONS. The headings of the various
subdivisions hereof are for convenience of reference only and shall not affect
the interpretation of any of the provisions hereof.
3
<PAGE>
10. SEVERABILITY OF PROVISIONS. If any right, preference or
limitation of the Preferred Stock set forth in this Certificate (as such
Certificate may be amended from time to time) is invalid, unlawful or incapable
of being enforced by reason of any rule of law or public policy, all other
rights, preferences and limitations set forth in this Certificate (as so
amended) which can be given effect without the invalid, unlawful or
unenforceable right, preference or limitation shall, nevertheless, remain in
full force and effect, and no right, preference or limitation herein set forth
shall be deemed dependent upon any other such right, preference or limitation
unless so expressed herein.
11. STATUS OF REACQUIRED SHARES. Shares of Series E Preferred
Stock which have been issued and reacquired in any manner shall (upon compliance
with any applicable provisions of the laws of the State of Delaware) have the
status of authorized and unissued shares of Series E Preferred Stock issuable in
series undesignated as to series and may be redesignated and reissued.
4
<PAGE>
IN WITNESS WHEREOF, the Corporation has caused this Certificate
to be signed in its name and on its behalf by its President and attested to this
15th day of December, 1997.
DIPLOMAT CORPORATION
By: /s/ JONATHAN ROSENBERG
--------------------------
Jonathan Rosenberg, President
ATTESTED
/s/ STUART A. LEIDERMAN
- -----------------------
Stuart A. Leiderman
5
<PAGE>
Biobottoms, Inc.
Brownstone Holdings, Inc.
Lew Magram. Ltd.
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET AND CONSOLIDATED STATEMENTS OF OPERATIONS INCLUDED IN
THE REGISTRANT'S FORM 10-KSB/A2 FOR THE YEAR ENDED SEPTEMBER 30, 1997 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> SEP-30-1997
<PERIOD-START> OCT-01-1996
<PERIOD-END> SEP-30-1997
<CASH> 59,750
<SECURITIES> 0
<RECEIVABLES> 2,359,857
<ALLOWANCES> 147,001
<INVENTORY> 10,005,057
<CURRENT-ASSETS> 17,066,204
<PP&E> 8,597,239
<DEPRECIATION> 5,131,746
<TOTAL-ASSETS> 37,014,921
<CURRENT-LIABILITIES> 21,490,095
<BONDS> 1,235,754
0
12,883,048
<COMMON> 801
<OTHER-SE> 1,405,224
<TOTAL-LIABILITY-AND-EQUITY> 37,014,921
<SALES> 35,147,333
<TOTAL-REVENUES> 35,147,333
<CGS> 16,665,203
<TOTAL-COSTS> 16,665,203
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 644,233
<INCOME-PRETAX> 1,117,068
<INCOME-TAX> (210,433)
<INCOME-CONTINUING> 1,327,501
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,327,501
<EPS-PRIMARY> .16
<EPS-DILUTED> .00
</TABLE>
