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As filed with the Securities and Exchange Commission on November 22, 2006
Registration No. 333-136128
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
AMENDMENT NO. 1
TO
FORM S-3 REGISTRATION STATEMENT
ON
FORM SB-2 REGISTRATION STATEMENT
UNDER THE SECURITIES ACT OF 1933
AMS HEALTH SCIENCES, INC.
(Exact name of registrant as specified in its charter)
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Oklahoma
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5099
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73-1323256 |
(State or other jurisdiction of
incorporation or organization)
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(Primary Standard Industrial Classification
Code Number)
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(I.R.S. Employer
Identification Number) |
711 N.E. 39th Street
Oklahoma City, Oklahoma 73105
(405) 842-0131
(Address and telephone number of principal executive offices)
711 N.E. 39th Street
Oklahoma City, Oklahoma 73105
(405) 842-0131
(Address of principal place of business or intended principal place of business)
Jerry W. Grizzle
Chairman, President and Chief Executive Officer
711 N.E. 39th Street
Oklahoma City, Oklahoma 73105
(405) 842-0131
(Name, address and telephone number of agent for service)
COPIES TO:
David J. Ketelsleger Esq.
McAfee & Taft
A Professional Corporation
211 North Robinson, Suite 1000
Oklahoma City, Oklahoma 73102
(405) 235-9621
Approximate date of proposed sale to the public:
From time to time after the effective date of this registration statement.
If this Form is filed to register additional securities for an offering pursuant to Rule
462(b) under the Securities Act, please check the following box and list the Securities Act
registration statement number of the earlier effective registration statement for the same
offering. o
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities
Act, check the following box and list the Securities Act registration statement number of the
earlier effective registration statement for the same offering. o
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities
Act, check the following box and list the Securities Act registration statement number of the
earlier effective registration statement for the same offering. o
If delivery of the prospectus is expected to be made pursuant to Rule 434, check the following
box. o
CALCULATION OF REGISTRATION FEE
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Proposed Maximum |
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Proposed Maximum |
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Title of Each Class of |
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Amount to |
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Offering Price |
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Aggregate |
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Amount of |
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Securities to be Registered |
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be Registered |
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Per Unit |
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Offering Price |
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Registration Fee |
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Common stock, par value $0.0001 per share |
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1,133,557(1) |
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$0.57(2) |
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$646,127.49(2) |
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$69.13(3) |
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Common stock, par value $0.0001 per share |
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555,768 |
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$0.46(4) |
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$255,653.28(4) |
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$27.35 |
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TOTAL |
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1,689,325 |
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$901,780.77 |
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$96.48(3) |
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(1) 1,133,557 shares of the Companys common stock were included on the Companys Form S-3 filed
with the Commission on July 28, 2006.
(2) Estimated solely for the purpose of calculating the registration fee pursuant to Rule 457(h),
based upon the average of the high and low prices of AMS Health Sciences, Inc. common stock as
reported on the American Stock Exchange on July 24, 2006.
(3) The registrant has already paid an aggregate of $69.13 in connection with the filing of a Form
S-3 with the Commission on July 28, 2006 (Commission File No. 333-136128.
(4) Estimated solely for the purpose of calculating the registration fee pursuant to Rule 457(h),
based upon the average of the high and low prices of AMS Health Sciences, Inc. common stock as
reported on the American Stock Exchange on November 17, 2006.
The registrant hereby amends this registration statement on such date or dates as may be
necessary to delay its effective date until the registrant shall file a further amendment which
specifically states that this registration statement shall thereafter become effective in
accordance with Section 8(a) of the Securities Act of 1933 or until the registration statement
shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may
determine.
PROSPECTUS
1,689,325 Shares
AMS Health Sciences, Inc.
Common Stock
The selling shareholders described in the section entitled Selling Shareholders beginning on
page 45 of this prospectus may offer from time to time up to an aggregate of 1,689,325 shares of
our common stock consisting of shares of our common stock that may be issued upon exercise of our
outstanding warrants, that may be issued upon conversion of our secured convertible term note and
of shares of our restricted stock. We will not receive any proceeds from the sale of shares by the
selling shareholders.
Our common stock is quoted on the American Stock Exchange under the symbol AMM.
For information on the possible methods of sale that may be used by the selling shareholders,
you should refer to the section entitled Plan of Distribution beginning on page 46 of this
prospectus.
Our address is 711 N.E. 39th Street, Oklahoma City, Oklahoma 73105 and our
telephone number is (405) 842-0131.
You should read this prospectus and any prospectus supplement carefully before you invest.
See Risk Factors beginning on page 3 for a discussion of matters that you should consider
before investing in these securities.
Neither the Securities and Exchange Commission nor any state securities commission has
approved or disapproved of these securities or passed upon the adequacy or accuracy of this
prospectus. Any representation to the contrary is a criminal offense.
The date of this prospectus is ___, 2006.
TABLE OF CONTENTS
ABOUT THIS PROSPECTUS
You should rely only on the information contained in this prospectus. We have not authorized
anyone to provide you with different information. We are not making an offer of these securities
in any state where the offer is not permitted. You should not assume that the information
contained in this prospectus is accurate as of any date other than the date on the front cover of
this prospectus.
WHERE YOU CAN FIND MORE INFORMATION
We file annual, quarterly and current reports, proxy statements and other information with the
Commission. You can inspect and copy these reports, proxy statements and other information at the
public reference facilities of the Commission, at 100 F Street, N.E., Washington, D.C. 20549. You
can also obtain copies of these materials from the public reference section of the Commission at
prescribed rates. Please call the Commission at 1-800-SEC-0330 for further information on its
public reference rooms. The Commission also maintains a web site that contains reports, proxy
statements and other information regarding registrants that file electronically with the Commission
(http://www.sec.gov).
We have filed with the Commission a registration statement and related exhibits on Form SB-2
under the Securities Act of 1933, as amended. This prospectus, which is a part of the registration
statement, omits certain information contained in the registration statement. Statements made in
this prospectus as to the contents of any contract, agreement or other document are not necessarily
complete. With respect to each contract, agreement or other document filed as an exhibit to the
registration statement, we refer you to that exhibit for a more complete description of the matter
involved, and each statement is deemed qualified in its entirety to that reference.
Our
internet address is www.amsonline.com. We make available on our website, free of charge,
copies of our annual report on Form 10-KSB, quarterly reports on Form 10-QSB, current reports on
Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) of the
Exchange Act as soon as reasonably possible after we electronically file such material with, or
furnish to, the SEC.
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PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this prospectus. Because it is a
summary, it does not contain all of the information that you should consider before investing in
our securities. You should read this entire prospectus carefully, including the section entitled
Risk Factors, before making an investment decision.
AMS Health Sciences, Inc., or AMS, began operations in 1987, and through a corporate
reorganization in 1995, became an Oklahoma corporation. In this prospectus the terms Company,
us, we, our and its are used as references to AMS. We develop and distribute
performance-based nutritional, weight loss and personal care products. We distribute our products
through a network marketing system using independent distributors that we refer to as associates.
Network marketing appeals to a wide cross-section of people, particularly those seeking to
supplement income, start a home-based business, or pursue entrepreneurial opportunities other than
conventional full-time employment. We consider our attractive compensation plan and monthly cash
bonus pools, along with trips, prizes and incentives, to be attractive components of our network
marketing system.
Our marketing plan is designed to provide associates financial incentives to build and manage
a team of recruited associates in their downline organization.
On an ongoing basis, we review our product line for duplication and sales movement and make
adjustments accordingly. As of September 30, 2006, our primary product lines consisted of:
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24 nutritional products; |
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5 weight management products; and |
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33 personal care products consisting primarily of skin care products. |
Our products are manufactured by various manufacturers pursuant to formulations developed for
us and are sold to our independent associates located in all 50 states, the District of Columbia,
Puerto Rico and Canada.
We believe that our network marketing system is ideally suited to market nutritional, weight
management and personal care products because sales of such products are strengthened by ongoing
personal contact between associates and their customers. Associates are given the opportunity
through sponsored events and training sessions to network with other associates, develop selling
skills and establish personal goals. We supplement monetary incentives with other forms of
recognition in order to further motivate and foster an atmosphere of excitement throughout our
associate network.
Our offices are located at 711 N.E. 39th Street, Oklahoma City, Oklahoma 73105, and
our telephone number is (405) 842-0131.
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The Offering
On June 28, 2006, we issued a Secured Convertible Term Note to Laurus Master Fund, Ltd.
(Laurus) in the aggregate principal amount of $2,000,000 (the Note). The Note bears interest
at a per annum rate equal to the prime rate (as published in the Wall Street Journal from
time to time) plus three percent (3.0%); provided, however that the interest rate may not be less
than ten percent (10.0%). As of November 20, 2006, the interest rate on the Note was 11.25%. Both
the interest and the principal of the Note are convertible into shares of our common stock at an
initial fixed conversion price of $0.51 per share (the Initial Conversion Price). The Initial
Conversion Price will be adjusted for certain reclassifications, stock splits, combinations and
stock dividends.
In connection with the issuance of the Note, we issued Laurus a Common Stock Purchase Warrant
granting Laurus the right to purchase 2,272,727 shares of our common stock at an exercise price of
$0.53 per share (the Warrant).
Certain restrictions exist on Laurus ability to convert the Note into our common stock. Most
importantly, Laurus is prohibited from converting the Note or exercising its the Warrant if such
conversion would result in Laurus beneficially owning more than 4.99% of our common stock. Laurus
can waive this restriction upon 61 days notice to us. Additionally, this restriction becomes
automatically null and void upon an event of default under the Note. As a result, we are
registering an aggregate of 843,782 shares of our common stock that are issuable upon conversion of
the Note or exercise of the Warrant, which represents 10% of our outstanding common stock. We
anticipate that registering shares representing 10% of our total outstanding common stock should
provide us with a sufficient cushion to determine when and if we will need to register additional
shares that may become issuable under the Note or the Warrant. If no restrictions existed on
Laurus ability to convert the Note, we estimate that the maximum common stock issuable to Laurus
upon conversion of the Note and all interest accrued thereon would be approximately 5,000,000
shares. These shares, combined with the shares issuable upon full exercise of the Warrant, would
give Laurus beneficial ownership of approximately 7,272,727 shares of our common stock, or
approximately 48% of our total outstanding stock following Laurus exercise of the Warrant and
conversion of the Note.
We also issued a common stock purchase warrant to Ascendiant Securities, LLC to purchase
495,543 shares of our common stock at an exercise price of $0.51 per share. Additionally, we
issued Ascendiant Capital Group, LLC 250,000 shares of our common stock. The stock and warrants
issued to the Ascendiant companies represent a portion of the fees earned by them for acting as
financial advisor and placement agent in connection with the issuance of the Note to Laurus.
We entered into a settlement agreement with Vaughn Feather to settle the case styled AMS Heath
Sciences, Inc. v. Vaughn Feather, Western District of Oklahoma, Case no. CIV-05-1522. We brought
the case to request a judicial declaration that we are no longer bound to pay royalties to Feather
under the terms of the previous royalty agreement between us and Feather pursuant to which we were
paying royalties for proprietary products and formulas that we believed to no longer be
proprietary. As part of the settlement agreement, we agreed to issue Mr. Feather 100,000 shares of
our common stock and to register those shares with the Securities and Exchange Commission.
We are registering the shares to permit the selling shareholders to offer these shares for
resale from time to time.
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RISK FACTORS
We face a number of substantial risks. Our business, financial condition or results of
operations could be harmed by any of these risks. The trading price of our common stock could
decline due to any of these risks, and they should be considered in connection with the other
information contained in this prospectus. These risk factors should be read together with the other
items in this prospectus, including the discussions under the headings Business and Managements
Discussion and Analysis or Plan of Operations, as well as our financial statements and the notes
thereto included with this prospectus.
If we are unable to retain our existing independent associates and recruit additional associates,
our revenue will not increase and may even decline.
We distribute almost all of our products through our independent associates and we depend on
them to generate virtually all of our revenue. Our associates may terminate their services at any
time, and, like most direct selling companies, we experience high turnover among associates from
year to year. As a result, in order to maintain sales and increase sales in the future, we need to
continue to retain existing associates and recruit additional associates. To increase our revenue,
we must increase the number of and/or the productivity of our associates.
We have experienced periodic declines in both active associates and higher level associates in
the past. The number of our active and executive associates may not increase and could decline
again in the future. While we take many steps to help train, motivate and retain associates, we
cannot accurately predict how the number and productivity of associates may fluctuate because we
rely primarily upon our associate leaders to recruit, train and motivate new associates. Our
operating results could be harmed if we and our associate leaders do not generate sufficient
interest in our business to retain existing associates and attract new associates.
The number and productivity of our associates also depends on several additional factors, including:
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any adverse publicity regarding us, our products, our distribution channel or our competitors; |
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a lack of interest in, or the technical failure of, existing or new products; |
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the publics perception of our products and their ingredients; |
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the publics perception of our associates and direct selling businesses in general; |
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our actions to enforce our policies and procedures; |
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general economic and business conditions; and |
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potential saturation or maturity levels in a given market which could negatively
impact our ability to attract and retain associates in such market. |
Our operating results could be adversely affected if our existing and new business
opportunities and incentives, products, business tools and other initiatives do not generate
sufficient enthusiasm and economic incentive to retain our existing associates or to sponsor new
associates on a sustained basis. For example, the changes in compensation incentives and focus on
automatic delivery programs have helped generate growth in many of our markets. There can be no
assurance that such initiatives will generate excitement among our associates in the long-term or
that planned initiatives tied to new products will be successful in maintaining associate activity
and productivity. In addition, some initiatives may have unanticipated negative impacts on our
markets. The introduction of a new product or key initiative can also negatively impact other
product lines to the extent our associate leaders focus their efforts on the new product or
initiative.
Governmental regulations relating to the marketing and advertising of our products and services, in
particular our nutritional supplements, may restrict or inhibit our ability to sell these products.
Our products and our related marketing and advertising efforts are subject to extensive
governmental regulations by numerous domestic and foreign governmental agencies and authorities.
These include the FDA, the FTC, the Consumer Product Safety Commission and the Department of
Agriculture in the United States, State Attorneys General and other state regulatory agencies.
Our markets have varied regulations concerning product formulation, labeling, packaging and
importation. These laws and regulations often require us to, among other things:
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reformulate products for a specific market to meet the specific product formulation
laws of that market; |
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conform product labeling to the regulations in each market; and |
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register or qualify products with the applicable governmental authority or obtain
necessary approvals or file necessary notifications for the marketing of our products. |
Restrictions on our ability to introduce products, or delays in introducing products, could
reduce revenue and decrease profitability. Regulators also may prohibit us from making therapeutic
claims about products, regardless of the existence of research and independent studies that may
support such claims. These product claim restrictions could prevent us from realizing the potential
revenue from some of our products.
Recent negative publicity concerning supplements with certain controversial ingredients has spurred
efforts to change existing laws and regulations with respect to nutritional supplements that, if
successful, could result in more restrictive and burdensome regulations.
There have been some recent injuries and deaths that have been attributed to the use of
nutritional supplements that contain ephedra and other controversial ingredients that have
generated negative publicity. Because of this negative publicity, there has been an increasing
movement in the United States and other markets to increase the regulation of dietary supplements
which could impose additional restrictions or requirements in the future. Although we are committed
to not market nutritional supplements that contain any substances such as ephedra that are
controversial and that could pose health risks, our operations could be harmed if governmental laws
or regulations are enacted that restrict the ability of companies to market or distribute
nutritional supplements or impose additional burdens or requirements on nutritional supplement
companies as a result of public reaction to the recent injuries and deaths caused by supplements
that do contain such ingredients.
If we are unable to successfully expand operations in any of the new markets we have currently
targeted, we may have difficulty achieving our long-term objectives.
We expect our growth over the next several years to depend, in part, on our ability to
successfully introduce our products and our distribution system into new markets. If we are unable
to successfully expand our operations into these new markets, our opportunities to grow our
business may be limited, and, as a result, we may not be able to achieve our long-term objectives.
Adverse publicity concerning our business, marketing plan or products could harm our business and
reputation.
The size of our associate force and the results of our operations can be particularly impacted
by adverse publicity regarding us, the legality of our associate network, our products or the
actions of our associates. Specifically, we are susceptible to adverse publicity concerning:
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suspicions about the legality and ethics of network marketing; |
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the ingredients or safety of our or our competitors products; |
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regulatory investigations of us, our competitors and our respective products; |
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the actions of our current or former associates; and |
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public perceptions of direct selling businesses generally. |
In addition, in the past we have experienced negative publicity that has harmed our business
in connection with our prior sales of ephedra-based products. We may receive negative publicity in
the future, and it may harm our business and reputation.
Although our associates are independent contractors, improper associate actions that violate laws
or regulations could harm our business.
Associate activities in our existing markets that violate governmental laws or regulations
could result in governmental actions against us in markets where we operate. Our associates are not
employees and act independently of us. We implement strict policies and procedures to ensure our
associates will comply with legal requirements. However, given the size of our associate force, we
experience problems with associates from time to time.
Inability of new products to gain associate and market acceptance could harm our business.
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A critical component of our business is our ability to develop new products that create
enthusiasm among our associate force. If we are unable to introduce new products planned for
introduction, our associate productivity could be harmed. In addition, if any new products fail to
gain market acceptance, are restricted by regulatory requirements or have quality problems, this
would harm our results of operations. Factors that could affect our ability to continue to
introduce new products include, among others, government regulations, proprietary protections of
competitors that may limit our ability to offer comparable products and the difficulties in
anticipating changes in consumer tastes and buying preferences.
Government inquiries, investigations, and actions could harm our business.
From time to time, we receive formal and informal inquiries from various government regulatory
authorities about our business and our compliance with local laws and regulations. Any
determination that we or our associates are not in compliance with existing laws or regulations
could potentially harm our business. Even if governmental actions do not result in rulings or
orders, they potentially could create negative publicity which could detrimentally affect our
efforts to recruit or motivate associates and attract customers and, consequently, reduce revenue
and net income.
The loss of key high-level associates could negatively impact our associate growth and our revenue.
As of September 30, 2006, we had approximately 15,000 active independent associates including
approximately 1,656 high-level associates. Approximately 30 associates occupied the highest level
under our compensation plan as of that date. These associates, together with their extensive
downline networks, account for substantially all of our revenue. As a result, the loss of a
high-level associate or a group of leading associates in the downline network, whether by their own
choice or through disciplinary actions by us for violations of our policies and procedures, could
negatively impact our associate growth and our revenue.
Laws and regulations may prohibit or severely restrict our direct sales efforts and cause our
revenue and profitability to decline.
Various government agencies throughout the nation regulate direct sales practices. These laws
and regulations are generally intended to prevent fraudulent or deceptive schemes, often referred
to as pyramid schemes, which compensate participants for recruiting additional participants
irrespective of product sales, use high pressure recruiting methods and/or do not involve
legitimate products. The laws and regulations in our current markets often:
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impose order cancellations, product returns, inventory buy-backs and cooling-off
rights for consumers and associates; |
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require us or our associates to register with governmental agencies; |
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impose reporting requirements to regulatory agencies; and/or |
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require us to ensure that associates are not being compensated based upon the
recruitment of new associates. |
Complying with these widely varying and sometimes inconsistent rules and regulations can be
difficult and require the devotion of significant resources on our part. If we are unable to
continue business in existing markets or commence operations in new markets because of these laws,
our revenue and profitability will decline. Government agencies could change their laws or
regulations to negatively affect or prohibit completely direct sales efforts. In addition,
government agencies and courts may use their powers and discretion in interpreting and applying
laws in a manner that limits our ability to operate or otherwise harms our business. If any
governmental authority were to bring a regulatory enforcement action against us that interrupts our
business, revenue and earnings would likely suffer.
Challenges by private parties to the form of our network marketing system could harm our business.
We may be subject to challenges by private parties, including our associates, to the form of
our network marketing system or elements of our business. In the United States, the network
marketing industry and regulatory authorities have generally relied on the implementation of
associate rules and policies designed to promote retail sales to protect consumers and to prevent
inappropriate activities and to distinguish between legitimate network marketing distribution plans
and unlawful pyramid schemes. We have adopted rules and policies based on case law, rulings of the
FTC, discussions with regulatory authorities in several states and industry standards. Legal and
regulatory requirements concerning network marketing systems, however, involve a high level of
subjectivity, are inherently fact-based and are subject to judicial interpretation. Because of the
foregoing, we can provide no assurance that we would not be harmed
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by the application or interpretation of statutes or regulations governing network marketing,
particularly in any civil challenge by a current or former associate.
The loss of suppliers could harm our business.
Substantially all of our weight management, dietary supplement and personal care products are
manufactured by third-party manufacturers pursuant to product formulations developed for us. We do
not have written contracts with any of our suppliers or manufacturers or their commitments to
continue to sell products to us. There is no assurance that these third-party manufacturers will
continue to reliably supply products to us. In the event any of our third-party manufacturers were
to become unable or unwilling to continue to provide our products in required volumes, we would be
required to identify and obtain acceptable replacement manufacturing sources. There is no assurance
that we will be able to obtain alternative manufacturing sources on a timely basis. An extended
interruption in the supply of our products, especially Prime Delight and any other high sales
volume product, would result in loss of sale revenues and adversely affect our results of
operations, which most likely would adversely affect the value of our common stock.
Production difficulties and quality control problems could harm our business.
Occasionally, we have experienced production difficulties with respect to our products,
including the delivery of products that do not meet our quality control standards. These quality
problems have resulted in the past, and could result in the future, in stock outages or shortages
in our markets with respect to products, harming our sales and creating inventory write-offs for
unusable product. In addition, these issues can negatively impact associate confidence as well as
potentially invite additional governmental scrutiny in our various markets.
We depend on our key personnel, and the loss of the services provided by any of our executive
officers or other key employees could harm our business and results of operations.
Our success depends to a significant degree upon the continued contributions of our senior
management, many of whom would be difficult to replace. These employees may voluntarily terminate
their employment with us at any time. We may not be able to successfully retain existing personnel
or identify, hire and integrate new personnel. We do not carry key person insurance for any of our
personnel. Although we have entered into formal employment agreements with our executive officers,
these agreements permit either party to terminate the employment relationship with or without
cause. If we lose the services of our executive officers or key employees for any reason, our
business, financial condition and results of operations could be harmed.
Our markets are intensely competitive, and market conditions and the strengths of competitors may
harm our business.
The markets for our products are intensely competitive. Our results of operations may be
harmed by market conditions and competition in the future. Many competitors have much greater name
recognition and financial resources than we have, which may give them a competitive advantage. For
example, our products compete directly with branded, premium retail products. We also compete with
other direct selling organizations. The leading direct selling companies in our existing markets
are Herbalife International, Inc., Market America, Inc., Natures Sunshine Products, Inc., NBTY, Nu
Skin Enterprises, Inc., Twinlab Corporation and Weider Nutrition. We currently do not have
significant patent or other proprietary protection for our products, and our competitors may
introduce products with the same ingredients that we use in our products. Because of regulatory
restrictions concerning claims about the efficacy of dietary supplements, we may have difficulty
differentiating our products from our competitors products, and competing products entering the
nutritional market could harm our nutritional supplement revenue.
We also compete with other network marketing companies for associates. Some of these
competitors have a longer operating history and greater visibility, name recognition and financial
resources than we do. Some of our competitors have also adopted and could continue to adopt some of
our successful business strategies. Consequently, to successfully compete in this market and
attract and retain associates, we must ensure that our business opportunities and compensation
plans are financially rewarding. We have over 19 years of experience in this market and believe we
have significant competitive advantages, but we cannot assure you that we will be able to
successfully compete in every endeavor in this market.
Product liability claims could harm our business.
We may be required to pay for losses or injuries purportedly caused by our products. For
example, over the last two years, we have settled three cases related to the ingestion of our
AM-300 product, which contained ephedra. We, like other marketers of products that are intended to
be ingested, face an inherent risk of exposure to product
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liability claims in the event that the use of our products results in injury. We maintain
limited product liability insurance with coverage limits of $1.0 million per occurrence and $2.0
million aggregate. Although we do not obtain contractual indemnification, our product manufacturers
carry product liability insurance which covers our products.
We generally agree to indemnify our manufacturers against claims arising from claims made by
our associates for products manufactured by them and marketed by us. Product liability claims in
excess of insurance coverage may result in significant losses which adversely affect product sales,
results of our operations, financial condition and the value of our common stock.
System failures could harm our business.
Because of our diverse geographic operations and our complex associate compensation plan, our
business is highly dependent on efficiently functioning information technology systems. These
systems and operations are vulnerable to damage or interruption from fires, earthquakes,
telecommunications failures and other events. They are also subject to break-ins, sabotage,
intentional acts of vandalism and similar misconduct. We have adopted a Business
Continuity/Disaster Recovery Plan, which is in the process of being implemented. Our primary data
sets are archived and stored at third-party secure sites, but we have not contracted for a
third-party recovery site. Despite any precautions, the occurrence of a natural disaster or other
unanticipated problems could result in interruptions in services and reduce our revenue and
profits.
The market price of our common stock is subject to significant fluctuations due to a number of
factors that are beyond our control.
Although our common stock is listed on the American Stock Exchange, or AMEX, historically the
market for our common stock has been limited and subject to low trading volume. There is no
assurance that an active trading market will be maintained for our common stock at all times. Our
common stock closed at a high of $6.50 per share and a low of $0.47 per share between January 1,
2004 and September 30, 2006. Many factors could cause the market price of our common stock to
fall. Some of these factors include:
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fluctuations in our quarterly operating results; |
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the sale of shares of common stock by our original or significant shareholders; |
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|
general trends in the market for our products; |
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acquisitions by us or our competitors; |
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changes in estimates of our operating performance or changes in recommendations by
securities analysts; |
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the pendency of product liability lawsuits; |
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material regulatory actions, such as the FDAs ban on the sale of ephedra-based products; and |
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general business and political conditions. |
Broad market fluctuations could also lower the market price of our common stock regardless of
our actual operating performance. Volatility in the market price of a companys securities
sometimes results in the filing of class action lawsuits seeking compensation for alleged
securities law violations. We may become subject to such litigation. Such litigation could result
in substantial costs and a diversion of our attention and resources, which could have a material
adverse effect on our business and results of operations. Any adverse determination in such
litigation also could subject us to significant liabilities.
If our shareholders sell a substantial number of shares of our common stock in the public market,
the market price of our common stock could fall.
Several of our principal shareholders hold, and Laurus and Ascendiant will hold upon exercise
of their warrants or conversion of the Note, as applicable, a large number of shares of our
outstanding common stock. Any decision by any of our principal shareholders to aggressively sell
their shares could depress the market price of our common stock. None of these shareholders are
subject to any lock-up agreements or otherwise restricted in their ability to sell their stock.
Our common stock could be delisted from the American Stock Exchange, which could make the sale of
our stock more difficult.
7
Our common stock is listed on the AMEX. However, the continued listing of our common stock on
this exchange is subject to certain conditions, generally including our common stock having a
certain minimum sale price per share, maintenance of certain minimum levels of assets,
stockholders equity, number of shareholders, and number of outstanding publicly held shares of our
common stock.
On January 12, 2006, we received a letter from the AMEX giving us notice that we did not meet
the AMEXs continued listing standards as set forth in Part 10 of the AMEX Company Guide.
Specifically, we were not in compliance with Section 1003(a)(ii) of the Company Guide, which
provides that AMEX will consider suspending or delisting our securities since we had shareholders
equity of less than $4,000,000 and had losses from continuing operations and/or net losses in three
out of our four most recent fiscal years. Our shareholders equity as reported on our Form 10-Q for
the quarter ended September 30, 2005 was $3,737,460 and we had recorded net losses for the 2004,
2003 and 2002 fiscal years.
We submitted an 18-month a plan to the AMEX in February, 2006, which set forth our plan of
action to bring us back into compliance with Section 1003(a)(ii). The plan was accepted, and we
are permitted to continue our listing on AMEX during the plan period of up to 18 months. During
this period, we are subject to periodic review by the AMEX to determine whether we are making
progress consistent with the plan. If we cannot meet our plan, and therefore fail to meet the
minimum requirements for inclusion and listing on the AMEX, our common stock will be delisted and
will no longer be traded on the AMEX. In such event, our common stock would then be traded in the
over-the-counter market and may become subject to the penny stock trading rules.
The over-the-counter market is characterized as volatile, in that securities traded in such
market are subject to substantial and sudden price increases and decreases and at times, price (bid
and ask) information for such securities may not be available. In addition, when there are only one
or two market makers (a dealer holding itself out as ready to buy and sell the securities on a
regular basis), there is a risk that the dealer or group of dealers may control the market in the
security and set prices that are not based on competitive forces, and the bid and asked quotations
of securities traded in the over-the-counter market may not be reliable.
A penny stock is generally a stock that:
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is not listed on a national securities exchange or Nasdaq; |
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is listed in pink sheets or on the NASD OTC Bulletin Board; |
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has a price per share of less than $5.00; and |
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is issued by a company with net tangible assets of less than $5 million. |
The penny stock trading rules impose additional duties and responsibilities upon broker-dealers and
salespersons effecting purchase and sale transactions in common stock and other equity securities,
including:
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determination of the purchasers investment suitability; |
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delivery of certain information and disclosures to the purchaser; and |
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receipt of a specific purchase agreement from the purchaser prior to effecting the purchase transaction. |
Many broker-dealers will not effect transactions in penny stocks, except on an unsolicited basis,
in order to avoid compliance with the penny stock trading rules.
In the event our common stock becomes subject to the penny stock trading rules:
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such rules may materially limit or restrict the ability to resell our common stock; and |
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the liquidity typically associated with other publicly traded equity securities may not exist. |
The exercise of our outstanding stock options and warrants, and the conversion of the Note may
result in substantial dilution to our shareholders and may adversely affect the market price of our
common stock.
As of the date of this prospectus, we have outstanding the following warrants, stock options
and convertible note:
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a warrant exercisable on or before June 28, 2013 for the purchase of up to 495,543
shares of our common stock at an exercise price of $0.51 per share; |
8
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a warrant exercisable on or before June 28, 2011 for the purchase of up to 2,272,727
shares of our common stock at an exercise price of $0.53 per share; |
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the Note with interest and principal convertible into our common stock at a fixed
conversion price of $0.51 per share, or up to an estimated maximum of approximately
5,000,000 shares, which matures on June 28, 2008; and |
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stock options exercisable for the purchase of 2,500,009 shares of our common stock
at a weighted-average exercise price of $2.01 during periods that expire from 2007
through 2016. |
During the term of the outstanding warrants, stock options and the Note, the holders are given
the opportunity to profit from a rise in the market price of our common stock. Exercise of such
warrants and stock options and conversion of the Note may:
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dilute the net book value per share of our outstanding common stock at the time of
exercise or conversion, and |
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may be dilutive on an earnings per share basis, |
which may adversely affect the trading price of our common stock. The existence of the warrants,
stock options and the Note may adversely affect the terms on which we may obtain additional equity
financing. Also, the holders are likely to exercise the warrants and stock options, and convert the
note, to the extent permitted by the terms thereof, at a time when we would otherwise be able to
obtain capital on terms more favorable than could be obtained through the exercise of such stock
options and warrants, or conversion of the note.
Our certificate of incorporation and bylaws contain certain provisions that make it difficult for a
third party to acquire control of us, which may serve to limit the market value of our common
stock.
Our certificate of incorporation and bylaws and the provisions of the Oklahoma General
Corporation Act may make it difficult for a third party to acquire us or gain control of us and
replace our management. Our certificate of incorporation authorizes the issuance of our preferred
stock in classes or series having voting, redemption and conversion rights and other rights as
determined by our board of directors. The issuance of such preferred stock may have the effect of
preventing a merger, tender offer or other takeover attempt that our board of directors opposes.
Our directors are elected for staggered three-year terms, with approximately one-third of our board
standing for election each year, which may make it difficult to effect a change of incumbent
management and control.
We are subject to the anti-takeover provisions of the Oklahoma General Corporation Act. Such
provisions in some circumstances may discourage a person from making a control share acquisition
(generally an acquisition of voting stock having more than 20 percent of all voting power in the
election of directors) without shareholder approval.
FORWARD-LOOKING STATEMENTS
We believe that certain information contained in this prospectus constitutes forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. Certain, but not necessarily all,
of such forward-looking statements can be identified by the use of forward-looking terminology such
as anticipates, believes, expects, may, will, or should or other variations thereon,
or by discussions of strategies that involve risks and uncertainties. Our actual results or
industry results may be materially different from any future results expressed or implied by such
forward-looking statements. Factors that could cause actual results to differ materially include
general economic and business conditions; our ability to implement our business and acquisition
strategies; changes in the network marketing industry and changes in consumer preferences;
competition; availability of key personnel; increasing operating costs; unsuccessful advertising
and promotional efforts; changes in brand awareness; acceptance of new product offerings; changes
in, or the failure to comply with, government regulations (especially food and drug laws and
regulations); our ability to obtain financing for future acquisitions and other factors. We do
not undertake to update the forward-looking statements to reflect the impact of circumstances or
events that arise after the date the forward-looking statement was made.
You are cautioned not to place undue reliance on these forward-looking statements, which speak
only as of the date of this prospectus.
9
USE OF PROCEEDS
The shares are being registered hereunder for resale by the selling shareholders. We will not
receive any proceeds from the sale of the shares by the selling shareholders. We will receive the
proceeds from the exercise price of certain warrants held by the selling shareholders to the extent
that such warrants are exercised. We expect to use the proceeds of any such warrant exercises for
general working capital purposes.
MARKET FOR OUR COMMON EQUITY AND RELATED
SHAREHOLDER MATTERS
From November 6, 1997 to June 14, 1999, our common stock was traded on the Nasdaq SmallCap
Market under the symbol AMSO. On June 15, 1999, our common stock began trading on the American
Stock Exchange under the symbol AMM.
On November 20, 2006, the closing sale price of our common stock on the American Stock
Exchange was $0.44. We believe there are approximately 1,578 holders of our common stock. The
following table sets forth the high and low sale price of our common stock on the American Stock
Exchange.
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Common Stock Sales Prices |
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High |
|
Low |
2006Calendar Quarter Ended: |
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March 31 |
|
$ |
0.77 |
|
|
$ |
0.53 |
|
June 30 |
|
$ |
0.79 |
|
|
$ |
0.51 |
|
September 30 |
|
$ |
0.77 |
|
|
$ |
0.47 |
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2005Calendar Quarter Ended: |
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March 31 |
|
$ |
5.75 |
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|
$ |
2.59 |
|
June 30 |
|
$ |
2.63 |
|
|
$ |
1.64 |
|
September 30 |
|
$ |
2.90 |
|
|
$ |
1.71 |
|
December 31 |
|
$ |
1.59 |
|
|
$ |
0.63 |
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|
|
|
|
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|
2004Calendar Quarter Ended: |
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|
March 31 |
|
$ |
5.33 |
|
|
$ |
3.66 |
|
June 30 |
|
$ |
6.34 |
|
|
$ |
5.12 |
|
September 30 |
|
$ |
6.50 |
|
|
$ |
2.87 |
|
December 31 |
|
$ |
5.98 |
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|
$ |
2.66 |
|
We have never declared or paid cash dividends on our common stock. We currently intend to retain
future earnings, if any, to fund the development and growth of our business. Future cash
dividends, if any, will be determined by our board of directors and will be based on our earnings,
available capital, financial condition, and other factors deemed relevant by our board of
directors. Our loan agreement with Laurus restricts our ability to pay dividends so long as 25% of
the initial principal amount of the Note remains outstanding.
MANAGEMENTS DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
GENERAL
We market a product line consisting of approximately sixty products in three categories;
weight management, dietary supplement and personal care products. These products are marketed
through a network marketing organization in which independent associates purchase products for
resale to retail customers as well as for their own personal use.
On September 9, 2005, we entered into a definitive Stock Purchase Agreement with Heartland and
its principal shareholder for the purchase of all of the principal shareholders stock in
Heartland. Upon closing of the Stock Purchase Agreement, we acquired 2,000,000 shares, or
approximately 83% of the outstanding capital stock of Heartland, for 200,000 shares of our common
stock. In addition, we paid approximately $200,000 to acquire the remaining shares of Heartland.
Heartland is a manufacturer of foam cups, distributed through a number of contracts. Heartland has
exclusive contracts with the State of Oklahoma and the Department of Defense.
10
As described in Footnote 13 to the Financial Statements, we have made the decision to sell or
cease operations at Heartland Cup. As such, our consolidated financial statements reflect
Heartland Cup as a discontinued operation. As described in Part II, Item 1. Legal Proceedings, we
have filed suit against Truett McCarty in the District Court of Oklahoma County, State of Oklahoma
relating to our acquisition of Heartland. We believe that Mr. McCarty has both defrauded us
regarding the financial conditions and results of operations of Heartland, as well as breached
certain representations and warranties in the Stock Purchase Agreement relating to the Heartland
acquisition. It is our belief that, had we been aware of the true facts and circumstances
regarding Heartlands financial condition and historical results of operations, we would not have
purchased Heartland. We presently believe that the dedication of our time and attention to
Heartland is neither in our or our stockholders best interests. As a result, we have discontinued
the Heartland operations, and are in negotiations with a prospective buyer to lease the plant and
equipment and purchase existing customer contracts. Due to the above reasons, any further
discussion of Heartland and its operations in this report will be limited to the discussions
included in Part I, Item 2. Managements Discussion and Analysis or Plan of Operation and Part II,
Item 1. Legal Proceedings. Since the transaction for Heartland Cup is not finalized, we cannot
determine the ultimate impact of the transaction on our financial condition or results of
operations.
On July 28, 2006, our Chief Executive Officer, outlined a strategic plan for our future
operations as follows:
Sell
Heartland Cup
Use additional capital to build a foundation that will allow us to grow. Because of
our consecutive years of losses, we have not had the funds to develop marketing, training and
support tools, and programs to support our independent associates efforts in the field. On June
28, 2006, we raised $2,000,000 in additional financing. We intend to use these funds to begin an
aggressive sales and marketing campaign, which we believe will increase our top line revenues. We
intend to produce better product videos, business builder videos, printed material and other
materials for use by our independent associates in their marketing efforts. In addition we intend
to upgrade our back office to provide our independent associates with the most current management
tools available in network marketing.
Establish a new binary commission system and allow our independent associates to
choose to use our existing commission system or the new binary commission system depending on their
primary method of generating revenues. This will allow our independent associates to tailor their
commission system to their operating methods.
Enter the international markets.
Critical Accounting Policies
We prepare our consolidated financial statements in conformity with accounting principles
generally accepted in the United States, which require us to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of contingent assets and
liabilities at the date of the financial statements and the reported amounts of revenue and
expenses during the year. Actual results could differ from those estimates. We consider the
following policies to be most critical in understanding the judgments that are involved in
preparing our financial statements and the uncertainties that could impact our results of
operations, financial condition and cash flows.
11
Throughout this report, net sales represents the gross sales amounts reflected on our
invoices to our associates, less associate discounts and sales returns. All of our products
include a customer satisfaction guarantee. Our products may be returned within 30 days of purchase
for a full refund or credit toward the purchase of another product. We also have a buy-back
program whereby we repurchase products sold to an independent associate (subject to a restocking
fee), provided the associate terminates his/her associateship agreement with us and returns the
product within 12 months of original purchase in marketable condition. We receive our net sales
price in cash or through credit card payments upon receipt of orders from associates.
Our gross profit consists of net sales less:
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Commissions and bonuses, consisting of commission payments to associates based on their
current associate level within their organization, and other one-time incentive cash
bonuses to qualifying associates; |
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Cost of products, consisting of the prices we pay to our manufacturers for products, and
royalty overrides earned by qualifying associates on sales within their associate
organizations; and |
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Cost of shipping, consisting of costs related to shipments, duties and tariffs, freight
expenses relating to shipment of products to associates and similar expenses. |
We recognize revenue upon shipment of products, training aids and promotional material to our
independent associates. All of our customers pay for sales in advance of shipment. As such, we
have no trade receivables. We used to make loans to associates, which were repayable in five years
or less, and which were secured by commissions controlled by us. Associate loans are no longer
allowed. Interest rates on loans were typically two percent or more above the Prime rate and were
fixed. All loans were secured by guaranteed payment sources that were within our control, but
subject to increases and decreases depending upon associate sales activity. Management determined
that there was a possibility of default on the associate loans. As such, we have reserved an
allowance for doubtful accounts in connection with the associate loans. At September 30, 2006, the
allowance for doubtful accounts was approximately $120,000. Total associate loans still
outstanding at September 30, 2006 totaled approximately $162,000.
In July 2001, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 142, Goodwill and Other Intangible Assets. This standard requires
companies to stop amortizing existing goodwill and intangible assets with indefinite lives
effective January 1, 2002. Under the new rules, companies would only adjust the carrying amount of
goodwill or indefinite life intangible assets upon an impairment of the goodwill or indefinite life
intangible assets. Our intangible assets consist of non-compete covenants and other intangibles,
which have a significant residual value. These intangible assets are being amortized over the life
of the contracts. We evaluate all intangible assets annually for indicators of impairment.
We use an asset and liability approach to account for income taxes. Deferred income taxes are
recognized for the tax consequences of temporary differences and carryforwards by applying enacted
tax rates applicable to future years to differences between the financial statement amounts and the
tax bases of existing assets and liabilities. A valuation allowance is established if, in
managements opinion, it is more likely than not that some portion of the deferred tax asset will
not be realized. All evidence, both positive and negative, is considered to determine whether a
valuation allowance is needed for some or all of a deferred tax asset. Judgment must be used in
considering the relative impact of negative and positive evidence. The more negative evidence that
exists, (a) the more positive evidence is necessary and (b) the more difficult it is to support a
conclusion that a valuation allowance is not needed. Based on the above factors and managements
evaluation, we determined at December 31, 2004, that a valuation allowance should be established
for our entire deferred tax asset, which was approximately $5,300,000 at September 30, 2006.
We write down our inventory to provide for estimated obsolete or unsalable inventory based on
assumptions about future demand for our products and market conditions. If future demand and
market conditions are less favorable than managements assumptions, additional inventory
write-downs could be required. Likewise, favorable future demand and market conditions could
positively impact future operating results if written-off inventory is sold. At September 30,
2006, we have a marketing inventory obsolescence reserve of approximately $68,000 for estimated
obsolete or unsalable inventory.
12
We account for contingencies in accordance with SFAS No. 5, Accounting for Contingencies.
SFAS 5 requires that we record an estimated loss from a loss contingency when information available
prior to issuance of our financial statements indicates that it is probable than an asset has been
impaired or a liability has been incurred at the date of the financial statements, and the amount
of the loss can be reasonably estimated. Accounting for contingencies such as legal and income tax
matters requires us to use our judgment. Many legal and tax contingencies can take years to
resolve. Generally, as the time period increases over which the uncertainties are resolved, the
likelihood of changes to the estimate of the ultimate outcome increases. However, an adverse
outcome in these matters could have a material impact on our results of operations, financial
condition and cash flows.
RESULTS OF OPERATIONS
The following table sets forth, as a percentage of our net sales, selected results of
operations for the three and nine months ended September 30, 2006 and 2005. The selected results
of operations are derived from our unaudited consolidated financial statements. The results of
operations for the periods presented are not necessarily indicative of our future operations.
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|
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For the Three Months Ended |
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|
For the Nine Months Ended |
|
|
|
September 30, |
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|
September 30, |
|
|
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
|
|
Amount |
|
|
Percent |
|
|
Amount |
|
|
Percent |
|
|
Amount |
|
|
Percent |
|
|
Amount |
|
|
Percent |
|
Net sales |
|
$ |
2,323,583 |
|
|
|
100.0 |
% |
|
$ |
2,626,762 |
|
|
|
100.0 |
% |
|
$ |
7,073,271 |
|
|
|
100.0 |
% |
|
$ |
10,175,839 |
|
|
|
100.0 |
% |
Cost of sales: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commissions and
bonuses |
|
|
793,570 |
|
|
|
34.2 |
% |
|
|
966,403 |
|
|
|
36.8 |
% |
|
|
2,353,968 |
|
|
|
33.3 |
% |
|
|
4,342,590 |
|
|
|
42.7 |
% |
Cost of products |
|
|
298,023 |
|
|
|
12.8 |
% |
|
|
550,375 |
|
|
|
21.0 |
% |
|
|
1,219,027 |
|
|
|
17.2 |
% |
|
|
2,263,228 |
|
|
|
22.2 |
% |
Cost of shipping |
|
|
331,195 |
|
|
|
14.2 |
% |
|
|
248,949 |
|
|
|
9.4 |
% |
|
|
902,432 |
|
|
|
12.8 |
% |
|
|
1,094,717 |
|
|
|
10.8 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of sales |
|
|
1,422,788 |
|
|
|
61.2 |
% |
|
|
1,765,727 |
|
|
|
67.2 |
% |
|
|
4,475,427 |
|
|
|
63.3 |
% |
|
|
7,700,535 |
|
|
|
75.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
900,795 |
|
|
|
38.8 |
% |
|
|
861,035 |
|
|
|
32.8 |
% |
|
|
2,597,844 |
|
|
|
36.7 |
% |
|
|
2,475,304 |
|
|
|
24.3 |
% |
Marketing and
administrative
expense: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketing |
|
|
211,127 |
|
|
|
9.1 |
% |
|
|
150,254 |
|
|
|
5.7 |
% |
|
|
454,122 |
|
|
|
6.4 |
% |
|
|
735,210 |
|
|
|
7.2 |
% |
Administrative |
|
|
1,134,913 |
|
|
|
48.8 |
% |
|
|
1,210,891 |
|
|
|
46.1 |
% |
|
|
2,589,997 |
|
|
|
36.6 |
% |
|
|
4,394,192 |
|
|
|
43.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total marketing,
and administrative
expense |
|
|
1,346,040 |
|
|
|
57.9 |
% |
|
|
1,361,145 |
|
|
|
51.8 |
% |
|
|
3,044,119 |
|
|
|
43.0 |
% |
|
|
5,129,402 |
|
|
|
50.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(445,245 |
) |
|
|
-19.1 |
% |
|
|
(500,110 |
) |
|
|
-19.0 |
% |
|
|
(446,275 |
) |
|
|
-6.3 |
% |
|
|
(2,654,098 |
) |
|
|
-26.1 |
% |
Other income
(expense): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest, net |
|
|
(145,095 |
) |
|
|
-6.2 |
% |
|
|
17,304 |
|
|
|
0.7 |
% |
|
|
(136,007 |
) |
|
|
-1.9 |
% |
|
|
39,861 |
|
|
|
0.4 |
% |
Other, net |
|
|
7,041 |
|
|
|
0.3 |
% |
|
|
3,071 |
|
|
|
0.1 |
% |
|
|
51,000 |
|
|
|
0.7 |
% |
|
|
27,996 |
|
|
|
0.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other income
(expense) |
|
|
(138,054 |
) |
|
|
-5.9 |
% |
|
|
20,375 |
|
|
|
0.8 |
% |
|
|
(85,007 |
) |
|
|
-1.2 |
% |
|
|
67,857 |
|
|
|
0.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from
continuing
operations before
taxes |
|
|
(583,299 |
) |
|
|
-25.1 |
% |
|
|
(479,735 |
) |
|
|
-18.3 |
% |
|
|
(531,282 |
) |
|
|
-7.5 |
% |
|
|
(2,586,241 |
) |
|
|
-25.4 |
% |
Tax benefit |
|
|
0 |
|
|
|
0.0 |
% |
|
|
(17,833 |
) |
|
|
-0.7 |
% |
|
|
0 |
|
|
|
0.0 |
% |
|
|
(16,470 |
) |
|
|
-0.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from
continuing
operations |
|
|
(583,299 |
) |
|
|
-25.1 |
% |
|
|
(461,902 |
) |
|
|
-17.6 |
% |
|
|
(531,282 |
) |
|
|
-7.5 |
% |
|
|
(2,569,771 |
) |
|
|
-25.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Discontinued
operations: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from
operations of
Heartland Cup |
|
|
(52,475 |
) |
|
|
-2.3 |
% |
|
|
(51,966 |
) |
|
|
-2.0 |
% |
|
|
(573,707 |
) |
|
|
-8.1 |
% |
|
|
(51,966 |
) |
|
|
-0.5 |
% |
Income tax benefit |
|
|
0 |
|
|
|
0.0 |
% |
|
|
0 |
|
|
|
0.0 |
% |
|
|
0 |
|
|
|
0.0 |
% |
|
|
0 |
|
|
|
0.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total loss on
discontinued
operations |
|
|
(52,475 |
) |
|
|
-2.3 |
% |
|
|
(51,966 |
) |
|
|
-2.0 |
% |
|
|
(573,707 |
) |
|
|
-8.1 |
% |
|
|
(51,966 |
) |
|
|
-0.5 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
($ |
635,774 |
) |
|
|
-27.3 |
% |
|
($ |
513,868 |
) |
|
|
-19.6 |
% |
|
($ |
1,104,989 |
) |
|
|
-15.6 |
% |
|
($ |
2,621,737 |
) |
|
|
-25.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
13
Comparison of the Nine Months ended September 30, 2006 and 2005
Our net sales during the nine months ended September 30, 2006 decreased $3,102,568, or 30.5%,
to $7,073,271 from $10,175,839 during the nine months ended September 30, 2005. On April 5, 2005,
we announced that we were ending our free trial program that began in April, 2004, due to the lack
of retention required to make the program profitable long term. In connection with the reduction in
sales, on April 20, 2005, we announced the implementation of expense reductions designed to better
align expenses with revenue. Due to the continued decrease in sales we implemented additional
expense reductions and employee layoffs in August and December 2005, and January 2006.
Our cost of sales during the nine months ended September 30, 2006 decreased $3,225,108, or
41.9%, to $4,475,427 from $7,700,535 during the same period in 2005. Total cost of sales, as a
percentage of net sales, decreased to 63.3% during the nine months ended September 30, 2006 from
75.7% during the same period in 2005. The decrease in cost of sales was primarily attributable to
the cancellation of our free trial program, resulting in:
|
|
|
A decrease of approximately $1,989,000 in associate commissions and bonuses; |
|
|
|
|
A decrease of approximately $1,044,000 in the cost of products sold; and |
|
|
|
|
A decrease of approximately $192,000 in shipping costs. |
The factors discussed above resulted in an increase in gross profit of $122,540, or 5.0%, to
$2,597,844 for the nine months ended September 30, 2006 from $2,475,304 for the same period in
2005.
Marketing expenses decreased $281,088, or 38.2%, to $454,122 during the nine months ended
September 30, 2006, from $735,210 during the same period in 2005. The decrease in expense was
primarily attributable to:
|
|
|
A decrease in employee costs of approximately $285,000, related to reductions in staff; |
|
|
|
|
A decrease in travel costs of approximately $15,000 related to reduced outside travel of marketing; |
|
|
|
|
A decrease in professional services of approximately $42,000 related to maintenance of our websites; and |
|
|
|
|
A decrease in miscellaneous expense of approximately $37,000 related to postage,
printing, supplies and telephone expense. |
The decrease in marketing expenses was partially offset by:
|
|
|
An increase in promotional expense of approximately $93,000 related to the 2006
national convention. |
Administrative expense decreased $1,804,195, or 41.1%, to $2,589,997 during the nine months
ended September 30, 2006 from $4,394,192 during the same period of 2005. The decrease in expense
was primarily attributable to:
|
|
|
A decrease in employee costs of approximately $1,264,000 related to reductions in staff; |
|
|
|
|
A decrease in professional services of approximately $17,000 related to decreased
consulting and legal fees and less use of temporary employees; |
|
|
|
|
A decrease in rent and insurance expense of approximately $171,000 related to
adjustments to our lease abandonment accrual and a change in insurance carriers resulting
in better rates; |
|
|
|
|
A decrease in repairs and maintenance expense of approximately $76,000; |
14
|
|
|
A decrease in shareholder relations of approximately $4,000; |
|
|
|
|
A decrease in travel costs of approximately $55,000 related to reduced outside travel; |
|
|
|
|
A decrease in depreciation expense of approximately $34,000 due to the sale of the
motorcoach, vehicles, and other assets in 2006; and |
|
|
|
|
A decrease in general and administrative expense of approximately $237,000 related to
bank charges, supplies, telephone, etc. |
The decrease in administrative expense was partially offset by:
|
|
|
An increase in website expenses of $55,000. |
The marketing and administrative expenses as a percentage of net sales decreased to 43.0%
during the nine months ended September 30, 2006 from 50.4% during the same period in 2005.
Management expects marketing and administrative expenses to remain at the current dollar level
based on expense reductions implemented in 2005 and early 2006.
Our net other income (reduced by other expense) decreased by $152,864 to net other income of
($85,007) at September 30, 2006, from net other income of $67,857 during the same period in 2005,
primarily due to:
|
|
|
An increase in other income of approximately $24,000 related to the collection of
reserved notes receivable; |
|
|
|
|
An increase in gain on sale of assets of approximately $31,000 related to the sale of
excess office furniture and supplies and vehicles; |
|
|
|
|
An increase in interest expense of approximately $165,000 related to the Laurus debt
executed in 2006, and capital lease adjustments in 2005; |
|
|
|
|
A decrease in interest income of approximately $11,000 related to the decrease of
marketable securities, capital lease adjustment made in 2005 and interest recorded on notes
receivable; and |
|
|
|
|
A decrease in gain on sale of marketable securities of approximately $32,000 related to
the decrease of marketable securities. |
Our loss from continuing operations before taxes decreased $2,054,959 to a loss of ($531,282)
for the first nine months of 2006, compared to a net loss of ($2,586,241) during the same period in
2005. Loss from continuing operations before taxes as a percentage of net sales was (7.5%) and
(25.4%) for the nine months ended September 30, 2006 and 2005, respectively. Income tax benefit
for the first nine months of 2006 and 2005 was $0 and $16,470, respectively. Our net loss from
continuing operations decreased $2,038,489, to a net loss of ($531,282) for the nine months ended
September 30, 2006, from a net loss of ($2,569,771) for the same period in 2005. This decrease was
attributable to:
|
|
|
The increase in gross profit to $2,597,844 during 2006 from $2,475,304 during 2005; |
|
|
|
|
The decrease in marketing and administrative expense to $3,044,119 during 2006 from
$5,129,402 during 2005; and |
|
|
|
|
The decrease in net other income to ($85,007) during 2006 from $67,857 during 2005. |
Net loss from continuing operations as a percentage of net sales decreased to (7.5%) for the
nine months ended September 30, 2006, from (25.2%) during the same period in 2005.
15
Net loss decreased $1,516,748 to a net loss of ($1,104,989) for the nine months ended
September 30, 2006, compare to a net loss of ($2,621,737) for the same period of 2005. This
decrease is primarily the result of higher gross profit and lower administrative expenses.
Management expects this trend to continue through the first quarter of 2007, when we complete our
new marketing campaign
Years Ended December 31, 2005, 2004 and 2003. The following table sets forth, as a percentage
of net sales, selected consolidated results of our operations for the years ended December 31,
2005, 2004 and 2003. The selected consolidated results of operations are derived from our audited
consolidated financial statements. The results of operations for the periods presented are not
necessarily indicative of our future operations.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Years Ended December 31, |
|
|
|
2005 |
|
|
2004 |
|
|
2003 |
|
|
|
Amount |
|
|
Percent |
|
|
Amount |
|
|
Percent |
|
|
Amount |
|
|
Percent |
|
Net sales |
|
$ |
13,701,324 |
|
|
|
100.0 |
% |
|
$ |
18,203,497 |
|
|
|
100.0 |
% |
|
$ |
18,486,178 |
|
|
|
100.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of sales: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commissions and bonuses |
|
|
5,234,414 |
|
|
|
38.2 |
|
|
|
8,470,653 |
|
|
|
46.5 |
|
|
|
7,797,448 |
|
|
|
42.2 |
|
Cost of products |
|
|
3,783,130 |
|
|
|
27.6 |
|
|
|
4,154,968 |
|
|
|
22.8 |
|
|
|
3,423,006 |
|
|
|
18.5 |
|
Cost of shipping |
|
|
1,418,512 |
|
|
|
10.4 |
|
|
|
1,962,900 |
|
|
|
10.8 |
|
|
|
1,529,882 |
|
|
|
8.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of sales |
|
|
10,436,056 |
|
|
|
76.2 |
|
|
|
14,588,521 |
|
|
|
80.1 |
|
|
|
12,750,336 |
|
|
|
69.0 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
3,265,268 |
|
|
|
23.8 |
|
|
|
3,614,976 |
|
|
|
19.9 |
|
|
|
5,735,842 |
|
|
|
31.0 |
|
Marketing, distribution and
administrative expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketing |
|
|
1,169,768 |
|
|
|
8.5 |
|
|
|
1,536,777 |
|
|
|
8.4 |
|
|
|
1,538,981 |
|
|
|
8.3 |
|
Distribution and
administrative |
|
|
5,972,700 |
|
|
|
43.6 |
|
|
|
6,684,801 |
|
|
|
36.7 |
|
|
|
7,124,894 |
|
|
|
38.5 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total marketing,
distribution
and administrative
expenses |
|
|
7,142,468 |
|
|
|
52.1 |
|
|
|
8,221,578 |
|
|
|
45.2 |
|
|
|
8,663,875 |
|
|
|
46.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(3,877,200 |
) |
|
|
(28.3 |
) |
|
|
(4,606,602 |
) |
|
|
(25.3 |
) |
|
|
(2,928,033 |
) |
|
|
(15.8 |
) |
Other income (expense): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest and dividends, net |
|
|
(3,159 |
) |
|
|
(0.0 |
) |
|
|
162,161 |
|
|
|
0.9 |
|
|
|
(74,704 |
) |
|
|
(0.4 |
) |
Other income
(expenses) |
|
|
147,111 |
|
|
|
1.0 |
|
|
|
113,236 |
|
|
|
0.6 |
|
|
|
(156,963 |
) |
|
|
(0.8 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other
income (expense) |
|
|
143,952 |
|
|
|
1.0 |
|
|
|
275,397 |
|
|
|
1.5 |
|
|
|
(231,667 |
) |
|
|
(1.3 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes |
|
|
(3,733,248 |
) |
|
|
(27.3 |
) |
|
|
(4,331,205 |
) |
|
|
(23.8 |
) |
|
|
(3,159,700 |
) |
|
|
(17.1 |
) |
Income tax |
|
|
32,835 |
|
|
|
0.2 |
|
|
|
1,936,262 |
|
|
|
10.6 |
|
|
|
(590,839 |
) |
|
|
(3.2 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(3,766,083 |
) |
|
|
(27.5 |
)% |
|
$ |
(6,267,467 |
) |
|
|
(34.4 |
)% |
|
$ |
(2,568,861 |
) |
|
|
(13.9 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comparison of 2005 and 2004
Our net sales during the year ended December 31, 2005, decreased by $4,502,173, or 24.7%, to
$13,701,324 from $18,203,497 during the year ended December 31, 2004. At December 31, 2005, we had
approximately 15,000 active associates compared to approximately 55,000 at December 31, 2004. An
associate is considered to be active if he or she has made a product purchase of $50 or more from
us or is enrolled in our autoship program within the previous 90 days. On April 5, 2005, we
announced that we were ending the free trial program due to the lack of retention required to make
the program profitable long term. In connection with the reduction in sales, on April 20, 2005, we
announced the implementation of expense reductions designed to better align expenses with revenue.
Due to the continued decrease in sales we implemented additional expense reductions and employee
layoffs in August and December. Manufacturing revenues accounted for $1,094,999, or 8.0%, of 2005
sales.
Our cost of sales during 2005 decreased by $4,152,465, or 28.5%, to $10,436,056 from
$14,588,521 during 2004. Total cost of sales, as a percentage of net sales, decreased to 76.2% in
2005 from 80.1% during 2004. The decrease in cost of sales was attributable to:
|
|
|
a decrease of approximately $3,236,000 in associate commissions and bonuses due to
the cessation of our free trial program and lower sales volume; |
16
|
|
|
a decrease of approximately $372,000 in the cost of products sold due to the
cessation of our free trial program and lower sales volume, offset by approximately
$892,000 cost of products from our manufacturing operations; and |
|
|
|
|
a decrease of approximately $544,000 in shipping costs primarily due to cessation of
our free trial program and lower sales volume. |
Our manufacturing cost of sales represented $919,207, or 8.8%, of our total cost of sales.
Marketing cost of sales as a percentage of net marketing sales was 75.5% and manufacturing cost of
sales as a percentage of net manufacturing sales was 83.9%.
The factors discussed above resulted in a decrease in gross profit of $349,708, or 9.7%, to
$3,265,268 during 2005 from $3,614,976 during 2004.
Marketing expenses decreased 367,009, or 23.9%, to $1,169,768 during the year ended December
31, 2005, from $1,536,777 during the same period in 2004. The decrease in expense was primarily
attributable to a decrease in promotion expense of approximately $385,000.
Distribution and administrative expenses decreased $712,101, or 10.7%, to $5,972,700 during
the year ended December 31, 2005, from $6,684,801 during the same period in 2004. This decrease
was primarily attributable to:
|
|
|
a decrease in staffing and related payroll cost of approximately $483,000; |
|
|
|
|
a decrease in professional services of approximately $346,000 related to legal
expense, consulting expense and temporary employees; |
|
|
|
|
a decrease in rent expense of approximately $339,000 related to the recording of a
lease abandonment accrual in 2004; |
|
|
|
|
a decrease in vehicle and equipment expense of approximately $119,000 related
primarily to lower repair and maintenance costs; |
|
|
|
|
a decrease in depreciation and amortization of approximately $106,000 related to the
sale of various assets in 2004 and early 2005; and |
|
|
|
|
a decrease in administrative expense of approximately $248,000 primarily due to
lower bank service charges, employee relations expenses and sales tax expenses. |
These decreases were partially offset by:
|
|
|
an increase in bad debt expense of approximately $175,000 related to the reserves
for doubtful accounts related to accounts and notes receivable; |
|
|
|
|
an increase in shareholder relations of approximately $48,000; and |
|
|
|
|
administrative expenses from our manufacturing operations of approximately $698,000,
consisting primarily of approximately $170,000 in employee costs and approximately
$379,000 in utility expense. |
The marketing, distribution and administrative expenses as a percentage of net sales increased
to 52.1% in 2005, from 45.2% in 2004. Marketing, distribution and administrative expense as a
percentage of net sales for our manufacturing operations were 66.3%.
Our other income (reduced by other expense) decreased by $131,445 to net other income of
$143,952 during 2005, from net other income of $275,397 during the same period in 2004. This
decrease was primarily attributable to:
|
|
|
a decrease in investment income of approximately $75,000 related to marketable
securities; |
|
|
|
|
a decrease in gain on sale of marketable securities of approximately $11,000 related
to the sales of marketable securities in 2005; and |
|
|
|
|
net other expense of approximately $62,000 related to our manufacturing operations. |
Our loss before taxes decreased $597,957, or 13.8%, to $3,733,248 during 2005, from $4,331,205
during 2004. Loss before taxes as a percentage of net sales was 27.2% and 23.8% during 2005 and
2004. Income tax expense
17
during 2005 and 2004 was $32,835 and $1,936,262. Our net loss decreased $2,501,384, to a net
loss of $3,766,083 during 2005, from a net loss of $6,267,467 during 2004. This decrease in net
loss was attributable to:
|
|
|
The decrease in marketing, distribution and administrative expense to $7,142,468
during 2005 from $8,221,578 during 2004; and |
|
|
|
|
The decrease in tax expense of approximately $3,400,000 due to the write off of the
deferred tax asset in 2004. |
Net loss from our manufacturing operations accounted for $611,807, or 16.2% of our total loss.
Net loss as a percentage of net sales decreased to 27.5% during 2005, from 34.4% during 2004,
due to the factors discussed above.
Comparison of 2004 and 2003
Our net sales during the year ended December 31, 2004, decreased by $282,681, or 1.5%, to
$18,203,497 from $18,486,178 during the year ended December 31, 2003. During 2004, we made sales
to approximately 99,000 associates, compared to sales during 2003 to approximately 44,000
associates. The aggregate number of associates at December 31, 2004 increased from 2003 due to
increased recruiting activity and sales of our free trial program. At December 31, 2004, we had
approximately 55,000 active associates compared to approximately 19,000 at December 31, 2003. An
associate is considered to be active if he or she has made a product purchase of $50 or more from
us or is enrolled in our autoship program within the previous 90 days. Sales per associate per
month decreased to $55 for 2004, compared to $61 for 2003. We have historically earned a material
portion of our revenues from our AM-300 product, which contains ephedra. In 2003, the FDA banned
the use of ephedra in nutritional supplements. This ban was effective April 12, 2004. Sales of
our AM-300 product totaled approximately $1.7 million in 2004, as compared to sales of
approximately $6.5 million in 2003. Over the last several years, through strategic acquisitions,
product redevelopment and refocus of weight loss products, we have built a multi-product peak
performance, weight loss and nutritional product line that is non-ephedra. We have seen positive
results in converting our AM-300 customers to AM-300 Ephedra Free or other weight loss products.
During 2004, we added approximately 75,000 new sales associates and preferred customers with
our free trial program. This compares to additions of approximately 12,000 new sales associates
for the prior year.
Our cost of sales during 2004 increased by $1,838,185, or 14.4%, to $14,588,521 from
$12,750,336 during 2003. This increase was attributable to sales of our free trial program,
resulting in:
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An increase of approximately $673,000 in associate commissions and bonuses; |
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An increase of approximately $732,000 in the cost of products sold; and |
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An increase of approximately $433,000 in shipping costs. |
Total cost of sales as a percentage of net sales increased to 80.1% during the year ended December
31, 2004, from 69.0% during the same period in 2003. This was due to an increase in cost of
products to 22.8% of net sales from 18.5%, an increase in cost of shipping to 10.8% of net sales
from 8.3% and an increase in commissions and bonuses to 46.5% of net sales from 42.1%, all
resulting from sales of our free trial program.
Our gross profit decreased $2,120,866, or 37.0%, to $3,614,976 during 2004 from $5,735,842
during 2003. The gross profit decreased as a percentage of net sales to 19.9% in 2004 from 31.0% in
2003, as reflected in our cost of goods sold increase as a percentage of net sales.
Marketing expense was virtually flat at $1,536,777 during 2004, compared to $1,538,981 during
2003.
Distribution and administrative expense decreased $440,093, or 6.2%, to $6,684,801 during 2004
compared to $7,124,894 in 2003. The decrease in expense was primarily attributable to:
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An decrease in employee costs of approximately $670,000 due to the 2003 accrual of
deferred compensation; |
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An decrease in shareholder relations of approximately $108,000 related to the
redemption of our warrants in 2003; and |
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A decrease in depreciation expense of approximately $123,000 due to asset sales
during the year. |
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The decrease in distribution and administrative expenses was partially offset by:
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An increase in employee costs of approximately $180,000 related to increase in
personnel expense and benefits; |
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An increase in professional fees of approximately $183,000 due to legal fees related
to ephedra lawsuits and consulting fees related to internal control documentation and
testing; and |
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An increase in rent expense of approximately $182,000 related to the lease
abandonment accrual for our previous corporate offices. |
The marketing, distribution and administrative expenses as a percentage of net sales decreased
to 45.2% in 2004, from 46.9% in 2003.
Our net other income (reduced by other expense) increased $507,064 to net other income of
$275,397 during 2004, from a net other expense of $231,667 during the same period in 2003. This
increase was primarily due to:
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An increase in investment income of approximately $80,000 related to marketable securities; |
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A decrease in interest expense of approximately $160,000 due to the extinguishment of debt; |
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A decrease in loss on sale of assets of approximately $92,000; and |
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A gain on sale of marketable securities of $143,000. |
Our loss before taxes increased $1,171,505 to a loss of $4,331,205 during 2004, from a loss of
$3,159,700 during 2003. Loss before taxes as a percentage of net sales was 23.8% and 17.1% during
2004 and 2003. Income tax expense (benefit) during 2004 and 2003 was $1,936,262 and $(590,839).
Our net loss increased $3,698,606, to a net loss of $6,267,467 during 2004, from a net loss of
$2,568,861 during 2003. This increase in net loss was attributable to:
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The decrease in gross profit to $3,614,976 during 2004 from $5,735,842 during 2003; and |
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The write off of the deferred tax asset in 2004 of approximately $3,400,000, partially offset by: |
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The decrease in marketing, distribution and administrative expense to $8,221,578
during 2004 from $8,663,875 during 2003. |
Net loss as a percentage of net sales increased to (34.4%) during 2004, from (13.9%) during 2003.
Seasonality
No pattern of seasonal fluctuations exists due to the patterns that we are currently
experiencing. However, there is no assurance that we will not become subject to seasonal
fluctuations in operations.
Recently Issued Accounting Standards
On January 1, 2006, we adopted Statement of Financial Accounting Standards No. 123 (revised
2004), Share-Based Payment (SFAS 123R) which requires the measurement and recognition of
compensation expense based on estimated fair values for all share-based payment awards made to
employees and directors, including employee stock options. SFAS 123R supersedes our previous
accounting under Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees (APB 25) for periods beginning in 2006. In March 2005, the Securities and Exchange
Commission issued Staff Accounting Bulletin No. 107 (SAB 107) relating to SFAS 123R. The Company
has utilized the guidance of SAB 107 in its adoption of SFAS 123R. Since we implemented SFAS 123R,
we have recorded $14,682 of options expense as of September 30, 2006.
In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in
Income Taxes - an Interpretation of FASB Statement No. 109 (FIN 48). FIN 48
clarifies the uncertainty in income taxes recognized in a companys financial statements in
accordance with SFAS No. 109, Accounting for Income Taxes. FIN 48 prescribes a
recognition threshold and measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return. FIN 48 is
effective for fiscal years beginning after December 15, 2006. We are currently reviewing
this new standard to determine its effects, if any, on our results of operations or
financial position.
In September 2006, the FASB issued SFAS 157, Fair Value Measurements (SFAS 157), to
increase consistency and comparability in fair value measurements by defining fair value,
establishing a framework for measuring fair value in generally accepted accounting
principles, and expanding disclosures about fair value measurements. The Statement
emphasizes that fair value is a market-based measurement, not an entity-specific
measurement. It clarifies the extent to which fair value is used to measure recognized
assets and liabilities, the inputs used to develop the measurements, and the effect of
certain of the measurements on earnings for the period. SFAS 157 is effective for financial
statements issued for fiscal years beginning after November 15, 2007, and will be applied on
a prospective basis. We are currently reviewing this new standard to determine its effects,
if any, on our results of operations or financial position.
Commitments and Contingencies
We, like other marketers of products that are intended to be ingested, face an inherent risk
of exposure to product liability claims in the event that the use of our products results in
injury. We have limited product liability insurance with coverage limits of $1.0 million per
occurrence and $2.0 million aggregate. Products containing ephedra, which represented 9.7% of our
2004 net sales, and none of our 2005 sales, were not covered by our product liability insurance.
All of our product manufacturers carry product liability insurance, which covers our products.
Such product claims against us could adversely affect product sales, results of our operations,
financial condition and the value of our common stock.
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We are involved in asserted and unasserted claims, which arise in the ordinary course of our
business. We routinely evaluate whether a loss is probable, and if so, whether it can be
estimated. Estimates are based on similar case law matters, consultation with subject matter
experts and information obtained through negotiations with counter-parties. As such, accurately
depicting the outcome of pending litigation requires considerable judgment and is subject to
material differences on final settlement. Accruals for probable losses are recorded in accrued
expenses. If our assessment of the probability is inaccurate, we may need to record additional
accruals or reduce recorded accruals later. In addition, we may need to adjust our estimates of
the probable loss amounts as further information is obtained or we consider settlements.
Liquidity and Capital Resources
Our primary source of liquidity has been cash provided by sales of our common stock, debt
instruments, marketable securities and operating activities. At September 30, 2006, we had a
working capital of $446,073, compared to a working capital deficit of ($65,593) at December 31,
2005. Our working capital needs over the next 12 months consist primarily of marketing and
administrative expenses, and will be provided by our operating activities and existing cash and
cash equivalents. During the nine months ended September 30, 2006, net cash used in operating
activities was ($365,280), net cash used in investing activities was ($618,777) and net cash
provided by financing activities was $1,319,582. This represented a net increase in cash during
the period of $335,525.
Several factors have contributed to our current cash and cash equivalent position:
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The impact of several material non-recurring events, including the one-time impairment
of goodwill, the accrual of deferred compensation related to the employment contract of our
founder and then CEO, the implementation of a free trial program, the write off of our
deferred tax asset, and a lease abandonment charge related to the abandonment of the
executive offices; |
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Excessive expenses incurred in the Heartland operations and a continuing excess of
monthly operating expenses over revenues; and |
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Recurring losses due to the FDAs ban on ephedra products. |
We have taken the following steps to significantly reduce our cost of sales and marketing,
distribution and administrative costs:
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Reductions in force, encompassing all departments within the Company; |
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The termination of a discount sales program, designed to give customers a cash discount
after purchasing a certain dollar amount of product; and |
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The termination of several extra employee benefits, including vehicle allowances and
social and country-club privileges. |
On March 31, 2006, we adopted a plan to cease the Heartland operations. We have actively
marketed the plant to prospective buyers, and have retained only those employees necessary to
facilitate tours of the plant to interested parties. We have included an accrual for discontinued
operations in the first quarter of 2006, and as of November 10, 2006, we were in negotiations with
a prospective buyer to lease the plant and equipment and purchase current customer contracts.
Finally, we are exploring strategic acquisitions of network marketing companies with profitable,
sustained operations.
On June 28, 2006, the Company entered into a series of agreements with Laurus Master Fund,
Ltd. (Laurus) whereby the Company issued to Laurus (i) a secured convertible term note (Note)
in the principal amount of $2,000,000, and (ii) a warrant (Warrant) to purchase up to 2,272,727
shares of the Companys common stock at a price of $0.53 per share. Out of the loan proceeds, the
Company agreed to pay the sum of $74,000 to Laurus Capital
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Management, LLC, the investment advisor to Laurus, the sum of $27,500 to Laurus Capital
Management, LLC as reimbursement for its due diligence and legal fees and expenses incurred in
connection with the transaction, and the sum of $1,500 to Loeb & Loeb LLP, the escrow agent for
Laurus. Total closing costs were $103,000.
The principal amount of the Note bears interest at a per annum rate equal to the prime rate
(as published in the Wall Street Journal from time to time) plus three percent (3.0%); provided,
however that the interest rate may not be less than ten percent (10.0%). Interest payments are due
monthly beginning July 1, 2006. Principal payments in the amount of $83,333.33 are due monthly
beginning July 1, 2007. The final maturity date of the Note is June 28, 2009 (the Maturity
Date). Interest expense related to the note was $57,500 for the three months ended September 30,
2006, and $58,750 for the nine months ended September 30, 2006. Our obligations under the Note are
secured by all of our assets, including our shares of AMS Manufacturing, Inc. and by all of AMS
Manufacturings assets including its shares of Heartland Cup, Inc. Additionally, our obligations
under the Note are guaranteed by AMS Manufacturing.
The principal amount of the Note and accrued interest thereon is convertible into shares of
the Companys common stock at a price of $0.51 per share, subject to anti-dilution adjustments.
Under the terms of the Note, the monthly payments of interest and/or principal (the Monthly
Amount) due on the Note are payable in shares of the Companys common stock if the following
criteria are met: (i) the average closing price of the Companys common stock for the five (5) days
preceding the payment date is greater than or equal to 115% of the Fixed Conversion Price (defined
below) and (ii) the amount of such conversion does not exceed twenty five percent (25%) of the
aggregate dollar trading volume of the Companys common stock for the period of twenty-two trading
days immediately preceding such payment date. If subsection (i) above is met but subsection (ii)
above is not met as to the entire Monthly Amount, then Laurus is required to convert only such part
of the Monthly Amount that meets the criteria of subsection (ii). The Company has agreed to
register all of the shares that are issuable upon conversion of the Note and exercise of the
2,272,727 Warrants. The Company has granted Laurus a right of first refusal with respect to any
debt or equity financings.
Laurus has the option to convert any portion of the outstanding principal amount and/or
accrued interest and fees and expenses payable into shares of our common stock at the Fixed
Conversion Price. Laurus cannot optionally convert payments due under the Note into shares of our
common stock, if such conversion would result in Laurus or its affiliates owning more than 4.99% of
our common stock. This prohibition on Laurus ability to optionally convert amounts due under the
Note into shares of our common stock may be waived by Laurus and becomes null and void upon (i) the
occurrence and during the continuance of an event of default, and (ii) receipt of a notice of
Optional Redemption (defined below) from us.
We can prepay the Note (an Optional Redemption) by paying Laurus (i) 125% of the principal
amount outstanding if the Optional Redemption occurs prior to the June 28, 2007, (ii) 120% of the
principal amount outstanding if the Optional Redemption occurs after June 28, 2007 and prior to the
June 28, 2008, and (iii) 115% of the principal amount outstanding if the Optional Redemption occurs
after June 28, 2008 and prior to the Maturity Date.
The Company calculated that the fair value of the Warrants issued to Laurus was $588,452 based
upon the relative value of the Black-Scholes valuation of the warrants and the underlying debt
amount. The Company determined that the beneficial conversion feature (BCF) of the note was
$588,452. The value of the warrants issued to Laurus of $588,452 and the $588,452 of calculated
BCF have been reflected by the Company as a valuation discount and offset to the face amounts of
the Notes. The valuation discount will be amortized into interest expense over the three-year term
of the note using the effective interest method. Amortization of discounts for the conversion
feature and the warrants resulted in charges to interest expense totaling $102,956 for the three
month and nine months ended September 30, 2006.
Following the occurrence and continuance of an event of default by us (an Event of Default),
we are required to pay additional default interest in the amount of seven percent (7%) per annum on
the outstanding principal balance of the Note. Additionally, upon an Event of Default, Laurus may
(i) demand repayment in full all the obligations and liabilities owing by us to Laurus under the
Note, the Securities Purchase Agreement or any other agreements contemplated thereunder, and/or
(ii) may elect to require us to make a default payment equal to 110% of the outstanding principal
amount of the Note plus accrued and unpaid interest, all other fees then remaining unpaid, and all
other amounts due and payable under the Note.
So long as at least twenty-five percent (25%) of the principal amount of the Note remains
outstanding, we and our subsidiaries are subject to restrictions related to:
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The declaration of dividends; |
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The issuance of preferred stock; |
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The redemption of preferred stock or other equity interests; |
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The liquidation, dissolution or the material reorganization of us or our
subsidiaries (other than Heartland); |
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The ability to become subject to agreements restricting the ability of us or our
subsidiaries (other than Heartland) from performing our obligations under the
Securities Purchase Agreement or any agreement contemplated thereunder; |
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The ability to materially alter or change the scope of our business; |
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The ability to incur debt; |
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The ability to forgive indebtedness; |
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The ability to guarantee obligations of others; and |
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The ability to create or acquired subsidiaries. |
In conjunction with the financing, the Company also incurred fees to various investment
advisors that facilitated the transaction. These fees totaled $287,500, of which $127,500 was paid
through the issuance of 250,000 shares of our common stock. In addition, the Company issued these
advisors warrants to purchase 495,543 shares of common stock at a price of $0.51 per share. The
Company calculated that the fair value of the warrants issued to the advisors was $130,770 based
upon the relative value of the Black-Scholes valuation of the warrants and the underlying debt
amount. The closing costs, fees paid to the advisors, and the value of the warrants issued to the
advisors have been reflected as deferred financing costs in the accompanying balance sheet and are
being amortized over the life of the loan. Amortization of the deferred financing costs related to
the note totaled $43,439, for the three and nine months ended September 30, 2006.
On September 17, 2004, we purchased additional office and warehouse space for a cash price of
$525,000. The building, which is adjacent to our corporate headquarters, provides 6,000 square
feet of additional warehouse space and 4,000 additional square feet of office space. In addition,
we incurred approximately $221,000 for remodeling the office space and construction of a covered
walkway between the two buildings.
At September 30, 2006, our indirect wholly owned subsidiary, Heartland, had $1,931,075 of long
term debt outstanding, all of which is guaranteed by us. At September 30, 2006, we had marketable
debt and equity securities of $931,158 compared to $278,131 at December 31, 2005. Due to the
Heartland acquisition, $75,477 of our marketable securities are restricted.
DESCRIPTION OF THE BUSINESS
We began operations in 1987, and through a corporate reorganization in 1995, became an
Oklahoma corporation. We develop and distribute performance-based nutritional, weight loss and
personal care products. We distribute our products through a network marketing system using
independent distributors that we refer to as associates.
Network marketing appeals to a wide cross-section of people, particularly those seeking to
supplement income, start a home-based business, or pursue entrepreneurial opportunities other than
conventional full-time employment. We consider our attractive compensation plan and monthly cash
bonus pools, along with trips, prizes and incentives, to be attractive components of our network
marketing system.
Our marketing plan is designed to provide associates financial incentives for our associates
to build and manage a team of recruited associates in their downline organization.
On an ongoing basis, we review our product line for duplication and sales movement and make
adjustments accordingly. As of September 30, 2006, our primary product lines consisted of:
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24 nutritional products; |
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5 weight management products; and |
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33 personal care products consisting primarily of skin care products. |
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Our products are manufactured by various manufacturers pursuant to formulations developed for us
and are sold to our independent associates located in all 50 states, the District of Columbia,
Puerto Rico and Canada.
We believe that our network marketing system is ideally suited to market nutritional, weight
management and personal care products because sales of such products are strengthened by ongoing
personal contact between associates and their customers. Associates are given the opportunity
through sponsored events and training sessions to network with other associates, develop selling
skills and establish personal goals. We supplement monetary incentives with other forms of
recognition in order to further motivate and foster an atmosphere of excitement throughout our
associate network.
Manufacturing. In September 2005, we entered into a definitive Stock Purchase Agreement with
Heartland and its principal shareholder for the purchase of all of the principal shareholders
stock in Heartland. Upon closing of the Stock Purchase Agreement, we acquired 2,000,000 shares, or
approximately 83% of the outstanding capital stock of Heartland, for 200,000 shares of our common
stock. In addition, we paid approximately $200,000 to acquire the remaining shares of Heartland.
Heartland is a manufacturer of foam cups.
As described under the heading Legal Proceedings, we have filed suit against Truett McCarty
with the District Court of Oklahoma County, State of Oklahoma relating to our acquisition of
Heartland. We believe that Mr. McCarty has both defrauded us regarding the financial conditions
and results of operations of Heartland, as well as breached certain representations and warranties
in the stock purchase agreement relating to the Heartland acquisition. It is our belief that, had
we been aware of the true facts and circumstances regarding Heartlands financial condition and
historical results of operations, we would not have purchased Heartland. The operations of
Heartland have been discontinued.
Key Operating Strengths
We are an eighteen year-old company with strong management. Our principal objective is to be
a leading developer and distributor of weight loss products and performance-based wellness systems.
Our strategy to achieve this objective and maintain our position in the industry is to capitalize
on our operating strengths, which include a strong product development capability, an attractive
compensation plan for associates and an experienced management team.
Performance-based Products. We have developed a line of high-quality health products based on
industry demand. We believe that the development and delivery of essential vitamins, minerals, and
other supplements will help individuals achieve top physical, mental and emotional performance.
Product Development. Our product development effort is based on the identification of next
generation health discoveries, anticipation of consumer demand and the acquisition of completed and
tested new product technology. Our management team continually:
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Investigates health, performance and industry trends for new natural extracts and formulated products; |
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Searches for formulations and ingredients that may be candidates for new products; |
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Identifies and compares existing and newly identified nutritional supplements; |
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Updates and improves existing products as new discoveries in nutrition are made; and |
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Prepares products to comply with regulatory requirements of international markets we enter. |
Manufacturing. We outsource all manufacturing of our own products for the following reasons:
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Quality control is easier to monitor at established facilities; |
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The market for quality services in the marketplace is competitive and attractive; and |
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We believe our financial resources are better allocated to product development,
marketing services and sales support. |
Attractive Associate Compensation Plans and Benefits. We are committed to providing
highly competitive compensation plans to attract and retain associates, who constitute our sales
force. We believe our associate compensation plans are some of the most financially rewarding in
the network marketing industry. We pay daily incentives for recruiting new associates and
weekly commissions for product sales. Our compensation plans are
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consistent plans, meaning associates can recruit and receive compensation daily and weekly for
their business in any market in which we conduct business. To drive sales and provide product
information and team management skills for associates, we sponsor events throughout the year which
offer information about our products and the network marketing system. These meetings are designed
to assist new associates with business development and provide a forum for product development, in
addition to providing interaction with successful associates and our management.
Experienced Management Team. Our management team includes individuals with expertise in
various managerial disciplines, including marketing, customer service, information technology,
finance and operations. The current executive management team is responsible for developing an
infrastructure to support growth, strengthen our financial condition, and improve operational
controls.
Growth Strategy
We seek to grow our business by pursuing the following strategies:
New Associate and Preferred Customer Recruiting, Training and Development. We recognize the
need to aggressively grow our associate sales force, thereby building new sales. On March 6, 2004,
we announced the launch of our three-phase 2004 mass marketing preferred customer acquisition
program using a free trial format. The three products, Prime One, AM-300 fat burning solution and
ToppFast meal replacement shake, were packaged in two free trial programs and represented our core
adaptogen and weight loss products, targeting consumer demand for increased energy, reduced belly
fat and recognizable weight loss.
On April 5, 2005, we announced that we were transitioning the free trial program from a highly
capital intensive program, to a program that is profitable on a per transaction basis. The free
trial program did not generate the required retention to make it profitable long term.
Transitioning the free trial sign up momentum with a refined enrollment program delivers reduced
enrollment expense and higher monthly product autoship retention.
New Market Entry. We believe that, in addition to the U.S. and Canadian markets, significant
growth opportunities continue to exist in international markets. We intend to select new markets
following an assessment of several factors including market size, anticipated demand for our
products, receptivity to network marketing, and ease of entry, which includes consideration of
possible regulatory restrictions on our products or network marketing system. We will begin
preparation for further international expansion as sales leadership develops. We envision a
seamlessly integrated associate compensation plan in each market that allows associates to receive
commissions for global sales. This seamless downline (associates sales organization, including
the associates recruits and their recruits) structure would be designed to allow an associate to
build a global network by creating downlines across national borders. Associates would not be
required to establish new downlines or to re-qualify for higher levels of compensation in newly
opened markets. We believe that going to a seamless compensation plan provides significant
motivation and reward for associates to expand internationally by entering these new markets. In
August 2004, we announced the opening of marketing and distribution in Puerto Rico, including the
implementation of our free trial program. Sales to Canada comprised approximately $214,000 of our
2005 net revenue and $121,486 of our net revenue for the nine months ended September 30, 2006.
New Product Introduction. Using our marketing demand and development capabilities, we will
continue to introduce new products and continuously enhance existing products. In September 2005,
we introduced our new liquid nutritional supplement, Prime Delight. Prime Delight is
pomegranate-based and combines powerful antioxidants with adaptogens and coenzyme Q10
(CoQ10) into an exceptional liquid supplement with a myriad of nutritional benefits.
This proprietary formula can provide an essential addition to a heart-healthy lifestyle. Sales of
Prime Delight as of September 30, 2006 represented $2,389,239, or approximately 33.8%, of our
2006 revenue.
Strategic Acquisitions. We believe that attractive acquisition opportunities may arise in the
future. We intend to pursue strategic acquisition opportunities that would grow our customer base,
expand product lines, enhance manufacturing and technical expertise, allow vertical integration, or
otherwise complement our business or further our strategic goals.
Industry Overview
The nutrition industry includes many small- and medium-sized companies that manufacture and
distribute products generally intended to maintain the bodys health and general well being. The
four major product categories within the nutrition industry are as follows:
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Nutritional Supplements products such as vitamins and minerals, sports performance
enhancers, meal replacements, dietary supplements, herbs and botanicals, and compounds
derived from these substances; |
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Natural and Organic Foods products such as cereals, milk, non-dairy beverages, and
frozen entrees; |
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Functional Foods products with added ingredients or fortification specifically for
health or performance purposes; and |
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Personal Care products combining nutrition with skin care.
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We believe that the nutrition industry is being fueled by the following: |
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The publics exposure to more widely accepted natural and homeopathic alternatives; |
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The generation of baby-boomers desire to slow down the aging process; |
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The national and worldwide trend toward preventive health care combining Eastern and
Western medicine; and |
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The rapid product introductions taking place in response to scientific research
fueled by new demand. |
Nutritional products are distributed through six major sales channels. Each channel has
changed in recent years, primarily due to advances in technology and communications, resulting in
improved product distribution and faster dissemination of information. The major sales channels
are as follows (our associates participate in four of the six channels listed below):
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Mass market retailers, including mass merchandisers, drug stores, supermarkets and discount stores; |
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Natural health food retailers; |
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Network marketing; |
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Mail order; |
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Healthcare professionals and practitioners; and |
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The Internet. |
Products
Our primary product lines include nutritional, weight management and personal care. We
currently market approximately 60 products, exclusive of variations in product size, colors or
similar variations of our basic product line.
Nutritional. This product line includes antioxidants, minerals, vitamins, and other
nutritional supplements. The nutritional supplement products are designed to provide optimal
absorption, bioavailability, and efficacy. During the years ended December 31, 2005, 2004 and 2003,
63.3%, 44.0% and 44.9% of our net marketing sales were derived from the 24 products in the
nutritional category, which contain herbs, vitamins, minerals and other natural ingredients. For
the nine months ended September 30, 2006, 67.1% of our net marketing sales were derived from the
nutritional category. The top-selling products in this category are Prime Delight, Prime One,
Prime One Concentrate and Spark of Life liquid nutritional which totaled approximately 4.9%, 17.5%,
10.3% and 4.0%, respectively, of net marketing sales in 2005 and totaled approximately 33.8%,
10.1%, 5.3% and 3.2% respectively for the nine months ended September 30, 2006.
Weight Management. This product line was developed to provide a comprehensive approach to
weight management including the AM-300 and AM-5000 families of weight loss supplements, along with
weight loss systems. During the years ended December 31, 2005, 2004 and 2003, the weight
management category represented 23.3%, 46.3% and 48.0% of our net marketing sales. For the nine
months ended September 30, 2006, 21.9% of our net marketing sales were derived from the weight
management category. Sales were derived from the five products in the weight management category
that we market under the AMS Health Sciences label.
Personal Care. This product line includes scientifically developed natural products designed
to support healthy skin and hair. Products in this line include those from the Chambre
International line and products acquired from Dr. Robert Nakamura and Immudyne Inc. During the
years ended December 31, 2005, 2004 and 2003, 2.7%, 2.3% and 2.8% of our net marketing sales were
derived from the 33 products in the personal care category. For the nine months ended September 30,
2006, 1.9% of our net marketing sales were derived from the personal care category.
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Promotional Materials. In addition to these three principal product lines, we have developed
and sell to associates materials and online tools designed to assist them in building their
business and selling products. These sales aids are generally written and produced by us and
include product audio tapes, CD ROMS, video tapes, brochures and business forms designed by us and
printed by outside publishers. We periodically contract with authors and publishers to produce or
provide books, tapes, and other items dealing with health topics and personal motivation, which are
made available to associates.
New associates are required to purchase an enrollment packet containing training materials
that assist in beginning and growing a business. Associates do not earn commissions on the sale of
sales aids or enrollment packets.
Other Products and Services. Prior to focusing on nutritional, weight management and personal
care products in October 1993, we marketed various packages of consumer benefit services provided
by third-party providers. The only remaining benefit service we offer is a pre-paid legal service.
The pre-paid legal services are provided by Pre-Paid Legal Services, Inc. This program membership
represented less than 1% of our net marketing sales during 2005, 2004 and 2003 and for the nine
months ended September 30, 2006.
New Product Identification. We are committed to continuous product innovation and improvement
through market demand and products backed by science. The mission of our science and product
development is to develop products that deliver noticeable results, slow the aging process, reduce
the risk of chronic illness, and promote long-term health. New product ideas and research efforts
are supported using a combination of our advisory talent and research, third-party studies and
sponsored research. We intend to dedicate resources for the science and development of new
products and reformulation of existing products. Prior to introducing new products, we investigate
product formulation as it relates to regulatory compliance and other issues.
For products on which we acquire the distribution or ownership rights, we maintain and access
any and all science and research related to those products. For example, the acquisition of Prime
One brought over 45 years of research and thousands of trials and studies on the Prime One products
and ingredients.
We rely upon the product development staff of Chemins Company, Inc. and other manufacturers,
independent researchers, vendor research departments and others for such services. When a new
product concept is identified or when an existing product must be reformulated, the new product
concept or reformulation project is generally submitted to Chemins for technical development and
implementation. We continually review our existing products for potential enhancements to improve
their effectiveness and marketability. While we consider our product formulations to be
proprietary trade secrets, such formulations are not patented. Accordingly, there is no assurance
that another company will not replicate one or more of our products.
Product Procurement and Distribution; Insurance. Essentially all of our product line in the
weight management category is manufactured by Chemins Company, Inc. utilizing our product
formulations. Naturtech manufactures essentially all of our nutritional product line, and
essentially all of our product line in the personal care category is manufactured by GDMI, Inc. and
Columbia Cosmetics, Inc.
All our vendors have assured us that they conduct quality control processes, and laboratory
analysts test for biological contamination of raw materials and finished goods. In the analytical
chemistry laboratory, analysts test for chemical contamination and accurate active ingredient
levels of raw materials and finished products. Both laboratories conduct stability tests on
finished products to determine product shelf life.
We have not generally entered into long-term supply agreements with the manufacturers of our
product line or the third-party providers of our consumer benefit services. However, we
customarily enter into contracts with our manufacturers and suppliers to establish the terms and
conditions of purchases. Our arrangements with Chemins Company, Inc. may be terminated by either
party upon the completion of any outstanding purchase orders. Therefore, there can be no assurance
that Chemins will continue to manufacture our products or provide research, development and
formulation services. In the event the relationship with any of our manufacturers becomes
impaired, we will be required to obtain alternative manufacturing sources for our products. In such
event, there is no assurance that the manufacturing processes of our current manufacturers can be
replicated by another manufacturer. Although we have not previously experienced product
unavailability or supply interruptions, we believe that we would be able to obtain alternative
sources for our nutritional, weight management and personal care products. A significant delay or
reduction in availability of products, however, could have a material adverse effect on our
business, operating results and financial condition.
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Most of the raw materials used in the manufacture of our products are available from a number
of suppliers. We have not generally experienced difficulty in obtaining necessary quantities of
raw materials. When supplies of certain raw materials have tightened, we have been able to find
alternative sources as needed, and believe we will be able to do so in the future if the need
arises.
We, like other marketers of products that are intended to be ingested, face an inherent risk
of exposure to product liability claims in the event that the use of our products results in
injury. We have limited product liability insurance with coverage limits of $1.0 million per
occurrence and $2.0 million aggregate. Products containing ephedra, which represented 9.7% of our
2004 net sales, and none of our 2005 net sales, were not covered by our product liability
insurance. All of our product manufacturers carry product liability insurance, which covers our
products. Such product claims against us could adversely affect product sales, results of our
operations, financial condition and the value of our common stock.
All of the items in our product line include a customer satisfaction guarantee. Within 30 days
of purchase, any retail customer or associate who is not satisfied with our product for any reason
may return it or any unused portion to the associate from whom it was purchased or to us for a full
refund or credit toward the purchase of another product. Associates may obtain replacements from
us for products returned to them by retail customers if they return such products on a timely
basis. Furthermore, in most jurisdictions, we maintain a buy-back program. Under this program, we
will repurchase products sold to an associate, subject to a 10% restocking charge, provided the
associate resigns and returns the product in marketable condition within 12 months of original
purchase, or longer where required by applicable state law or regulations. We believe this
buy-back program addresses a number of the regulatory compliance issues pertaining to network
marketing systems. For the years ended December 31, 2005, 2004 and 2003, the cost of products
returned to us was 7.1%, 3.7% and 0.9% of gross sales. The increase in 2004 and 2005 returns was
due to the cancellation of first autoshipments under our free trial program. The cost of returned
products has trended back down to 0.58% for the nine months ended September 30, 2006.
Our product line is distributed principally from our facilities in Oklahoma City. Products
are warehoused in Oklahoma City.
Network Marketing
We market and distribute our products through a network marketing system and sell directly to
associates and preferred customers. At September 30, 2006, we had approximately 15,000 active
associates. To be considered active, an associate must have purchased $50 in products or $22 on
autoship of our products within the preceding 90 days. Network marketing is a form of
person-to-person direct selling through a network of vertically organized independent distributors
who purchase products at wholesale prices from the manufacturer for resale to retail consumers.
The emergence of readily available means of mass communication such as personal computers,
facsimiles, low-cost long distance telephone services, and the Internet has contributed to the
rapid growth of network marketing. The concept of network marketing is based on the strength of
personal recommendations that frequently come from friends, neighbors, relatives, and close
acquaintances. We believe that network marketing is an effective way to distribute our products
because it allows person-to-person product education, which is not as readily available through
other distribution channels. We believe our network marketing system appeals to a broad
cross-section of people, particularly those seeking to:
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Supplement family income; |
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Start a home business; or |
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Pursue employment opportunities other than conventional, full-time employment. |
A majority of our associates therefore sell our products on a part-time basis.
We believe that our network marketing system is ideally suited to market our product line
because sales of such products are strengthened by ongoing personal contact between retail
consumers and associates, many of whom use our products themselves. Sales are made through direct
personal sales presentations as well as presentations made to groups in a format known as
opportunity meetings. These sales methods are designed to encourage individuals to purchase our
products by informing potential customers and associates of our product line and results of
personal use, and the potential financial benefits of becoming an associate. The objective of the
marketing program is to develop a broad-based network marketing organization within a relatively
short period. Our marketing efforts are typically focused on middle-income families and
individuals.
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Our network marketing program encourages individuals to develop their own downline network
marketing organizations. Each new associate is either linked to:
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The existing associate that personally enrolled the new associate into our network
marketing organization; or |
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The existing associate in the enrolling associates downline as specified at the
time of enrollment. |
Growth of an associates downline organization is dependent upon the recruiting and enrollment of
additional associates within such associates downline organization.
Associates are encouraged to assume responsibility for training and motivation of others
within their downline organization and to conduct opportunity meetings as soon as they are
appropriately trained. We strive to maintain a high level of motivation, morale, enthusiasm and
integrity among the members of our network marketing organization.
We believe this result is achieved through a combination of products, sales incentives,
personal recognition of outstanding achievement and quality promotional materials. Under our
network marketing program, associates purchase sales aids and brochures from us and assume the
costs of advertising and marketing our product line to their customers as well as the direct cost
of recruiting new associates. We believe that this form of sales organization is cost efficient
because our direct sales expenses are primarily limited to the payment of bonuses, which are only
incurred when products are sold.
We continually strive to improve our marketing strategies, including the compensation
structure within our network marketing organization and the variety and mix of products in our
line, to attract and motivate associates. These efforts are designed to increase monthly product
sales and the recruiting of new associates.
To aid associates in easily meeting the monthly personal product purchase requirement to
qualify for bonuses, we developed the autoship in 1994. Under the autoship purchasing
arrangement, associates establish a standing product order for an amount in excess of $22 that is
automatically charged to their credit card or deducted from their bank account for goods shipped
that month. At December 31, 2005, 2004 and 2003, we had approximately 30,663, 29,161 and 16,343
associates participating in the autoship. At September 30, 2006, we received and delivered 75,186
autoship orders.
We have two bonus structures which provide for payment of bonuses on product purchases made by
other associates in an associates downline organization, a secured infinity compensation plan, and
a two-team, or binary, compensation plan. Under the secured infinity plan, associates derive
income as follows:
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First, associates earn profits by purchasing from our product line at wholesale
prices (which are discounted up to 40% from suggested retail prices) and selling to
customers at retail; |
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Second, associates earn profits from the products sold in the sign-up of new
associates from our enroller and coding bonuses, which are tied to the downline
organization; |
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Third, associates who establish their own downline organization may earn bonuses of
up to 36% of bonus value on product purchases by associates within the first four
levels of their downline organization; |
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Fourth, associates who have $600 per month of product purchases on their first and
second levels combined, become directors and have the opportunity to build an
additional director downline organization and receive additional bonuses of 4% of bonus
value on product purchases by such downline organization; |
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Fifth, associates who have $1,200 per month of product purchases on their first and
second levels combined, two director legs and $2,500 wholesale volume monthly in their
downline, become silver directors and have the opportunity to build an additional
silver director downline organization and receive additional bonuses of 5% of bonus
value on product purchases by such downline organization; |
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Sixth, associates who have $1,800 per month of product purchases on their first
level and second levels combined, two silver legs and have a total of $5,000 wholesale
volume monthly in their downline, become gold directors and have the opportunity to
receive an additional bonus of 3% of bonus value on product purchases by their silver
director downline organization. In addition, gold directors have the opportunity to
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associates of silver director downline organizations that originate from their silver
director downline organization through four generations; and |
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Seventh, associates who maintain the gold director requirements and develop three
gold directors, each one from a separate leg of their downline organization plus
$40,000 wholesale volume in downline organization, become platinum directors and have
the opportunity to build an additional platinum director downline organization and
receive additional bonuses of 5% of bonus value on product purchases by such downline
organization. |
Combining these levels of bonuses, our total pay-out on products subject to bonuses under the
secured infinity compensation plan is approximately 63% of the bonus value of product sales, and
42.1% of total sales.
Under the binary plan, associates derive income as follows:
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First, associates earn profits by purchasing from our product line at wholesale
prices (which are discounted up to 40% from suggested retail prices) and selling to
customers at retail; |
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Second, associates earn profits from the products sold in the sign-up of new
associates from our enroller bonuses and weekly bonuses of 10% of bonus value on the
pay side volume; |
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Third, associates who establish their own downline organization may earn the weekly
bonus on the pay side volume, and a 50% matching bonus on the weekly bonuses of the
first generation recruits in their downline organization; |
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Fourth, associates who have $5,000 per month of product purchases in their pay side
volume, and have four personally enrolled active associates, become directors and have
the opportunity to build an additional director downline organization and receive
additional matching bonuses of 20% of the weekly bonuses of the second generation in
their downline organization; |
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Fifth, associates who have $25,000 per month of product purchases in their pay side
volume, and have four personally enrolled active associates, become silver directors
and have the opportunity to build an additional silver director downline organization
and receive additional matching bonuses of 10% of the weekly bonuses of the third
generation in their downline organization; |
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Sixth, associates who have $50,000 per month of product purchases in their pay side
volume, and have four personally enrolled active associates, become gold directors and
have the opportunity to build an additional gold director downline organization and
receive additional matching bonuses of 10% of the weekly bonuses of the fourth
generation in their downline organization; and |
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Seventh, associates who have $100,000 per month of product purchases in their pay
side volume, and have four personally enrolled active associates, become platinum
directors and have the opportunity to build an additional platinum director downline
organization and receive additional matching bonuses of 10% of the weekly bonuses of
the fifth generation in their downline organization. |
Each associate in our network marketing organization has a director, a silver director, a gold
director and a platinum director. Each director has a silver director, a gold director and a
platinum director. Each silver director has a gold director and a platinum director. Each gold
director has a platinum director. As of September 30, 2006, we had 1,336 silver directors, 290
gold directors and 30 platinum directors.
We maintain a computerized system for processing associate orders and calculating bonus
payments which enable us to remit such payments promptly. We believe that prompt and accurate
remittance of bonuses is vital to recruiting and maintaining associates, as well as increasing
their motivation and loyalty to us. We make weekly bonus payments based upon the previous weeks
product purchases, while most network marketing companies only make monthly bonus payments. During
2005, 2004 and 2003, we paid bonuses to 4,892, 9,565 and 6,824 associates, in the aggregate amounts
of $5,231,879, $8,470,653 and $7,504,420, respectively. During the nine months ended September 30,
2006 we paid bonuses to 2,995 associates in the aggregate amount of $2,234,737.
We are committed to providing the best possible support to our associates. Associates in our
network marketing organization are provided training guides and are given the opportunity to
participate in our training programs. We sponsor regularly scheduled conference calls for our
platinum directors which include testimonials from successful associates and satisfied customers,
as well as current product and promotional information. We produce a monthly newsletter which
provides information on our products and network marketing system. The newsletter is
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designed to help recruit new associates by answering commonly asked questions and includes
product information and business building information. The newsletter also provides a forum for
additional recognition of associates for outstanding performance. In addition, we regularly
sponsor training sessions for our associates across the United States. At these training sessions,
associates are provided the opportunity to learn more about our product line and selling
techniques, so they can build their businesses more rapidly. We produce comprehensive and
attractive four color catalogues and brochures that display and describe our product line. We
maintain a web page at www.amsonline.com, which provides general company information along with
product line and network marketing system information.
From time to time, associates fail to adhere to our policies and procedures, including those
governing the marketing of our products or representations regarding the compensation plans. We
systematically review reports of alleged associate misbehavior. Infractions of the policies and
procedures are reported to a compliance committee that determines what disciplinary action may be
warranted in each case. If we determine that an associate has violated any of our policies and
procedures, we may take a number of disciplinary actions. For example, we may terminate the
associates purchase and distribution rights completely, or impose sanctions such as warnings,
fines, or probation. We may also withdraw or deny awards, suspend privileges, withhold commissions
until specific conditions are satisfied, or take other appropriate actions at our discretion. An
in-house compliance department also routinely reviews associate activities.
We believe that the ability to efficiently manage distribution, compensation, manufacturing,
inventory control and communications functions through the use of sophisticated and dependable
information processing systems is critical to our success. To optimally support our customer base
and core business processes, our information technology resources consist of a customized,
Web-enabled order-entry system and an integrated system to manage inventory, production planning,
fulfillment and financial information. Our information systems are maintained by in-house staff
and outside consultants. These systems are designed to provide, among other things, financial and
operating data for management, timely and accurate product ordering, bonus payment processing,
inventory management and detailed associate records. Since 1994, we have invested more than $3.3
million to enhance our computer and telecommunications systems.
Regulation
In the United States, as well as in any foreign markets in which we may sell our marketing
products, we are subject to laws, regulations, administrative determinations, court decisions and
similar compliance requirements and restrictions at the federal, state and local levels,
collectively known as regulations. These regulations include and pertain to, among other things:
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The formulation, manufacturing, packaging, labeling, advertising, distribution,
importation, sale and storage of our products; |
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Our product claims and advertising, including label claims, direct claims and
advertising, websites and testimonials, as well as claims and advertising by
associates, for which we may be held responsible; and |
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Our network marketing organization and activities. |
Products. The formulation, manufacturing, packaging, labeling, advertising, distribution and
sale and storage of our products are subject to regulation by a number of governmental agencies.
The federal agencies include the Food and Drug Administration, or FDA, the Federal Trade
Commission, or FTC, the Consumer Product Safety Commission, the United States Department of
Agriculture, and the Environmental Protection Agency, or EPA. Our activities are also regulated by
various codes and agencies of the states, localities and foreign countries in which our products
are or may be manufactured, distributed or sold. The FDA, in particular, regulates the
formulation, manufacturing and labeling of dietary supplements, cosmetics and skin care products,
including many of our products.
The Dietary Supplement Health and Education Act of 1994, or DSHEA, revised the provisions of
the Federal Food, Drug and Cosmetic Act, or FFDCA, concerning the composition and labeling of
dietary supplements, which we believe is generally favorable to the dietary supplement industry.
DSHEA created a new statutory category of products, or dietary supplements. This new category
includes vitamins, minerals, herbs, amino acids, and other dietary substances for human use to
supplement the diet. However, DSHEA grandfathered, with certain limitations, dietary ingredients
that were on the market before October 15, 1994. A dietary supplement containing a new dietary
ingredient, or NDI, and placed on the market on or after October 15, 1994, must have a history of
use or other evidence establishing a basis for reasonable expectation of safety. Manufacturers
of dietary supplements using a structure-
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function statement or claim must have scientific substantiation that the statement is
truthful, accurate, and not misleading. The majority of our sales come from products that are
classified as dietary supplements under the FFDCA and DSHEA.
The labeling requirements for dietary supplements, with respect to labels affixed to
containers, have been set forth in final regulations, effective March 23, 1999. These regulations
include how to state the serving size, declare dietary ingredient information, and the proper
detail and format required for the Supplement Facts box. During 1999, we revised our product
labels to be in compliance with those regulations. Many states have also recently become active in
the regulation of dietary supplement products. These states may require modification of labeling
or formulation of certain of our products sold in these states, e.g. Texas, New York, and
California. Finally, in recent years, California courts have grown increasingly active in consumer
protection and private Attorney General lawsuits, some of which have targeted certain herbal
supplement ingredients, such as Kava Kava or Ginseng. These suits have not directly affected our
products or sales, but we continue to be aware of Californias Business and Professional Code
(especially as to advertising of products), and litigation in California, particularly regarding
Proposition 65 (or Prop 65), which disallows many ingredients (believed to be carcinogenic or
otherwise unsafe) contained in products sold in that state. AMS has never been sued in California
regarding such suits, and our regulatory attorney keeps us apprised of any supplement ingredients
that are the subject of lawsuits there.
On January 6, 2000, the FDA published a Final Rule on permissible structure/function
statements to be placed on labels and in brochures. Structure/function statements are claims of
the benefit or positive effect of a product or an ingredient on the bodys structure or function.
This regulation does not significantly change the way that the FDA interprets structure/function
statements, since DSHEA was passed in 1994. Thus, we did not make any substantial label revisions
based on this regulation regarding any of our structure/function product statements. Then on
November 9, 2004, the FDA published a Notice in the Federal Register that the level of science
needed to support a structure/function claim would be raised close to the current FTC standard,
which is competent and reliable scientific evidence. We believe that AMS has adequate
substantiation for all label claims used.
Ephedra and other Stimulants. As a marketer of products that are ingested by consumers, we
are subject to the risk that one or more of the ingredients in our products may become the subject
of adverse regulatory action. For example, one of the ingredients in our prior AM-300 product was
ephedra, an herb that contains naturally-occurring ephedrine alkaloids. Our manufacturer used a
powdered extract of that herb when manufacturing AM-300. We marketed AM-300 principally as an aid
in weight management. The extract was an 8% extract, which means that every 100 milligrams of the
powdered extract contains approximately eight milligrams of naturally occurring ephedrine
alkaloids.
On February 11, 2004, the FDA issued and published in the Federal Register its final rule on
ephedrine-containing supplements, stating that since an unreasonable risk had been determined,
such supplements would be considered adulterated under the FFDCA, and thus may not be sold. In
essence, this final rule (or regulation) imposed a national ban on ephedrine supplements. The
effective date of this regulation was April 12, 2004. We complied with the new regulation and
ceased all sales and advertisement of AM-300 and any other ephedra-containing supplement as of
April 12, 2004. The FDA has continuously and vigilantly enforced this total ban on
ephedra-containing supplements. As recently as December 6, 2005, the FDA seized yet another
shipment of such supplements distributed by companies in Gainesville, Texas and Eugene, Oregon.
For the future, the FDA and also Congress have indicated that they will consider whether
alternatives to ephedra, other weight loss and energy stimulants (such as bitter orange), similarly
carry an unreasonable risk to the central nervous system, and thus to human health. These
proposals to limit stimulant ingredients, if finalized, may necessitate reformulations of some of
our weight loss products.
Also, in the aftermath of the ephedra ban, on April 22, 2004, in comments before a scientific
meeting, then Acting FDA Commissioner, Lester Crawford (and for some months during 2005, FDA
Commissioner), outlined what an FDA press release termed a science-based plan for dietary
supplement enforcement. The press release went on to say that the agency would soon provide
further details about its plan to ensure that the consumer protection provisions of DSHEA are used
effectively and appropriately. Referring to its recent rulemaking on ephedra, the FDA also stated
that it expects to evaluate the available pharmacology, published literature ..., evidence-based
reviews, and adverse event information of individual dietary supplements. Soon afterwards, this
promised FDA document was issued, with the title Regulatory Strategy for the Further
Implementation and Enforcement of the Dietary Supplement Health and Education Act of 1994. No new
regulations or proposed rules pursuant to this strategy have yet been issued, except that the FDA
has recently welcomed and received comments from the industry for a better procedure for the
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FDA to review a companys safety information as to a new dietary ingredient, or NDI, in an NDI
Notification. The final Guidance document concerning NDI Notifications has not yet been issued by
the FDA. At this time, NDI Notifications are not required for any AMS products.
Anti-DSHEA Proposed Legislation. Finally, as the press, the FDA, and members of Congress and
of the supplement industry have all predicted, the very issuance of the final rule on ephedra has
caused Congress to rethink DSHEA, specifically as to how safety in supplements may be ensured, and
also as to whether specific categories of dietary ingredients should not be permitted at all. In
particular, there is growing sentiment (including from one herbal trade association) to make
Adverse Event Reporting (AERs) mandatory for all manufacturers and marketers of dietary
supplements, so that the FDA may take action more quickly than it did on ephedra, when a harmful
herb or other ingredient is suspected. Since February 2003, there have been several bills proposed
in Congress that would amend DSHEA, make safety safeguards stricter, even approaching the rigor and
reporting required for FDA-regulated drugs. Some examples are as follows:
S. 722 The Dietary Supplement Safety Act was introduced by Senator Richard Durbin in
March 2003, and would greatly undermine DSHEA, especially Section 4 regarding safety, giving the
FDA new powers of oversight and blanket authority over whole categories of supplements, including
stimulants. Stimulants are used in many weight loss products, including some of our supplements.
To the best of our knowledge, this bill and the bill described below (though perhaps under
different numbers) are still pending.
H.R. 3377: Beginning on October 28, 2003, Senator McCain chaired Senate Hearings on
whether DSHEA adequately protects consumers. Also on October 28, Cong. Susan Davis and Cong. Henry
Waxman introduced The Dietary Supplement Access and Awareness Act, H.R. 3377, purporting to be
about safety and access for consumers to supplements, but actually recommending severe restrictions
and dramatic redefinitions of what constitutes a dietary supplement. This bill would impose
several requirements for supplements, including unprecedented FDA pre-approval as well as
strict AER reporting, and excludes only vitamins and minerals from such new requirements. Like S.
722, this bill would reverse the safety burden of proof in Section 4 of DSHEA (one of the
industrys victories in 1994), and instead require the manufacturer to demonstrate safety, rather
than the burden being on the FDA to show imminent hazard or unreasonable risk.
So far, neither of the bills above, nor any other proposed legislation that would undermine
DSHEA or impose additional requirements on supplements, have passed. With the help of our
regulatory attorney, we will continue to monitor these anti-DSHEA bills, and determine if any of
them become a serious threat to our business. In addition, the two major trade associations of the
dietary supplement industrythe American Herbal Products Association, or AHPA, and the National
Natural Foods Association, or NNFAhave both been actively lobbying against any bills that would
require or lead to unreasonable restraints on the manufacture, labeling, and marketing of dietary
supplements.
Formulation. Logically, when an ingredient is a known substance, that is, was on the market
as a food or a supplement prior to passage of DSHEA (October 15, 1994), it is grandfathered in,
and allowed in a supplement with no premarket requirementthough still subject to FDA safety
enforcement. Conversely, under Section 8, new dietary ingredients (NDIs) are subject to a
premarket notification requirement, whereby the manufacturer must demonstrate that the new
supplement containing this new substance has a reasonable expectation of safety. NDI
notificationswhich include toxicology and animal studiesmust be filed 75 days before marketing
the new supplement. AMS does not include new dietary ingredients in its supplement formulas, but
rather uses well-studied and traditional herbs and food ingredients. Thus, we have never been
required to file an NDI Notification.
Manufacturing. Pursuant to current law, dietary supplements are manufactured using food GMPs,
which stands for good manufacturing practices. DSHEA empowered the FDA to issue specialized GMPs
for dietary supplements, but several years passed before the FDA took the next step in the
rule-making process. On March 13, 2003, the FDA published a proposed rule in the Federal Register
which proposed comprehensive GMPs for supplements and dietary ingredients. The FDA accepted public
comments on the proposed GMPs until June 11, 2003; final GMPs for supplements will be promulgated
after the FDA has reviewed the public comments. Once final GMP regulations become effective, our
manufacturer will be required to adhere to them. The FDA will most likely institute an effective
date for the GMPs which will allow our manufacturer a reasonable amount of time to conduct this
review and, if necessary, revise its manufacturing operations to comply with the final GMP
regulations. Typically, the effective date for new manufacturing and labeling regulations is 12
months after the promulgation of the final rule or new regulation. As of March 2, 2006, the FDA
had not yet published this final rule on GMPs, but it is promised and expected in the next few
months.
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Advertising and Website. The FDA considers website promotional content to constitute
labeling, and thus our website must not contain disease claims or drug claims, but only
permissible structure/function claims. The FTC governs the advertising of dietary supplements, in
any medium or vehicleprint ads, radio spots, infomercials, etc., including Internet ads and
websites. The fundamental FTC rule is that all material advertising claims, whether express
(direct) or implied, must be substantiated by reliable and competent scientific evidence. Because
our website must comply with both FDA and FTC regulations, we routinely ask our regulatory
compliance counsel to review certain web pages, especially the content of new product promotions.
When necessary, our regulatory counsel also reviews the scientific substantiation for particular
claims (again, especially for newer products such as Prime One, an anti-stress and weight loss
product) to determine if it is sufficient, and also that there are no disease claims present, the
main FDA issue.
We also require associate websites to be in compliance with FDA and FTC regulations. As such,
and to ensure Internet compliance, associates may only copy or link to our corporate website. Any
independent websites are absolutely unauthorized, and their creators are solely liable for
defending any regulatory enforcement actions. Violation of this policy may result in termination
by us. This policy was explicitly conveyed to all associates via a formal letter/ notice, prepared
in 2004 by our Chief Financial Officer (CFO) and our regulatory counsel, and signed by our CFO.
In markets outside the United States, prior to commencing operations or marketing products, we
may be required to obtain approvals, licenses, or certifications from a countrys ministry of
health or comparable agency. Approvals or licensing may be conditioned on reformulation of our
products for the market or may be unavailable with respect to certain products or product
ingredients. We must also comply with local product labeling and packaging regulations that vary
from country to country. Foreign regulatory requirements have not placed a significant burden on
our ability to operate in current foreign countries.
FDA Actions and Updates in 2005. The entire year of 2005 has been a very busy, political, and
turbulent year for the FDA, notably with the confirmation and then the sudden resignation of
Commissioner Lester Crawford. Other significant events concerned:
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Controversy over the Plan B birth control pill, including the OTC version |
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Withdrawal from the market of Vioxx and other Cox-2 inhibitor drugs |
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Consequently, a renewed urging from Congress to install an independent agency,
separate from the FDAs drug approval division (CDER), for the post-market monitoring
of drug safety |
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Concern regarding the possible spread of avian flu to human to human contagion and
the beginning of a pandemic, combined with insufficient or unreliable prevention and
treatment |
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Continued emphasis on food safety, and counter-bioterrorism |
Thus, the compliance spotlight has not been on dietary supplements in 2005. Nevertheless, we have
seen an overall increase in FDA inspections of supplement facilities (both manufacturing and
distributors), an increase in detention actions on supplement shipments, and more rigorous and more
numerous Warning Letters sent to manufacturers and suppliers regarding supplements being marketed
with disease claims and/or drug claims, especially via Internet promotions.
Product Claims and Advertising. Advertising of products is subject to regulation by the FTC
under the FTC Act. Section 5 of the FTC Act prohibits unfair methods of competition and unfair or
deceptive acts or practices in or affecting commerce. Section 12 of the FTC Act provides that the
dissemination of, or causing to be disseminated, any false advertisement pertaining to drugs or
foods, which would include dietary supplements, is an unfair or deceptive act or practice. Under
the FTCs Substantiation Doctrine, an advertiser is required to have a reasonable basis for all
objective product claims before the claims are made. Failure to adequately substantiate claims may
be considered either deceptive or unfair practices. Pursuant to this FTC requirement, we are
required to have adequate substantiation for all material advertising claims made for our products.
In recent years, the FTC has initiated numerous investigations of and actions against dietary
supplement, weight management, and cosmetic products and companies. The FTC issued a guidance
document (in November 1998, but still current) to assist companies in understanding and complying
with the substantiation requirement for advertising claims for supplements. We have organized the
documentation supporting and substantiating our advertising and promotional practices in compliance
with these guidelines. Neither we nor our products have ever been
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the target of an FTC investigation. Our Director of Marketing works closely with our
regulatory counsel to assure the proper level of substantiation of all advertising claims,
regardless of vehicle or medium, e.g., TV commercial, website, or testimonial, etc.
Moreover, the FTC has joint jurisdiction with the FDA over supplements: the FDA focuses on
the manufacturing and labeling, while the FTC focuses on advertising, including infomercials and
testimonials. In particular, in 2005 the FTC has been especially active, using this overlapping
and joint jurisdiction with the FDA in its combined agency enforcement mechanism called Cyber
Stingsvia the FTCs monitoring of supplement claims found on Internet advertising, (beginning
about five years ago) a relentless program termed Operation Cure.all. With this Internet
surveillance, both agencies search promotional websites, the FTC tracking down deceptive claims,
and the FDA monitoring for drug or disease claims. For example, two or three months ago, these two
federal agencies issued a joint notice condemning and forbidding herbal products and dietary
supplements generally marketed to treat avian flu.
When the FTC finds compliance violations, the FDA then sends out Warning Letters regarding
these Internet claims, called Cyber Letters. In particular, as to diet products, the FTC in 2004
issued specific new guidelines for permissible weight loss claims, prohibiting claims that the
Commission considers to be infeasible, or unable to be supported by current science. Our
regulatory counsel keeps us fully apprised of all such new guidelines and regulations, via
compliance updates sent twice per month.
In addition to the focus on supplements claiming to treat serious diseases such as cancer,
these federal agencies keep a vigilant eye on false and misleading weight loss claims. The FTC,
under its Big Fat Lie initiative, has flagged and prosecuted certain claims as infeasible under
current science, e.g., permanent weight loss with no diet or exercise. In an action that may be
pertinent to us, the FTC in early 2005 objected to some weight loss claims involving lessening
stress and the hormone cortisol, including an enforcement action against the formulator and
marketers of CortiSlim. We are watching such enforcement actions closely, to determine the FTCs
parameters regarding such stress and weight claims, which would affect some of our newer products.
In an enforcement action in early June, 2005, the FTC cited numerous companies making
anti-aging claims that seemed too good to be true, such as, Turn back the clock. We observe that
all of these companies were marketing Human Growth Hormone (HGH) products, or supplements
containing precursors to HGHwhich is not contained in any of our products. Nonetheless, this
massive initiative and other FTC actions shows that the Commissions newest focus (after weight
loss claims) will be youth and anti-aging claims. We do market certain dietary supplements in this
arena, making claims such as reduces oxidative stress and neutralizes free radicals. Thus, we
have asked our regulatory attorney to review and monitor such claims, in light of the FTCs current
policy.
To determine whether certain claims are deceptive, the FTC is authorized to initiate
comprehensive investigations. The FTC may enforce compliance with the law in a variety of ways,
both administratively and judicially, using compulsory process, cease and desist orders, and
injunctions. FTC enforcement can result in orders requiring, among other things, limits on
advertising, corrective advertising, disgorgement of profits, consumer redress, divestiture of
assets, rescission of contracts, and such other relief as the agency deems necessary to protect the
public. Most FTC deceptive advertising cases are resolved with Settlement Orders, often including
consumer redress (i.e., monetary payments which can measure in the millions), and injunction-like
provisions forbidding misrepresentations and requiring competent and reliable scientific evidence
(and sometimes disclaimers) for all future claims. Violation of these orders could result in
substantial financial or other penalties. We have not been notified that we have been, or are the
subject of, any enforcement action by the FTC, but such action in the future by the FTC could
materially adversely affect our ability to successfully market our products. That is why we pay
careful attention to new guidelines and recent investigations launched, complaints filed, and fines
imposed by the FTC, as shown above.
One New Product. In the past year we have formulated and marketed one new product: a
pomegranate-based liquid, with adaptogens and CoQ10 included, called Prime Delight, which is
labeled and promoted as a dietary supplement. Our regulatory counsel has reviewed its label,
claims, and advertising campaign. It has been on the market since September 2005. We are
currently revising the Prime Delight brochure and website. We have not launched any new ad
campaigns or themes for existing products.
Compliance Efforts. We attempt to remain in full compliance with all applicable laws and
regulations governing the manufacture, labeling, sale, distribution and advertising of our dietary
supplements. We retain special legal counsel for advice on both FDA and FTC legal issues. In
particular, we work closely with regulatory compliance
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legal counsel who specializes in DSHEA regulations for label revisions, content of
structure/function statements, advertising copy, website contentand, in particular, the position
of the FDA on stimulant-containing products, and the position of the FTC on marketing anti-aging
supplements. During 2005, we have received no compliance enforcement letters or correspondence of
any sort from the FDA or FTC, or from any state regulatory agency or department. Nor have our
facilities been the object of any inspections or audits.
Network Marketing System. Laws and regulations in each country in which we operate prevent
the use of deceptive or fraudulent practices that have sometimes been inappropriately associated
with legitimate direct selling and network marketing activities. These laws include
anti-pyramiding, securities, lottery, referral selling, anti-fraud and business opportunity
statutes, regulations and court cases. Illegal schemes, typically referred to as pyramid, chain
distribution, or endless chain schemes, compensate participants primarily or solely for the
introduction or enrollment of additional participants into the scheme. Often these schemes are
characterized by large up-front entry or sign-up fees, over-priced products of low value, little or
no emphasis on the sale or use of products, high-pressure recruiting tactics, and claims of huge
and quick financial rewards requiring little or no effort. Generally these laws are directed at
ensuring that product sales ultimately are made to consumers and that advancement within sales
organizations is based on sales of the enterprises products, rather than investments in the
organizations or other non-retail sales related criteria or activity. Where required by law, we
obtain regulatory approval of our network marketing system, or, where approval is not required or
available, the favorable opinion of local counsel as to regulatory compliance.
We currently have independent associates in all 50 states, the District of Columbia and
Canada. In addition to federal regulation in the United States, each state has enacted its own
Little FTC Act to regulate sales and advertising. Occasionally, we receive requests to supply
information regarding our network marketing plan to regulatory agencies. Although we have from time
to time modified our network marketing system to comply with interpretations of various regulatory
authorities, we believe that our network marketing program is in compliance with laws and
regulations relating to network marketing activities in our current markets. Nevertheless, we
remain subject to the risk that, in one or more of our present or future markets, the marketing
system or the conduct of certain associates could be found not to be in compliance with applicable
laws and regulations. Failure by an associate or us to comply with these laws and regulations
could have a material adverse effect on our business in a particular market or in general. Any or
all of these factors could adversely affect the way we do business and could affect our ability to
attract potential associates or enter new markets. In the United States, the FTC has been active
in its enforcement efforts against both pyramid schemes and legitimate network marketing
organizations with certain legally problematic components, having instituted several enforcement
actions resulting in signed settlement agreements and payment of large fines. Although to our
knowledge, we have not been the target of an FTC investigation, there can be no assurance that the
FTC will not investigate us in the future. Noncompliance with applicable laws and regulations
could:
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Result in enforcement action and imposition of penalties; |
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Require modification of our network marketing system; |
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Result in negative publicity; or |
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Have a negative effect on associate morale and loyalty. |
Any of these consequences could have a material adverse effect on our sales as well as our
financial condition.
We cannot predict the nature of any future law, regulation, interpretation, or application,
nor can we predict what effect additional governmental legislation or regulations, judicial
decisions, or administrative orders, when and if promulgated, would have on our business in the
future. It is possible that future developments may require that we revise our network marketing
program. Any or all of these requirements could have a material adverse effect on our business,
results of operations, and financial condition.
We are subject to the risk of challenges to the legality of our network marketing system by
our associates, both individually and as a class. Generally such challenges would be based on
claims that our network marketing system was operated as an illegal pyramid scheme in violation
of federal and state securities laws, state unfair practice and fraud laws and the Racketeer
Influenced and Corrupt Organizations Act.
Two important Federal Trade Commission cases have established legal precedent for determining
whether a network marketing system constitutes an illegal pyramid scheme. The first, IN RE KOSCOT
INTERPLANETARY, INC., 86 F.T.C. 1106 (1975), set forth a standard for determining whether a
marketing system constituted a pyramid
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scheme. Under the KOSCOT standard, a pyramid scheme is characterized by the participants
payment of money to a company in return for:
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The right to sell a product; and |
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The right to receive, in return for recruiting other participants into the program,
rewards that are unrelated to sales of the product to ultimate users. |
Applying the KOSCOT standard in IN RE AMWAY CORP., 93 F.T.C. 618 (1979), the FTC determined that a
company will not be classified as operating a pyramid scheme if the company adopts and enforces
policies that in fact encourage retail sales to consumers and prevent inventory loading.
Inventory loading occurs when associates purchase large quantities of non-returnable inventory to
obtain the full amount of compensation available under the system. In AMWAY, the FTC found that
the marketing system of Amway Corporation did not constitute a pyramid scheme, noting the following
Amway policies:
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Participants were required to buy back, from any person they recruited, any salable,
unsold inventory upon the recruit leaving Amway; |
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Every participant was required to sell at wholesale or retail at least 70% of the
products bought in a given month in order to receive a bonus for that month; and |
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In order to receive a bonus in a month, each participant was required to submit
proof of retail sales made to 10 different consumers. |
We believe that our network marketing system is not classified as a pyramid scheme under the
standards set forth in KOSCOT, AMWAY, and other applicable law. In particular, in most
jurisdictions, we maintain an inventory buy-back program to address the problem of inventory
loading. Pursuant to this program, we repurchase products sold to an associate (subject to a 10%
restocking charge) provided that the associate:
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Resigns; and |
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Returns the product in marketable condition within 12 months of original purchase,
or longer where required by applicable state law or regulations. |
Our literature provided to associates describes our buy-back program. In addition, pursuant to
agreements with our associates, each associate represents that at least 70% of the products he or
she buys will be sold to non-associates. However, as is the case with other network marketing
companies, the bonuses paid by us to our associates are based on product purchases including
purchases of products that are personally consumed by the downline associates. Basing bonuses on
sales of personally consumed products may be considered an inventory loading purchase.
Furthermore, associates bonuses are based on the wholesale prices received by us on product
purchases or, in some cases based upon the particular product purchased, on prices less than the
wholesale prices.
In the event of challenges to the legality of our network marketing system by associates, we
would be required to:
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Demonstrate that our network marketing policies are enforced; and |
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That the network marketing system and associates compensation thereunder serve as
safeguards to deter inventory loading and encourage retail sales to the ultimate
consumers. |
In WEBSTER V. OMNITRITION INTERNATIONAL, INC., 79 F.3d 776 (9th Cir. 1996), the United States
Court of Appeals held that a class action brought against Omnitrition International, Inc., a
multilevel marketing seller of nutritional supplements and skin care products, should be allowed to
proceed to trial. The plaintiffs, former associates of Omnitritions products, alleged that
Omnitritions selling program was an illegal pyramid scheme and claimed violations of Racketeer
Influenced and Corrupt Organizations Act and several federal and state fraud and securities laws.
Despite evidence that Omnitrition complied with the AMWAY standards, the court ruled that a jury
would have to decide whether Omnitritions policies, many of which apparently were similar to
compliance policies adopted by us, were adequate to ensure that Omnitritions marketing efforts
resulted in a legitimate product marketing and distribution structure and not an illegal pyramid
scheme. We believe that our marketing and sales programs differ in significant respects from those
of Omnitrition, and that our marketing program complies with applicable law. The two most
significant differences are:
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The Omnitrition marketing plan required associates to purchase $2,000 in merchandise
in order to qualify for bonuses as compared to $22 on autoship under our marketing
program; and |
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The Omnitrition inventory repurchase policy was limited to products that were less
than three months old as compared to one year under our inventory repurchase policy. |
Lessons from the OMNITRITION case are that:
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A selling program which operates to generate only the minimum purchases necessary to
qualify for bonuses is suspect; and |
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A selling program must operate to generate purchases independently of the payment of
bonuses in order to have a legitimate product marketing and distribution structure. |
We believe that our selling program operates to generate significant purchases for intrinsic
value as demonstrated by our sales figures. During the month of September 2006, 9,880 of our
associates placed a total of 11,290 orders averaging $74 in size, while only a single $22 on
autoship per month is necessary to qualify for bonuses. In view of the holding of the court of
appeals in the OMNITRITION case, however, there is no assurance that, if challenged, we would
prevail against private plaintiffs alleging violations of anti-pyramid and securities laws. A final
ruling against us in such a suit could result in the imposition of a material liability against us.
Moreover, even if we were successful in defending against such suit, the costs of such defense,
both in dollars spent and in management time, could be material and adversely affect our operating
results. In addition, the negative publicity of such a suit could adversely affect our sales and
ability to attract and retain associates.
Nutrition for Life International, Inc., one of our competitors and a multilevel seller of
personal care and nutritional supplements, announced in January 1997 that it had settled class
action litigation brought by associates alleging fraud in connection with the operation of a
pyramid scheme. Nutrition for Life paid in excess of $3 million to settle claims brought on behalf
of its associates, and related securities fraud claims brought on behalf of certain purchasers of
its stock.
We believe that our marketing program is significantly different from the program allegedly
promoted by Nutrition for Life and that our marketing program is not in violation of anti-pyramid
laws or regulations. Two issues in the Nutrition for Life matter were: (1) a $1,000 buy-in urged
on new recruits, and (2) the paying of commissions on product vouchers prior to the actual delivery
of product. By design, our marketing program offers no incentive to anyone to make a large
personal purchase, nor do we use product vouchers. Actual average order size in December 2005 was
$61. As stated before, there is no assurance that claims similar to the claims brought against
Nutrition for Life and other multilevel marketing organizations will not be brought against us, or
that we will prevail in the event any such claims were made.
FDA Actions and Updates in 2006. The first three quarters of 2006 have been a very busy,
political, and turbulent time for the FDA, following the confirmation and then the sudden
resignation of Commissioner Lester Crawford in Fall 2005. Several significant events concerned:
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Seizure of dietary supplements marketed as drugs Introduction of a bill in the
Senate that would require reporting to FDA all serious Adverse Events associated with
supplements, S. 3546. |
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Recall of fresh spinach contaminated with E. coli (consuming at least 3 weeks of
concentrated monitoring by CFSAN) |
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Continued emphasis on food safety, and counter-bioterrorism |
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Continuing controversy over the Plan B birth control pill, including the OTC version |
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Continued urging from Congress to install an independent agency, separate from the
FDAs drug approval division (CDER), for the post-market monitoring of drug safety |
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Continuing concern regarding the possible spread of avian flu to human to human
contagion and the beginning of a pandemic, combined with insufficient or unreliable
prevention and treatment |
For all dietary supplement manufacturers, the most important development is yet to come from
the FDA (as of November 13, 2006), but is expected any month now: that is the new regulation on
GMPs for supplements. The
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consequence of this new regulation is that manufacturing costs will increase for all
companies, especially for herbal supplements, in the next two yearsbecause of stringent GMP and
SOP requirements anticipated.
Effective January 1, 2006, supplement as well as food manufacturers became subject to the Food
Labeling Allergen Act. Since then, failure to comply with the Allergen Act has become a problem
for natural product companies. In fact, a significant percentage of FDA food recalls are a result
of companies failing to disclose the presence of allergens on their product labels. In particular,
companies often fail to disclose the presence of the eight allergens covered by the Allergen Act:
milk, eggs, fish, crustacean shellfish, tree nuts, peanuts, wheat, and soybeans. Thus, we will
carefully review the Allergen Act, focusing on the eight major allergens, and label the presence of
these allergens on its supplement product labels.
Senate bill 3546, the AER bill cited above, is still pending and bears close watching. In its
current form, it would impose stricter post-market safety requirements for supplements than for
drugs. The concern is that it will use too much of the language and draconian standards of Sen.
Durbins bill S. 722. Finally, after the recent elections, and the shift to Democratic majorities,
there will be stronger consumer protection focus concerning the safety of supplements, but both
Cong. Waxman, and Cong. Dingellwho right after Election Day stated essentially that DSHEA and
FDAs powers should be strengthened because supplements kill people. Therefore, in addition to
regulatory compliance issues, we must also be alert to legislative challenges to DSHEA on Capitol
Hill, or any bill that might change the climate for manufacturing and marketing of supplements
FTC Actions and Updates in 2006 (Advertising Law). As in 2005, for the Federal Trade
Commission (FTC) in 2006 the most significant focuses for dietary supplement promotions are
weight loss claims, followed closely by anti-aging claims. Our product lines and thus promotions
also focus on these two types of products and claims. Significantly, at the FDLI Annual Conference
in April, 2006 included an entire panel on Weight Loss Claims, including for dietary supplements.
In that session Rick Clelland (who has been with the FTCs consumer protection division re. for
over 25 years) gave a presentation which questioned the accuracy and scientific substantiation of
many weight loss claims for supplements. Weigh loss and Anti-aging products (both of which are
represented in our line of supplements) continue to be high priorities for FTC, advertising law
enforcement. In 2006, one diet supplement company was fined $3 million by the FTC for false
advertising.
In addition, in September 2006 it was announced that The Council for Responsible Nutrition
(CRN), the dietary supplement industrys leading trade association, and the National Advertising
Division of the Council of Better Business Bureaus (NAD), an investigative and judicial arm of the
advertising industrys self-regulatory body, have launched a new initiative that will increase
monitoring of advertising for dietary supplements. The initiative has been developed to increase
consumer confidence in the truth and accuracy of advertising claims for dietary supplement products
and encourage fair competition within the industry. The net result for us is that the NAD will be
even more of an advertising claim watchdog than it has been in the past.
Overall, the compliance spotlight has been somewhat more on dietary supplements in 2006 than
in 2005. For example, we have seen an overall increase in FDA inspections of supplement facilities
(both manufacturing and distributors), an increase in detention actions on supplement shipments,
and more rigorous and more numerous Warning Letters sent to manufacturers and suppliers regarding
supplements being marketed with disease claims and/or drug claims, especially via Internet
promotions. These are often in the form of Cyber Letters, resulting from the FTC using its greater
person power to monitor Internet promotions, and then acting jointing with the FDA to cite disease
claims, or false or unsubstantiated promotional claims.
Intellectual Property
Trademarks. We have developed and use registered trademarks in our business, particularly
relating to the corporate and product names. We use several trademarks and trade names in
connection with our marketing products and operations. As of September 30, 2006, we had 28 federal
trademark registrations with the United States Patent and Trademark Office. Federal registration
of a trademark enables the registered owner of the mark to bar the unauthorized use of the
registered mark in connection with a similar product in the same channels of trade by any third
party anywhere in the United States, regardless of whether the registered owner has ever used the
trademark in the area where the unauthorized use occurs. We have filed applications and own
trademark registrations, and we intend to register additional trademarks in foreign countries where
our products are or may be sold in the future. Protection
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afforded registered trademarks in some jurisdictions may not be as extensive as the protection
available in the United States.
We also claim ownership and protection of certain product names, unregistered trademarks, and
service marks under common law. Common law trademark rights do not provide the same level of
protection afforded by registration of a trademark. In addition, common law trademark rights are
limited to the geographic area in which the trademark is actually used. We believe these
trademarks, whether registered or claimed under common law, constitute valuable assets, adding to
our recognition and the marketing of our products. We therefore believe that these proprietary
rights have been, and will continue to be, important in enabling us to compete.
Trade Secrets. We own certain intellectual property, including trade secrets, which we seek to
protect, in part, through confidentiality agreements with employees and other parties, although
some employees involved in research and development activities have not entered into these
agreements. Even where these agreements exist, there can be no assurance that these agreements
will not be breached, that we would have adequate remedies for any breach, or that our trade
secrets will not otherwise become known to, or independently developed by, competitors. Our
proprietary product formulations are generally considered trade secrets, but are not otherwise
protected under intellectual property laws.
Competition
The business of developing and distributing nutritional, personal care, and weight management
products such as those we sell and distribute is highly competitive. Numerous manufacturers,
distributors, and retailers compete for consumers and, in the case of other network marketing
companies, for associates. We compete directly with other entities that develop, manufacture,
market, and distribute products in each of our product lines. We compete with these entities by
emphasizing the underlying science, value, and high quality of our products as well as the
convenience and financial benefits afforded by our network marketing system and compensation plan.
However, many of our competitors are substantially larger and have greater financial resources and
broader name recognition. Our markets are highly sensitive to the introduction of new products
that may rapidly capture a significant share of those markets.
The nutritional supplement market is characterized by:
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Large selections of essentially similar products that are difficult to differentiate; |
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Retail consumer emphasis on value pricing; |
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Constantly changing formulations based on evolving scientific research; |
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Low entry barriers resulting from low brand loyalty, rapid change, widely available
manufacturing, low regulatory requirements, and ready access to large distribution
channels; and |
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A lack of uniform standards regarding product ingredient sources, potency, purity,
absorption rate, and form. |
Similar factors are also characteristic of products comprising our other product lines. There
can be no assurance that we will be able to effectively compete in this intensely competitive
environment. In addition, nutritional, personal care, and weight management products can be
purchased in a wide variety of distribution channels, including retail stores. Our product
offerings in each product category are relatively few compared to the wide variety of products
offered by many of our competitors, and are often premium priced. As a result, our ability to
remain competitive depends in part upon the successful introduction of new products and
enhancements of existing products.
We also compete with other network marketing organizations for the time, attention, and
commitment of new and current associates. Our ability to remain competitive depends, in
significant part, on our success in recruiting and retaining associates. We believe that we offer
rewarding associate compensation plans and attractive associate benefits and services. To the
extent practicable, our associate compensation plans are designed to be seamless, permitting
international expansion without re-qualification or re-entry requirements. We pay incentives
weekly, reducing the time an associate must wait between purchase and sale of products and payment
of commissions. There can be no assurance that our programs for recruiting and retaining
associates will be successful. We also compete for the time, attention, and commitment of this
independent associate force. The pool of individuals interested in the business opportunities
presented by network marketing tends to be limited in each market, and is reduced to the extent
other network marketing companies successfully recruit these individuals into their businesses.
Although we believe that we offer an
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attractive opportunity for our associates, there can be no assurance that other network
marketing companies will not be able to recruit our existing associates or deplete the pool of
potential associates in a given market.
We believe that the leading network marketing company in the world, based on total sales, is
Amway Corporation and its affiliates, and that Avon Products, Inc. is the leading direct seller of
beauty and related products worldwide. Leading competitors in the nutritional network marketing
and nutritional product industry include Herbalife International, Inc., Market America, Inc.,
Natures Sunshine Products, Inc., NBTY, Nu Skin Enterprises, Inc., Twinlab Corporation, and Weider
Nutrition. We believe there are other manufacturers of competing product lines that may launch
direct selling enterprises, which will compete with us in certain product lines and for associates.
There can be no assurance that we will be able to successfully meet the challenges posed by this
increased competition.
Employees
As of September 30, 2006, we had 27 full-time and 3 part-time employees, consisting of 3
executive officers, 11 involved in administrative activities, 3 involved in marketing activities, 9
involved in customer service and business development activities and 4 involved in shipping
activities. Our employees are not represented by a labor organization. We consider our employee
relations to be good.
DESCRIPTION OF PROPERTIES
We maintain our executive offices in our state-of-the-art distribution and call center located
at 711 NE 39th Street, Oklahoma City, OK 73105. The 23,346 square foot, $1.3 million
facility was completely paid for in January 2004. On November 7, 2005, we executed a mortgage on
this property in the amount of $650,000 to secure repayment of loans assumed when our subsidiary
acquired Heartland Cup, Inc. Approximately $595,000 remained outstanding on this debt as of
September 30, 2006. Final maturity of this indebtedness is March 15, 2011.
Prior to the acquisition of our distribution and call center, we leased our executive offices
on 2601 NW Expressway, Oklahoma City, OK. Those offices are now sub-leased, as they are still
under contract through May 31, 2008. We do not otherwise invest in real estate or interests in
real estate, real estate mortgages, or securities of or interests in persons primarily engaged in
real estate activities.
LEGAL PROCEEDINGS
On September 26, 2006, we were served with a lawsuit commenced against us by Janet and Royce
Britt entitled, Janet and Royce Britt v. AMS Health Science, Inc., Case No. 5:06-cv-01005-F, which
was filed in the United States District Court for the Western District of Oklahoma. The Britts
have asserted a breach of contract claim alleging that they sold their stock in Chambre
International, Inc. to us in 1997 in exchange for our common stock and an employment agreement for
Mrs. Britt. Under the alleged employment agreement, Mrs. Britt was to receive a salary, benefits
and certain commissions. We discontinued Mrs. Britts salary and benefits and the Britts commenced
the above-mentioned lawsuit for breach of contract seeking past and future payment for the salary
and benefits lost. We deny the claims made by the Britts and will vigorously defend against the
claims.
On February 6, 2006, AMS Health Sciences, Inc. and AMS Manufacturing, Inc. filed a lawsuit against
Truett McCarty. AMS Health Sciences, Inc. and AMS Manufacturing, Inc. v. Truett McCarty, District
Court of Oklahoma County, State of Oklahoma, Case No. CJ-2006-981. We allege that Mr. McCarty
defrauded us in the sale of his stock in Heartland Cup, Inc. by failing to disclose the true amount
of Heartland Cup, Inc.s accounts payable and a certain long-term liability of Heartland Cup, Inc.
In addition, we allege that this failure was a breach of the stock purchase agreement Mr. McCarty
signed. Mr. McCarty has filed an answer denying our allegations. In addition, Mr. McCarty has
alleged several counterclaims against us. Mr. McCarty has alleged we defrauded him with regard to
the value of the stock he received in exchange for his interest in Heartland Cup, Inc., that we
breached the terms of the stock purchase agreement by failing to take steps to remove Mr. McCarty
as guarantor of a certain promissory note, that we tortiously interfered with a promissory note
between Mr. McCarty and Heartland Cup, Inc. and that we tortiously interfered with an employment
agreement between Mr. McCarty and Heartland Cup, Inc. In addition, Mr. McCarty has brought claims
against Heartland Cup, Inc. for breach of the promissory note and employment agreement. We deny
liability to Mr. McCarty and will vigorously defend these counterclaims. The parties are engaged
in written discovery and depositions. A pretrial conference will occur on December 11, 2006, at
which time it is likely that the court will set a trial date.
40
MANAGEMENT
Directors and Executive Officers
The following sets forth certain information about each director and executive officer of the
Company.
|
|
|
|
|
Name |
|
Age |
|
Position with Us |
Jerry W. Grizzle(1) |
|
53 |
|
Chairman of the Board,
Chief Executive Officer,
President and Director |
Robin L. Jacob(3) |
|
41 |
|
Chief Financial Officer,
Secretary, Treasurer and
Director |
Dennis P. Loney |
|
52 |
|
Vice President of Operations |
Steven M. Dickey(3) |
|
58 |
|
Director |
Stephen E. Jones(2) |
|
36 |
|
Director |
M. Thomas Buxton III(1) |
|
56 |
|
Director |
|
|
|
(1) |
|
Term as a Director expires in 2007 |
|
(2) |
|
Term as a Director expires in 2008 |
|
(3) |
|
Term as a Director expires in 2009 |
Jerry W. Grizzle has served as our President, Chief Executive Officer and Chairman of the
Board of Directors since February 2006. Previously, Dr. Grizzle was the President and CEO of Orbit
Finer Foods, Skolniks, and most recently, CD Warehouse. Prior to his tenure with CD Warehouse, Dr.
Grizzle was Vice President and Treasurer of Sonic Industries. Dr. Grizzle also began a military
career as a Private in 1971 and retired as a Major General in 2005. MG Grizzle commanded the 45th
Infantry Brigade in the Oklahoma National Guard. The last three years of his military career were
spent on active duty as the Commander of Joint Task Force Civil Support (JTF-CS). JTF-CS is trained
to respond to a weapons of mass destruction attack inside the United States. MG Grizzle is the
recipient of numerous military awards and decorations. Dr. Grizzle holds a Masters of Business
Administration degree and a PhD in Business Administration (Marketing).
Robin L. Jacob has served as Vice President, Secretary, Treasurer, Chief Financial Officer and
a director since February 2006. Prior to that time, Ms. Jacob served as our Controller and
Assistant Secretary. She has over 18 years of accounting and financial reporting experience. Ms.
Jacob holds a Bachelor of Science degree in Accounting, a Masters of Business Administration degree
in Finance, and is a Certified Public Accountant, licensed in the state of Oklahoma.
Dennis P. Loney is Vice President of Operations. Mr. Loney has served in this capacity since
July 1995. Prior to his current position, Mr. Loney served as the Vice President of Administration
of TVC Marketing, Inc. Mr. Loney brings over 22 years of business and network marketing experience.
Steven M. Dickey has served as one of our directors since October 2002. Mr. Dickey has been a
practicing attorney in the Oklahoma City area since 1973, and is a principal shareholder in the
firm of Dickey and Dickey Attorneys.
Stephen E. Jones has served as one of our directors since March 2006. Mr. Jones is the Vice
President of Mergers & Acquisitions for Newport Capital Consultants, Inc., a position he has held
for the past two years. Prior to Newport Capital, Mr. Jones was a Territory Manager for Ecolab and
Johnson-Diversey since 1993. Mr. Jones holds a BSB degree in Marketing.
M. Thomas Buxton III has served as one of our directors since June 2001. Mr. Buxton has
practiced as a CPA in the Oklahoma City area and has been a shareholder in M. Thomas Buxton III,
CPA P.C. (formerly Buxton and Cloud, CPAs) since 1982. Mr. Buxton is a retired lieutenant colonel
in the United States Army Reserve. Mr. Buxtons firm is a registered firm with the Public Companies
Accounting Oversight Board.
The Board of Directors has determined that Mr. Buxton is a financial expert as defined in Item
401(e)(2) of Regulation S-B. Mr. Buxton has practiced as a Certified Public Accountant in the State
of Oklahoma since 1982. In addition, he was previously the Chief Financial Officer for a holding
company. As such, Mr. Buxton possesses the attributes necessary to qualify as an audit committee
financial expert.
41
EXECUTIVE COMPENSATION
Summary Compensation Table
The following Summary Compensation Table sets forth certain information relating to
compensation for services rendered during the years ended December 31, 2005, 2004 and 2003, paid to
or accrued for John W. Hail, our former Chief Executive Officer, and each of our executive officers
whose 2005 salary and bonus exceed $100,000.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-Term |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Compensation Awards |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Securities |
|
Exercise |
|
|
Annual Compensation |
|
Underlying |
|
or Base |
Name and Principal Position |
|
Year |
|
Salary |
|
Bonus |
|
Other |
|
Options |
|
Price |
John W. Hail(1) |
|
|
2005 |
|
|
$ |
312,622 |
|
|
$ |
|
|
|
$ |
|
|
|
|
150,000 |
|
|
$ |
2.00 |
|
Former Chief Executive |
|
|
2004 |
|
|
$ |
437,161 |
|
|
$ |
|
|
|
$ |
|
|
|
|
25,000 |
|
|
$ |
2.84 |
|
Officer |
|
|
2003 |
|
|
$ |
498,661 |
|
|
$ |
|
|
|
$ |
|
|
|
|
100,000 |
|
|
$ |
1.31 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reggie Cook(2) |
|
|
2005 |
|
|
$ |
124,625 |
|
|
$ |
20,000 |
|
|
$ |
19,386 |
(3) |
|
|
|
|
|
$ |
|
|
Former Vice President and |
|
|
2004 |
|
|
$ |
148,300 |
|
|
$ |
|
|
|
$ |
|
|
|
|
75,000 |
|
|
$ |
2.79 |
|
Chief Financial Officer |
|
|
2003 |
|
|
$ |
167,985 |
|
|
$ |
|
|
|
$ |
|
|
|
|
100,000 |
|
|
$ |
1.31 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dennis Loney |
|
|
2005 |
|
|
$ |
105,000 |
|
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
$ |
|
|
Vice President of Operations |
|
|
2004 |
|
|
$ |
175,070 |
|
|
$ |
|
|
|
$ |
|
|
|
|
75,000 |
|
|
$ |
2.79 |
|
|
|
|
2003 |
|
|
$ |
147,985 |
|
|
$ |
|
|
|
$ |
|
|
|
|
100,000 |
|
|
$ |
1.31 |
|
|
|
|
(1) |
|
Mr. Hail retired effective February 12, 2006. Jerry W. Grizzle was approved by the Board of
Directors as Chairman of the Board, President and Chief Executive Officer effective February
12, 2006. |
|
(2) |
|
Mr. Cook resigned effective December 9, 2005. Robin L. Jacob was approved by the Board of
Directors as Vice President, Secretary, Treasurer and Chief Financial Officer effective
February 12, 2006. |
|
(3) |
|
Represents severance payments to Mr. Cook. Part of the compensation reported for Mr. Cook in
2005 reflected value attributed to Mr. Cooks company car. In 2006, Mr. Cook returned the car
to the company. |
Option Grants in Last Fiscal Year
The following table sets forth information related to the grant of stock options during 2005.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock Options Granted |
|
|
|
|
|
|
|
|
Percentage |
|
|
|
|
|
|
|
|
|
Potential Realizable Value at |
|
|
|
|
|
|
of Total |
|
|
|
|
|
|
|
|
|
Assumed Annual Rates of |
|
|
Number of |
|
Options |
|
|
|
|
|
|
|
|
|
Stock |
|
|
Shares |
|
Granted to |
|
|
|
|
|
|
|
|
|
Price Appreciation for |
|
|
Underlying |
|
Employees |
|
Exercise |
|
Expiration |
|
Option Term |
|
|
Options |
|
in 2005 |
|
Price |
|
Date |
|
5% |
|
10% |
John W. Hail |
|
|
150,000 |
|
|
|
63.7 |
% |
|
$ |
2.00 |
|
|
May 13, 2015 |
|
$ |
189,000 |
|
|
$ |
478,000 |
|
Chief Executive Officer |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
42
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year-End Option Values
The following table sets forth information related to the exercise of stock options during
2005 and the number and value of options held by the named executive officers at December 31, 2005.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Value of Unexercised |
|
|
|
|
|
|
|
|
|
|
Number of Unexercised |
|
In-the-Money |
|
|
Shares |
|
|
|
|
|
Options as of |
|
Options as of |
|
|
Acquired on |
|
Value |
|
December 31, 2005 |
|
December 31, 2005(1) |
|
|
Exercise |
|
Realized |
|
Exercisable |
|
Unexercisable |
|
Exercisable |
|
Unexercisable |
John W. Hail |
|
|
150,000 |
|
|
$ |
0 |
(2) |
|
|
325,000 |
|
|
|
|
|
|
$ |
|
|
|
$ |
|
|
Former Chief |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Executive Officer |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reggie Cook |
|
|
|
|
|
$ |
|
|
|
|
251,119 |
|
|
|
|
|
|
$ |
|
|
|
$ |
|
|
Former Vice |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
President and |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Chief Financial |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Officer |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Dennis Loney |
|
|
|
|
|
$ |
|
|
|
|
237,000 |
|
|
|
|
|
|
$ |
|
|
|
$ |
|
|
Vice President of |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operations |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
The closing sale price of our common stock as reported on the AMEX on December 31, 2005 was
$0.88. The per-share value is calculated based on the applicable closing price per share,
minus the exercise price, multiplied by the number of shares of our common stock underlying
the options. |
|
(2) |
|
Mr. Hail exercised options to purchase 150,000 shares of our common stock on May 13, 2005 at
an exercise price of $2.00 per share. The closing price of the common stock as reported on the
AMEX on May 13, 2005 was $1.96 per share. |
Equity Compensation Plan Information
The following table gives information about our common stock that may be issued upon the
exercise of options, warrants and rights under our existing equity compensation plans (including
individual compensation arrangements) as of December 31, 2005.
43
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(a) |
|
|
(b) |
|
|
(c) |
|
|
|
|
|
|
|
|
|
|
|
Number of securities |
|
|
|
|
|
|
|
|
|
|
|
remaining available for |
|
|
|
Number of securities to be |
|
|
Weighted-average |
|
|
future issuance under equity |
|
|
|
issued upon exercise of |
|
|
exercise price of |
|
|
compensation plans |
|
|
|
outstanding options, |
|
|
outstanding options, |
|
|
(excluding securities |
|
Plan Category |
|
warrants and rights |
|
|
warrants and rights |
|
|
reflected in column (a)) |
|
Equity compensation
plans approved by
security holders |
|
|
1,950,009 |
|
|
$ |
3.58 |
|
|
|
1,174,991 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity compensation
plans not approved
by security holders |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
1,950,009 |
|
|
$ |
3.58 |
|
|
|
1,174,991 |
|
|
|
|
|
|
|
|
|
|
|
Compensation of Directors
Directors who are not our employees receive $500 for each Board or Committee meeting attended.
Our Audit Committee chairman receives $1,000 for each Audit Committee meeting attended, due to his
designation as a financial expert. Directors who are also our employees receive no additional
compensation for serving as directors. We reimburse our directors for travel and out-of-pocket
expenses in connection with their attendance at meetings of the Board of Directors. Our Bylaws
provide for mandatory indemnification of directors and officers to the fullest extent permitted by
Oklahoma law.
Employment Agreements
On November 4, 2003, we entered into a written employment agreement with John W. Hail, our
Chief Executive Officer. The contract was for an initial two-year term, commencing November 4,
2003, and may have been extended for up to five successive one-year terms if we and Mr. Hail agreed
in writing. The agreement was extended on November 4, 2005. The contract called for a base salary
of $249,600 per year, a monthly variable salary equal to one percent (1%) of our gross revenues,
and a discretionary year-end bonus determined by a majority vote of the Board of Directors. On
November 4, 2005, we extended Mr. Hails employment agreement to November 4, 2006. In connection
with the extension, Mr. Hails monthly variable salary ceased and was replaced by a fixed
supplemental payment to Mr. Hail, which will be in a gross amount necessary to cover all federal,
state and local taxes and all employment taxes, and pay a net amount of $7,000 per month. Mr. Hail
retired as our Chief Executive Officer and Chairman of the Board effective February 12, 2006. At
such time, our obligations under his employment agreement terminated.
We have entered into a written employment agreement with our Chairman of the Board, President
and Chief Executive Officer, Jerry W. Grizzle. The contract is for a two-year term, commencing
January 25, 2006, followed by two successive one-year terms unless either party elects not to renew
the agreement. Mr. Grizzles base salary is $150,000 per year for the first year of the initial
term, $200,000 for the second year of the initial term and $250,000 for each year after the initial
term. Additionally, Mr. Grizzle will be eligible to receive certain performance-based incentive
bonuses. We granted Mr. Grizzle 250,000 stock options on February 15, 2006, with an exercise price
of $0.62 per share, which was the closing price of our common stock on the last trading day prior
to the date the options were granted. The options vest in five equal annual installments beginning
February 15, 2007 and expire February 15, 2016. In the event we terminate Mr. Grizzle without
cause, he will receive certain severance pay based upon his length of employment with us.
We have entered into a written employment agreement with our Vice President, Secretary,
Treasurer and Chief Financial Officer, Robin L. Jacob. The contract is for a two-year term,
commencing February 12, 2006, followed by two successive one-year terms unless either party elects
not to renew the agreement. Ms. Jacobs base salary is $100,000 per year for the first year of the
initial term, $112,500 for the second year of the initial term and $125,000 for each year after the
initial term. Additionally, she is eligible to receive certain performance-based incentive bonuses.
We granted Ms. Jacob options to purchase 150,000 shares of our common stock at an exercise price of
$.64 per share, which was the closing price of our common stock on the last trading day prior to
the date the options were granted. The options vest in five equal annual installments beginning
April 1, 2007 and expire April 1, 2016. In the event the
44
Company terminates Ms. Jacob without cause, she will receive certain severance pay based upon
her length of employment with the Company.
We have entered into a written employment agreement with our Vice President of Operations,
Dennis Loney. The contract is for a two-year term, commencing September 19, 2006, followed by
successive one-year terms unless either party elects not to renew the agreement. Mr. Loneys base
salary is $106,000 per year for the first year of the initial term, $112,500 for the second year of
the initial term and $125,000 for each year after the initial term. Additionally, she is eligible
to receive certain performance-based incentive bonuses. We granted Mr. Loney options to purchase
150,000 shares of our common stock at an exercise price of $.63 per share, which was the closing
price of our common stock on the last trading day prior to the date the options were granted. The
options vest in five equal annual installments beginning September 18, 2007 and expire September
18, 2016. In the event we terminate Mr. Loney without cause, he will receive certain severance pay
based upon his length of employment with us.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Set forth below is a description of transactions entered into between us and certain of our
officers, directors and shareholders during the last two fiscal years. Certain of these
transactions may result in conflicts of interest between us and such individuals. Although these
persons have fiduciary duties to us and our shareholders, there can be no assurance that conflicts
of interest will always be resolved in our favor or in the favor of our shareholders. On December
17, 1996, we adopted policies that transactions with officers, directors and 5% or more
shareholders will be on terms no less favorable than could be obtained from unaffiliated parties
and approved by a majority of not less than two of the disinterested independent directors.
Employment and Consulting Arrangements
We have entered into employment and consulting agreements with John W. Hail, Jerry W. Grizzle,
Robin L. Jacob and Dennis P. Loney. See Executive CompensationEmployment Agreements.
Options Granted to Executive Officers and Directors
During 2004 and 2005, we issued options to our executive officers and independent directors.
See Executive Compensation.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT
The following table presents certain information as to the beneficial ownership of our common
stock as of November 20, 2006, of:
|
|
|
Each person who is known to us to be the beneficial owner of more than 5% of our common stock; |
|
|
|
|
Each of our directors and executive officers; |
|
|
|
|
Our executive officers and directors as a group; and |
|
|
|
|
Their percentage holdings of our outstanding shares of common stock. |
For purposes of the following table, the number of shares and percent of ownership of our
outstanding common stock that the named person beneficially owned on November 20, 2006, includes
shares of our common stock that such person has the right to acquire within 60 days of November 20,
2006, upon exercise of options and warrants. However, such shares are not included for the purposes
of computing the number of shares beneficially owned and percent of our outstanding common stock of
any other named person.
|
|
|
|
|
|
|
|
|
|
|
Common Stock |
|
|
Shares |
|
Percent of |
|
|
Beneficially |
|
Shares |
Name and Address of Beneficial Owner |
|
Owned |
|
Outstanding |
Jerry W. Grizzle(1) |
|
|
7,000 |
|
|
|
* |
|
Steven M. Dickey(1)(2) |
|
|
52,500 |
|
|
|
* |
|
M. Thomas Buxton III(1)(3) |
|
|
42,500 |
|
|
|
* |
|
Stephen E. Jones (1) |
|
|
1,000 |
|
|
|
* |
|
45
|
|
|
|
|
|
|
|
|
|
|
Common Stock |
|
|
Shares |
|
Percent of |
|
|
Beneficially |
|
Shares |
Name and Address of Beneficial Owner |
|
Owned |
|
Outstanding |
Robin L. Jacob(1)(4) |
|
|
33,311 |
|
|
|
* |
|
Dennis P. Loney(1)(5) |
|
|
255,606 |
|
|
|
3.2 |
% |
John W. Hail (6) |
|
|
611,955 |
|
|
|
7.6 |
% |
Ascendiant Capital Group, LLC(7) |
|
|
745,543 |
|
|
|
9.59 |
% |
Executive Officers and Directors as a group (eight persons) |
|
|
1,251,531 |
|
|
|
14.4 |
% |
|
(1) |
|
A director or an executive officer with a business address of 711 NE 39th Street,
Oklahoma City, Oklahoma 73105. |
|
(2) |
|
The number of shares and the percentage presented includes 52,500 shares of our common stock
that are subject to currently exercisable stock options. |
|
(3) |
|
The number of shares and the percentage presented includes 42,500 shares of our common stock
that are subject to currently exercisable stock options. |
|
(4) |
|
The number of shares and the percentage presented includes 32,311 shares of our common stock
that are subject to currently exercisable stock options. |
|
(5) |
|
The number of shares and the percentage presented includes 237,000 shares of our common stock
that are subject to currently exercisable stock options. |
|
(6) |
|
Mr. Hails current address is 3809 Coachman Road, Edmond, Oklahoma 73013. The number of
shares and the percentage presented includes 325,000 shares of our common stock that are
subject to currently exercisable stock options. |
|
(7) |
|
The shareholders address is 18881 Von Karman Avenue, Suite 1600, Irvine, California 92612..
The number assumes the exercise of the warrant for the maximum amount of shares issuable by
Ascendiant Securities, LLC under its warrant. Ascendiant Securities, LLC is a wholly-owned
subsidiary of Ascendiant Capital Group LLC. Bradley J. Wilhite and Mark Bergendahl have
voting and dispositive power with respect to Ascendiant Capital Group, LLC. |
SELLING SHAREHOLDERS
The following table sets forth the name of the selling shareholders, the number of shares of
our common stock beneficially owned by the selling shareholders as of the date of this prospectus
and following the offering and the percentage of our outstanding shares common stock beneficially
owned by the selling shareholders as of the date of this prospectus and following the offering.
We are registering all of the shares covered by this prospectus on behalf of the selling
shareholders in accordance with a registration rights agreement. We will pay the expenses of
registering these shares. This prospectus also covers any additional shares of common stock that
become issuable in connection with the shares being registered by reason of any stock dividend,
stock split, recapitalization or other similar transaction effected without the receipt of
consideration that results in an increase in the number of outstanding shares of our common stock.
Because the selling shareholders may sell all, some or no part of their respective shares of our
common stock covered by this prospectus, we cannot determine with certainty the number of shares of
our common stock that will be held by the selling shareholders upon the termination of this
offering. For more information, see Plan of Distribution.
Ascendiant Securities, LLC is a broker-dealer registered with the United States Securities and
Exchange Commission, and member of the National Association of Securities Dealers and Securities
Investor Protection Corporation. As such, it will be deemed an underwriter within the meaning of
the Securities Act of 1933 in connection with the sale of its common stock under this prospectus.
Laurus Master Fund, Ltd. is neither a registered broker-dealer nor an affiliate of a registered
broker-dealer.
46
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares Beneficially Owned |
|
Shares Beneficially Owned |
|
|
Before Offering |
|
After Offering |
|
|
|
|
|
|
Percent |
|
|
|
|
|
Percent |
Selling Shareholders |
|
Number |
|
of Class |
|
Number (3) |
|
of Class |
Laurus Master Fund, Ltd. |
|
|
843,782 |
(1) |
|
|
10.00 |
% |
|
|
0 |
|
|
|
0 |
% |
Ascendiant Securities, LLC |
|
|
495,543 |
(2) |
|
|
5.87 |
% |
|
|
0 |
|
|
|
0 |
% |
Ascendiant Capital Group, LLC(2) |
|
|
250,000 |
|
|
|
2.96 |
% |
|
|
0 |
|
|
|
0 |
% |
Vaughn Feather |
|
|
100.000 |
|
|
|
1.19 |
% |
|
|
0 |
|
|
|
0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
1,689,325 |
|
|
|
20.02 |
% |
|
|
0 |
|
|
|
0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
Laurus is prohibited from converting the Note or exercising its the Warrant if such
conversion would result in Laurus beneficially owning more than 4.99% of our common stock.
Laurus can waive this restriction upon 61 days notice to us. Additionally, this restriction
becomes automatically null and void upon an event of default under the Note. As a result, we
are registering an aggregate of 843,782 shares of our common stock that are issuable upon
conversion of the Note or exercise of the Warrant, which represents 10% of our outstanding
common stock. We anticipate that registering shares representing 10% of our total
outstanding common stock should provide us with a sufficient cushion to determine when and if
we will need to register additional shares that may become issuable under the Note or the
Warrant. If no restrictions existed on Laurus ability to convert the Note, we estimate that
the maximum common stock issuable to Laurus upon conversion of the Note and all interest
accrued thereon would be approximately 5,000,000 shares. These shares, combined with the
shares issuable upon full exercise of its warrant, would give Laurus beneficial ownership of
approximately 7,272,727 shares of our common stock, or approximately 48% of our total
outstanding stock following Laurus exercise of the warrant and conversion of the Note. This
selling security holder has identified Laurus Master Fund, Ltd. as having voting and
dispositive power with respect to these securities. Laurus Capital Management, LLC, a Delaware
limited liability company, is a control person of the securities held by Laurus Master Fund,
Ltd, and David Grin and Eugene Grin are the sole members of Laurus Capital Management, LLC.
This selling security holder has been a lender to us since June 28, 2006. |
|
(2) |
|
Assumes the exercise of the warrant for the maximum amount of shares issuable under the
warrant. Ascendiant Securities, LLC is a wholly-owned subsidiary of Ascendiant Capital Group
LLC. Bradley J. Wilhite and Mark Bergendahl have voting and dispositive power with respect to
Ascendiant Capital Group, LLC. |
|
(3) |
|
Assumes that all of the shares registered in this prospectus are sold by the selling
shareholders. |
The selling shareholders identified above may have sold, transferred or otherwise disposed of
all or a portion of such securities since the date indicated in transactions exempt from the
registration requirements of the Securities Act. The selling shareholders may sell all, part or
none of the securities listed above.
See Managements Discussion and Analysis or Plan of Operation Liquidity and Capital
Resources for a description of how Laurus Master Fund, Ltd., Ascendiant Securities, LLC and
Ascendiant Capital Group, LLC obtained the securities which are the subject of this prospectus.
PLAN OF DISTRIBUTION
The selling shareholders may, from time to time after the registration statement, which
includes this prospectus, becomes effective, sell any or all of their shares of common stock on any
stock exchange, market or trading facility on which the shares are traded or in private
transactions. These sales may be at fixed or negotiated prices. The selling shareholders may use
any one or more of the following methods when selling shares:
|
|
|
ordinary brokerage transactions and transactions in which the broker-dealer solicits
purchasers; |
|
|
|
|
block trades in which the broker-dealer will attempt to sell the shares as agent but
may position and resell a portion of the block as principal to facilitate the
transaction; |
|
|
|
|
purchases by a broker-dealer as principal and resale by the broker-dealer for its account; |
|
|
|
|
an exchange distribution in accordance with the rules of the applicable exchange; |
|
|
|
|
privately negotiated transactions; |
|
|
|
|
broker-dealers may agree with the selling security holders to sell a specified
number of such shares at a stipulated price per share; |
|
|
|
|
a combination of any such methods of sale; and |
47
|
|
|
any other method permitted pursuant to applicable law. |
The selling shareholders may also sell shares under Rule 144 under the Securities Act, if
available, rather than under this prospectus. We will either amend the registration statement of
which this prospectus is a part, or file a new registration statement, to register any additional
shares of common stock we issue to Laurus Master Fund, Ltd. upon the conversion of their Note or
exercise of their warrant. We anticipate that Laurus Master Fund, Ltd. may dispose of those shares
in one or more of the methods described above.
Laurus Master Fund, Ltd. has agreed, pursuant to its securities purchase agreement with us,
that neither it nor any of its affiliates and investment partners will (and will not cause any
other person or entity, directly or indirectly, to) engage in short sales of our common stock for
as long as the Note held by it remains outstanding. Short sales are contracts for the sale of
shares of stock that the seller does not own, or certificates which are not within the sellers
control, so as to be available for delivery at the time when, under applicable rules, delivery must
be made.
Broker-dealers engaged by the selling shareholders may arrange for other brokers-dealers to
participate in sales. Broker-dealers may receive commissions or discounts from the selling
shareholders (or, if any broker-dealer acts as agent for the purchaser of shares, from the
purchaser) in amounts to be negotiated. The selling shareholders do not expect these commissions
and discounts to exceed what is customary in the types of transactions involved. Any profits on the
resale of shares of common stock by a broker-dealer acting as principal might be deemed to be
underwriting discounts or commissions under the Securities Act. Discounts, concessions,
commissions and similar selling expenses, if any, attributable to the sale of shares will be borne
by a selling shareholder. The selling shareholders may agree to indemnify any agent, dealer or
broker-dealer that participates in transactions involving sales of the shares if liabilities are
imposed on that person under the Securities Act.
In order to comply with the securities laws of certain states, if applicable, the shares being
offered hereby must be sold in such jurisdictions only through registered or licensed brokers or
dealers. In addition, in certain states such shares may not be sold unless they have been
registered or qualified for sale in the applicable state or an exemption from the registration or
qualification requirement is available and there has been compliance thereof.
The selling shareholders may from time to time pledge or grant a security interest in some or
all of the shares of common stock owned by them and, if they default in the performance of their
secured obligations, the pledgees or secured parties may offer and sell the shares of common stock
from time to time under this prospectus after we have filed an amendment to this prospectus under
Rule 424(b)(3) or other applicable provision of the Securities Act amending the list of selling
shareholders to include the pledgee, transferee or other successors in interest as selling
shareholders under this prospectus.
The selling shareholders also may transfer the shares of common stock in other circumstances,
in which case the transferees, pledgees or other successors in interest will be the selling
beneficial owners for purposes of this prospectus and may sell the shares of common stock from time
to time under this prospectus after we have filed an amendment to this prospectus under Rule
424(b)(3) or other applicable provision of the Securities Act amending the list of selling
shareholders to include the pledgee, transferee or other successors in interest as selling security
holders under this prospectus.
The selling shareholders and any broker-dealers or agents that are involved in selling the
shares of common stock may be deemed to be underwriters within the meaning of the Securities Act
in connection with such sales. In such event, any commissions received by such broker-dealers or
agents and any profit on the resale of the shares of common stock purchased by them may be deemed
to be underwriting commissions or discounts under the Securities Act.
We are required to pay all fees and expenses incident to the registration of the shares of
common stock. We have agreed to indemnify the selling shareholders against certain losses, claims,
damages and liabilities, including liabilities under the Securities Act. The selling shareholders
will be responsible, however, for all selling commissions applicable to the sale of shares pursuant
to this prospectus.
Each selling shareholder that is an affiliate of a registered broker-dealer has represented to
us that it purchased our securities for its own account for investment only and that at the time of
such purchase, such selling security holder had no agreements, plans or understandings, directly or
indirectly, with any person to distribute such securities.
The selling shareholders have advised us that they have not entered into any agreements,
understandings or arrangements with any underwriters or broker-dealers regarding the sale of their
shares of common stock, nor is there an underwriter or coordinating broker acting in connection
with a proposed sale of shares of common stock by any
48
selling shareholder. If we are notified by any selling shareholder that any material
arrangement has been entered into with a broker-dealer for the sale of shares of common stock, if
required, we will file a supplement to this prospectus. If the selling shareholders use this
prospectus for any sale of the shares of common stock, they will be subject to the prospectus
delivery requirements of the Securities Act.
The anti-manipulation rules of Regulation M under the Exchange Act may apply to sales of our
common stock and activities of the selling shareholders. We have informed the selling shareholders
that, during such time as they may be engaged in a distribution of any of the shares we are
registering by this registration statement, they are required to comply with Regulation M, and the
selling shareholders have agreed, and will cause each of their affiliates and investment partners,
to comply with Regulation M in all respects during such time. In general, Regulation M precludes
any selling shareholder, any affiliated purchasers and any broker-dealer or other person who
participates in a distribution from bidding for or purchasing, or attempting to induce any person
to bid for or purchase, any security which is the subject of the distribution until the entire
distribution is complete. Regulation M defines a distribution as an offering of securities that
is distinguished from ordinary trading activities by the magnitude of the offering and the presence
of special selling efforts and selling methods. Regulation M also defines a distribution
participant as an underwriter, prospective underwriter, broker, dealer or other person who has
agreed to participate or who is participating in a distribution.
Regulation M also prohibits any bids or purchases made in order to stabilize the price of a
security in connection with the distribution of that security, except as specifically permitted by
Rule 104 of Regulation M. These stabilizing transactions may cause the price of our common stock to
be more than it would otherwise be in the absence of these transactions. We have informed the
selling shareholders that stabilizing transactions permitted by Regulation M allow bids to purchase
our common stock if the stabilizing bids do not exceed a specified maximum, and the selling
shareholders have agreed, and will cause each of their affiliates and investment partners, to
comply with Regulation M in all respects during such time as they may be engaged in a distribution
of any of the shares we are registering by this registration statement. Regulation M specifically
prohibits stabilizing that is the result of fraudulent, manipulative or deceptive practices.
Selling shareholders and distribution participants are required to consult with their own legal
counsel to ensure compliance with Regulation M.
DESCRIPTION OF SECURITIES
Common Stock
We are authorized to issue 495,000,000 shares of common stock, $0.0001 par value per share, of
which 8,437,824 were outstanding as of November 20, 2006.
Holders of common stock have equal rights to receive dividends when, as and if declared by the
Board of Directors, out of funds legally available therefor. Holders of common stock have one vote
for each share held of record and do not have cumulative voting rights.
Holders of common stock are entitled, upon our liquidation, to share ratably in the net assets
available for distribution, subject to the rights, if any, of holders of any preferred stock then
outstanding. Shares of common stock are not redeemable and have no preemptive or similar rights.
All outstanding shares of common stock are fully paid and nonassessable.
Preferred Stock
Within the limits and restrictions provided in our Certificate of Incorporation, the Board of
Directors has the authority, without further action by the shareholders, to issue up to 5,000,000
shares of preferred stock, $0.0001 par value per share, in one or more series, and to fix, as to
any such series, any dividend rate, redemption price, preference on liquidation or dissolution,
sinking fund terms, conversion rights, voting rights, and any other preference or special rights
and qualifications.
Dividend Policy
We have never paid cash dividends on our common stock. The Board of Directors does not
anticipate paying cash dividends in the foreseeable future as it intends to retain future earnings,
if any, to finance the growth of the business. The payment of future dividends will depend on such
factors as earnings levels, anticipated capital requirements, our operating and financial condition
and other factors deemed relevant by the Board of Directors.
49
Anti-Takeover Protections
Our Certificate of Incorporation and Bylaws and the Oklahoma General Corporation Act include a
number of provisions which may have the effect of encouraging persons considering unsolicited
tender offers or other unilateral takeover proposals to negotiate with the Board of Directors
rather than pursue non-negotiated takeover attempts. We believe that the benefits of these
provisions outweigh the potential disadvantages of discouraging such proposals because, among other
things, negotiation of such proposals might result in an improvement of their terms. The
description below related to provisions of our Certificate of Incorporation and the Bylaws is
intended as a summary only and is qualified in its entirety by reference to our Certificate of
Incorporation and the Bylaws, which have been filed as exhibits to the registration statement of
which this prospectus is a part.
Preferred Stock. Our Certificate of Incorporation authorizes the issuance of preferred stock
in classes, and the Board of Directors to set and determine the voting rights, redemption rights,
conversion rights and other rights relating to such class of preferred stock, and to issue such
stock in either private or public transactions. In some circumstances, the preferred stock could be
issued and have the effect of preventing a merger, tender offer or other takeover attempt which our
Board of Directors opposes.
Staggered Board of Directors. Our Bylaws provide that the Board of Directors shall be
comprised of three classes of directors, each class constituting approximately one-third of the
total number of directors with each class serving staggered three-year terms. The classification of
the directors makes it more difficult for shareholders to change the composition of the Board of
Directors. We believe, however, that the longer time required to elect a majority of a classified
board of directors will help ensure continuity and stability of our management and policies.
The classification provisions may also have the effect of discouraging a third party from
accumulating large blocks of our common stock or attempting to obtain control of us, even though
such an attempt might be beneficial to us and our shareholders. Accordingly, our shareholders could
be deprived of certain opportunities to sell their shares of common stock at a higher market price
than might otherwise be the case.
Oklahoma Anti-Takeover Statutes. We are subject to Section 1090.3 and Sections 1145 through
1155 of the Oklahoma General Corporation Act (the OGCA). Subject to certain exceptions, Section
1090.3 of the OGCA prohibits a publicly held Oklahoma corporation from engaging in a business
combination with an interested shareholder for a period of three years after the date of the
transaction in which such person became an interested shareholder, unless the interested
shareholder attained such status with approval of the board of directors or the business
combination is approved in a prescribed manner, or certain other conditions are satisfied. A
business combination includes mergers, asset sales, and other transactions resulting in a
financial benefit to the interested shareholder. Subject to certain exceptions, an interested
shareholder is a person who, together with affiliates and associates, owns, or did own, within
three years of the proposed combination, 15 percent or more of the corporations voting stock.
In general, Sections 1145 through 1155 of the OGCA provide that issued and outstanding shares
(interested shares) of voting stock acquired (within the meaning of a control share
acquisition) become nonvoting stock for a period of three years following such control share
acquisition, unless a majority of the holders of non-interested shares approve a resolution
reinstating the interested shares with the same voting rights that such shares had before such
interested shares became control shares. Any person (acquiring person) who proposes to make a
control share acquisition may, at the persons election, and any acquiring person who has made a
control share acquisition is required to deliver an acquiring person statement to the corporation
disclosing certain prescribed information regarding the acquisition. The corporation is required to
present to the next annual meeting of the shareholders the reinstatement of voting rights with
respect to the control shares that resulted in the control share acquisition, unless the acquiring
person requests a special meeting of shareholders for such purpose and undertakes to pay the costs
and expenses of such special meeting. In the event voting rights of control shares acquired in a
control share acquisition are reinstated in full and the acquiring person has acquired control
shares with a majority or more of all voting power, all shareholders of the corporation have
dissenters rights entitling them to receive the fair value of their shares which will not be less
than the highest price paid per share by the acquiring person in the control share acquisition.
A control share acquisition includes the acquisition by any person (including persons acting
as a group) of ownership of, or the power to direct the exercise of voting power with respect to,
control shares (generally issued and outstanding shares having more than 20 percent of all voting
power in the election of directors of a publicly held corporation), subject to certain exceptions
including (i) an acquisition pursuant to an agreement of merger, consolidation, or share
acquisition to which the corporation is a party and is effected in compliance with certain
50
Sections of the OGCA, (ii) an acquisition by a person of additional shares within the range of
voting power for which such person has received approval pursuant to a resolution by the majority
of the holders of non-interested shares, (iii) an increase in voting power resulting from any
action taken by the corporation, provided the person whose voting power is thereby affected is not
an affiliate of the corporation, (iv) an acquisition pursuant to proxy solicitation under and in
accordance with the Securities Exchange Act of 1934, as amended, or the laws of Oklahoma, and (v)
an acquisition from any person whose previous acquisition of shares did not constitute a control
share acquisition, provided the acquisition does not result in the acquiring person holding voting
power within a higher range of voting power than that of the person from whom the control shares
were acquired. The voting rights provisions of the Sections 1145 through 1155 of the OGCA were
declared unconstitutional and unenforceable in 1987. In 1991, Sections 1145 through 1155 of the
OGCA were amended; however, the constitutionality and enforceability of the voting rights
provisions of such Sections of the OGCA, as amended, have not been determined as of the date of
this prospectus.
The anti-takeover provisions of the OGCA may have the effect of discouraging a third party
from acquiring large blocks of common stock within a short period or attempting to obtain control
of us, even though such an attempt might be beneficial to us and our shareholders. Accordingly, our
shareholders could be deprived of certain opportunities to sell their shares of common stock at a
higher market price than might otherwise be the case.
Transfer Agent
UMB Bank N.A.. is the registrar and transfer agent for our common stock. UMB Bank N.A.s
address is P.O. Box 410064, Kansas City, Missouri 64141-0064.
DISCLOSURE OF COMMISSION POSITION OF INDEMNIFICATION
FOR SECURITIES ACT LIABILITIES
Section 1031 of the Oklahoma General Corporation Act, under which act we are incorporated,
authorizes the indemnification of officers and directors in certain circumstances. Article Twelfth
of our Certificate of Incorporation, as well as Article IX of our Bylaws, provide indemnification
of directors, officers and agents to the extent permitted by Oklahoma General Corporation Act.
These provisions may be sufficiently broad to indemnify such persons for liabilities under the
Securities Act of 1933.
Insofar as indemnification for liabilities arising under the Securities Act may be permitted
to directors, officers or persons controlling us pursuant to the foregoing provisions, we have been
informed that in the opinion of the Securities and Exchange Commission such indemnification is
against public policy as expressed in the Securities Act and is therefore unenforceable.
LEGAL MATTERS
McAfee & Taft A Professional Corporation, Oklahoma City, Oklahoma will issue an opinion to us
about certain legal matters relating to the securities.
EXPERTS
The consolidated balance sheets of AMS Health Sciences, Inc. as of December 31, 2005 and the
related consolidated statements of operations, stockholders equity and cash flows for the year
ended December 31, 2005 have been included in this prospectus in reliance upon the report of Cole &
Reed P.C. independent public accountants, upon the authority of said firm as experts in accounting
and auditing.
The consolidated balance sheet of AMS Health Sciences, Inc. as of December 31, 2004 and
the related consolidated statements of operations, stockholders equity and cash flows for each of
the two years in the period ended December 31, 2004 have been audited by Grant Thornton LLP,
independent registered public accounting firm, as set forth in their report with respect thereto.
Such financial statements have been included herein in reliance upon the authority of such firm as
experts in accounting and auditing.
51
FINANCIAL STATEMENTS
The following consolidated financial statements of AMS Health Sciences, Inc. are included
herein at the indicated page numbers.
|
|
|
|
|
|
|
Page |
|
|
|
No. |
|
AMS Health Sciences, Inc. |
|
|
|
|
Fiscal Year Ended December 31, 2005, 2004 and 2003 |
|
|
|
|
|
|
|
F-1 |
|
|
|
|
F-2 |
|
|
|
|
F-3 |
|
|
|
|
F-4 |
|
|
|
|
F-5 |
|
|
|
|
F-6 |
|
|
|
|
F-7 |
|
|
|
|
|
|
Nine Months Ended September 30, 2006 and 2005 |
|
|
|
|
|
|
|
F-28 |
|
|
|
|
F-29 |
|
|
|
|
F-30 |
|
|
|
|
F-31 |
|
52
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
AMS Health Sciences, Inc. and subsidiaries
Oklahoma City, Oklahoma
We have audited the accompanying consolidated balance
sheet of AMS Health Sciences, Inc. and
subsidiaries (the Company) as of December 31, 2005, and the related consolidated statements of
operations, shareholders equity, and cash flows for the year ended December 31, 2005.
These financial statements are the responsibility of the Companys management. Our responsibility
is to express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with standards
of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. The
Company is not required to have, nor were we engaged to perform, an audit of its internal control
over financial reporting. Our audit included consideration of internal control over financial
reporting as a basis for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the Companys internal control
over financial reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and significant estimates made by management,
as well as evaluating the overall financial statement presentation. We believe that our audit
provides 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 AMS Health Sciences, Inc. and subsidiaries as of December 31,
2005, and the results of their operations and their cash flows for the year ended December 31,
2005, in conformity with accounting principles generally accepted in the United States of America.
/S/ COLE & REED P.C.
Oklahoma City, Oklahoma
March 28, 2006
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders
AMS Health Sciences, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheet of AMS Health Sciences, Inc. and
subsidiaries (formerly Advantage Marketing Systems, Inc.) as of December 31, 2004, and the related
consolidated statements of operations, stockholders equity, and cash flows for each of the two
years in the period ended December 31, 2004. These financial statements are the responsibility of
the Companys management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. The
Company is not required to have, nor were we engaged to perform an audit of its internal control
over financial reporting. Our audits included consideration of internal control over financial
reporting as a basis for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the Companys internal control
over financial reporting. Accordingly, we express no such opinion. An audit also includes
examining, on a test basis, evidence supporting the amounts and disclosures in the financial
statements, 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 consolidated financial statements referred to above present fairly, in all
material respects, the financial position of AMS Health Sciences, Inc. and Subsidiaries as of
December 31, 2004, and the results of their operations and their cash flows for each of the two
years in the period ended December 31, 2004, in conformity with accounting principles generally
accepted in the United States of America.
/S/ GRANT THORNTON LLP
Oklahoma City, Oklahoma
February 10, 2005
F-2
AMS HEALTH SCIENCES, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 2005 AND 2004
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
ASSETS |
|
|
|
|
|
|
|
|
CURRENT ASSETS: |
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
120,309 |
|
|
$ |
588,909 |
|
Marketable securities, available for sale, at fair value |
|
|
278,131 |
|
|
|
2,803,863 |
|
Receivables, net of allowance of $175,172 and $0 respectively |
|
|
404,682 |
|
|
|
236,318 |
|
Inventory, net |
|
|
1,022,031 |
|
|
|
1,476,968 |
|
Other assets |
|
|
24,542 |
|
|
|
50,739 |
|
|
|
|
|
|
|
|
Total current assets |
|
|
1,849,695 |
|
|
|
5,156,797 |
|
RESTRICTED SECURITIES |
|
|
75,477 |
|
|
|
|
|
RECEIVABLES |
|
|
44,016 |
|
|
|
204,584 |
|
PROPERTY AND EQUIPMENT, net |
|
|
4,506,884 |
|
|
|
3,862,111 |
|
COVENANTS NOT TO COMPETE and other intangibles, net |
|
|
402,370 |
|
|
|
480,187 |
|
OTHER ASSETS |
|
|
26,795 |
|
|
|
38,924 |
|
|
|
|
|
|
|
|
TOTAL |
|
$ |
6,905,237 |
|
|
$ |
9,742,603 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS EQUITY |
|
|
|
|
|
|
|
|
CURRENT LIABILITIES: |
|
|
|
|
|
|
|
|
Accounts payable |
|
$ |
537,422 |
|
|
$ |
326,784 |
|
Bank overdraft |
|
|
203,500 |
|
|
|
395,936 |
|
Accrued commissions and bonuses |
|
|
254,828 |
|
|
|
345,062 |
|
Accrued other expenses |
|
|
385,729 |
|
|
|
587,173 |
|
Accrued sales tax liability |
|
|
40,980 |
|
|
|
128,493 |
|
Notes payable |
|
|
412,681 |
|
|
|
|
|
Capital lease obligations |
|
|
80,150 |
|
|
|
111,430 |
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
1,915,290 |
|
|
|
1,894,878 |
|
LONG-TERM LIABILITES: |
|
|
|
|
|
|
|
|
Notes payable |
|
|
1,670,688 |
|
|
|
|
|
Capital lease obligations |
|
|
74,320 |
|
|
|
205,874 |
|
Deferred compensation |
|
|
615,301 |
|
|
|
671,748 |
|
Lease abandonment liability |
|
|
110,249 |
|
|
|
171,412 |
|
|
|
|
|
|
|
|
Total liabilities |
|
|
4,385,848 |
|
|
|
2,943,912 |
|
|
|
|
|
|
|
|
COMMITMENTS AND CONTINGENCIES (Notes 5 and 12) |
|
|
|
|
|
|
|
|
SHAREHOLDERS EQUITY: |
|
|
|
|
|
|
|
|
Common stock $.0001 par value; authorized 495,000,000
shares; issued 8,344,803 and 7,496,385 shares; outstanding
7,766,574 and 6,904,790 shares, respectively |
|
|
835 |
|
|
|
750 |
|
Paid-in capital |
|
|
21,870,872 |
|
|
|
20,331,852 |
|
Notes receivable for exercise of options |
|
|
(31,000 |
) |
|
|
(31,000 |
) |
Accumulated deficit |
|
|
(16,674,324 |
) |
|
|
(10,955,185 |
) |
Accumulated other comprehensive income (loss), net of tax |
|
|
(14,215 |
) |
|
|
85,053 |
|
|
|
|
|
|
|
|
Total capital and accumulated deficit |
|
|
5,152,168 |
|
|
|
9,431,470 |
|
Less cost of
treasury stock (591,595 shares) |
|
|
(2,632,779 |
) |
|
|
(2,632,779 |
) |
|
|
|
|
|
|
|
Total shareholders equity |
|
|
2,519,389 |
|
|
|
6,798,691 |
|
|
|
|
|
|
|
|
TOTAL |
|
$ |
6,905,237 |
|
|
$ |
9,742,603 |
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
F-3
AMS HEALTH SCIENCES, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
|
2003 |
|
Net sales |
|
$ |
13,701,324 |
|
|
$ |
18,203,497 |
|
|
$ |
18,486,178 |
|
Cost of sales |
|
|
10,436,056 |
|
|
|
14,588,521 |
|
|
|
12,750,336 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
3,265,268 |
|
|
|
3,614,976 |
|
|
|
5,735,842 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketing, distribution and administrative expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
Marketing |
|
|
1,169,768 |
|
|
|
1,536,777 |
|
|
|
1,538,981 |
|
Distribution and administration |
|
|
5,972,700 |
|
|
|
6,684,801 |
|
|
|
7,124,894 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total marketing, distribution and administrative expense |
|
|
7,142,468 |
|
|
|
8,221,578 |
|
|
|
8,663,875 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(3,877,200 |
) |
|
|
(4,606,602 |
) |
|
|
(2,928,033 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (expense): |
|
|
|
|
|
|
|
|
|
|
|
|
Interest and dividends, net |
|
|
(3,159 |
) |
|
|
162,161 |
|
|
|
(74,704 |
) |
Other income (expense), net |
|
|
147,111 |
|
|
|
113,236 |
|
|
|
(156,963 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other
income (expense) |
|
|
143,952 |
|
|
|
275,397 |
|
|
|
(231,667 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before taxes |
|
|
(3,733,248 |
) |
|
|
(4,331,205 |
) |
|
|
(3,159,700 |
) |
Income tax expense (benefit) |
|
|
32,835 |
|
|
|
1,936,262 |
|
|
|
(590,839 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET LOSS |
|
$ |
(3,766,083 |
) |
|
$ |
(6,267,467 |
) |
|
$ |
(2,568,861 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per common share basic |
|
$ |
(.52 |
) |
|
$ |
(.90 |
) |
|
$ |
(.57 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per
common share assuming dilution |
|
$ |
(.52 |
) |
|
$ |
(.90 |
) |
|
$ |
(.57 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average common shares outstanding basic |
|
|
7,307,455 |
|
|
|
6,946,085 |
|
|
|
4,508,986 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
average common shares assuming dilution |
|
|
7,307,455 |
|
|
|
6,946,085 |
|
|
|
4,508,986 |
|
|
|
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
F-4
AMS HEALTH SCIENCES, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Notes |
|
|
|
|
|
|
|
|
|
|
Accumulated |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Receivable |
|
|
|
|
|
|
|
|
|
|
Other |
|
|
|
|
|
|
|
|
|
|
Shares |
|
|
|
|
|
|
|
|
|
|
for |
|
|
|
|
|
|
|
|
|
|
Comprehensive |
|
|
|
|
|
|
Total |
|
|
|
(See |
|
|
Common |
|
|
Paid-In |
|
|
Exercise of |
|
|
(Accumulated |
|
|
Comprehensive |
|
|
Income (Loss), Net |
|
|
Treasury |
|
|
Shareholders |
|
|
|
Note 7) |
|
|
Stock |
|
|
Capital |
|
|
Options |
|
|
Deficit) |
|
|
Income (Loss) |
|
|
of Tax |
|
|
Stock |
|
|
Equity |
|
BALANCE,
JANUARY 1, 2003 |
|
|
4,424,314 |
|
|
$ |
490 |
|
|
$ |
11,793,240 |
|
|
$ |
(31,000 |
) |
|
$ |
(2,118,857 |
) |
|
$ |
|
|
|
$ |
(68,968 |
) |
|
$ |
(2,244,476 |
) |
|
$ |
7,330,429 |
|
Options exercised with
cash |
|
|
369,838 |
|
|
|
37 |
|
|
|
1,090,483 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,090,520 |
|
Warrants exercised
with cash |
|
|
581,575 |
|
|
|
58 |
|
|
|
2,131,217 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,131,275 |
|
Stock issued |
|
|
56,785 |
|
|
|
5 |
|
|
|
145,243 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
145,248 |
|
Comprehensive Income
(loss): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(2,568,861 |
) |
|
|
(2,568,861 |
) |
|
|
|
|
|
|
|
|
|
|
(2,568,861 |
) |
Unrealized gain
available for sale of
securities, net of tax |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
165,252 |
|
|
|
165,252 |
|
|
|
|
|
|
|
165,252 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
(2,403,609 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE,
DECEMBER 31, 2003 |
|
|
5,432,512 |
|
|
|
590 |
|
|
|
15,160,183 |
|
|
|
(31,000 |
) |
|
|
(4,687,718 |
) |
|
|
|
|
|
|
96,284 |
|
|
|
(2,244,476 |
) |
|
|
8,293,863 |
|
Options exercised with
cash |
|
|
416,014 |
|
|
|
42 |
|
|
|
1,177,994 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,178,036 |
|
Warrants exercised
with cash |
|
|
1,170,064 |
|
|
|
117 |
|
|
|
3,978,101 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3,978,218 |
|
Stock issued |
|
|
5,000 |
|
|
|
1 |
|
|
|
13,999 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
14,000 |
|
Disgorgement of profits |
|
|
|
|
|
|
|
|
|
|
1,575 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,575 |
|
Purchase of Treasury
Stock |
|
|
(118,800 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(388,303 |
) |
|
|
(388,303 |
) |
Comprehensive Loss: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(6,267,467 |
) |
|
|
(6,267,467 |
) |
|
|
|
|
|
|
|
|
|
|
(6,267,467 |
) |
Unrealized loss
available for sale of
securities, net of tax |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(11,231 |
) |
|
|
(11,231 |
) |
|
|
|
|
|
|
(11,231 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
(6,278,698 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE,
DECEMBER 31, 2004 |
|
|
6,904,790 |
|
|
$ |
750 |
|
|
$ |
20,331,852 |
|
|
$ |
(31,000 |
) |
|
$ |
(10,955,185 |
) |
|
|
|
|
|
$ |
85,053 |
|
|
$ |
(2,632,779 |
) |
|
$ |
6,798,691 |
|
Options exercised with
cash |
|
|
640,918 |
|
|
|
64 |
|
|
|
1,194,327 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,194,391 |
|
Stock issued |
|
|
20,866 |
|
|
|
1 |
|
|
|
18,962 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
18,963 |
|
Acquisition |
|
|
200,000 |
|
|
|
20 |
|
|
|
317,980 |
|
|
|
|
|
|
|
(1,953,056 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1,635,056 |
) |
Disgorgement of profits |
|
|
|
|
|
|
|
|
|
|
7,751 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
7,751 |
|
Comprehensive Loss: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(3,766,083 |
) |
|
|
(3,766,083 |
) |
|
|
|
|
|
|
|
|
|
|
(3,766,083 |
) |
Unrealized loss
available for sale of
securities, net of tax |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(99,268 |
) |
|
|
|
|
|
|
(99,268 |
) |
Comprehensive loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(99,268 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE,
DECEMBER 31, 2005 |
|
|
7,766,574 |
|
|
$ |
835 |
|
|
$ |
21,870,872 |
|
|
$ |
(31,000 |
) |
|
$ |
(16,674,324 |
) |
|
$ |
(3,865,351 |
) |
|
$ |
(14,215 |
) |
|
$ |
(2,632,779 |
) |
|
$ |
2,519,389 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
F-5
AMS HEALTH SCIENCES, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
|
2003 |
|
CASH FLOWS FROM OPERATING ACTIVITES: |
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(3,766,083 |
) |
|
$ |
(6,267,467 |
) |
|
$ |
(2,568,861 |
) |
Adjustments to reconcile net loss to net
cash used in operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
|
820,746 |
|
|
|
865,436 |
|
|
|
982,168 |
|
Bad debt expense |
|
|
175,172 |
|
|
|
|
|
|
|
|
|
Stock issued for services |
|
|
18,963 |
|
|
|
14,000 |
|
|
|
73,600 |
|
Employee compensation recognized upon exercise of stock
options |
|
|
66,602 |
|
|
|
205,923 |
|
|
|
282,653 |
|
Deferred taxes |
|
|
32,835 |
|
|
|
1,894,822 |
|
|
|
(590,839 |
) |
Loss (gain) on sale of assets |
|
|
(5,468 |
) |
|
|
25,719 |
|
|
|
117,273 |
|
Realized (gain) loss on sale of marketable securities |
|
|
(123,098 |
) |
|
|
(122,165 |
) |
|
|
52,557 |
|
Inventory obsolescence expense |
|
|
86,352 |
|
|
|
|
|
|
|
|
|
Changes in assets and liabilities which provided (used)
cash: |
|
|
|
|
|
|
|
|
|
|
|
|
Receivables |
|
|
58,574 |
|
|
|
204,458 |
|
|
|
(310,645 |
) |
Inventory |
|
|
642,051 |
|
|
|
(575,439 |
) |
|
|
(103,377 |
) |
Prepaid taxes and income tax receivable |
|
|
|
|
|
|
464,975 |
|
|
|
|
|
Other assets |
|
|
26,198 |
|
|
|
(8,028 |
) |
|
|
2,478 |
|
Accounts payable and accrued expenses |
|
|
(548,533 |
) |
|
|
356,432 |
|
|
|
352,330 |
|
Lease abandonment liability |
|
|
16,852 |
|
|
|
171,412 |
|
|
|
|
|
Deferred compensation |
|
|
(56,477 |
) |
|
|
3,675 |
|
|
|
668,073 |
|
|
|
|
|
|
|
|
|
|
|
Net cash used in operating activities |
|
|
(2,555,283 |
) |
|
|
(2,766,247 |
) |
|
|
(1,042,590 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES: |
|
|
|
|
|
|
|
|
|
|
|
|
Purchases of property and equipment |
|
|
(247,519 |
) |
|
|
(1,322,873 |
) |
|
|
(406,891 |
) |
Sales of property and equipment |
|
|
283,906 |
|
|
|
307,696 |
|
|
|
25,678 |
|
Acquisition of new business, net of cash acquired |
|
|
(1,203,587 |
) |
|
|
|
|
|
|
|
|
Receipts on notes receivable |
|
|
12,274 |
|
|
|
4,369 |
|
|
|
123,593 |
|
Repayment of related party receivables |
|
|
|
|
|
|
|
|
|
|
63,562 |
|
Purchase of marketable securities, available for sale |
|
|
(4,708,594 |
) |
|
|
(8,342,687 |
) |
|
|
(1,240,980 |
) |
Sale of marketable securities, available for sale |
|
|
7,149,842 |
|
|
|
7,519,941 |
|
|
|
1,197,841 |
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) in investing activities |
|
|
1,286,321 |
|
|
|
(1,833,554 |
) |
|
|
(237,197 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES: |
|
|
|
|
|
|
|
|
|
|
|
|
Overdrafts |
|
|
(203,500 |
) |
|
|
395,936 |
|
|
|
|
|
Proceeds from issuance of common stock |
|
|
1,228,541 |
|
|
|
973,687 |
|
|
|
879,515 |
|
Proceeds from exercise of warrants |
|
|
|
|
|
|
3,978,218 |
|
|
|
2,131,275 |
|
Purchases of treasury stock |
|
|
|
|
|
|
(388,303 |
) |
|
|
|
|
Payment of notes payable |
|
|
(57,207 |
) |
|
|
(1,989,170 |
) |
|
|
(486,586 |
) |
Principal payment on capital lease obligations |
|
|
(167,471 |
) |
|
|
(90,939 |
) |
|
|
(142,435 |
) |
|
|
|
|
|
|
|
|
|
|
Net cash provided by financing activities |
|
|
800,362 |
|
|
|
2,879,429 |
|
|
|
2,381,769 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS |
|
|
(468,600 |
) |
|
|
(1,720,372 |
) |
|
|
1,101,982 |
|
CASH AND CASH EQUIVALENTS, BEGINNING |
|
|
588,909 |
|
|
|
2,309,281 |
|
|
|
1,207,299 |
|
|
|
|
|
|
|
|
|
|
|
CASH AND CASH EQUIVALENTS, ENDING |
|
$ |
120,309 |
|
|
$ |
588,909 |
|
|
$ |
2,309,281 |
|
|
|
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
F-6
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
1. |
|
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES |
|
|
|
Principles of Consolidation The consolidated financial statements include the accounts of
AMS Health Sciences, Inc. and its wholly owned subsidiaries, Miracle Mountain International,
Inc., Chambre International, Inc. and Heartland Cup, Inc. (AMS or the Company). All
significant intercompany accounts have been eliminated. On August 20, 2004, the Company
changed from its former name, Advantage Marketing Systems, Inc., to its current name. In
these Notes to Consolidated Financial Statements, terms such as we, our and us are
sometimes used as abbreviated references to the Company. |
|
|
|
Nature of Business - The Company markets a product line of consumer oriented products in
the weight management, dietary supplement and personal care categories that are produced by
various manufacturers. The Company sells its product line through a network of full and
part-time independent associates. The Company also sells supplies and materials to its
independent associates. The Company also manufactures foam cups. |
|
|
|
Use of Estimates - The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period. Actual results
could differ from those estimates. |
|
|
|
Reclassifications Certain reclassifications have been made to the prior year consolidated
financial statements to conform to the December 31, 2005 presentation. |
|
|
|
Revenue Recognition - The Company recognizes marketing revenue upon shipment of products,
training aids and promotional material to the independent associates. The Company
recognizes manufacturing revenue upon shipment of products to customers. |
|
|
|
Receivables All of the Companys marketing customers pay for sales in advance of shipment.
As such, the Company has no trade receivables with respect to its marketing customers.
Loans to associates are repayable in five years or less; are secured by commissions
controlled by the Company; and are no longer allowed as of December 31, 2000. Interest
rates on loans are typically two percent or more above the Prime rate and are fixed.
Heartland recognizes revenue upon shipment of products, to its customers. Products are sold
on varying terms, the most common being net 30 days. This creates trade receivables for
Heartland. |
|
|
|
Credit Losses and Doubtful Accounts - All marketing loans are secured by commission payment
sources that are within the Companys control, but subject to increases and decreases
depending upon associate sales activity. As such, management determined that there was a
possibility of default on the associate loans. At December 31, 2005, the Company reserved
$147,491 as an allowance for doubtful accounts in connection with the associate loans.
Management cannot determine from historical records actual payment times on outstanding
receivables. Many of the outstanding receivables have been collected subsequent to December
31, 2005. As such, at December 31, 2005, the Company reserved $27,681 of Heartland accounts
receivable as doubtful accounts. |
|
|
|
Sales Returns - All of the Companys marketing products include a customer satisfaction
guarantee. Company products may be returned within 30 days of purchase for a full refund or
credit toward the purchase of another Company product. The Company also has a buy-back
program whereby it will repurchase products sold to an independent associate (subject to a
restocking fee) provided that the associate terminates his/her associateship agreement with
the Company and returns the product within 12 months of original purchase in marketable
condition. The cost of products returned to the Company is included in net sales. For the
years ended December 31, 2005 and 2004, the cost of products returned to the Company was
7.1% and 3.7% of gross sales. For the year ended December 31, 2003, the cost of products
returned to the Company was less than one percent of gross sales. There are no sales
returns related to the Companys manufacturing products. |
F-7
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
Cash and Cash Equivalents - Cash and cash equivalents consist of cash in banks and all short
term investments with initial maturities of three months or less. The Company maintains its
cash and cash equivalents in accounts that may not be federally insured. The Company has
not experienced any losses in such accounts and believes it is not exposed to any
significant credit risk. |
|
|
|
Marketable Securities - All of the Companys marketable securities are classified as
available for sale and reported at fair value. The related unrealized gains and losses are
excluded from earnings and reported net of income tax as a separate component of
shareholders equity until realized. Realized gains and losses on sales of securities are
based on the specific identification method. Declines in the fair value of investment
securities below their carrying value that are other than temporary are recognized in
earnings. |
|
|
|
Inventory Marketing inventory consists of consumer product inventory and training and
promotional material such as video tapes, cassette tapes and paper supplies held for sale to
customers and independent associates. Manufacturing inventory consists of raw materials and
finished goods of foam cups. Inventory is stated at the lower of cost or market. Cost is
determined on a first-in, first-out method. |
|
|
|
Shipping and Handling Costs Shipping and handling costs are included as a component of
cost of goods sold. Fees charged to marketing customers for shipping and handling are
included in sales. |
|
|
|
Intangibles - Intangible assets consist of covenants not to compete and other intangibles,
which have a significant residual value. Covenants not to compete are being amortized over
the life of the contracts. Other intangibles are being amortized over twenty years. |
|
|
|
The table below details the gross carrying amount and accumulated amortization: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Year Ended December 31, |
|
|
|
2005 |
|
|
2004 |
|
|
2003 |
|
Non-compete covenants, gross |
|
$ |
644,000 |
|
|
$ |
644,000 |
|
|
$ |
644,000 |
|
Deferred acquisition costs, and other intangibles,
gross |
|
|
428,338 |
|
|
|
428,338 |
|
|
|
428,338 |
|
|
|
|
|
|
|
|
|
|
|
Total intangibles, gross |
|
$ |
1,072,338 |
|
|
$ |
1,072,338 |
|
|
$ |
1,072,338 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated amortization, non-compete covenants |
|
$ |
562,883 |
|
|
$ |
506,483 |
|
|
$ |
450,083 |
|
Accumulated amortization, deferred acquisition
costs and other intangibles |
|
|
107,085 |
|
|
|
85,668 |
|
|
|
64,251 |
|
|
|
|
|
|
|
|
|
|
|
Total accumulated amortization |
|
$ |
669,968 |
|
|
$ |
592,151 |
|
|
$ |
514,334 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-compete covenants, net |
|
$ |
81,117 |
|
|
$ |
137,517 |
|
|
$ |
193,917 |
|
Deferred acquisition costs, and other intangibles,
net |
|
|
321,253 |
|
|
|
342,670 |
|
|
|
364,087 |
|
|
|
|
|
|
|
|
|
|
|
Total intangibles, net |
|
$ |
402,370 |
|
|
$ |
480,187 |
|
|
$ |
558,004 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Intangible amortization for the years ended December 31, 2005, 2004 and 2003, was $77,817
per year. Estimated amortization expense for the year 2006 is $77,817; estimated
amortization expense for 2007 is $46,134, and estimated amortization expense for the years
2008 and 2009 is $21,417. |
|
|
|
Property and Equipment - Property and equipment are stated at cost or, in the case of leased
assets under capital leases, at the lesser of fair value or present value of lease payments
of the leased property and equipment, less accumulated depreciation and amortization.
Property and equipment are depreciated using the straight-line method over the estimated
useful lives of the assets of three to 20 years. Assets under capital leases and leasehold
improvements are amortized over the lesser of the term of the lease or the life of the
asset. |
F-8
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
Long-Lived Assets - Management of the Company assesses recoverability of its long-lived
assets whenever events or changes in circumstances indicate that the carrying value of the
asset may not be recoverable through future cash flows generated by that asset.
Recoverability is assessed and measured on long-lived assets using an estimate of the
undiscounted future cash flows attributable to the asset. Impairment is measured based on
estimated future cash flows discounted at an appropriate rate. |
|
|
|
Fair Value Disclosure - The Companys financial instruments include cash and cash
equivalents, marketable securities, receivables, short-term payables, notes payable and
capital lease obligations. The carrying amounts of cash and cash equivalents, receivables
and short-term payables approximate fair value due to their short-term nature. Marketable
securities held for sale are carried at fair value. The carrying amounts of capital lease
obligations approximate fair value based on borrowing rates currently available to the
Company. Notes payable with carrying amounts of $2,083,369 and $0 had fair values of
approximately $2,021,000 and $0 at December 31, 2005 and 2004, respectively. |
|
|
|
Loss per Share Loss per common share is computed based upon net loss divided by the
weighted average number of common shares outstanding during each period. Loss per common
share-assuming dilution is computed based upon net loss divided by the weighted average
number of common shares outstanding during each period adjusted for the effect of dilutive
potential common shares calculated using the treasury stock method. |
|
|
|
Options to purchase 1,950,009 shares of common stock at exercise prices ranging from $1.30
to $6.00 per share were outstanding at December 31, 2005 but were not included in the
computation of loss per common share-assuming dilution because all options were
antidilutive. |
|
|
|
Options to purchase 2,935,334 shares of common stock at exercise prices ranging from $1.30
to $6.13 per share were outstanding at December 31, 2004 but were not included in the
computation of loss per common share-assuming dilution because all options were
antidilutive. |
|
|
|
Options to purchase 2,691,808 shares of common stock at exercise prices ranging from $1.30
to $6.13 per share were outstanding at December 31, 2003 but were not included in the
computation of loss per common share-assuming dilution because all options were
antidilutive. At December 31, 2003, 359,996 common shares issuable pursuant to the terms of
a convertible acquisition note payable were excluded from the determination of diluted loss
per share under the if-converted method because the effect of inclusion was antidilutive. |
|
|
|
Warrants to purchase 1,353,073 shares of common stock at exercise prices ranging from $3.40
to $5.40 per share at December 31, 2003 were outstanding but were not included in the
computation of earnings per common share-assuming dilution because the warrants exercise
price was greater than the average market price of the common shares. |
|
|
|
Comprehensive Income - The Company classifies other comprehensive income items by their
nature in the financial statements and displays the accumulated balance of other
comprehensive income separately in the shareholders equity section of the balance sheet.
The Companys other comprehensive income item is related to unrealized gains (losses) on
investment securities classified as available for sale. |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
|
2003 |
|
Unrealized gain (loss) on
investment arising during the
period |
|
$ |
(25,892 |
) |
|
$ |
63,373 |
|
|
$ |
120,915 |
|
Less reclassification
adjustment for gains (losses)
included in net earnings |
|
|
73,376 |
|
|
|
74,604 |
|
|
|
(44,337 |
) |
|
|
|
|
|
|
|
|
|
|
Unrealized gain (loss) on
investment, net of income tax
expense (benefit) of $(60,071),
$(6,796) and $100,000,
respectively |
|
$ |
(99,268 |
) |
|
$ |
(11,231 |
) |
|
$ |
165,252 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Income Taxes - The Company uses an asset and liability approach to account for income taxes.
Deferred income taxes are recognized for the tax consequences of temporary differences and
carryforwards by applying enacted tax rates applicable to future years to differences
between the financial statement amounts |
F-9
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
and the tax bases of existing assets and liabilities. A valuation allowance is established
if, in managements opinion, it is more likely than not that some portion of the deferred
tax asset will not be realized. The outlook for determination of this allowance is
calculated on the Companys historical taxable income, its expectations for the future based
on a rolling twelve quarters, and available tax-planning strategies. Based on this
determination, management does not expect that the net deferred tax assets will be realized
as offsets to reversing deferred tax liabilities and as offsets to the tax consequences of
future taxable income. As such, a valuation allowance was provided for the entire deferred
tax asset of approximately $5,300,000 at December 31, 2005. |
|
|
|
Advertising Costs The Company expenses the cost of advertising the first time the
advertising takes place. Advertising expense, including the cost of infomercials in 2004,
for the years ended December 31, 2005, 2004 and 2003 was approximately $168, $137,000 and
$700, respectively. |
|
|
|
Going Concern The accompanying financial statements have been prepared based upon the
Companys belief that it will continue as a going concern. Several factors have contributed
to the Companys current financial condition: |
|
|
|
The impact of several material non-recurring events, including the one-time
impairment of goodwill, the accrual of deferred compensation related to the
employment contract of the Companys founder and then CEO, the implementation of a
free trial program, the write off of the Companys deferred tax asset, and a lease
abandonment charge related to the abandonment of the executive offices; |
|
|
|
|
Excessive expenses incurred in the Heartland operations, resulting from
expenditures over and above what was represented, and a continuing excess of
monthly operating expenses over revenues; and |
|
|
|
|
Declining net income, due to the FDAs ban on ephedra products, and the
replacement of new products. |
|
|
The Company has taken the following steps to significantly reduce its cost of sales and
marketing, distribution and administrative costs: |
|
|
|
Reductions in force, encompassing all departments within the Company; |
|
|
|
|
The termination of a discount sales program, designed to give customers a cash
discount after purchasing a certain dollar amount of product; and |
|
|
|
|
The termination of several extra employee benefits, including vehicle allowances
and social and country-club privileges. |
|
|
In addition to the above, the Company has made the decision that, due to the poor operating
performance and the strain on the core operations, it will shut down the Heartland
operations effective March 31, 2005. This will require a charge for discontinued operations
in the first quarter of 2006, however on an ongoing basis, only the service cost of the debt
will be incurred. Management is also actively working with several investment firms to
raise equity capital, not only for equity purposes, but also for cash flow purposes.
Finally, the Company is exploring strategic acquisitions of network marketing companies with
profitable, sustained operations. |
|
|
|
The Company is seeing positive upswings and trends in associate recruiting, as well as
continued reductions in costs of goods sold and administrative expenses. At December 31,
2005, the Companys ratios compared to net sales are trending toward the levels that existed
in the Companys last profitable year, with the exception of marketing, distribution and
administrative expenses. As discussed above, the Company has taken, and continues to take,
drastic steps to bring this ratio in line the level that existed in the Companys last
profitable year. Finally, the Company is exploring a new product offering that management
believes will be the replacement for the ephedra product banned in 2004. |
F-10
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
The Company believes that without the drain on resources from the Heartland operations, and
based on the early results in 2006, it will generate sufficient working capital to sustain
operating activities for the next twelve months. |
|
|
|
Stock-Based Compensation - The Company applies Accounting Principles Board Opinion No. 25
and related interpretations in accounting for its stock-based compensation awards. APB No.
25 allows for no recognition of compensation cost if the exercise price of the option is
equal to the fair value of the stock at grant date. Accordingly, no compensation cost has
been recognized for stock options granted in the accompanying consolidated financial
statements. The following pro forma data is calculated net of tax as if compensation cost
for the Companys stock-based compensation awards (see also Note 7) was determined based
upon the fair value at the grant date consistent with the methodology prescribed under SFAS
No. 123. |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31, |
|
|
|
2005 |
|
|
2004 |
|
|
2003 |
|
Net loss as reported |
|
$ |
(3,766,083 |
) |
|
$ |
(6,267,467 |
) |
|
$ |
(2,568,861 |
) |
Less: Total stock-based employee
compensation expense determined under
fair value based method for all awards,
net of related tax effects |
|
|
(711,123 |
) |
|
|
(1,648,652 |
) |
|
|
(622,275 |
) |
|
|
|
|
|
|
|
|
|
|
Proforma net loss |
|
$ |
(4,477,206 |
) |
|
$ |
(7,916,119 |
) |
|
$ |
(3,191,136 |
) |
|
|
|
|
|
|
|
|
|
|
Net loss per common share as reported |
|
$ |
(.52 |
) |
|
$ |
(.90 |
) |
|
$ |
(.57 |
) |
Proforma net loss per common share,
basic and diluted |
|
$ |
(.61 |
) |
|
$ |
(1.14 |
) |
|
$ |
(.71 |
) |
|
|
|
|
|
|
|
|
|
|
Weighted average common shares outstanding,
basic and diluted |
|
|
7,307,455 |
|
|
|
6,946,085 |
|
|
|
4,508,986 |
|
|
|
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model with the following weighted average assumptions used for
grants in 2005, 2004 and 2003, respectively: risk-free interest rates of 5.34%, 3.16% and
2.89%; no dividend yield or assumed forfeitures; expected lives of 5.0 years; and volatility
of 89%, 62% and 75%. The pro forma amounts above are not likely to be representative of
future years because there is no assurance that additional awards will be made each year. |
|
|
|
In December 2004, the Financial Accounting Standards Board (FASB) issued Statement of
Financial Accounting Standard (SFAS) No. 123(R), Share Based Payment, which revised SFAS
No. 123, Accounting for Stock-Based Compensation. SFAS No. 123(R) requires entities to
measure the fair value of equity share-based payments (stock compensation) at grant date,
and recognize the fair value over the period during which an employee is required to provide
services in exchange for the equity instrument as a component of the income statement. SFAS
No. 123(R) is effective for periods beginning after June 15, 2005. This would require us to
adopt FAS 123(R) effective January 1, 2006. We chose an accelerated vesting schedule for
the remainder of our options. As of December 31, 2005, all of our outstanding options are
fully vested. For the year ended December 31, 2005, there was approximately $580,000 of
additional pro forma loss related to such accelerated vesting. |
|
2. |
|
MARKETABLE SECURITIES |
|
|
|
Investments in securities are summarized as follows: |
F-11
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2005 |
|
|
|
Cost/ |
|
|
Gross |
|
|
Gross |
|
|
Estimated |
|
|
|
Amortized |
|
|
Unrealized |
|
|
Unrealized |
|
|
Fair |
|
Type of investment |
|
Cost |
|
|
Gains |
|
|
Losses |
|
|
Value |
|
Short term investments available for sale |
|
$ |
278,131 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
278,131 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debt securities available for sale |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate Bonds |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
Mutual Funds |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equities available for sale |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mutual Funds |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
278,131 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
278,131 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2004 |
|
|
|
Cost/ |
|
|
Gross |
|
|
Gross |
|
|
Estimated |
|
|
|
Amortized |
|
|
Unrealized |
|
|
Unrealized |
|
|
Fair |
|
Type of investment |
|
Cost |
|
|
Gains |
|
|
Losses |
|
|
Value |
|
Short term investments available for sale |
|
$ |
31,358 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
31,358 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Debt securities available for sale |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate Bonds |
|
$ |
194,531 |
|
|
$ |
|
|
|
$ |
(2,451 |
) |
|
$ |
192,062 |
|
Mutual Funds |
|
|
1,187,352 |
|
|
|
|
|
|
|
(15,278 |
) |
|
|
1,172,074 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
1,381,865 |
|
|
$ |
|
|
|
$ |
(17,729 |
) |
|
|
1,364,136 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equities available for sale |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Mutual Funds |
|
$ |
1,258,567 |
|
|
$ |
149,802 |
|
|
$ |
|
|
|
|
1,408,369 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
2,671,790 |
|
|
$ |
149,802 |
|
|
$ |
(17,729 |
) |
|
|
2,803,863 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from sales of available for sale securities were $7,149,842, $7,519,941 and
$1,197,841 for 2005, 2004 and 2003, respectively. Gross gains of $179,620, $179,339 and
$30,466 and gross losses of $47,146, $35,404 and $74,803 for 2005, 2004 and 2003,
respectively, were realized on those sales. The Company had no significant amount of
impaired investments at December 31, 2005 and 2004, and believes its investments will be
fully recovered. |
|
|
|
For the years ended December 31, 2005, 2004 and 2003, interest income from available for
sale securities was $16,597, $3,740 and $1,291, respectively. Dividend income from
available for sales securities for the years ended December 31, 2005, 2004 and 2003 was
$31,464, $119,020 and $41,849, respectively. |
|
3. |
|
RESTRICTED INVESTMENTS |
|
|
|
In connection with the Heartland acquisition, the Company has marketable securities in the
amount of $75,477 as restricted cash against one of the notes payable. |
|
4. |
|
INVENTORY |
|
|
|
Inventory consists of the following at December 31: |
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
Raw materials |
|
$ |
360,888 |
|
|
$ |
382,534 |
|
Finished goods |
|
|
747,495 |
|
|
|
1,094,434 |
|
Obsolescence reserve |
|
|
(86,352 |
) |
|
|
|
|
|
|
|
|
|
|
|
Net inventory |
|
$ |
1,022,031 |
|
|
$ |
1,476,968 |
|
|
|
|
|
|
|
|
F-12
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
The Company writes down inventory based on assumptions about future demand for its products
and market conditions. At December 31, 2005, the Company created an obsolescence reserve
based on these demands. |
|
5. |
|
PROPERTY AND EQUIPMENT |
|
|
|
Property and equipment consists of the following at December 31: |
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
Office furniture, fixtures and equipment |
|
$ |
6,555,786 |
|
|
$ |
5,027,281 |
|
Vehicles |
|
|
343,771 |
|
|
|
556,009 |
|
Leasehold improvements |
|
|
62,793 |
|
|
|
62,793 |
|
Building |
|
|
2,316,966 |
|
|
|
2,275,300 |
|
Land |
|
|
148,308 |
|
|
|
148,308 |
|
|
|
|
|
|
|
|
|
|
|
9,427,624 |
|
|
|
8,069,691 |
|
Accumulated depreciation and amortization |
|
|
(4,920,740 |
) |
|
|
(4,207,580 |
) |
|
|
|
|
|
|
|
Total property and equipment, net |
|
$ |
4,506,884 |
|
|
$ |
3,862,111 |
|
|
|
|
|
|
|
|
|
|
Depreciation expense for the years ended December 31, 2005, 2004 and 2003 was $706,203,
$775,489, and $870,574, respectively. |
|
|
|
On September 17, 2004, the Company purchased additional office and warehouse space for a
cash price of $525,000. The building, which is adjacent to the Companys corporate
headquarters, provides 6,000 square feet of additional warehouse space and 4,000 additional
square feet of office space. In addition, the Company incurred approximately $221,000 for
remodeling the office space and construction of a covered walkway between the two buildings. |
|
|
|
On September 9, 2005, AMS entered into a definitive Stock Purchase Agreement with Heartland
and its principal shareholder for the purchase of all of the principal shareholders stock
in Heartland. Upon closing of the Stock Purchase Agreement, we acquired 2,000,000 shares,
or approximately 83% of the outstanding capital stock of Heartland, for 200,000 shares of
our common stock. In addition, we paid approximately $200,000 to
acquire the remaining shares of Heartland. Heartland had approximately $1.4 million of fixed assets at December
31, 2005. |
|
6. |
|
DEBT |
|
|
|
Notes payable and long-term debt consisted of the following at December 31: |
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
Note payable to bank, with interest adjusted
annually (7.00% at December 31, 2005),
collateralized with the Companys executive
offices, payable in monthly installments of $12,875 |
|
$ |
650,000 |
|
|
$ |
|
|
Note payable to bank, with interest adjusted
annually (7.00% at December 31, 2005),
collateralized by equipment, inventory and
furniture and fixtures of Heartland, payable
in monthly installments of $7,251 |
|
|
563,229 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note payable to Rural Enterprises of
Oklahoma, with a 4.30% effective rate,
collateralized by equipment, inventory and
furniture and fixtures of Heartland, payable
in monthly installments of $4,864 |
|
|
399,074 |
|
|
|
|
|
Note payable to bank, collateralized by
inventory of Heartland, balloon note due and
payable May 8, 2006 |
|
|
200,000 |
|
|
|
|
|
Note payable to bank, with interest at
8.00%, collateralized by the Companys
offices and warehouse, payable in monthly
installments of $3,735 |
|
|
182,307 |
|
|
|
|
|
Note payable to Rural Enterprises of
Oklahoma, with interest at 7.50%, payable in
monthly installments of $950 |
|
|
73,458 |
|
|
|
|
|
F-13
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
Note payable to bank for 2003 one-ton truck,
with interest at 6.50%, payable in monthly
installments of $471 |
|
|
15,301 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2,083,369 |
|
|
|
|
|
Less current maturities |
|
|
412,681 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
1,670,688 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
Interest expense for the year ended December 31, 2005, 2004 and 2003 was approximately
$76,000, $2,000 and $143,000. |
|
7. |
|
LEASE AGREEMENTS |
|
|
|
The Company has various capital leases for office and warehouse equipment. The lease terms
range from 24 to 60 months. Additionally, annual lease rental payments for each lease range
from $3,400 to $46,000 per year. The schedule of future minimum lease payments below
reflects all payments under the leases. |
|
|
|
The property and equipment accounts include $956,454 and $1,035,950 for leases that have
been capitalized at December 31, 2005 and 2004, respectively. Related accumulated
amortization was $809,918 and $724,920 at December 31, 2005 and 2004, respectively. |
|
|
|
The Company leases office and warehouse space under noncancellable operating leases. Future
annual minimum lease payments under capital leases and noncancellable operating leases with
initial or remaining terms of one year or more at December 31, 2005 are as follows: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital Leases |
|
|
Operating Leases |
|
|
Total |
|
Year ending: |
|
|
|
|
|
|
|
|
|
|
|
|
2006 |
|
$ |
89,775 |
|
|
$ |
108,127 |
|
|
$ |
197,902 |
|
2007 |
|
|
56,999 |
|
|
|
118,541 |
|
|
|
175,540 |
|
2008 |
|
|
16,554 |
|
|
|
71,266 |
|
|
|
87,820 |
|
2009 |
|
|
9,012 |
|
|
|
9,375 |
|
|
|
18,387 |
|
2010 |
|
|
2,211 |
|
|
|
|
|
|
|
2,211 |
|
|
|
|
|
|
|
|
|
|
|
Total minimum lease payments |
|
|
174,551 |
|
|
$ |
307,309 |
|
|
$ |
481,860 |
|
|
|
|
|
|
|
|
|
|
|
|
Less amount representing interest |
|
|
20,081 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Present value of net minimum lease payments |
|
|
154,470 |
|
|
|
|
|
|
|
|
|
Less current portion |
|
|
80,150 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term capital lease obligations |
|
$ |
74,320 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Rental expense under operating leases for the years ended December 31, 2005, 2004 and 2003
was $73,753, $442,241 and $164,346, respectively. |
|
|
|
In 2004, the Company began sub-leasing the office space under the noncancellable operating
leases. Future revenues under these sub-leases at December 31, 2005 are as follows: |
|
|
|
|
|
2006 |
|
$ |
54,000 |
|
2007 |
|
|
54,000 |
|
2008 |
|
|
22,500 |
|
|
|
|
|
Total |
|
$ |
130,500 |
|
|
|
|
|
|
|
Sub-lease revenue for the year ended December 31, 2005 was $51,000. |
|
8. |
|
LEASE ABANDONMENT |
|
|
|
In January 2004, the Company commenced a relocation of its corporate headquarters from 2601
NW Expressway (the Oil Center), Oklahoma City, Oklahoma to its warehouse and distribution
facility. A portion of the Oil Center was maintained for storage, a portion was maintained
for possible relocation of Company personnel due to expansion of the business and a portion
was subleased to a third party under a
|
F-14
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
short-term lease. In September 2004, the Company purchased an existing building adjacent to
its corporate headquarters to be used for additional office, warehouse and storage space.
Company management believes the purchased building is sufficient to meet expansion needs,
and as such, abandoned the Oil Center location, as of September 30, 2004. |
|
|
|
The table below shows the reconciliation between the beginning and ending liability balance,
as well as the presentation in the consolidated balance sheet at December 31, 2005: |
|
|
|
|
|
Liability accrued at December 31, 2004 |
|
$ |
249,354 |
|
Adjustment to accrual |
|
|
28,797 |
|
|
|
|
|
Total accrual recorded in expense |
|
|
278,151 |
|
Payment of rent, net of sublease revenue |
|
|
(89,887 |
) |
|
|
|
|
Ending liability accrual balance |
|
$ |
188,264 |
|
|
|
|
|
|
|
|
|
|
Accrual portion in current liabilities |
|
$ |
78,015 |
|
Accrual portion in long-term liabilities |
|
|
110,249 |
|
|
|
|
|
Ending liability accrual balance |
|
$ |
188,264 |
|
|
|
|
|
|
|
In determining lease abandonment, management assumed the continuation of the existing
sublease at the current rate. In addition, a discount rate of 6.5% was used to calculate
the present value of current lease payments less sublease revenue. At December 31, 2005,
the lease abandonment expense was $28,797, and was included in administrative expense. |
|
9. |
|
SHAREHOLDERS EQUITY |
|
|
|
Common Stock - On March 4, 1998, the Company announced its intent to repurchase up to one
million shares of the Companys common stock in the open market for cash. In connection with
such repurchase, the Company filed with the Securities and Exchange Commission pursuant to
Section 13(e)(1) of the Securities Exchange Act of 1934, as amended, an Issuer Tender Offer
Statement on March 4, 1998. As of December 31, 2005, the Company had repurchased 591,595
shares of the common stock at a total cost of $2,632,779. |
|
|
|
Common Stock Options and Other Warrants The following table summarizes the Companys
employee stock option and other warrants activity for the years ended December 31, 2005,
2004 and 2003: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
Average |
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
Exercise |
|
|
|
|
|
|
Exercise |
|
|
|
|
|
|
Exercise |
|
|
|
2005 |
|
|
Price |
|
|
2004 |
|
|
Price |
|
|
2003 |
|
|
Price |
|
Options and other
warrants outstanding
beginning of year |
|
|
2,935,334 |
|
|
$ |
2.95 |
|
|
|
2,691,808 |
|
|
$ |
2.04 |
|
|
|
1,756,653 |
|
|
$ |
2.36 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options and other
warrants issued
during the year |
|
|
310,500 |
|
|
|
1.96 |
|
|
|
667,370 |
|
|
|
2.61 |
|
|
|
1,348,151 |
|
|
|
1.64 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options and other
warrants exercised
during the year |
|
|
(640,918 |
) |
|
|
1.76 |
|
|
|
(416,014 |
) |
|
|
2.25 |
|
|
|
(369,838 |
) |
|
|
2.18 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Option and other
warrants cancelled
during the year |
|
|
(429,907 |
) |
|
|
1.50 |
|
|
|
(7,830 |
) |
|
|
3.19 |
|
|
|
(43,158 |
) |
|
|
3.04 |
|
F-15
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
Average |
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
Exercise |
|
|
|
|
|
|
Exercise |
|
|
|
|
|
|
Exercise |
|
|
|
2005 |
|
|
Price |
|
|
2004 |
|
|
Price |
|
|
2003 |
|
|
Price |
|
Options and other
warrants expired
during the year |
|
|
(225,000 |
) |
|
|
2.00 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options and other
warrants outstanding,
end of year |
|
|
1,950,009 |
|
|
$ |
3.58 |
|
|
|
2,935,334 |
|
|
$ |
2.95 |
|
|
|
2,691,808 |
|
|
$ |
2.04 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The weighted average grant-date fair value of options and other warrants granted during
2005, 2004 and 2003 was $1.96, $2.72 and $1.58 per share, respectively. |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options and Other Warrants Outstanding |
|
|
Options and Other |
|
|
|
|
|
|
|
Weighted- |
|
|
|
|
|
|
Warrants Exercisable |
|
|
|
|
|
|
|
Average |
|
|
Weighted- |
|
|
|
|
|
|
Weighted- |
|
|
|
Number |
|
|
Remaining |
|
|
Average |
|
|
Number |
|
|
Average |
|
Range of |
|
Outstanding |
|
|
Contractual |
|
|
Exercise |
|
|
Exercisable |
|
|
Exercise |
|
Exercise Prices |
|
at 12/31/05 |
|
|
Life |
|
|
Price |
|
|
at 12/31/05 |
|
|
Price |
|
$1.30 - $2.95 |
|
|
1,619,652 |
|
|
6.76 years |
|
$ |
2.09 |
|
|
|
1,619,652 |
|
|
$ |
2.09 |
|
$3.00 - $4.75 |
|
|
286,543 |
|
|
5.26 years |
|
$ |
3.66 |
|
|
|
286,543 |
|
|
$ |
3.66 |
|
$5.25 - $6.13 |
|
|
43,814 |
|
|
4.24 years |
|
$ |
5.75 |
|
|
|
43,814 |
|
|
$ |
5.75 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,950,009 |
|
|
|
|
|
|
$ |
2.40 |
|
|
|
1,950,009 |
|
|
$ |
2.40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common Stock Warrants On December 10, 21003, the Company announced the redemption of all
outstanding warrants not exercised by January 16, 2004. As such, there were no stock
warrants at January 1, 2005. The following table summarizes the Companys common stock
warrants and their activity for the years ended December 31, 2004 and 2003: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrants |
|
|
|
|
|
|
|
|
|
Issued and |
|
|
Exercise |
|
|
|
|
|
|
Outstanding |
|
|
Price |
|
|
Exercise Period |
|
December 31, 2004: |
|
|
|
|
|
|
|
|
|
|
|
|
1997-A Warrants, beginning of the year |
|
|
303,315 |
|
|
$ |
3.40 |
|
|
|
1/31/97-11/06/04 |
|
1997-A Warrants, exercised during the year |
|
|
204,805 |
|
|
$ |
3.40 |
|
|
|
|
|
1997-A Warrants, redeemed during the year |
|
|
98,510 |
|
|
$ |
0.00025 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1997-A Warrants, end of the year |
|
|
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Redeemable Common Stock Purchase Warrants,
beginning of the year |
|
|
1,013,798 |
|
|
$ |
3.40 |
|
|
|
11/06/97-11/06/04 |
|
Common Stock Purchase Warrants, exercised
during the year |
|
|
965,259 |
|
|
$ |
3.40 |
|
|
|
|
|
Redeemable Common Stock Purchase Warrants,
redeemed during the year |
|
|
48,539 |
|
|
$ |
0.24455 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Redeemable Common Stock Purchase Warrants,
end of the year |
|
|
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Underwriters Warrants, beginning of the year |
|
|
35,960 |
|
|
$ |
5.40 |
|
|
|
11/12/98-11/12/04 |
|
Underwriters Warrants, exercised during
the year |
|
|
35,960 |
|
|
$ |
5.40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Underwriters Warrants, end of the year |
|
|
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
December 31, 2003: |
|
|
|
|
|
|
|
|
|
|
|
|
1997-A Warrants, beginning of the year |
|
|
308,768 |
|
|
$ |
3.40 |
|
|
|
1/31/97-11/06/04 |
|
1997-A Warrants, exercised during the year |
|
|
5,453 |
|
|
$ |
3.40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1997-A Warrants, end of the year |
|
|
303,315 |
|
|
$ |
3.40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Redeemable Common Stock Purchase Warrants,
beginning of the year |
|
|
1,436,000 |
|
|
$ |
3.40 |
|
|
|
11/06/97-11/06/04 |
|
F-16
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrants |
|
|
|
|
|
|
|
|
|
Issued and |
|
|
Exercise |
|
|
|
|
|
|
Outstanding |
|
|
Price |
|
|
Exercise Period |
|
Redeemable Common Stock Purchase Warrants,
exercised during the year |
|
|
422,202 |
|
|
$ |
3.40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Redeemable Common Stock Purchase
Warrants, end of the year |
|
|
1,013,798 |
|
|
$ |
3.40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Underwriters Warrants, beginning of the year |
|
|
130,000 |
|
|
$ |
5.40 |
|
|
|
11/12/98-11/12/04 |
|
Underwriters Warrants, exercised during
the year |
|
|
94,040 |
|
|
$ |
5.40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Underwriters Warrants, end of the year |
|
|
35,960 |
|
|
$ |
5.40 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Each warrant entitles the holder to purchase one share of common stock. As of January 8,
1998, the Company reduced the exercise price of the 1997-A Warrants from $12.00 to $3.40 and
extended the exercise period from January 31, 1999 to November 6, 2002, to correspond more
closely to the terms of the Redeemable Common Stock Purchase Warrants. In addition, on
September 16, 2002 the Company extended the exercise period from November 6, 2002 to
November 12, 2003. On October 14, 2003, the Company extended the exercise period for the
1997-A warrants from November 12, 2003 to November 12, 2004. On December 10, 2003, the
Company announced the redemption of all outstanding 1997-A warrants not exercised by January
16, 2004. Proceeds from the 1997-A warrant redemption totaled $714,877, including $18,540 in
2003 and $696,337 in 2004, and payment for unexercised warrants was $25. |
|
|
|
As of January 6, 1998, the exercise price of the Redeemable Common Stock Purchase Warrants
was adjusted from $5.40 to $3.40. In addition, on September 16, 2002 the Company extended
the exercise period from November 6, 2002 to November 12, 2003. On October 14, 2003, the
Company extended the exercise period for the redeemable stock purchase warrants and the
underwriter warrants from November 12, 2003 to November 12, 2004. On December 10, 2003, the
Company announced the redemption of all outstanding redeemable stock purchase warrants and
the underwriter warrants not exercised by January 16, 2004. Proceeds from the redeemable
stock purchase warrants and the underwriter warrant redemption totaled $5,394,615, including
$2,112,734 in 2003 and $3,281,881 in 2004, and payment for unexercised warrants was $11,870. |
|
|
|
There was no expense recognized in the Companys financial statements relating to either of
the warrant exercise price reductions as the changes only affected allocations of additional
paid-in capital because the Redeemable Common Stock Purchase Warrants and the 1997-A
Warrants were issued in conjunction with an equity offering of the Company. The reduced
exercise prices exceeded the market value of the Companys common stock on the date of the
reduction. In addition, there was no expense recognized in the Companys financial
statements relating to the extension of the exercise period for either the 1997-A Warrants
or the Redeemable Common Stock Purchase Warrants. |
|
10. |
|
STOCK OPTION PLANS |
|
|
|
During 1995, the Company approved the 1995 Stock Option Plan (the Plan). Under this Plan,
options available for grant can consist of (i) nonqualified stock options, (ii)
nonqualified stock options with stock appreciation rights attached, (iii) incentive stock
options, and (iv) incentive stock options with stock appreciation rights attached. The
Company has reserved 1,125,000 shares of the Companys common stock $.0001 par value, for
the Plan. The Plan limits participation to employees, independent contractors and
consultants. Non-employee directors are excluded from Plan participation. The option
price for shares of stock subject to this Plan is set by the Stock Option Committee of the
Board of Directors at a price not less than 85% of the market value of the stock on the date
of grant. No stock options may be exercised within six months from the date of grant, unless
under a Plan exception, nor more than ten years after the date of grant. The Plan provides
for the grant of stock appreciation rights, which allow the holder to receive in cash, stock
or combination thereof, the difference between the exercise price and the fair value of the
stock at date of exercise. The fair value of stock appreciation rights is charged to
compensation expense. The stock appreciation right is not separable from the underlying
stock option or incentive stock option originally granted and can only be exercised in
tandem with the stock option. No stock appreciation rights are attached to any options
outstanding. |
F-17
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
During 2003, the Company approved the 2003 Stock Incentive Plan, or 2003 Plan. Under the
2003 Plan, options available for grant can consist of (i) nonqualified stock options, (ii)
incentive stock options and (iii) restricted stock. The Company has reserved 2,000,000
shares of the Companys common stock $.0001 par value for the 2003 Plan. The Plan limits
participation to employees, independent contractors, and consultants.
The option price for shares of stock subject to this Plan is set by the Compensation Committee of the Board of
Directors at a price not less than market value of the common stock on the date of grant. No
stock options may be exercised within six months from the date of grant, unless under a Plan
exception, nor more than ten years after the date of grant. |
|
|
|
During the year ended December 31, 2005, the Company issued no options under the 1995 Plan
and 310,500 options under the 2003 Plan. During the year ended December 31, 2004, the
Company issued 88,870 options under the 1995 Plan and 578,500 options under the 2003 Plan.
At December 31, 2005, the Company had 1,950,009 stock options outstanding of which 697,609
were issued pursuant to the 1995 Plan and 1,252,400 were issued pursuant to the 2003 Plan.
At December 31, 2004, the Company had 2,935,334 stock options outstanding of which 882,834
were issued pursuant to the 1995 Plan, 1,827,500 were issued pursuant to the 2003 Plan and
225,000 were issued prior to the 1995 Plan. |
|
11. |
|
RELATED PARTIES |
|
|
|
During 2005, 2004 and 2003, the Company received $3,870, $7,004 and $8,520, respectively,
from Pre-Paid Legal Services, Inc. (Pre-Paid Legal), a shareholder, for commissions on
sales of memberships for the services provided by Pre-Paid Legal. As of July 1, 2000, the
Company began offering the Companys employees access to the services provided by Pre-Paid
Legal through an employee benefit option. The Company pays half of the cost for each
employee electing to participate in the plan. During 2005, 2004 and 2003, the Company paid
$4,287, $5,098 and $5,532, respectively, to Pre-Paid Legal for these services. The
Companys former Chairman of the Board and Chief Executive Officer, John W. Hail, is a
director of Pre-Paid Legal. |
|
|
|
During the first quarter of 1998, the Company agreed to loan John W. Hail up to $250,000.
Subsequently, the Company also agreed to loan up to an additional $75,000. In 2000, an
additional $200,000 was approved. On January 1, 2001 the outstanding balance on all the
notes were combined into one note payable in monthly installments. The loans and extension
were unanimously approved by the board of directors. These loans were collateralized by
stock and property, and bear interest at 8% per annum. These loans were fully paid in 2003. |
|
|
|
Also during 2005, 2004 and 2003, the Company paid Mr. Loney, Vice President of Operations,
and his wife sales bonuses of $13,972, $26,173 and $25,460, respectively. These bonuses
were based upon purchases by them and their downline associates in accordance with the
Companys network marketing program applicable to all independent associates in effect at
the time of the sales. Mr. Loneys wife is the daughter of John W. Hail. |
|
12. |
|
INCOME TAXES |
|
|
|
Income taxes for 2005, 2004 and 2003 are comprised of current tax (benefit) expense of $0,
$41,440 and $0 and deferred taxes of $0, $(590,839) and $(1,331,778), respectively. A
reconciliation of the statutory Federal income tax rate to the effective income tax rate for
the years ended December 31, 2005, 2004, and 2003 is as follows: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
2004 |
|
|
2003 |
|
Statutory federal income tax rate |
|
|
(34.0 |
)% |
|
|
(34.0 |
)% |
|
|
(34.0 |
)% |
State tax effective rate |
|
|
(4.0 |
) |
|
|
(4.0 |
) |
|
|
(4.0 |
) |
Permanent differences |
|
|
0.9 |
|
|
|
2.7 |
|
|
|
7.5 |
|
Benefit of graduated tax rates |
|
|
|
|
|
|
0.2 |
|
|
|
0.2 |
|
Prior year assessments finalized |
|
|
|
|
|
|
0.9 |
|
|
|
(2.4 |
) |
Increase in valuation allowance |
|
|
38.0 |
|
|
|
80.4 |
|
|
|
14.0 |
|
Other |
|
|
|
|
|
|
(1.5 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
0.9 |
% |
|
|
44.7 |
% |
|
|
(18.7 |
)% |
|
|
|
|
|
|
|
|
|
|
F-18
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
The change in the total deferred tax net assets from December 31, 2004 to December 31, 2005
was $1,439,058. This difference is allocated as $1,378,987 included in tax expense and
$60,071 classified in shareholders equity. |
|
|
|
Deferred tax liabilities and assets at December 31, 2005 and 2004 are comprised of the
following: |
|
|
|
|
|
|
|
|
|
|
|
December 31, |
|
|
|
2005 |
|
|
2004 |
|
Deferred tax liabilities: |
|
|
|
|
|
|
|
|
Depreciation |
|
$ |
(207,028 |
) |
|
$ |
(424,722 |
) |
|
|
|
|
|
|
|
|
Total deferred tax liabilities |
|
|
(207,028 |
) |
|
|
(474,566 |
) |
|
|
|
|
|
|
|
Deferred tax assets: |
|
|
|
|
|
|
|
|
Unrealized gains |
|
|
10,284 |
|
|
|
(49,844 |
) |
|
|
|
|
|
|
|
|
Goodwill impairment and other intangibles |
|
|
969,620 |
|
|
|
1,282,569 |
|
Net operating loss carryforwards |
|
|
4,068,173 |
|
|
|
2,647,973 |
|
Deferred compensation |
|
|
246,732 |
|
|
|
253,488 |
|
Allowance for doubtful accounts |
|
|
55,655 |
|
|
|
|
|
Inventory |
|
|
70,696 |
|
|
|
41,471 |
|
Allowance for obsolete inventory |
|
|
32,585 |
|
|
|
|
|
Lease abandonment |
|
|
41,603 |
|
|
|
94,095 |
|
Employee benefit accrual |
|
|
24,687 |
|
|
|
35,573 |
|
Other |
|
|
47,566 |
|
|
|
40,912 |
|
Valuation allowance |
|
|
(5,360,573 |
) |
|
|
(3,921,515 |
) |
|
|
|
|
|
|
|
Total deferred tax assets |
|
|
207,028 |
|
|
|
474,566 |
|
|
|
|
|
|
|
|
Net deferred taxes |
|
|
|
|
|
|
|
|
Less current portion of net deferred tax assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Noncurrent portion of deferred tax asset |
|
$ |
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
The valuation allowance increased $1,439,058 for the year ended December 31, 2005. |
|
|
|
On a regular basis, management evaluates all available evidence, both positive and negative,
regarding the ultimate realization of the tax benefits of its deferred tax assets.
Valuation allowances have been established for certain operating loss and credit
carryforwards that reduce deferred tax assets to an amount that will, more likely than not,
be realized. Uncertainties that may affect the realization of these assets include tax law
changes and the future level of product prices and costs. The outlook for determination of
this allowance is calculated on the Companys historical taxable income, its expectations
for the future based on a rolling twelve quarters, and available tax-planning strategies.
Based on this determination, management does not expect that the net deferred tax assets
will be realized as offsets to reversing deferred tax liabilities and as offsets to the tax
consequences of future taxable income. As such, a valuation allowance was provided for the
entire deferred tax asset of approximately $5,300,000 at December 31, 2005. The Company has
net operating loss carryforwards of approximately $10,700,000 available to reduce future
taxable income, which will begin to expire in 2021. |
|
13. |
|
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31, |
|
|
2005 |
|
2004 |
|
2003 |
Cash paid (received) during the year for: |
|
|
|
|
|
|
|
|
|
|
|
|
Interest |
|
$ |
78,395 |
|
|
$ |
8,536 |
|
|
$ |
140,232 |
|
Income taxes refund |
|
|
|
|
|
|
(423,535 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Noncash financing and investing activities: |
|
|
|
|
|
|
|
|
|
|
|
|
Property and equipment acquired by capital lease |
|
|
|
|
|
|
186,409 |
|
|
|
131,807 |
|
Note payable for purchase of vehicle |
|
|
|
|
|
|
|
|
|
|
31,128 |
|
F-19
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
14. |
|
COMMITMENTS, CONTINGENCIES AND GUARANTEES |
|
|
|
Legal Proceedings The Company is currently involved in one pending products liability
suit related to the ingestion of its ephedra-based products. The Company has filed an
answer to the petition. Written discovery and responses have been exchanged, and a limited
number of depositions have been taken. The Company has denied any wrongdoing and intends to
vigorously defend the claim. The amount of damages sought is unknown, but includes
compensatory and punitive damages. The loss of this case could have a material adverse
effect on the financial condition of the Company. |
|
|
|
On February 6, 2006, AMS Health Sciences, Inc. and AMS Manufacturing, Inc. filed a
lawsuit against Truett McCarty, AMS Health Sciences, Inc. and AMS Manufacturing, Inc. v.
Truett McCarty, District Court of Oklahoma County, State of Oklahoma, Case No. CJ-2006-981.
The Company alleges that Mr. McCarty defrauded the Company in the sale of his stock in
Heartland Cup, Inc. by failing to disclose the true amount of Heartland Cup, Inc.s accounts
payable. In addition, The Company alleges that this failure was a breach of the agreement
Mr. McCarty signed. Mr. McCarty has not filed an answer. However, the Company expects him
to do so and to allege a counterclaim against the Company based upon the Companys decision
to withhold further payments to him under a promissory note. The Company denies liability
to Mr. McCarty and will vigorously defend any counterclaim. |
|
|
|
On November 22, 2005, The Company filed a declaratory judgment action against Vaughn Feather
in the Oklahoma County District Court. The case was removed to federal court on December
29, 2005 and is now styled as, AMS Heath Sciences, Inc. v. Vaughn Feather, Western District
of Oklahoma, Case no. CIV-05-1522. The action is a request by the Company for a judicial
declaration that the Company is no longer bound to pay royalties to Feather under the terms
of the previous Royalty Agreement between the Company and Feather pursuant to which the
Company was paying royalties for proprietary products and formulas that the Company believes
to no longer be proprietary. The Company is not seeking damages or any return of previous
royalties; however, a favorable outcome would result in an end to the Companys obligation
to pay royalties to Feather, which typically exceed $10,000 per month. The Company is
awaiting a ruling on Feathers motion to dismiss the action for lack of personal
jurisdiction or to transfer the action to California federal court. |
|
|
|
Recent Regulatory Developments (Unaudited) - As a marketer of products that are
ingested by consumers, we are subject to the risk that one or more of the ingredients in our
products may become the subject of adverse regulatory action. For example, one of the
ingredients in our prior AM-300 product was ephedra, an herb that contains
naturally-occurring ephedrine alkaloids. Our manufacturer used a powdered extract of that
herb when manufacturing AM-300. We marketed AM-300 principally as an aid in weight
management. The extract was an 8% extract, which means that every 100 milligrams of the
powdered extract contains approximately eight milligrams of naturally occurring ephedrine
alkaloids. |
|
|
|
On February 11, 2004, the FDA issued and published in the Federal Register its final rule on
ephedrine-containing supplements, stating that since an unreasonable risk had been
determined, such supplements would be considered adulterated under the FFDCA, and thus may
not be sold. In essence, this final rule (or regulation) imposed a national ban on
ephedrine supplements. The effective date of this regulation was April 12, 2004. We
complied with the new regulation and ceased all sales and advertisement of AM-300 and any
other ephedra-containing supplement as of April 12, 2004. The FDA has continuously and
vigilantly enforced this total ban on ephedra-containing supplements. As recently as
December 6, 2005, the FDA seized yet another shipment of such supplements distributed by
companies in Gainesville, Texas and Eugene, Oregon. |
|
|
|
For the future, the FDA and also Congress have indicated that they will consider whether
alternatives to ephedra, other weight loss and energy stimulants (such as bitter orange),
similarly carry an unreasonable risk to the central nervous system, and thus to human
health. These proposals to limit stimulant ingredients, if finalized, may necessitate
reformulations of some of our weight loss products. |
|
|
|
Also, in the aftermath of the ephedra ban, on April 22, 2004, in comments before a
scientific meeting, then Acting FDA Commissioner, Lester Crawford (and for some months
during 2005, FDA Commissioner),
|
F-20
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
outlined what an FDA press release termed a science-based plan for dietary supplement
enforcement. The press release went on to say that the agency would soon provide further
details about its plan to ensure that the consumer protection provisions of DSHEA are used
effectively and appropriately. Referring to its recent rulemaking on ephedra, the FDA also
stated that it expects to evaluate the available pharmacology, published literature ...,
evidence-based reviews, and adverse event information of individual dietary supplements.
Soon afterwards, this promised FDA document was issued, with the title Regulatory Strategy
for the Further Implementation and Enforcement of the Dietary Supplement Health and
Education Act of 1994. No new regulations or proposed rules pursuant to this strategy have
yet been issued, except that the FDA has recently welcomed and received comments from the
industry for a better procedure for the FDA to review a companys safety information as to a
new dietary ingredient, or NDI, in an NDI Notification. The final Guidance document
concerning NDI Notifications has not yet been issued by the FDA. At this time, NDI
Notifications are not required for any AMS products. |
|
|
|
Anti-DSHEA Proposed Legislation. Finally, as the press, the FDA, and members of Congress
and of the supplement industry have all predicted, the very issuance of the final rule on
ephedra has caused Congress to rethink DSHEA, specifically as to how safety in supplements
may be ensured, and also as to whether specific categories of dietary ingredients should not
be permitted at all. In particular, there is growing sentiment (including from one herbal
trade association) to make Adverse Event Reporting (AERs) mandatory for all manufacturers
and marketers of dietary supplements, so that the FDA may take action more quickly than it
did on ephedra, when a harmful herb or other ingredient is suspected. Since February 2003,
there have been several bills proposed in Congress that would amend DSHEA, make safety
safeguards stricter, even approaching the rigor and reporting required for FDA-regulated
drugs. Some examples are as follows: |
|
|
|
S. 722 The Dietary Supplement Safety Act was introduced by Senator Richard
Durbin in March 2003, and would greatly undermine DSHEA, especially Section 4 regarding
safety, giving the FDA new powers of oversight and blanket authority over whole categories
of supplements, including stimulants. Stimulants are used in many weight loss products,
including some of our supplements. To the best of our knowledge, this bill and the bill
described below (though perhaps under different numbers) are still pending. |
|
|
|
H.R. 3377: Beginning on October 28, 2003, Senator McCain chaired Senate
Hearings on whether DSHEA adequately protects consumers. Also on October 28, Cong. Susan
Davis and Cong. Henry Waxman introduced The Dietary Supplement Access and Awareness Act,
H.R. 3377, purporting to be about safety and access for consumers to supplements, but
actually recommending severe restrictions and dramatic redefinitions of what constitutes a
dietary supplement. This bill would impose several requirements for supplements, including
unprecedented FDA pre-approval as well as strict AER reporting, and excludes only
vitamins and minerals from such new requirements. Like S. 722, this bill would reverse the
safety burden of proof in Section 4 of DSHEA (one of the industrys victories in 1994), and
instead require the manufacturer to demonstrate safety, rather than the burden being on the
FDA to show imminent hazard or unreasonable risk. |
|
|
|
So far, neither of the bills above, nor any other proposed legislation that would undermine
DSHEA or impose additional requirements on supplements, have passed. With the help of our
regulatory attorney, we will continue to monitor these anti-DSHEA bills, and determine if
any of them become a serious threat to our business. In addition, the two major trade
associations of the dietary supplement industrythe American Herbal Products Association, or
AHPA, and the National Natural Foods Association, or NNFAhave both been actively lobbying
against any bills that would require or lead to unreasonable restraints on the manufacture,
labeling, and marketing of dietary supplements. |
|
|
|
Product Liability - We, like other marketers of products that are intended to be ingested,
face an inherent risk of exposure to product liability claims in the event that the use of
our products results in injury. We have evaluated the risk associated with consumption of
our current products and, based on the indemnification given by our manufacturers and the
current product mix, we cancelled our product liability insurance in August 2005. Products
containing ephedra, which represented 9.7% of our 2004 net sales, were not covered by our
product liability insurance. All of our product manufacturers carry product
|
F-21
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
liability insurance, which covers our products. Such product claims against us could
adversely affect product sales, results of our operations, financial condition and the value
of our common stock. |
|
|
|
Employment Agreement In November 2004, the Company entered into a written employment
agreement with David J. DArcangelo, the Companys President. The contract was for a
one-year term, commencing November 25, 2004, to be reviewed annually unless either party
elected not to renew. The contract called for a base salary of $230,000 per year. The
employment agreement also contained provisions for graduated severance payments of up to 12
months of base pay, based on length of employment, if the Company terminates Mr. DArcangelo
without cause, disability payments, and a non-competition agreement preventing Mr.
DArcangelo from engaging in a business deemed similar to the Companys for a period of one
year from the cessation of his employment. On May 10, 2005 Mr. DArcangelo resigned as
President of the Company. Severance was paid under the terms of his contract. |
|
|
|
On August 9, 2005, the Company entered into a written employment agreement with Steven G.
Kochen, the new President of the Company. The contract provides, among other things, that
Mr. Kochen will serve as the President of the Company for an initial term of two years,
followed by two successive one-year terms unless either party elects not to renew. The
contract calls for a base salary of $200,000 per year and eligibility to receive certain
performance-based incentive bonuses. Additionally, the Company agreed to use its best
efforts to obtain any shareholder or regulatory authority necessary to grant Mr. Kochen up
to 250,000 stock options. In the event the Company terminates Mr. Kochen without cause, he
will receive certain severance pay based upon his length of employment with the Company. On
January 5, 2006, the Company announced the termination of Mr. Kochen. Severance was paid
under the terms of his contract. |
|
15. |
|
DEFERRED COMPENSATION |
|
|
|
On November 4, 2003, the Company entered into a written employment agreement with John W.
Hail, former Chief Executive Officer, or the Executive. The contract was for an initial
two-year term, commencing November 4, 2003, and may be extended for up to five successive
one-year terms if the Company and the Executive agree in writing. The contract calls for a
base salary of $249,600 per year, a monthly bonus payment of one percent (1%) of the
Companys gross revenues, and a discretionary year-end bonus determined by a majority vote
of the Board of Directors. The agreement also contains provisions for graduated severance
payments if the Company terminates the Executive without cause. In addition, if the
employment period is extended beyond November 11, 2005, the monthly bonus payment will cease
and be replaced by a fixed supplemental payment to the Executive, which will be in a gross
amount necessary to cover all federal, state and local taxes and all employment taxes, and
pay a net amount of $7,000 per month. In 2003, the Company made an accrual for the
discounted value of the fixed supplemental payments as a distribution and administrative
expense. At December 31, 2005, the discounted value of those fixed supplemental payments
was approximately $615,000. The Company accrues the expense in distribution and
administrative expenses. On November 14, 2005, the Company extended Mr. Hails employment
for a period of one year, in agreement with the original terms of his employment agreement.
On February 16, 2006, the Company announced Mr. Hails retirement as Chief Executive Officer
and Chairman of the Board. |
|
16. |
|
ACQUISITIONS |
|
|
|
On September 9, 2005 the Company entered into a definitive Stock Purchase Agreement with
Heartland Cup, Inc. (Heartland Cup) and its principal shareholder for the purchase of all
of the principal shareholders stock in Heartland Cup. Upon closing of the Stock Purchase
Agreement, the Company acquired 2,000,000 shares, or approximately 83% of the outstanding
capital stock of Heartland Cup, for 200,000 shares of the Companys common stock. In
addition, the Company paid approximately $200,000 to acquire the remaining shares of
Heartland Cup. |
|
|
|
The Heartland Cup acquisition was accounted for as a purchase under Statement of Financial
Accounting Standard No. 141 (SFAS No. 141). In accordance with SFAS No. 141 , the Company
allocated the purchase price of the acquisition based on the fair value of the assets
acquired and liabilities assumed. Goodwill resulting from the Heartland Cup acquisition was
reserved for impairment. The purchase price allocation for the acquisition is preliminary
and further refinements are likely to be made based on final
|
F-22
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
valuation studies. Management does not believe that the final purchase price allocation
will produce materially different results than those reflected herein. |
|
|
|
Below are pro forma financial statements as if the Company and Heartland were consolidated
for the full year ended December 31, 2005. |
PRO FORMA CONSOLIDATED BALANCE SHEET
AT DECEMBER 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pro Forma |
|
|
|
|
|
|
AMS |
|
|
Heartland |
|
|
Adjustments |
|
|
Consolidated |
|
ASSETS |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT ASSETS: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
|
$ |
118,805 |
|
|
$ |
1,504 |
|
|
$ |
|
|
|
$ |
120,309 |
|
Marketable securities, available for sale, at
fair value |
|
|
278,131 |
|
|
|
|
|
|
|
|
|
|
|
278,131 |
|
Receivables net of allowance for doubtful
accounts |
|
|
59,845 |
|
|
|
344,837 |
|
|
|
|
|
|
|
404,682 |
|
Inventory |
|
|
860,541 |
|
|
|
161,490 |
|
|
|
|
|
|
|
1,022,031 |
|
Other assets |
|
|
24,542 |
|
|
|
|
|
|
|
|
|
|
|
24,542 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current assets |
|
|
1,341,864 |
|
|
|
507,831 |
|
|
|
|
|
|
|
1,849,695 |
|
RESTRICTED SECURITIES |
|
|
75,477 |
|
|
|
|
|
|
|
|
|
|
|
75,477 |
|
RECEIVABLES |
|
|
44,016 |
|
|
|
|
|
|
|
|
|
|
|
44,016 |
|
PROPERTY AND EQUIPMENT, net |
|
|
3,131,092 |
|
|
|
1,375,792 |
|
|
|
|
|
|
|
4,506,884 |
|
INVESTMENT IN SUBSIDIARY |
|
|
533,000 |
|
|
|
|
|
|
|
(533,000 |
) |
|
|
|
|
INTERCOMPANY |
|
|
1,652,481 |
|
|
|
|
|
|
|
(1,652,481 |
) |
|
|
|
|
COVENANTS NOT TO COMPETE and other intangibles,
net |
|
|
402,370 |
|
|
|
|
|
|
|
|
|
|
|
402,370 |
|
OTHER ASSETS |
|
|
26,795 |
|
|
|
|
|
|
|
|
|
|
|
26,795 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
TOTAL |
|
$ |
7,207,095 |
|
|
$ |
1,883,623 |
|
|
$ |
(2,185,481 |
) |
|
$ |
6,905,235 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND SHAREHOLDERS EQUITY |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT LIABILITIES: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable |
|
$ |
391,615 |
|
|
$ |
145,807 |
|
|
$ |
|
|
|
$ |
537,422 |
|
Bank overdraft |
|
|
203,500 |
|
|
|
|
|
|
|
|
|
|
|
203,500 |
|
Accrued commissions and bonuses |
|
|
254,828 |
|
|
|
|
|
|
|
|
|
|
|
254,828 |
|
Accrued other expenses |
|
|
355,400 |
|
|
|
30,329 |
|
|
|
|
|
|
|
385,729 |
|
Accrued sales tax liability |
|
|
40,980 |
|
|
|
|
|
|
|
|
|
|
|
40,980 |
|
Notes payable |
|
|
|
|
|
|
412,681 |
|
|
|
|
|
|
|
412,681 |
|
Capital lease obligations |
|
|
76,650 |
|
|
|
3,500 |
|
|
|
|
|
|
|
80,150 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
1,322,974 |
|
|
|
592,317 |
|
|
|
|
|
|
|
1,915,290 |
|
LONG-TERM LIABILITIES: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Notes payable |
|
|
|
|
|
|
1,670,688 |
|
|
|
|
|
|
|
1,670,688 |
|
Capital lease obligations |
|
|
74,320 |
|
|
|
|
|
|
|
|
|
|
|
74,320 |
|
Deferred compensation |
|
|
615,301 |
|
|
|
|
|
|
|
|
|
|
|
615,301 |
|
Lease abandonment liability |
|
|
110,249 |
|
|
|
|
|
|
|
|
|
|
|
110,249 |
|
Intercompany |
|
|
|
|
|
|
1,652,481 |
|
|
$ |
(1,652,481 |
) |
|
|
|
|
Total liabilities |
|
|
2,122,844 |
|
|
|
3,915,485 |
|
|
|
(1,652,481 |
) |
|
|
4,385,848 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
COMMITMENTS AND CONTENGENCIES |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
SHAREHOLDERS EQUITY: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common stock |
|
|
835 |
|
|
|
225,000 |
|
|
|
(225,000 |
) |
|
|
835 |
|
Paid-in capital |
|
|
21,870,872 |
|
|
|
|
|
|
|
|
|
|
|
21,870,872 |
|
F-23
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pro Forma |
|
|
|
|
|
|
AMS |
|
|
Heartland |
|
|
Adjustments |
|
|
Consolidated |
|
Notes receivable for exercise of options |
|
|
(31,000 |
) |
|
|
|
|
|
|
|
|
|
|
(31,000 |
) |
Accumulated deficit |
|
|
(14,109,461 |
) |
|
|
(2,256,863 |
) |
|
|
(308,000 |
) |
|
|
(16,674,324 |
) |
Accumulated other comprehensive gain, net of tax |
|
|
(14,215 |
) |
|
|
|
|
|
|
|
|
|
|
(14,215 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total capital and accumulated deficit |
|
|
7,717,031 |
|
|
|
(2,031,863 |
) |
|
|
(533,000 |
) |
|
|
5,152,168 |
|
Less: cost of treasury stock |
|
|
(2,632,779 |
) |
|
|
|
|
|
|
|
|
|
|
(2,632,779 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total shareholders equity |
|
|
5,084,252 |
|
|
|
(2,031,863 |
) |
|
|
(533,000 |
) |
|
|
2,519,389 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
TOTAL |
|
$ |
7,207,096 |
|
|
$ |
1,883,622 |
|
|
$ |
(2,185,481 |
) |
|
$ |
6,905,237 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED DECEMBER 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pro Forma |
|
|
|
|
|
|
AMS |
|
|
Heartland |
|
|
Adjustments |
|
|
Consolidated |
|
Revenues: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net marketing sales |
|
$ |
12,606,325 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
12,606,325 |
|
Net manufacturing sales |
|
|
|
|
|
|
2,147,388 |
|
|
|
|
|
|
|
2,147,388 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total net revenues |
|
|
12,606,325 |
|
|
|
2,147,388 |
|
|
|
|
|
|
|
14,753,713 |
|
Cost of sales: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketing cost of sales |
|
|
9,516,849 |
|
|
|
|
|
|
|
|
|
|
|
9,516,849 |
|
Manufacturing cost of sales |
|
|
|
|
|
|
1,931,630 |
|
|
|
|
|
|
|
1,931,630 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total cost of sales |
|
|
9,516,849 |
|
|
|
1,931,630 |
|
|
|
|
|
|
|
11,448,479 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
3,089,476 |
|
|
|
215,758 |
|
|
|
|
|
|
|
3,305,234 |
|
Marketing, distribution and
administrative expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketing |
|
|
1,169,768 |
|
|
|
|
|
|
|
|
|
|
|
1,169,768 |
|
Distribution and administrative |
|
|
5,247,026 |
|
|
|
1,618,121 |
|
|
|
|
|
|
|
6,865,147 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total marketing, distribution
and administrative expenses |
|
|
6,416,794 |
|
|
|
1,618,121 |
|
|
|
|
|
|
|
8,034,914 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations |
|
|
(3,327,318 |
) |
|
|
(1,402,363 |
) |
|
|
|
|
|
|
(4,729,680 |
) |
Other income (expense): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest and dividends, net |
|
|
58,766 |
|
|
|
(106,909 |
) |
|
|
|
|
|
|
(48,143 |
) |
Other income
(expense) |
|
|
147,111 |
|
|
|
|
|
|
|
|
|
|
|
147,111 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other
income (expense) |
|
|
205,877 |
|
|
|
(106,909 |
) |
|
|
|
|
|
|
98,967 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before taxes |
|
|
(3,121,441 |
) |
|
|
(1,509,272 |
) |
|
|
|
|
|
|
(4,630,713 |
) |
Income tax expense |
|
|
32,835 |
|
|
|
|
|
|
|
|
|
|
|
32,835 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET LOSS |
|
$ |
(3,154,276 |
) |
|
$ |
(1,509,272 |
) |
|
$ |
|
|
|
$ |
(4,663,548 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
17. |
|
REPORTABLE SEGMENTS |
|
|
|
The Company manages its business by type of business activity. The Company evaluates its
operating segments performance based on earnings or loss from operations before income
taxes. The Company had two reportable segments for the year ended December 31, 2005:
Marketing and Manufacturing. |
|
|
|
The Marketing Segment is the core segment of the Companys business. This segment markets a
line of products through a network marketing organization in which independent associates
purchase products for resale to retail customers as well as for their own personal use. The
Manufacturing Segment consists of Heartland Cup, Inc., an acquisition by the Company
effective in September 2005. Heartland Cup is a manufacturer of foam cups, producing and
distributing various sizes of foam drink cups marketed through various government contracts,
wholesalers and retail sales. |
F-24
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
The following is certain financial information regarding the Companys reportable segments: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketing |
|
Manufacturing |
|
Total |
For the year ended December
31, 2005: |
|
|
|
|
|
|
|
|
|
|
|
|
Revenue from external customers |
|
$ |
12,606,325 |
|
|
$ |
1,094,999 |
|
|
$ |
13,701,324 |
|
Interest income |
|
|
72,978 |
|
|
|
|
|
|
|
72,978 |
|
Interest expense |
|
|
14,212 |
|
|
|
61,925 |
|
|
|
76,137 |
|
Depreciation and amortization |
|
|
759,198 |
|
|
|
36,952 |
|
|
|
796,150 |
|
Segments losses |
|
|
3,154,276 |
|
|
|
611,807 |
|
|
|
3,766,083 |
|
Segment assets |
|
|
5,021,614 |
|
|
|
1,883,623 |
|
|
|
6,905,237 |
|
Expenditures for segment assets |
|
|
220,269 |
|
|
|
416,371 |
|
|
|
636,640 |
|
|
|
A reconciliation of the segment reporting information for the year ended December 31, 2005,
to the consolidated results is as follows: |
|
|
|
|
|
Revenue |
|
|
|
|
Total revenue for reportable segments |
|
$ |
13,701,324 |
|
Elimination of intersegment revenue |
|
|
|
|
|
|
|
|
Total consolidated revenue |
|
$ |
13,701,324 |
|
|
|
|
|
|
|
|
|
|
Net loss |
|
|
|
|
Total loss for reportable segments |
|
$ |
3,766,083 |
|
Elimination of intersegment losses |
|
|
|
|
|
|
|
|
Total consolidated net loss |
|
$ |
3,766,083 |
|
|
|
|
|
|
|
|
|
|
Assets |
|
|
|
|
Total assets for segment reporting |
|
$ |
6,905,237 |
|
Other assets not included in segment reporting |
|
|
|
|
|
|
|
|
Total consolidated assets |
|
$ |
6,905,237 |
|
|
|
|
|
F-25
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
18. |
|
QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) |
|
|
|
The following is a summary of the quarterly results of operations for the years ended
December 31, 2005 and 2004. |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2005 |
|
|
|
December 31 |
|
|
September 30 |
|
|
June 30 |
|
|
March 31 |
|
Revenues |
|
$ |
3,285,771 |
|
|
$ |
2,866,476 |
|
|
$ |
3,528,319 |
|
|
$ |
4,020,758 |
|
Costs and expenses |
|
|
4,380,812 |
|
|
|
3,398,176 |
|
|
|
4,320,221 |
|
|
|
5,335,363 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income
taxes |
|
|
(1,095,041 |
) |
|
|
(531,700 |
) |
|
|
(791,902 |
) |
|
|
(1,314,605 |
) |
Income tax expense
(benefit) |
|
|
49,305 |
|
|
|
(17,832 |
) |
|
|
(22,456 |
) |
|
|
23,818 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(1,144,346 |
) |
|
$ |
(513,868 |
) |
|
$ |
(769,446 |
) |
|
$ |
(1,338,423 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per common
share basic |
|
$ |
(0.15 |
) |
|
$ |
(0.07 |
) |
|
$ |
(0.11 |
) |
|
$ |
(0.19 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per common
share assuming
dilution |
|
$ |
(0.15 |
) |
|
$ |
(0.07 |
) |
|
$ |
(0.11 |
) |
|
$ |
(0.19 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per share is computed independently for each of the quarters presented; therefore,
the sum of the quarterly loss per share does not necessarily equal the total for the year. |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2004 |
|
|
|
December 31 |
|
|
September 30 |
|
|
June 30 |
|
|
March 31 |
|
Revenues |
|
$ |
4,950,225 |
|
|
$ |
4,522,683 |
|
|
$ |
4,257,340 |
|
|
$ |
4,473,249 |
|
Costs and expenses |
|
|
6,669,372 |
|
|
|
6,008,093 |
|
|
|
5,472,624 |
|
|
|
4,384,613 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before
income taxes |
|
|
(1,719,147 |
) |
|
|
(1,485,410 |
) |
|
|
(1,215,284 |
) |
|
|
88,636 |
|
Income tax expense
(benefit) |
|
|
2,638,357 |
|
|
|
(463,753 |
) |
|
|
(272,910 |
) |
|
|
34,568 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
(loss) |
|
$ |
(4,357,504 |
) |
|
$ |
(1,021,657 |
) |
|
$ |
(942,374 |
) |
|
$ |
54,068 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per
common share basic |
|
$ |
(0.64 |
) |
|
$ |
(0.15 |
) |
|
$ |
(0.14 |
) |
|
$ |
0.01 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per
common share
assuming dilution |
|
$ |
(0.64 |
) |
|
$ |
(0.15 |
) |
|
$ |
(0.14 |
) |
|
$ |
0.01 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) per share is computed independently for each of the quarters presented;
therefore, the sum of the quarterly income (loss) per share does not necessarily equal the
total for the year. |
|
19. |
|
YEAR-END ADJUSTMENTS |
|
|
|
The Company made certain year-end adjustments in 2005 resulting from the allowance for
doubtful accounts and inventory write off and obsolescence reserve. These adjustments,
after applicable income tax effects, increased net loss as follows: |
|
|
|
|
|
Allowance for doubtful accounts |
|
$ |
175,172 |
|
Inventory write off and obsolescence reserve |
|
|
153,913 |
|
|
|
|
|
|
|
$ |
329,085 |
|
|
|
|
|
F-26
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2005, 2004 AND 2003
|
|
These adjustments increased 2005 fourth quarter basic loss per share by $0.04. |
|
20. |
|
VALUATION AND QUALIFYING ACCOUNTS |
|
|
|
The table below shows the beginning balance, activity and ending balance for the Companys
reserves and allowances deducted from asset accounts: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additions |
|
|
|
|
|
|
|
|
Balance at |
|
Charged to |
|
Charged to |
|
|
|
|
|
|
|
|
Beginning of |
|
Costs and |
|
Other |
|
|
|
|
|
Balance at |
Description |
|
Period |
|
Expenses |
|
Accounts |
|
Deductions |
|
End of Period |
YEAR ENDED DECEMBER 31, 2005: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reserves and allowances deducted
from asset accounts: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for doubtful accounts |
|
$ |
|
|
|
$ |
175,172 |
|
|
$ |
|
|
|
$ |
|
|
|
$ |
175,172 |
|
Allowance for obsolete inventory |
|
|
|
|
|
|
153,913 |
|
|
|
|
|
|
|
|
|
|
|
153,913 |
|
Allowance for deferred tax assets |
|
|
3,921,515 |
|
|
|
|
|
|
|
1,450,323 |
|
|
|
|
|
|
|
5,371,838 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
YEAR ENDED DECEMBER 31, 2004: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reserves and allowances deducted
from asset accounts: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for deferred tax assets |
|
|
441,000 |
|
|
|
3,480,515 |
|
|
|
|
|
|
|
|
|
|
|
3,921,515 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
YEAR ENDED DECEMBER 31, 2003: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reserves and allowances deducted
from asset accounts: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for obsolete inventory |
|
|
116,143 |
|
|
|
|
|
|
|
|
|
|
$ |
116,143 |
|
|
|
|
|
Allowance for deferred tax assets |
|
|
|
|
|
|
441,000 |
|
|
|
|
|
|
|
|
|
|
|
441,000 |
|
* * * * * *
F-27
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 2006 AND DECEMBER 31, 2005
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2006 |
|
|
2005 |
|
|
|
(Unaudited) |
|
|
|
|
|
ASSETS |
|
|
|
|
|
|
|
|
CURRENT ASSETS: |
|
|
|
|
|
|
|
|
Cash |
|
$ |
454,330 |
|
|
$ |
118,805 |
|
Marketable securities, available for sale, at fair value |
|
|
931,158 |
|
|
|
278,131 |
|
Receivables |
|
|
71,284 |
|
|
|
59,846 |
|
Inventory |
|
|
776,053 |
|
|
|
860,540 |
|
Other assets |
|
|
62,225 |
|
|
|
24,542 |
|
Current assets of discontinued operations |
|
|
377,395 |
|
|
|
507,831 |
|
|
|
|
|
|
|
|
Total current assets |
|
|
2,672,445 |
|
|
|
1,849,695 |
|
RESTRICTED SECURITIES |
|
|
76,734 |
|
|
|
75,477 |
|
RECEIVABLES |
|
|
36,045 |
|
|
|
44,016 |
|
PROPERTY AND EQUIPMENT, net |
|
|
2,954,798 |
|
|
|
3,131,092 |
|
COVENANTS NOT TO COMPETE and other intangibles, net |
|
|
344,007 |
|
|
|
402,370 |
|
OTHER ASSETS |
|
|
503,816 |
|
|
|
26,793 |
|
NONCURRENT ASSETS OF DISCONTINUED OPERATIONS |
|
|
1,310,948 |
|
|
|
1,375,792 |
|
|
|
|
|
|
|
|
TOTAL |
|
$ |
7,898,793 |
|
|
$ |
6,905,235 |
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY |
|
|
|
|
|
|
|
|
CURRENT LIABILITIES: |
|
|
|
|
|
|
|
|
Accounts payable |
|
$ |
288,482 |
|
|
$ |
391,615 |
|
Bank overdraft |
|
|
|
|
|
|
203,500 |
|
Accrued commissions and bonuses |
|
|
253,792 |
|
|
|
254,828 |
|
Accrued other expenses |
|
|
514,980 |
|
|
|
355,398 |
|
Accrued sales tax liability |
|
|
146,115 |
|
|
|
40,980 |
|
Deferred compensation |
|
|
127,447 |
|
|
|
|
|
Note payable |
|
|
250,000 |
|
|
|
|
|
Capital lease obligations |
|
|
124,832 |
|
|
|
76,650 |
|
Current liabilities of discontinued operations |
|
|
520,724 |
|
|
|
592,317 |
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
2,226,372 |
|
|
|
1,915,288 |
|
LONG-TERM LIABILITIES: |
|
|
|
|
|
|
|
|
Note payable |
|
|
676,053 |
|
|
|
|
|
Capital lease obligations |
|
|
126,257 |
|
|
|
74,320 |
|
Deferred compensation |
|
|
446,065 |
|
|
|
615,301 |
|
Lease abandonment liability |
|
|
52,843 |
|
|
|
110,249 |
|
Liabilities of discontinued operations |
|
|
1,492,860 |
|
|
|
1,670,688 |
|
|
|
|
|
|
|
|
Total liabilities |
|
|
5,020,450 |
|
|
|
4,385,846 |
|
|
|
|
|
|
|
|
COMMITMENTS AND CONTINGENCIES (NOTE 8) |
|
|
|
|
|
|
|
|
STOCKHOLDERS EQUITY |
|
|
|
|
|
|
|
|
Common stock $.0001 par value; authorized 495,000,000 shares; issued
8,632,053 and 8,344,803 shares, outstanding 8,053,824 and 7,766,574 shares, respectively |
|
|
860 |
|
|
|
835 |
|
Paid-in capital |
|
|
23,320,702 |
|
|
|
21,870,872 |
|
Notes receivable for exercise of options |
|
|
(31,000 |
) |
|
|
(31,000 |
) |
Accumulated deficit |
|
|
(17,779,440 |
) |
|
|
(16,674,324 |
) |
Accumulated other comprehensive income, net of tax |
|
|
|
|
|
|
(14,215 |
) |
|
|
|
|
|
|
|
Total capital and accumulated deficit |
|
|
5,511,122 |
|
|
|
5,152,168 |
|
Less cost of treasury stock (591,595 shares) |
|
|
(2,632,779 |
) |
|
|
(2,632,779 |
) |
|
|
|
|
|
|
|
Total stockholders equity |
|
|
2,878,343 |
|
|
|
2,519,389 |
|
|
|
|
|
|
|
|
TOTAL |
|
$ |
7,898,793 |
|
|
$ |
6,905,235 |
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
F-28
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE PERIODS ENDED SEPTEMBER 30, 2006 AND 2005
(UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2006 |
|
|
2005 |
|
|
2006 |
|
|
2005 |
|
Net sales |
|
$ |
2,323,583 |
|
|
$ |
2,626,762 |
|
|
$ |
7,073,271 |
|
|
$ |
10,175,839 |
|
Cost of sales |
|
|
1,422,788 |
|
|
|
1,765,727 |
|
|
|
4,475,427 |
|
|
|
7,700,535 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
900,795 |
|
|
|
861,035 |
|
|
|
2,597,844 |
|
|
|
2,475,304 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketing and administrative expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Marketing |
|
|
211,127 |
|
|
|
150,254 |
|
|
|
454,122 |
|
|
|
735,210 |
|
Administrative |
|
|
1,134,913 |
|
|
|
1,210,891 |
|
|
|
2,589,997 |
|
|
|
4,394,192 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total marketing and administrative expenses |
|
|
1,346,040 |
|
|
|
1,361,145 |
|
|
|
3,044,119 |
|
|
|
5,129,402 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from operations |
|
|
(445,245 |
) |
|
|
(500,110 |
) |
|
|
(446,275 |
) |
|
|
(2,654,098 |
) |
Other income (expense): |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest and dividends, net |
|
|
(145,095 |
) |
|
|
17,304 |
|
|
|
(136,007 |
) |
|
|
39,861 |
|
Other, net |
|
|
7,041 |
|
|
|
3,071 |
|
|
|
51,000 |
|
|
|
27,996 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other income (expense) |
|
|
(138,054 |
) |
|
|
20,375 |
|
|
|
(85,007 |
) |
|
|
67,857 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from continuing operations before taxes |
|
|
(583,299 |
) |
|
|
(479,735 |
) |
|
|
(531,282 |
) |
|
|
(2,586,241 |
) |
Income tax benefit |
|
|
|
|
|
|
(17,833 |
) |
|
|
|
|
|
|
(16,470 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from continuing operations |
|
|
(583,299 |
) |
|
|
(461,902 |
) |
|
|
(531,282 |
) |
|
|
(2,569,771 |
) |
Discontinued Operations (Note 13) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from discontinued operations, net of tax |
|
|
(52,475 |
) |
|
|
(51,966 |
) |
|
|
(573,707 |
) |
|
|
(51,966 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss |
|
$ |
(635,774 |
) |
|
$ |
(513,868 |
) |
|
$ |
(1,104,989 |
) |
|
$ |
(2,621,737 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Loss per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from continuing operations |
|
$ |
(.07 |
) |
|
$ |
(.06 |
) |
|
$ |
(.07 |
) |
|
$ |
(.35 |
) |
Loss from discontinued operations, net of tax |
|
|
(.01 |
) |
|
|
(.01 |
) |
|
|
(.07 |
) |
|
|
(.01 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per share |
|
$ |
(.08 |
) |
|
$ |
(.07 |
) |
|
$ |
(.14 |
) |
|
$ |
(.36 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from continuing operations |
|
$ |
(.07 |
) |
|
$ |
(.06 |
) |
|
$ |
(.07 |
) |
|
$ |
(.35 |
) |
Loss from discontinued operations, net of tax |
|
|
(.01 |
) |
|
|
(.01 |
) |
|
|
(.07 |
) |
|
|
(.01 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per share |
|
$ |
(.08 |
) |
|
$ |
(.07 |
) |
|
$ |
(.14 |
) |
|
$ |
(.36 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Shares used in computing net loss per share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic |
|
|
7,828,322 |
|
|
|
7,472,039 |
|
|
|
7,819,072 |
|
|
|
7,226,969 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted |
|
|
7,828,322 |
|
|
|
7,472,039 |
|
|
|
7,819,072 |
|
|
|
7,226,969 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
F-29
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
(UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
Nine months ended |
|
|
|
September 30, |
|
|
|
2006 |
|
|
2005 |
|
CASH FLOWS FROM OPERATING ACTIVITIES: |
|
|
|
|
|
|
|
|
Net loss |
|
|
($1,104,989 |
) |
|
|
($2,621,737 |
) |
|
|
|
|
|
|
|
|
|
Adjustments to reconcile net loss to net cash provided by (used in) operating activities: |
|
|
|
|
|
|
|
|
Net loss from discontinued operations |
|
|
573,707 |
|
|
|
51,966 |
|
Depreciation and amortization |
|
|
533,110 |
|
|
|
591,631 |
|
Amortization of note valuation discount |
|
|
102,956 |
|
|
|
|
|
Bad debt expense (recovery) |
|
|
(27,789 |
) |
|
|
|
|
Employee compensation recognized upon exercise or grant of stock options |
|
|
14,682 |
|
|
|
66,602 |
|
Gain on sale of assets |
|
|
(36,927 |
) |
|
|
(5,468 |
) |
(Gain)/Loss on sale of marketable securities |
|
|
108 |
|
|
|
(9,804 |
) |
Deferred taxes |
|
|
|
|
|
|
(16,469 |
) |
Changes in operating assets and liabilities : |
|
|
|
|
|
|
|
|
Receivables |
|
|
(17,738 |
) |
|
|
119,615 |
|
Inventory |
|
|
84,487 |
|
|
|
605,531 |
|
Other assets |
|
|
(27,776 |
) |
|
|
(6,850 |
) |
Accounts payable and accrued expenses |
|
|
159,298 |
|
|
|
(489,720 |
) |
Lease abandonment liability |
|
|
(56,156 |
) |
|
|
33,836 |
|
Deferred compensation |
|
|
(41,789 |
) |
|
|
33,466 |
|
Net operating activities of discontinued operations |
|
|
(520,464 |
) |
|
|
(294,744 |
) |
|
|
|
|
|
|
|
Net cash used in operating activities |
|
|
(365,280 |
) |
|
|
(1,942,145 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES: |
|
|
|
|
|
|
|
|
Purchases of property and equipment |
|
|
(149,097 |
) |
|
|
(212,437 |
) |
Sales of property and equipment |
|
|
84,512 |
|
|
|
283,907 |
|
Receipts of notes receivable |
|
|
42,060 |
|
|
|
7,001 |
|
Acquisition of new business, net of cash acquired |
|
|
|
|
|
|
(974,351 |
) |
Purchases of marketable securities, available for sale |
|
|
(1,062,666 |
) |
|
|
(2,575,193 |
) |
Sales of marketable securities, available for sale |
|
|
422,488 |
|
|
|
4,215,524 |
|
Net investing activities of discontinued operations |
|
|
43,926 |
|
|
|
(85,161 |
) |
|
|
|
|
|
|
|
Net cash provided by (used in) investing activities |
|
|
(618,777 |
) |
|
|
659,290 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES: |
|
|
|
|
|
|
|
|
Bank overdraft |
|
|
(203,500 |
) |
|
|
(395,936 |
) |
Proceeds from issuance of common stock |
|
|
|
|
|
|
1,146,752 |
|
Deferred financing fees paid |
|
|
(160,000 |
) |
|
|
|
|
Net proceeds from issuance of notes |
|
|
1,897,000 |
|
|
|
|
|
Principal payment on capital lease obligations |
|
|
(62,480 |
) |
|
|
(149,547 |
) |
Net financing activities of discontinued operations |
|
|
(151,438 |
) |
|
|
379,905 |
|
|
|
|
|
|
|
|
Net cash provided by financing activities |
|
|
1,319,582 |
|
|
|
981,174 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET DEC/INC IN CASH AND CASH EQUIVALENTS |
|
|
335,525 |
|
|
|
(301,681 |
) |
CASH AND CASH EQUIVALENTS, BEGINNING |
|
|
118,805 |
|
|
|
588,909 |
|
|
|
|
|
|
|
|
CASH AND CASH EQUIVALENTS, ENDING |
|
|
454,330 |
|
|
|
287,228 |
|
SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING AND FINANCING ACTIVITIES: |
|
|
|
|
|
|
|
|
Fixed assets acquired through capital lease financing |
|
|
178,261 |
|
|
|
|
|
Value of warrants issued to lenders recorded as debt discount |
|
|
588,452 |
|
|
|
|
|
Value of beneficial conversion feature of notes issued recorded as debt discount |
|
|
588,452 |
|
|
|
|
|
Value of warrants issued to advisor recorded as deferred financing costs |
|
|
130,770 |
|
|
|
|
|
Issuance of common stock recorded as deferred financing costs |
|
|
127,500 |
|
|
|
|
|
See notes to consolidated financial statements.
F-30
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
1. UNAUDITED INTERIM FINANCIAL STATEMENTS
The unaudited consolidated financial statements and related notes have been prepared
pursuant to the rules and regulations of the Securities and Exchange Commission (SEC).
Accordingly, certain information and footnote disclosures normally included in financial
statements prepared in accordance with accounting principles generally accepted in the
United States of America have been omitted pursuant to such rules and regulations. The
accompanying consolidated financial statements and related notes should be read in
conjunction with the audited consolidated financial statements of the Company, and notes
thereto, for the year ended December 31, 2005.
The information furnished reflects, in the opinion of management, all adjustments,
consisting of normal recurring accruals, necessary for a fair presentation of the results of
the interim periods presented. Operating results of the interim period are not necessarily
indicative of the amounts that will be reported for the year ending December 31, 2006.
2. SHARE-BASED COMPENSATION
On January 1, 2006, the Company adopted Statement of Financial Accounting Standards No.
123 (revised 2004), Share-Based Payment, (SFAS 123R) which requires the measurement and
recognition of compensation expense based on estimated fair values for all share-based
payment awards made to employees and directors, including employee stock options. SFAS 123R
supersedes the Companys previous accounting under Accounting Principles Board Opinion No.
25, Accounting for Stock Issued to Employees (APB 25) for periods beginning in 2006. In
March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 107
(SAB 107) relating to SFAS 123R. The Company has utilized the guidance of SAB 107 in its
adoption of SFAS 123R.
Equity Compensation Plans
During 1995, the Company approved the 1995 Stock Option Plan (the Plan). Under this
Plan, options available for grant can consist of (i) nonqualified stock options, (ii)
nonqualified stock options with stock appreciation rights attached, (iii) incentive stock
options, and (iv) incentive stock options with stock appreciation rights attached. The
Company has reserved 1,125,000 shares of the Companys common stock $.0001 par value, for
the Plan. The Plan limits participation to employees, independent contractors and
consultants. Non-employee directors are excluded from Plan participation. The option price
for shares of stock subject to this Plan is set by the Stock Option Committee of the Board
of Directors at a price not less than 85% of the market value of the stock on the date of
grant. No stock options may be exercised within nine months from the date of grant, unless
under a Plan exception, nor more than ten years after the date of grant. The Plan provides
for the grant of stock appreciation rights, which allow the holder to receive in cash, stock
or combination thereof, the difference between the exercise price and the fair value of the
stock at date of exercise. The fair value of stock appreciation rights is charged to
compensation expense. The stock appreciation right is not separable from the underlying
stock option or incentive stock option originally granted and can only be exercised in
tandem with the stock option. No stock appreciation rights are attached to any options
outstanding. At September 30, 2006, no shares were available for future grants under the
1995 Stock Option Plan. Options granted under the Plan have an exercise price equal to the
fair market value on the date of grant, are fully vested at September 30, 2006, and
generally expire ten years after grant date.
During 2003, the Company approved the 2003 Stock Incentive Plan, or 2003 Plan. Under
the 2003 Plan, options available for grant can consist of (i) nonqualified stock options,
(ii) incentive stock options, and (iii) restricted stock. The Company has reserved
2,000,000 shares of the Companys common stock $.0001 par value for the 2003 Plan. The Plan
limits participation to employees, independent contractors, and consultants. The option
price for shares of stock subject to this Plan is set by the Compensation
Committee of the Board of Directors at a price not less than market value of the common
stock on the date of grant. No stock options may be exercised within nine months from the
date of grant, unless under a Plan exception, nor more than ten years after the date of
grant. At September 30, 2006, no shares were available
F-31
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
for future grants under the 2003
Stock Incentive Plan. Options granted under the Plan have an exercise price equal to the
fair market value on the date of grant, are fully vested at September 30, 2006, and
generally expire ten years after grant date.
During 2006, the Company approved the 2006 Long-Term Incentive Plan (the Plan).
Under the Plan, options available for grant can consist of (i) nonqualified stock options,
(ii) incentive stock options, (iii) restricted stock, (iv) stock appreciation rights, and
(v) performance units. The Company has reserved 5,000,000 shares of the Companys common
stock $.0001 par value for the Plan. The Plan limits participation to employees and
non-employee Directors. The option price for shares of stock subject to this Plan is set
by the Compensation Committee of the Board of Directors at a price not less than market
value of the common stock on the date of grant. No stock options may be exercised more than
ten years after the date of grant.
Grant-Date Fair Value
The Company uses the Black-Scholes option pricing model to calculate the grant-date
fair value of an award. The fair value of options granted during the third quarter of 2006
and 2005 were calculated using the following estimated weighted average assumptions:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three months ended |
|
Nine months ended |
|
|
September 30, |
|
September 30, |
|
|
2006 |
|
2005 |
|
2006 |
|
2005 |
Expected volatility |
|
|
77.0 |
% |
|
|
78.0 |
% |
|
|
76.10 |
% |
|
|
78.0 |
% |
Expected term (in years) |
|
|
5 |
|
|
|
5 |
|
|
|
5 |
|
|
|
5 |
|
Risk-free interest rate |
|
|
4.52 |
% |
|
|
3.34 |
% |
|
|
4.68 |
% |
|
|
5.34 |
% |
Expected dividend yield |
|
|
0 |
% |
|
|
0 |
% |
|
|
0 |
% |
|
|
0 |
% |
Expected volatility is based on historical volatility. The expected term of the
options is based on managements best estimate. The risk-free interest rate is based on the
yield on zero-coupon U.S. Treasury securities for a period that is commensurate with the
expected term assumption. The Company has not historically issued any dividends and does
not expect to in the future.
Share-Based Compensation Expense
The Company uses the straight-line attribution method to recognize expense for unvested
options. The amount of share-based compensation recognized during a period is based on the
value of the awards that are ultimately expected to vest. SFAS 123R requires forfeitures to
be estimated at the time of grant and revised, if necessary, in subsequent periods if actual
forfeitures differ from those estimates. The Company will re-evaluate the forfeiture rate
annually and adjust as necessary.
Share-based compensation expense recognized under SFAS 123R for the three months ended
and nine months ended September 30, 2006 was $9,888 and $14,682, respectively, allocated as
follows:
|
|
|
|
|
|
|
|
|
|
|
Three months ended |
|
Nine months ended |
|
|
September 30, |
|
September 30, |
|
|
2006 |
|
2006 |
Distribution and administrative expenses |
|
$ |
16,210 |
|
|
$ |
24,069 |
|
Income tax effect |
|
|
6,322 |
|
|
|
9,387 |
|
|
|
|
Total share-based compensation |
|
$ |
9,888 |
|
|
$ |
14,682 |
|
|
|
|
There was no share-based compensation expense related to employee stock options
recognized during the three months ended and nine months ended September 30, 2005. Prior to
January 1, 2006, the
F-32
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
Company accounted for its share-based compensation under the
recognition and measurement principles of
APB 25 and related interpretations, the disclosure-only provisions of SFAS No. 123,
Accounting for Stock-Based Compensation and the disclosures required by SFAS No. 148,
Accounting for Stock-Based Compensation-Transition and Disclosure. In accordance with APB
25, no share-based compensation cost was reflected in the Companys net income for grants of
stock options to employees because the Company granted stock options with an exercise price
equal to the market value of the stock on the date of grant. Had the Company used the fair
value based accounting method for share-based compensation expense prescribed by SFAS Nos.
123 and 148 for the periods ended September 30, 2005, the Companys consolidated net loss
and net loss per share would have been increased to the pro-forma amounts illustrated as
follows:
|
|
|
|
|
|
|
|
|
|
|
Three months ended |
|
Nine months ended |
|
|
September 30, 2005 |
|
September 30, 2005 |
Basic and diluted: |
|
|
|
|
|
|
|
|
Net loss as reported |
|
$ |
(513,868 |
) |
|
$ |
(2,621,737 |
) |
Deduct: share-based employee compensation, net of income tax |
|
|
(361,322 |
) |
|
|
(653,981 |
) |
|
|
|
Pro forma net loss |
|
$ |
(875,190 |
) |
|
$ |
(3,275,718 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Net loss per share: |
|
|
|
|
|
|
|
|
Basic as reported |
|
$ |
(0.07 |
) |
|
$ |
(0.36 |
) |
Basic proforma |
|
$ |
(0.12 |
) |
|
$ |
(0.45 |
) |
Diluted as reported |
|
$ |
(0.07 |
) |
|
$ |
(0.36 |
) |
Diluted proforma |
|
$ |
(0.12 |
) |
|
$ |
(0.45 |
) |
|
|
|
|
|
|
|
|
|
Shares outstanding basic |
|
|
7,472,039 |
|
|
|
7,226,969 |
|
Shares outstanding diluted |
|
|
7,472,039 |
|
|
|
7,226,969 |
|
Option Activity
A summary of the activity under the Companys stock options plans for the nine-month
period ended September 30, 2006 is presented below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted |
|
|
|
|
|
|
|
|
|
|
|
|
Average |
|
|
|
|
|
|
|
|
Weighted |
|
Remaining |
|
|
|
|
|
|
|
|
Average |
|
Contractual |
|
Aggregate |
|
|
|
|
|
|
Exercise |
|
Term |
|
Intrinsic |
|
|
Shares |
|
Price |
|
(Years) |
|
Value |
Options outstanding at December 31, 2005 |
|
|
1,950,009 |
|
|
$ |
3.13 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted |
|
|
550,000 |
|
|
|
0.62 |
|
|
|
|
|
|
$ |
24,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercised |
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Canceled |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options outstanding at September 30, 2006 |
|
|
2,500,009 |
|
|
$ |
2.58 |
|
|
|
4.89 |
|
|
$ |
24,000 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options exercisable at September 30, 2006 |
|
|
1,950,009 |
|
|
$ |
3.13 |
|
|
|
4.59 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options vested and options expected to
vest at September 30, 2006 |
|
|
1,950,009 |
|
|
$ |
3.13 |
|
|
|
4.59 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
F-33
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
The total grant-date fair value of stock options that became fully vested during the
nine months ended September 30, 2006 was $14,682. As of September 30, 2006, there was
$196,705 of total unrecognized compensation cost, net of tax and estimated forfeitures,
related to unvested share-based awards, which is expected to be recognized over a period of
4.50 years.
3. MARKETABLE SECURITIES
Securities are classified as available for sale with the related unrealized gains and
losses excluded from earnings and reported net of income tax as a separate component of
stockholders equity until realized.
Realized gains and losses on sales of securities are based on the specific
identification method. Declines in the fair value of investment securities below their
carrying value that are other than temporary are recognized in earnings.
For the nine months ended September 30, 2006, there were no unrealized gains or losses,
as all securities are in cash or cash equivalents. Net unrealized gains, net of tax, of
approximately $29,000, were included in accumulated other comprehensive income for the three
months ended September 30, 2005. Net unrealized losses, net of tax, of approximately
$18,000, including approximately $6,000 reclassified to earnings, were included in
accumulated other comprehensive loss for the nine months ended September 30, 2005. Total
comprehensive loss for the three and nine months ended September 30, 2006 was approximately
$636,000 and $1,105,000, and total comprehensive loss for the three and nine months ended
September 30, 2005 was approximately $484,000 and $2,640,000.
4. RESTRICTED SECURITIES
In connection with the Heartland Cup acquisition, the Company has pledged marketable
securities in the amount of $76,464 as restricted cash against one of the notes payable.
5. ACQUISITION
On September 9, 2005, the Company entered into a definitive Stock Purchase Agreement
with Heartland Cup, Inc. (Heartland Cup) and its principal shareholder for the purchase of
all of the principal shareholders stock in Heartland Cup. Upon closing of the Stock
Purchase Agreement, the Company acquired 2,000,000 shares, or approximately 83% of the
outstanding capital stock of Heartland Cup, for 200,000 shares of the Companys common
stock. In addition, the Company paid approximately $200,000 to acquire the remaining shares
of Heartland Cup. See also Note 13, Discontinued Operations.
The Heartland Cup acquisition was accounted for as a purchase under Statement of
Financial Accounting Standards No. 141 (SFAS No. 141). In accordance with SFAS No. 141,
the Company allocated the purchase price of the acquisition based on the fair value of the
assets acquired and liabilities assumed. Goodwill resulting from the Heartland Cup
acquisition was reserved for impairment.
6. DEBT
The secured financing consists of the following at September 30, 2006 and December 31,
2005:
F-34
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
December 31, |
|
|
2006 |
|
2005 |
Laurus term note |
|
$ |
2,000,000 |
|
|
$ |
|
|
Valuation discount |
|
|
(1,176,903 |
) |
|
|
|
|
Accretion of discount to interest expense |
|
|
102,956 |
|
|
|
|
|
|
|
|
Total Secured Financing |
|
$ |
926,053 |
|
|
$ |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current |
|
$ |
250,000 |
|
|
$ |
|
|
|
|
|
Long-term |
|
$ |
676,053 |
|
|
$ |
|
|
|
|
|
On June 28, 2006, the Company entered into a series of agreements with Laurus Master
Fund, Ltd. (Laurus) whereby the Company issued to Laurus (i) a secured convertible term
note (Note) in the principal amount of $2,000,000, and (ii) a warrant (Warrant) to
purchase up to 2,272,727 shares of the Companys common stock at a price of $0.53 per share.
Out of the loan proceeds, the Company agreed to pay the sum of $74,000 to Laurus Capital
Management, LLC, the investment advisor to Laurus, the sum of $27,500 to Laurus Capital
Management, LLC as reimbursement for its due diligence and legal fees and expenses incurred
in connection with the transaction, and the sum of $1,500 to Loeb & Loeb LLP, the escrow
agent for Laurus. Total closing costs were $103,000.
The principal amount of the Note bears interest at a per annum rate equal to the prime
rate (as published in the Wall Street Journal from time to time) plus three percent (3.0%);
provided, however that the interest rate may not be less than ten percent (10.0%). At
September 30, 2006, the interest rate was 11.25%. Interest payments are due monthly
beginning July 1, 2006. Principal payments in the amount of $83,333.33 are due monthly
beginning July 1, 2007. The final maturity date of the Note is June 28, 2009 (the Maturity
Date). Interest expense related to the note was $57,500 for the three months ended
September 30, 2006 and $58,750 for the nine months ended September 30, 2006.
The principal amount of the Note and accrued interest thereon is convertible into
shares of the Companys common stock at a price of $0.51 per share, subject to anti-dilution
adjustments. Under the terms of the Note, the monthly payments of interest and/or principal
(the Monthly Amount) due on the Note are payable in shares of the Companys common stock
if the following criteria are met: (i) the average closing price of the Companys common
stock for the five (5) days preceding the payment date is greater than or equal to 115% of
the Fixed Conversion Price (defined below) and (ii) the amount of such conversion does not
exceed twenty five percent (25%) of the aggregate dollar trading volume of the Companys
common stock for the period of twenty-two trading days immediately preceding such payment
date. If subsection (i) above is met but subsection (ii) above is not met as to the entire
Monthly Amount, then Laurus is required to convert only such part of the Monthly Amount that
meets the criteria of subsection (ii). The Company has agreed to register all of the
shares that are issuable upon conversion of the Note and exercise of the 2,272,727 Warrants.
The Company has granted Laurus a right of first refusal with respect to any debt or equity
financings.
The Company calculated that the fair value of the Warrants issued to Laurus was
$588,452 based upon the relative value of the Black-Scholes valuation of the warrants and
the underlying debt amount. The Company determined that the beneficial conversion feature
(BCF) of the Note was $588,452. The value of the Warrants issued to Laurus of $588,452
and the $588,452 of calculated BCF have been reflected by the Company as a valuation
discount and offset to the face amounts of the Note. The valuation discount will be
amortized into interest expense over the three-year term of the Note using the effective
interest method. Amortization of discounts for the conversion feature and the Warrants
resulted in charges to interest expense totaling $102,956 for the three and nine months
ended September 30, 2006.
In conjunction with the financing, the Company also incurred fees to various investment
advisors that facilitated the transaction. These fees totaled $287,500, of which $127,500
was paid through the issuance of 250,000 shares of our common stock. In addition, the
Company issued these advisors warrants to purchase 495,543 shares of common stock at a price
of $0.51 per share. The Company calculated that the fair value of the warrants issued to
the advisors was $130,770 based upon the relative value of the Black-Scholes valuation of
the warrants and the underlying debt amount. The closing costs, fees paid to the
F-35
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
advisors
and the value of the warrants issued to the advisors have been reflected as deferred
financing costs in the accompanying balance sheet and are being amortized over the life of
the loan. Amortization of the deferred financing costs related to the note totaled $43,439
for the three and nine months ended September 30, 2006.
7. SHAREHOLDERS EQUITY
As part of the fee arrangement related to the secured financing agreement (See Note 6),
the Company issued 250,000 shares of common stock valued at $127,500 to its financial
advisor.
In conjunction with the secured financing agreement (See Note 6), the Company recorded
the value of warrants issued and a beneficial conversion feature. The total value of the
warrants, computed using the fair value method, was $719,222. The beneficial conversion
feature related to the term note was $588,452.
8. LOSS PER SHARE
Loss per common share basic is computed based upon net loss divided by the weighted
average number of common shares outstanding during each period. Loss per common share -
assuming dilution is computed based upon net loss divided by the weighted average number of
common shares outstanding during each period adjusted for the effect of dilutive potential
common shares calculated using the treasury stock method.
The following is a reconciliation of the common shares used in the calculations of loss
per common share basic and loss per common share assuming dilution:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Per |
|
|
|
Income (Loss) |
|
|
Shares |
|
|
Share |
|
|
|
(Numerator) |
|
|
(Denominator) |
|
|
Amount |
|
Weighted average common shares outstanding: |
|
|
|
|
|
|
|
|
|
|
|
|
For the three months ended September 30, 2006: |
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share: |
|
|
|
|
|
|
|
|
|
|
|
|
Loss available to common stockholders |
|
$ |
(635,774 |
) |
|
|
7,828,322 |
|
|
$ |
(0.08 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share assuming dilution: |
|
|
|
|
|
|
|
|
|
|
|
|
Options |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss available to common stockholders plus
assumed conversions |
|
$ |
(635,774 |
) |
|
|
7,828,322 |
|
|
$ |
(0.08 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months ended September 30, 2005: |
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share: |
|
|
|
|
|
|
|
|
|
|
|
|
Loss available to common stockholders |
|
$ |
(513,868 |
) |
|
|
7,472,039 |
|
|
$ |
(0.07 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share assuming dilution: |
|
|
|
|
|
|
|
|
|
|
|
|
Options |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss available to common stockholders plus
assumed conversions |
|
$ |
(513,868 |
) |
|
|
7,472,039 |
|
|
$ |
(0.07 |
) |
|
|
|
|
|
|
|
|
|
|
F-36
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Per |
|
|
|
Income (Loss) |
|
|
Shares |
|
|
Share |
|
|
|
(Numerator) |
|
|
(Denominator) |
|
|
Amount |
|
For the nine months ended September 30, 2006: |
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share: |
|
|
|
|
|
|
|
|
|
|
|
|
Loss available to common stockholders |
|
$ |
(1,104,989 |
) |
|
|
7,819,072 |
|
|
$ |
(0.14 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share assuming dilution: |
|
|
|
|
|
|
|
|
|
|
|
|
Options |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss available to common stockholders plus
assumed conversions |
|
$ |
(1,104,989 |
) |
|
|
7,819,072 |
|
|
$ |
(0.14 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the nine months ended September 30, 2005: |
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share: |
|
|
|
|
|
|
|
|
|
|
|
|
Loss available to common stockholders |
|
$ |
(2,621,737 |
) |
|
|
7,226,969 |
|
|
$ |
(0.36 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
Loss per common share assuming dilution: |
|
|
|
|
|
|
|
|
|
|
|
|
Options |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss available to common stockholders plus
assumed conversion |
|
$ |
(2,621,737. |
) |
|
|
7,226,969 |
|
|
$ |
(0.36 |
) |
|
|
|
|
|
|
|
|
|
|
Options to purchase 2,500,009 shares of common stock at exercise prices ranging from
$0.61 to $6.00 per share were outstanding for the nine months ended September 30, 2006, but
were not included in the computation of income (loss) per common share assuming dilution
because there was a net loss for the period then ended.
Options to purchase 1,950,009 shares of common stock at exercise prices ranging from
$1.30 to $5.94 per share were outstanding for the three and nine months ended September 30,
2005, but were not included in the computation of income (loss) per common share assuming dilution because there
was a net loss for the period then ended.
During the quarter ended June 30, 2006, the Company granted 2,272,727 warrants at a
price of $0.53 and 495,543 warrants at a price of $0.51. The warrants were issued in
conjunction with the secured financing agreement described in Note 6.
|
|
|
|
|
Warrants outstanding, January 1, 2006 |
|
|
|
|
Warrants granted |
|
|
2,768,270 |
|
|
|
|
|
Warrants outstanding, September 30, 2006 |
|
|
2,768,270 |
|
|
|
|
|
9. DEFERRED TAXES
On a regular basis, management evaluates all available evidence, both positive and
negative, regarding the ultimate realization of the tax benefits of its deferred tax assets.
Valuation allowances have been established for certain operating loss and credit
carryforwards that reduce deferred tax assets to an amount that will, more likely than not,
be realized. Uncertainties that may affect the realization of these assets include tax law
changes and the future level of product prices and costs. The outlook for determination of
this allowance is calculated on the Companys historical taxable income, its expectations
for the future based on a rolling twelve quarters, and available tax-planning strategies.
Based on this determination, management does not expect that the net deferred tax assets
will be realized as offsets to reversing deferred tax liabilities and as offsets to the tax
consequences of future taxable income. As such, a valuation
F-37
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
allowance was provided for the
entire deferred tax asset of approximately $5,300,000 at September 30, 2006. The Companys
effective tax rate differs from its statutory tax rate for 2006 due to the tax valuation
allowance. The Company has net operating loss carryforwards of approximately $11,000,000
available to reduce future taxable income, which will begin to expire in 2021.
10. COMMITMENTS AND CONTINGENCIES
Recent Regulatory Developments - As a marketer of products that are ingested by
consumers, The Company is subject to the risk that one or more of the ingredients in its
products may become the subject of adverse regulatory action. For example, one of the
ingredients in the Companys prior AM-300 product was ephedra, an herb that contains
naturally-occurring ephedrine alkaloids. The Companys manufacturer used a powdered extract
of that herb when manufacturing AM-300. The Company marketed AM-300 principally as an aid
in weight management. The extract was an 8% extract, which means that every 100 milligrams
of the powdered extract contains approximately eight milligrams of naturally occurring
ephedrine alkaloids.
On February 11, 2004, the FDA issued and published in the Federal Register its final
rule on ephedrine-containing supplements, stating that since an unreasonable risk had been
determined, such supplements would be considered adulterated under the Federal Food, Drug,
and Cosmetic Act, or FFDCA, and thus may not be sold. In essence, this final rule (or
regulation) imposed a national ban on ephedrine supplements. The effective date of this
regulation was April 12, 2004. The Company complied with the new regulation and ceased all
sales and advertisement of AM-300 and any other ephedra-containing supplement as of April
12, 2004. The FDA has continuously and vigilantly enforced this total ban on
ephedra-containing supplements. As recently as December 6, 2005, the FDA seized yet another
shipment of such supplements distributed by companies in Gainesville, Texas and Eugene,
Oregon.
For the future, the FDA and also Congress have indicated that they will consider
whether alternatives to ephedra, other weight loss and energy stimulants (such as bitter
orange), similarly carry an unreasonable risk to the central nervous system, and thus to
human health. These proposals to limit stimulant ingredients, if finalized, may necessitate
reformulations of some of the Companys weight loss products.
Also, in the aftermath of the ephedra ban, on April 22, 2004, in comments before a
scientific meeting, then Acting FDA Commissioner, Lester Crawford (and for some months
during 2005, FDA
Commissioner), outlined what an FDA press release termed a science-based plan for
dietary supplement enforcement. The press release went on to say that the agency would
soon provide further details about its plan to ensure that the consumer protection
provisions of DSHEA are used effectively and appropriately. Referring to its recent
rulemaking on ephedra, the FDA also stated that it expects to evaluate the available
pharmacology, published literature ..., evidence-based reviews, and adverse event information
of individual dietary supplements. Soon afterwards, this promised FDA document was
issued, with the title Regulatory Strategy for the Further Implementation and Enforcement
of the Dietary Supplement Health and Education Act of 1994. No new regulations or proposed
rules pursuant to this strategy have yet been issued, except that the FDA has recently
welcomed and received comments from the industry for a better procedure for the FDA to
review a companys safety information as to a new dietary ingredient, or NDI, in an NDI
Notification. The final guidance document concerning NDI Notifications has not yet been
issued by the FDA. At this time, NDI Notifications are not required for any of the
Companys products.
Anti-DSHEA Proposed Legislation. Finally, as the press, the FDA, and members of
Congress and of the supplement industry have all predicted, the very issuance of the final
rule on ephedra has caused Congress to rethink the Dietary Supplement Health and Education
Act of 1994, or DSHEA, specifically as to how safety in supplements may be ensured, and also
as to whether specific categories of dietary ingredients should not be permitted at all. In
particular, there is growing sentiment (including from one herbal trade association) to make
Adverse Event Reporting (AERs) mandatory for all manufacturers and marketers of dietary
supplements, so that the FDA may take action more quickly than it did on ephedra,
F-38
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
when a
harmful herb or other ingredient is suspected. Since February 2003, there have been several
bills proposed in Congress that would amend DSHEA, make safety safeguards stricter, even
approaching the rigor and reporting required for FDA-regulated drugs. Some examples are as
follows:
S. 722 - The Dietary Supplement Safety Act was introduced by Senator Richard
Durbin in March 2003, and would greatly undermine DSHEA, especially Section 4 regarding
safety, giving the FDA new powers of oversight and blanket authority over whole categories
of supplements, including stimulants. Stimulants are used in many weight loss products,
including some of our supplements. To the best of our knowledge, this bill and the bill
described below (though perhaps under different numbers) are still pending.
H.R. 3377: Beginning on October 28, 2003, Senator McCain chaired Senate
Hearings on whether DSHEA adequately protects consumers. Also on October 28, Cong. Susan
Davis and Cong. Henry Waxman introduced The Dietary Supplement Access and Awareness Act,
H.R. 3377, purporting to be about safety and access for consumers to supplements, but
actually recommending severe restrictions and dramatic redefinitions of what constitutes a
dietary supplement. This bill would impose several requirements for supplements, including
unprecedented FDA pre-approval as well as strict AER reporting, and excludes only
vitamins and minerals from such new requirements. Like S. 722, this bill would reverse the
safety burden of proof in Section 4 of DSHEA (one of the industrys victories in 1994), and
instead require the manufacturer to demonstrate safety, rather than the burden being on the
FDA to show imminent hazard or unreasonable risk.
So far, neither of the bills above, nor any other proposed legislation that would
undermine DSHEA or impose additional requirements on supplements, have passed. With the
help of its regulatory attorney, the Company will continue to monitor these anti-DSHEA
bills, and determine if any of them become a serious threat to its business. In addition,
the two major trade associations of the dietary supplement industrythe American Herbal
Products Association, or AHPA, and the National Natural Foods Association, or NNFAhave both
been actively lobbying against any bills that would require or lead to unreasonable
restraints on the manufacture, labeling, and marketing of dietary supplements.
Product Liability - The Company, like other marketers of products that are intended to
be ingested, faces an inherent risk of exposure to product liability claims in the event
that the use of its products results in injury. The Company carries limited product
liability insurance with coverage limits of $1.0 million per occurrence and $2.0 million
aggregate. Products containing ephedra, which represented 31.0% of the Companys first
quarter 2004 net revenues, were not covered by the Companys product liability insurance.
Substantially all of the Companys product manufacturers carry product liability insurance,
which covers
its products. Such product claims against the Company could adversely affect product
sales, results of operations, financial condition and the value of the Companys common
stock.
Legal Proceedings - The Company is currently involved in asserted and
unasserted claims, which arise in the ordinary course of business. The Company routinely
evaluates whether a loss is probable, and if so, whether it can be estimated. Estimates are
based on similar case law matters, consultation with subject matter experts and information
obtained through negotiations with counter-parties. As such, accurately depicting the
outcome of pending litigation requires considerable judgment and is subject to material
differences on final settlement. Accruals for probable losses are recorded in accrued
expenses. If the Companys assessment of the probability is inaccurate, the Company may
need to record additional accruals or reduce recorded accruals later. In addition, the
Company may need to adjust its estimates of the probable loss amounts as further information
is obtained or the Company considers settlements. See Part II, Item 1. Legal Proceedings
for a description of the most significant claims by or against the Company.
Employment Agreements In January 2006, the Company entered into a written
employment agreement with Jerry W. Grizzle, the Companys Chairman of the Board, President
and Chief Executive Officer. The contract is for a two-year term, commencing January 25,
2006, followed by two successive one-year terms unless either party elects not to renew the
Agreement. Mr. Grizzles base salary is
F-39
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
$150,000 per year for the first year of the Initial
Term, $200,000 for the second year of the Initial Term and $250,000 for each year after the
Initial Term. Additionally, Mr. Grizzle will be eligible to receive certain
performance-based incentive bonuses. The Company granted Mr. Grizzle options to purchase
250,000 shares of the Companys common stock on February 15, 2006, with an exercise price of
$0.62 per share, which was the closing price of the Companys common stock on that day. The
options vest in five equal annual installments beginning February 15, 2007, and expire
February 15, 2016. In the event the Company terminates Mr. Grizzle without cause, he will
receive certain severance pay based upon his length of employment with the Company.
In April 2006, the Company entered into a written employment agreement with Robin L.
Jacob, the Companys Vice President, Secretary, Treasurer and Chief Financial Officer. The
contract is for a two-year term, commencing February 12, 2006, followed by two successive
one-year terms unless either party elects not to renew the Agreement. Ms. Jacobs base
salary is $100,000 per year for the first year of the Initial Term, $112,500 for the second
year of the Initial Term and $125,000 for each year after the Initial Term. Additionally,
she is eligible to receive certain performance-based incentive bonuses. The Company granted
Ms. Jacob options to purchase 150,000 shares of the Companys common stock at an exercise
price of $.64 per share, which was the closing price of the Companys common stock on March
31, 2006, the last trading day prior to the date the options were granted. The options vest
in five equal annual installments beginning April 1, 2007, and expire April 1, 2016. In the
event the Company terminates Ms. Jacob without cause, she will receive certain severance pay
based upon her length of employment with the Company.
In September 2006, the Company entered into a written employment agreement with Dennis
P. Loney, the Companys Vice President of Operations. The contract is for a two-year term,
commencing September 19, 2006, followed by two successive one-year terms unless either party
elects not to renew the Agreement. Mr. Loneys base salary is $106,000 per year for the
first year of the Initial Term, $112,500 for the second year of the Initial Term and
$125,000 for each year after the Initial Term. Additionally, he is eligible to receive
certain performance-based incentive bonuses. The Company granted Mr. Loney options to
purchase 150,000 shares of the Companys common stock at an exercise price of $.63 per
share, which was the closing price of the Companys common stock on that day. The options
vest in five equal annual installments beginning September 19, 2007, and expire September
19, 2016. In the event the Company terminates Mr. Loney without cause, he will receive
certain severance pay based upon his length of employment with the Company.
11. DEFERRED COMPENSATION AND CONSULTING AGREEMENT
On November 4, 2003 the Company entered into a written employment agreement with John
W. Hail. The contract was for an initial two-year term, commencing November 4, 2003, and
extended for up to five
successive one-year terms if the Company and Mr. Hail agree in writing. The agreement
was extended on November 4, 2005. The contract calls for a base salary of $249,600 per
year, a monthly variable salary equal to one percent (1%) of the Companys gross revenues,
and a discretionary year-end bonus determined by a majority vote of the Board of Directors.
On November 4, 2005, the Company extended Mr. Hails employment agreement to November 4,
2006. In connection with the extension, Mr. Hails monthly variable salary ceased and was
replaced by a fixed supplemental payment to Mr. Hail, which was the gross amount necessary
to cover all federal, state and local taxes and all employment taxes, and pay a net amount
of $7,000 per month. Mr. Hail retired as the Companys Chief Executive Officer and Chairman
of the Board effective February 12, 2006. At such time, the Companys obligations under his
employment agreement terminated. In April 2006, the Company signed a consulting agreement
with TVC Marketing regarding the services of Mr. Hail. The agreement is for an initial
six-month term, commencing March 1, 2006, with the renewal option of any number of
additional successive six-month terms by mutual agreement between the parties. Such
renewal(s) must be in writing signed by both parties. The consulting fee is $5,000 per
month for the entire term of the agreement, plus reimbursement of reasonable travel
expenses. In August 2006, this agreement was terminated at the end of the initial six
months. At such time, the Companys obligations to TVC Marketing regarding the services of
Mr. Hail terminated.
F-40
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
12. LEASE ABANDONMENT
In January 2004, the Company commenced a relocation of its corporate headquarters from
2601 NW Expressway (the Oil Center), Oklahoma City, Oklahoma to its warehouse and
distribution facility. A portion of the Oil Center was maintained for storage, a portion
was maintained for possible relocation of Company personnel due to expansion of the business
and a portion was subleased to a third party under a short-term lease. In September 2004,
the Company purchased an existing building adjacent to its corporate headquarters to be used
for additional office, warehouse and storage space. Company management believes the
purchased building is sufficient to meet expansion needs, and as such, abandoned the Oil
Center location. In determining lease abandonment, management assumed the continuation of
the existing sublease at the current rate. In addition, a discount rate of 6.5% was used to
calculate the present value of current lease payments less sublease revenue. At September
30, 2006, the lease abandonment accrual was approximately $132,000.
13. DISCONTINUED OPERATIONS
On March 31, 2006, the Company adopted a plan to discontinue the operations of its
Heartland Cup subsidiary. The Company has actively marketed Heartland Cup to
prospective buyers. At March 31, 2006, Heartland Cup had reduced employee count to only
those necessary to show the plant to prospects. As of November 10, 2006, the Company
was in negotiations with a prospective buyer to lease the plant and equipment and
purchase current customer contracts. Management believes this transaction will conclude
by the end of the first quarter of 2007.
The results of operations of discontinued operations are summarized below:
|
|
|
|
|
|
|
|
|
|
|
Three Months |
|
Nine Months |
|
|
Ended |
|
Ended |
|
|
September 30, |
|
September 30, |
|
|
2006 |
|
2006 |
Revenues |
|
$ |
335,774 |
|
|
$ |
1,056,990 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss from operations of discontinued operations |
|
$ |
(52,475 |
) |
|
$ |
(553,707 |
) |
Estimated costs to sell |
|
|
|
|
|
|
(20,000 |
) |
Income tax effect |
|
|
|
|
|
|
|
|
|
|
|
Loss from operations of discontinued operations, net of tax |
|
$ |
(52,475 |
) |
|
$ |
(573,707 |
) |
Related to the sale of the Heartland operations, the Company expects to incur attorney
fees to draft the sales contracts, and complete the transaction. As such, the Company has
included an estimate of $20,000 in the discontinued operations accrual at September 30,
2006.
The components of assets and liabilities of discontinued operations in the accompanying
consolidated balance sheets are as follows:
|
|
|
|
|
|
|
September 30, 2006 |
|
Current assets of discontinued operations: |
|
|
|
|
Cash |
|
$ |
1,271 |
|
Accounts receivable, net |
|
|
121,193 |
|
Inventory |
|
|
254,931 |
|
|
|
|
|
Total |
|
$ |
377,395 |
|
|
|
|
|
Noncurrent assets of discontinued operations: |
|
|
|
|
Other assets |
|
$ |
47,303 |
|
Property and equipment, net |
|
|
1,263,645 |
|
|
|
|
|
Total |
|
$ |
1,310,948 |
|
|
|
|
|
F-41
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
|
|
|
|
|
|
|
September 30, 2006 |
|
Current liabilities of discontinued operations: |
|
|
|
|
Accounts payable |
|
$ |
54,798 |
|
Current portion of long-term debt |
|
|
442,571 |
|
Other current liabilities |
|
|
23,355 |
|
|
|
|
|
Total |
|
$ |
520,724 |
|
|
|
|
|
|
|
|
|
|
Long-term liabilities of discontinued operations: |
|
|
|
|
Long-term debt |
|
$ |
1,492,860 |
|
|
|
|
|
14. RECENT ACCOUNTING PRONOUNCEMENTS
In June 2006, the FASB issued Interpretation No. 48, Accounting for Uncertainty in
Income Taxes - an Interpretation of FASB Statement No. 109 (FIN 48). FIN 48
clarifies the uncertainty in income taxes recognized in a companys financial statements in
accordance with SFAS No. 109, Accounting for Income Taxes. FIN 48 prescribes a
recognition threshold and measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return. FIN 48 is
effective for fiscal years beginning after December 15, 2006. We are currently reviewing
this new standard to determine its effects, if any, on our results of operations or
financial position.
In September 2006, the FASB issued SFAS 157, Fair Value Measurements (SFAS 157), to
increase consistency and comparability in fair value measurements by defining fair value,
establishing a framework for measuring fair value in generally accepted accounting
principles, and expanding disclosures about fair value measurements. The Statement
emphasizes that fair value is a market-based measurement, not an entity-specific
measurement. It clarifies the extent to which fair value is used to measure recognized
assets and liabilities, the inputs used to develop the measurements, and the effect of
certain of the measurements on earnings for the period. SFAS 157 is effective for financial
statements issued for fiscal years beginning after November 15, 2007, and will be applied on
a prospective basis. We are currently reviewing this new standard to determine its effects,
if any, on our results of operations or financial position.
15. CURRENT FINANCIAL CONDITION
Several factors have contributed to the Companys current financial condition:
|
|
|
The impact of several material non-recurring events, including the one-time
impairment of goodwill, the accrual of deferred compensation related to the
employment contract of the Companys founder and then CEO, the implementation of
a free trial program, the write off of the Companys deferred tax asset, and a
lease abandonment charge related to the abandonment of the executive offices; |
|
|
|
|
Excessive expenses incurred in the Heartland operations and a continuing
excess of monthly operating expenses over revenues; and |
|
|
|
|
Declining net income, due to the FDAs ban on ephedra products. |
The Company has taken the following steps to significantly reduce its cost of sales and
marketing, distribution and administrative costs:
|
|
|
Reductions in force, encompassing all departments within the Company; |
|
|
|
|
The termination of a discount sales program, designed to give customers a cash
discount after purchasing a certain dollar amount of product; and |
F-42
AMS HEALTH SCIENCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005
|
|
|
The termination of several extra employee benefits, including vehicle
allowances and social and country-club privileges. |
On March 31, 2006, the Company adopted a plan to discontinue the operations of its
Heartland Cup subsidiary. The Company has actively marketed Heartland Cup to prospective
buyers. At March 31, 2006, Heartland Cup had reduced employee count to only those necessary
to show the plant to prospects. As of November 10, 2006, the Company was in negotiations
with a prospective buyer to lease the plant and equipment and purchase current customer
contracts. Finally, the Company is exploring strategic acquisitions of network marketing
companies with profitable, sustained operations.
The Company is seeing positive upswings and trends in associate recruiting, as well as
continued reductions in costs of goods sold and administrative expenses. At September 30,
2006, the Companys ratios compared to net sales are trending toward the levels that existed
in the Companys last profitable year. Finally, the Company is exploring a new product
offering that management believes will be the replacement for the ephedra product banned in
2004.
On June 28, 2006, the Company completed a $2,000,000 private placement financing
through the sale of secured convertible notes to Laurus Master Fund Ltd. The net proceeds
of the funding will be used primarily for sales and marketing. For a full description of
the terms of the note, see Note 6 to Consolidated Financial Statements.
16. RECLASSIFICATIONS
Certain reclassifications of the prior year amounts have been made in order to provide
comparability with the current presentation. These changes were made for presentation
purposes only and did not have any effect on previously reported results of operations or
equity.
******
F-43
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
Item 24. Indemnification of Directors and Officers.
In accordance with Section 1031 of the Oklahoma General Corporation Law, Article Twelfth of
our Certificate of Incorporation provides that our directors shall not be personally liable to us
or our shareholders for monetary damages for breach of fiduciary duty as a director, except for
liability (i) for any breach of the directors duty of loyalty to us or our shareholders, (ii) for
acts or omissions not in good faith or which involve intentional misconduct or a knowing violation
of law, (iii) in respect of certain unlawful dividend payments or stock redemptions or repurchases,
or (iv) for any transaction from which the director derived an improper personal benefit.
Article IX of our Bylaws provides for indemnification by us of our directors and officers and
in the discretion of the Board of Directors, non-officer employees against expenses (including
attorneys fees, judgments, fines and amounts paid in settlement) reasonably incurred in connection
with the defense or settlement of any threatened, pending or completed legal proceeding in which
any such person acted in good faith and in a manner he or she reasonably believed to be in or not
opposed to our best interests, in accordance with, and to the fullest extent permitted by, the
Oklahoma General Corporation Law.
The indemnification provisions described above would provide coverage for claims arising under
the Securities Act and the Exchange Act. Insofar as indemnification for liabilities arising under
the Securities Act may be permitted to our directors, officers and controlling persons pursuant to
our Certificate of Incorporation, Bylaws, the Oklahoma General Corporation Law, or otherwise, we
have been advised that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in the Securities Act and is, therefore,
unenforceable.
Item 25. Other Expenses of Issuance and Distribution.
The following table sets forth the various expenses in connection with the securities being
registered pursuant to this registration statement. All amounts shown are estimates, except the
Securities and Exchange Commission registration fee.
|
|
|
|
|
Item |
|
Amount |
Securities and Exchange Commission registration fee |
|
$ |
96 |
|
Printing and EDGAR formatting fees and expenses |
|
$ |
5,000 |
|
Accounting fees and expenses |
|
$ |
5,000 |
|
Legal fees and expenses |
|
$ |
15,000 |
|
|
|
|
|
|
Total |
|
$ |
25,096 |
|
We will bear all expenses shown above, and the selling security holders will not bear any portion
of these expenses.
Item 26. Recent Sales of Unregistered Securities.
|
(a) |
|
On June 28, 2006, we issued a secured convertible term note in the aggregate
principal amount of $2,000,000 and warrants to purchase 2,272,727 shares of common
stock at an exercise price of $0.53 per share to Laurus Master Fund, Ltd. These
securities were issued in a private placement transaction exempt from the registration
requirements of the Securities Act pursuant to Section 4(2) thereof directly by us
without engaging in any advertising or general solicitation of any kind and without
payment of underwriting discounts or commissions to any person. |
|
|
(b) |
|
On June 28, 2006, we issued Ascendiant Securities, LLC warrants to purchase
459,543 shares of our common stock at an exercise price of $0.51 per share. These
securities were issued as a fee for financial consulting services in a private
placement transaction exempt from the registration requirements of the Securities Act
pursuant to Section 4(2) thereof directly by us without engaging in any advertising or
general solicitation of any kind and without payment of underwriting discounts or
commissions to any person. |
II - 1
|
(c) |
|
On June 28, 2006, we issued Ascendiant Capital Group, LLC 250,000 shares of our
common stock. These securities were issued as a fee for financial consulting services
in a private placement transaction exempt from the registration requirements of the
Securities Act pursuant to Section 4(2) thereof directly by us without engaging in any
advertising or general solicitation of any kind and without payment of underwriting
discounts or commissions to any person. |
|
|
(d) |
|
On February 15, 2006, we issued 250,000 stock options to Jerry W. Grizzle
pursuant to his employment agreement. The options have an exercise price of $0.62 per
share. Neither the options granted to Mr. Grizzle nor the stock underlying such options
have been registered under the Securities Act. The options vest in five equal annual
installments beginning February 15, 2007 and expire February 15, 2016. The options were
issued relying upon the exemption from registration provided by Section 4(2) of the
Securities Act for transactions by the issuer not involving a public offering,. The
options were issued to Mr. Grizzle without shareholder approval pursuant to Section
711(a) of the AMEX Company Guide. |
|
|
(e) |
|
On September 9, 2005, we entered into a definitive Stock Purchase Agreement
with Heartland and its principal shareholder for the purchase of all of the principal
shareholders stock in Heartland Cup. Upon the closing of the Stock Purchase Agreement,
we acquired 2,000,000 shares, or approximately 83% of the outstanding capital stock of
Heartland, for 200,000 shares of our common stock. The options were issued relying
upon the exemption from registration provided by Section 4(2) of the Securities Act for
transactions by the issuer not involving a public offering. |
Item 27. Exhibits.
The Exhibit Index immediately preceding the exhibits is incorporated herein by reference.
Item 28. Undertakings.
Pursuant to Item 512(a) of Regulation S-B, the undersigned small business issuer hereby
undertakes to:
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(1) |
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File, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement: |
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(i) |
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Include any prospectus required by Section 10(a)(3) of the Securities
Act; |
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(ii) |
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Reflect in the prospectus any facts or events which, individually or
together, represent a fundamental change in the information set forth in the
registration statement. Notwithstanding the foregoing, any increase or decrease in
volume of securities offered (if the total dollar value of securities offered would
not exceed that which was registered) and any deviation from the low or high end of
the estimated maximum offering range may be reflected in the form of prospectus
filed with the Commission pursuant to Rule 424(b) if, in the aggregate, the changes
in volume and price represent no more than a 20 percent change in the maximum
aggregate offering price set forth in the Calculation of Registration Fee table
in the effective registration statement; and |
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(iii) |
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Include any additional or changed material on the plan of
distribution; |
provided, however, that paragraphs (1)(i), (1)(ii) and (1)(iii) of this section do not apply if the
information required to be included in a post-effective amendment by those paragraphs is contained
in reports filed with or furnished to the Commission by the registrant pursuant to section 13 or
section 15(d) of the Securities Exchange Act of 1934 that are incorporated by reference in the
registration statement, or is contained in a form of prospectus filed pursuant to Rule 424(b) that
is a part of the registration statement.
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(2) |
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For the purpose of determining any liability under the Securities Act, treat
each post-effective amendment as a new registration statement of the securities
offered, and the offering of the securities at that time to be the initial bona fide
offering. |
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(3) |
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File a post-effective amendment to remove from registration any of the
securities being registered which remain unsold at the end of the offering. |
Pursuant to Item 512(e) of Regulation S-B:
Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be
permitted to directors, officers and controlling persons of the small business issuer pursuant
to the foregoing provisions, or
II - 2
otherwise, the small business issuer has been advised that in the opinion of the Securities
and Exchange Commission such indemnification is against public policy as expressed in the Act
and is, therefore, unenforceable.
Pursuant to Item 512(g) of Regulation S-B:
Each prospectus filed pursuant to Rule 424(b) as part of a registration statement relating
to an offering, other than registration statements relying on Rule 430B or other than
prospectuses filed in reliance on Rule 430A, shall be deemed to be part of and included in the
registration statement as of the date it is first used after effectiveness. Provided, however,
that no statement made in a registration statement or prospectus that is part of the registration
statement or made in a document incorporated or deemed incorporated by reference into the
registration statement or prospectus that is part of the registration statement will, as to a
purchaser with a time of contract of sale prior to such first use, supersede or modify any
statement that was made in the registration statement or prospectus that was part of the
registration statement or made in any such document immediately prior to such date of first use.
II - 3
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the registrant certifies that it
has reasonable grounds to believe that it meets all the requirements for filing on Form SB-2 and
has duly caused this registration statement to be signed on its behalf by the undersigned,
thereunto duly authorized, in the City of Oklahoma City, State of Oklahoma, on the 22nd
day of November, 2006.
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(Registrant) |
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AMS HEALTH SCIENCES, INC. |
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By:
Name:
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/s/ Jerry W. Grizzle
Jerry W. Grizzle
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Title:
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Chairman, President and Chief Executive Officer |
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By:
Name:
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/s/ Robin L. Jacob
Robin L. Jacob
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Title:
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Chief Financial Officer, Vice President, Secretary
and Treasurer (Principal Accounting Officer) |
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Pursuant to the requirements of the Securities Act of 1933, this registration statement has
been signed by the following persons in the capacities and on the date indicated.
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Signature |
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Title |
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Date |
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/s/ Jerry W. Grizzle
Jerry W. Grizzle
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Director
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November 22, 2006 |
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/s/ Robin L. Jacob
Robin L. Jacob
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Director
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November 22, 2006 |
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/s/ M. Thomas Buxton III
M. Thomas Buxton III
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Director
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November 22, 2006 |
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Director
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November 22, 2006 |
Steven M. Dickey |
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Director
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November 22, 2006 |
Stephen E. Jones |
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* |
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signed by Power of Attorney |
II - 4
INDEX TO EXHIBITS
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Exhibit |
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Number |
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Description |
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Method of Filing |
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3(i)
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Amended and Restated Certificate of Incorporation
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Incorporated by reference to
Exhibit 3.1 of the
registration statement on
Form SB-2 (Registration No.
333-47801) filed with the
Commission on March 11, 1998 |
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3(ii)
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Bylaws
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Incorporated by reference to
Exhibit 3.2 of the
registration statement on
Form SB-2 (Registration No.
333-47801) filed with the
Commission on March 11, 1998 |
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5
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Opinion of McAfee & Taft A Professional
Corporation
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Filed electronically herewith |
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10.1
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Stock Option Agreement of Advantage Marketing
Systems dated January 3, 2001
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Incorporated by reference to
Form 8-K filed with the
Commission on January 8,
2001. |
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10.2*
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The Advantage Marketing Systems, Inc. 1995 Stock
Option Plan.
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Incorporated by reference to
Form SB-2 Registration
Statement (No. 33-80629),
filed with the Commission on
November 20, 1996 |
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10.3*
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Employment Agreement by and between David
DArcangelo and Registrant dated effective as of
November 25, 2002
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Incorporated by reference to
Form 10-K/A filed with the
Commission on March 31, 2003 |
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10.4*
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Non-qualified Stock Option Agreement by and
between David DArcangelo and Registrant dated
effective as of December 2, 2002
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Incorporated by reference to
Form 10-K/A filed with the
Commission on March 31, 2003 |
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10.5*
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The Advantage Marketing Systems, Inc. 2003 Stock
Incentive Plan
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Incorporated by reference to
Form S-8 Registration
Statement (No. 333-109093),
filed with the Commission on
September 24, 2003 |
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10.6
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Fulfillment Services Agreement with Vita Sales &
Distribution Multi-Country, dated January 19,
2004
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Incorporated by reference to
Form 10-K filed with the
Commission on March 29, 2004 |
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10.7*
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Employment Agreement by and between John W. Hail
and Registrant dated effective as of November 4,
2003
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Incorporated by reference to
Form 10-K filed with the
Commission on March 29, 2004 |
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10.8
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Commercial Industrial Real Estate Purchase
Contract dated August 12, 2004 by and between
Registrant and Keltronics Corporation
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Incorporated by reference to
Form 10-Q, filed with the
Commission on November 12,
2004 |
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10.9*
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Employment Agreement by and between Steven G.
Kochen and Registrant dated effective as of
August 9, 2005
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Incorporated by reference to
Form 8-K filed with the
Commission on August 12,
2005 |
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10.10*
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Employment Agreement by and between Jerry W.
Grizzle and Registrant dated effective as of
January 25, 2006
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Incorporated by reference to
Form 10-KSB filed with the
Commission on April 3, 2006 |
II - 5
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Exhibit |
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Number |
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Description |
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Method of Filing |
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10.11*
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Employment Agreement by and between Robin L.
Jacob and Registrant dated effective as of
February 12, 2006
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Incorporated by reference to
Form 8-K filed with the
Commission on April 12, 2006 |
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10.12
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Consulting Agreement by and between TVC
Consulting and Registrant dated effective as of
March 1, 2006
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Incorporated by reference to
Form 10-QSB filed with the
Commission on May 15, 2006 |
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10.13
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Securities Purchase Agreement dated June 28,
2006 by and between the Company and Laurus
Master Fund, Ltd.
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.14
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Secured Convertible Term Note dated June 28,
2006 by the Company in favor of Laurus Master
Fund, Ltd.
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.15
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Common Stock Purchase Warrant dated June 29,
2006 by the Company in favor of Laurus Master
Fund, Ltd.
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.16
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Registration Rights Agreement dated June 28,
2006 by and between the Company and Laurus
Master Fund, Ltd.
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.17
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Stock Pledge Agreement dated June 28, 2006 by
and among the Company, AMS Manufacturing, Inc.
and Laurus Master Fund, Ltd.
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.18
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Master Security Agreement dated June 28, 2006 by
and among the Company, AMS Manufacturing, Inc.
and Laurus Master Fund, Ltd.
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.19
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Mortgage dated June 28, 2006 by and between the
Company and Laurus Master Fund, Ltd.
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.20
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Grant of Security Interest in Patents and
Trademarks dated June 28, 2006 by and between
the Company and Laurus Master Fund, Ltd.
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.21
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Common Stock Purchase Warrant dated June 28,
2006 by the Company in favor of Ascendiant
Securities, LLC
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.22
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Engagement Letter between the Company and
Ascendiant Securities, LLC
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Incorporated by reference to
Form 10-QSB filed with the
Commission on August 14,
2006 |
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10.23*
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Employment Agreement by and between Dennis P.
Loney and Registrant dated effective as of
September 19, 2006
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Incorporated by reference to
Form 8-K filed with the
Commission on September 25,
2006 |
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10.24*
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2006 Long-Term Incentive Plan
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Incorporated by reference to
Form 14A filed with the
Commission on April 28, 2006 |
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21
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Subsidiaries
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Incorporated by reference to
Exhibit 21 of Form 10-KSB
filed with the Commission on
April 3, 2006 |
II - 6
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Exhibit |
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Number |
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Description |
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Method of Filing |
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23.1
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Consent of Cole & Reed, P.C.
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Filed electronically herewith |
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23.2
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Consent of Grant Thornton LLP
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Filed electronically herewith |
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23.3
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Consent of McAfee & Taft A Professional
Corporation (included in Exhibit 5)
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Filed electronically herewith |
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24
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Power of Attorney (included on signature page of
the original filing)
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Filed with the original
filing on July 28, 2006 |
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* |
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Designates a compensatory plan. |
II - 7