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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended: December 31, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 0-20330
GARDENBURGER, INC.
(Exact name of registrant as specified in its charter)
OREGON 93-0886359
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1411 SW MORRISON STREET, SUITE 400, PORTLAND, OREGON 97205
(Address of principal executive offices)
Registrant's telephone number, including area code: (503) 205-1500
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, NO PAR VALUE
(Title of Class)
----------------
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days: Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K, or any amendment to
this Form 10-K. [ ]
The aggregate market value of the voting stock held by non-affiliates of the
Registrant is $71,619,541 as of February 27, 1998 based upon the last closing
price as reported by the Nasdaq National Market System ($9.3125).
The number of shares outstanding of the Registrant's Common Stock as of February
27, 1998 was 8,608,854 shares.
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DOCUMENTS INCORPORATED BY REFERENCE
The Registrant has incorporated into Part III of Form 10-K by reference portions
of its Proxy Statement for its 1998 Annual Meeting of Shareholders.
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GARDENBURGER, INC.
1997 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
Page
----
PART I
Item 1. Business 2
Item 2. Properties 14
Item 3. Legal Proceedings 15
Item 4. Submission of Matters to a Vote of Security Holders 15
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters
15
Item 6. Selected Financial Data 16
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations
16
Item 7A. Quantitative and Qualitative Disclosures About
Market Risk 22
Item 8. Financial Statements and Supplementary Data 22
Item 9. Changes in and Disagreements With Accountants
on Accounting and Financial Disclosure
22
PART III
Item 10. Directors and Executive Officers of the Registrant 23
Item 11. Executive Compensation 23
Item 12. Security Ownership of Certain Beneficial Owners
and Management 23
Item 13. Certain Relationships and Related Transactions 23
PART IV
Item 14. Exhibits, Financial Statement Schedules and
Reports on Form 8-K 24
Signatures 25
1
PART I
ITEM 1. BUSINESS
- - ------ --------
COMPANY OVERVIEW
Gardenburger, Inc. (the "Company" or "Gardenburger") is a leading developer,
producer and marketer of branded low-fat, all-natural, meat replacement
alternatives sold to food service and retail outlets. The Company's products
include a variety of frozen, meatless items that are low in cholesterol and low
in fat. The Company was founded to provide a line of food products in response
to the public's growing awareness of the importance of diet to overall health
and fitness. The Company believes that the majority of consumers who eat its
products are not vegetarians but choose the Company's products for their healthy
ingredients, taste and convenience as part of a healthier lifestyle.
The Company's flagship product, the Gardenburger(R) veggie patty, is the leading
veggie patty in the food service, natural food outlet, and club store channels
of distribution and has become the number two veggie patty in the retail grocery
channel since its national rollout that began in November 1996. The Company's
goal is to extend the Gardenburger(R) brand to mainstream consumers by
aggressively expanding distribution in the retail grocery channel and
stimulating awareness and trial through significantly increased levels of
advertising and promotion. The Company's penetration in the U.S. retail grocery
channel has risen from less than 30 percent at the beginning of 1996 with an
average of 1.8 SKUs to an ACV authorization level of 85 percent and an on-shelf
presence of almost 71 percent (as measured by ACV levels) as of February 28,
1998, with an average of 3.0 SKUs. Each of the Company's products represents a
different SKU. See "Distribution" below for an explanation of ACV levels.
The Company distributes its products to more than 30,000 food service outlets
throughout the U.S. and Canada, including restaurant chains such as T.G.I.
Friday's, Denny's, Applebee's, Red Robin, Subway, Lyon's and Damon's. The
Company's products are also distributed to more than 24,000 retail grocery and
natural foods outlets, as well as to club stores, including Costco Companies,
Inc. ("Costco") and Sam's Club, with over 300 locations.
The Company was organized in 1985 under the name Wholesome & Hearty Foods, Inc.,
and completed its initial public offering in 1992. The Company changed its name
to Gardenburger, Inc., in October 1997. The Company believes that the new name
will increase public awareness and build upon the brand equity of the
Gardenburger(R) veggie patty.
The Company's Common Stock currently trades on the National Market tier of The
Nasdaq Stock Market under the symbol "GBUR."
BACKGROUND
The Company believes that growing numbers of mainstream consumers are looking
for alternative foods that are healthy as well as great tasting and convenient.
This trend appears to be fueled in part by the higher nutritional information
standards imposed by the 1990 Nutritional Labeling Education Act and by the U.S.
Surgeon General's recommendation that no more than 30 percent of calories should
be derived from fat. In particular, the Company believes that the market for
meat replacement foods is growing rapidly due not only to consumers' increasing
interest in a healthy diet, but also to concerns over the potential risks of
eating meat.
2
The market potential of the veggie patty category as a meat replacement
alternative is substantial. Industry data indicates that the annual fast food
hamburger market is in excess of $40 billion and that the retail grocery ground
beef market is in excess of $30 billion. Recent awareness, attitude and usage
studies show that only 8 to 12 percent of U.S. households have tried veggie
patty products to date. The Company believes that growth in household awareness
and trial has the potential to accelerate substantially in the near future. A
recent study by the U.S. Meat and Meat Products Datamonitor shows that sales of
frozen meat substitute products grew at a compound annual rate over 49 percent
between 1992 and 1996.
The Company believes that although the food service and natural foods channels
will continue to grow, the retail grocery channel will become increasingly
important for veggie patty sales as mainstream consumers continue to enter the
market. According to A.C. Nielsen, retail grocery sales in the meatless burger
category grew by nearly 23 percent in the third quarter of 1997 compared to the
third quarter of 1996. This data indicates a retail grocery market volume
already in excess of $80 million for the 52-week period ending October 25, 1997.
GROWTH STRATEGY
The Company is seeking to become the leading developer, producer and branded
marketer of great tasting, convenient meat replacement alternatives in all major
distribution channels. The Company currently holds the number one overall sales
position in the veggie patty segment, the largest category of meat replacement
foods. The Company's ability to capitalize on the significant mainstream growth
opportunity depends on its success in increasing consumer awareness and
broadening distribution of its products. Accordingly, the Company is focused on
a growth strategy with the following elements:
BRAND THE VEGGIE PATTY CATEGORY. The Company's goal is to leverage its
leadership in the veggie patty segment to make the Gardenburger(R) brand the
premier name in the entire veggie patty meat replacement category. In doing so,
the Company seeks to maximize its long-term share of this market and to sustain
the premium pricing levels associated with category-leading branded products.
LEVERAGE THE BRAND INTO NEW CHANNELS. Currently, the Company enjoys a leadership
position in the food service, club store and natural food channels of
distribution. The Company seeks to leverage this leadership into the retail
grocery store channel over the next several years. Its goal is to achieve at
least a 70 percent ACV authorization level for an average of at least 6.0 SKUs
in 1998. The Company is engaged in continuous efforts at building relationships
with brokers and retailers in this channel.
SUPPORT EXPANSION WITH ADVERTISING AND PROMOTION. The Company believes that
increased awareness and trial are essential to achieving significant growth
among mainstream consumers and to establishing the Gardenburger(R) line as the
brand of choice in the veggie patty segment. The Company is therefore committed
to building consumer demand for its products through aggressive investments in
national television and print advertising, in-store sampling efforts and coupon
promotion. A significant majority of this effort will be focused on developing
the Company's retail grocery distribution channel.
3
STRENGTHEN LEADERSHIP POSITION IN CURRENT CHANNELS. The Company seeks to further
strengthen its leadership position in the food service, club store and natural
food store channels of distribution. Accordingly, the Company plans to continue
investments in advertising and sampling focused on these channels. Furthermore,
the Company believes that these channels will receive significant cross-channel
benefit as a result of its aggressive advertising and promotion efforts in the
retail grocery distribution channel.
DEVELOP AND INTRODUCE NEW PRODUCTS. The Company continues to improve existing
products as well as develop new products. For example, the Company's new meat
analog products introduced in 1997, Gardenburger Hamburger Style(R) and
Gardenburger Hamburger Style(R) with Cheese, are achieving rapid and broad trade
acceptance. In addition, the Company plans to introduce a number of new items in
1998.
PRODUCTS
The Company is committed to offering healthy, great tasting and convenient
meatless food choices to consumers. The Company offers its meatless items,
primarily patties, under several product names, including Gardenburger(R),
Gardenburger(R) Zesty Bean(TM), Gardenburger(R) Veggie Medley(TM), Gardenburger
Hamburger Style(R), Gardenburger Sub(R), GardenSausage(R), and GardenVegan(TM).
The original Gardenburger(R) veggie patty is the most significant product sold
by the Company in terms of both volume and net sales, accounting for over 80
percent of each in 1997. Variations on the original Gardenburger(R) veggie patty
are the second largest product sales group, accounting for approximately 18
percent of net sales in 1997.
Veggie patties sold by the Company range in size from 2.5 ounces to 5.0 ounces.
Although recipes for the products are proprietary, they contain commonly known
ingredients and fall into two major categories, veggie-grain based and soy-based
meat analog products. The veggie-grain based product line contains fresh
mushrooms, brown rice, onions, rolled oats, low-fat cheeses, bulgur wheat, egg
whites, natural seasonings and spices, is soy-free and does not contain
artificial additives. The soy-based meat-analog product line is seasoned to
taste like ground beef.
4
The table below gives information about the Company's principal veggie patty
products for the retail market, including three (Gardenburger(R) Savory
Mushroom(TM), Gardenburger(R) Fire Roasted Vegetable(TM) and Gardenburger(R)
Classic Greek(TM)) being introduced in 1998:
VEGGIE-GRAIN BASED PRODUCTS
- - -------------------------------------------------------------------------------------------------------------
PRODUCT DESCRIPTION KEY INGREDIENTS SIZE (OZ) LOW/NO FAT CALORIES
- - -------------------------------------------------------------------------------------------------------------
Gardenburger(R)Original Veggie-grain based See above 2.5 Low fat 130
patty
- - -------------------------------------------------------------------------------------------------------------
Gardenburger(R)Sub Sub shaped patty See above 3.1 Low fat 170
- - -------------------------------------------------------------------------------------------------------------
Gardenburger(R)Zesty Bean(TM) Spicy, Mexican Red and black beans, 2.5 Low fat 120
flavor patty Anaheim chilies, red
and yellow bell
peppers, cilantro
- - -------------------------------------------------------------------------------------------------------------
Gardenburger(R)Veggie Vegetable emphasis Soy cheese, broccoli, 2.5 No fat 100
Medley(TM) patty carrots, red and
yellow bell peppers
- - -------------------------------------------------------------------------------------------------------------
GardenVegan(TM) Vegan patty No animal or soy 2.5 No fat 140
products
- - -------------------------------------------------------------------------------------------------------------
GardenSausage(R) Breakfast patty Maple syrup, natural 2.5 Low fat 140
seasonings
- - -------------------------------------------------------------------------------------------------------------
Gardenburger(R)Savory Gourmet patty Portabella mushrooms, 2.5 Low fat 120
Mushroom(TM) wild rice
- - -------------------------------------------------------------------------------------------------------------
Gardenburger(R)Fire Roasted Gourmet patty Roasted garlic, 2.5 Low fat 120
Vegetable(TM) sun-dried tomatoes
- - -------------------------------------------------------------------------------------------------------------
Gardenburger(R) Gourmet patty Kalamata olives, feta 2.5 Low fat 120
Classic Greek(TM) cheese
- - -------------------------------------------------------------------------------------------------------------
SOY-BASED PRODUCTS
- - -------------------------------------------------------------------------------------------------------------
PRODUCT DESCRIPTION KEY INGREDIENTS SIZE (OZ) LOW/NO FAT CALORIES
- - -------------------------------------------------------------------------------------------------------------
Gardenburger Hamburger Hamburger analog Soy, wheat gluten 2.5 No fat 90
Style(R) patty
- - -------------------------------------------------------------------------------------------------------------
Gardenburger Hamburger Hamburger analog Soy, wheat gluten, 2.5 Low fat 110
Style(R)with Cheese patty mozzarella and
cheddar cheese
- - -------------------------------------------------------------------------------------------------------------
The Company's products may be purchased in restaurants and from other
institutional food preparers throughout the United States, Canada, Mexico and in
selected European food service outlets. Products may also be purchased for home
consumption from grocery stores, natural foods stores, club stores and specialty
food stores in the United States, Canada and the United Kingdom.
5
DISTRIBUTION
The Company sells its products primarily in North America through approximately
sixty independent, commissioned food brokers and through approximately five
hundred active distributors. The Company's line of frozen products is shipped by
temperature-controlled truck and inventoried in frozen storage warehouses in
principal cities in the United States and Canada.
Gardenburger products can be found in more than 24,000 grocery, natural food and
club stores nationwide. The Gardenburger(R) veggie patty is also on the menu at
more than 30,000 food service outlets in the United States and abroad. The
following table lists selected retailers, distributors and food service outlets
that are direct customers of the Company or that offer Gardenburger(R) products
for sale to consumers:
Retail Food Service
------ ------------
GROCERY RESTAURANTS
A&P Applebee's
Albertsons Damon's
Buttrey's Denny's
Dominick's IHOP
Food Lion Jeremiah's
Fred Meyer Lyons
Giant Eagle Peppermill
Giant Food Red Robin
HEB Sizzler
IGA Subway
Jewel T.G.I. Friday's
Kroger
Meijers
Publix Super Markets HOTELS
Ralph's Holiday Inn
Red Apple Marriott
Safeway Sheraton
Shop-n-Save
Thriftway UNIVERSITIES
Von's Stanford
Winn-Dixie UCLA
University of California, Berkeley
NATURAL FOODS Harvard
Wild Oats MIT
Whole Foods
SPORTS/ENTERTAINMENT
CLUB STORES Dodger Stadium
Costco Yankee Stadium
Sam's Club Rose Garden
Six Flags
DISTRIBUTORS Universal Studios
Sysco
Rykoff-Sexton
6
Beginning in 1997, the Company began aggressively expanding its distribution in
the retail grocery channel. The Company's penetration in the U.S. retail grocery
channel has risen from less than 30 percent at the beginning of 1996 with an
average of 1.8 SKUs to an ACV authorization level of 85 percent and an on-shelf
presence of almost 71 percent (as measured by ACV levels) as of February 28,
1998, with an average of 3.0 SKUs.
Each of the Company's products represents a different SKU. ACV stands for
all-commodity volume and relates to a product's penetration in stores
representing the ACV percentage of dollar sales in the entire retail grocery
channel. For example, Gardenburger's 85 percent ACV authorization means that
Gardenburger products are approved for sales through stores that represent 71
percent of U.S. retail grocery dollar sales.
The Company's goal is to achieve at least a 70 percent ACV authorization level
for an average of at least 6.0 SKUs in the retail grocery channel in the U.S.
during 1998 and also to expand its presence in club stores. The costs of entry
and maintenance in these distribution channels are typically higher than in the
food service channel, and the Company plans to invest heavily in securing
additional retail grocery distribution and follow-up promotional activities
during 1998.
Prior to 1997, the Company's product distribution was primarily focused on the
West Coast. However, with the Company's expansion into national retail grocery
in 1997, product availability is now much broader as shown below:
1997 North America Sales by Region
REGION % OF NET SALES
------ --------------
Northeast 28
Southwest 23
Northwest 21
Midwest 13
Southeast 11
Canada 4
----
100%
Although the Company has focused its sales efforts primarily in the North
American market, the Company believes there are substantial opportunities for
worldwide distribution of its meat replacement foods. At present, overseas
distribution does not represent a material portion of the Company's business.
SALES AND MARKETING
SALES. The Company's sales objective is to leverage the original Gardenburger(R)
veggie patty and its flavor variants to increase its position as the number one
veggie patty in each of the food service, natural food store and club store
channels and to become the number one veggie patty in the retail grocery
channel.
Sales activities are organized under an institutional sales division and a
retail sales division. Institutional customers include approximately 30,000 food
service outlets such as restaurants, corporate and industrial cafeterias, hotel
chains, colleges, hospitals, airlines and sports stadiums. Retail customers
include approximately 20,000 grocery and other specialty food stores and over
4,000 natural foods stores. Industry analysts have estimated that Gardenburger
has over a 50 percent share of the food service veggie patty market, a 30
percent share of the supermarket grocery and natural food veggie patty retail
market, and over a 90 percent share of the warehouse/club store veggie patty
market.
7
MARKETING. The Company's major marketing objective is to build awareness of the
category and the Gardenburger(R) brand, with the goal of making the
Gardenburger(R) brand the premier name in the entire veggie patty meat
replacement category. Gardenburger(R) products are positioned as healthy, good
tasting and convenient in print media and on restaurant menus and point-of-sale
displays. The growth in sales of Gardenburger(R) products is the result, in
part, of the Company's recent significant investments in national marketing
efforts including consumer sampling, couponing and advertising in such magazines
as PEOPLE, ROLLING STONE and SHAPE AND FITNESS, as well as in USA TODAY.
Programs are being created and pursued to encourage the use of the
Gardenburger(R) brand in broadcast and print media, to encourage the use of the
Company's other product names, such as GardenSausage(R), on restaurant menus and
point-of-sale displays, to introduce new meatless products and to expand
distribution geographically and into new channels.
In 1997, the Company's advertising and promotional expenses focused primarily on
print ads in food service trade publications, trade shows, off-invoice
promotions with distributors, in-store sampling and radio advertising. The
Company spent approximately $3,000,000 in 1997 for advertising, $1,500,000 in
1996 and $900,000 in 1995. The Company plans to increase advertising and
promotion in 1998, particularly in national television and print media, with the
goal of driving category growth and establishing the Gardenburger(R) brand as
number one in consumers' minds.
RESEARCH AND DEVELOPMENT
The Company's research and development activities include development of new
products, the improvement of existing products and process development. In the
fourth quarter of 1996, the Company hired a new Vice President of Research and
Development with a background in healthy, frozen food products at companies
including Heinz and Stouffer, a division of Nestle. Other employees, outside
consultants and experts are also involved on an as-needed basis in specific
projects. The Company's research and development resources are focused on
creating healthy, great tasting, convenient, center-of-the-plate entrees.
Recipes and processes are being developed for meatless alternatives to chicken,
beef and pepperoni. The Company conducts its research and development activity
at its development and production facilities in Portland, Oregon.
In 1997, the Company spent approximately $500,000 on research and development
activities. In 1996, the Company spent approximately $1.0 million on such
activities, including $612,000 of acquired in-process research and development.
The amount spent on such activities during 1995 was immaterial.
MANUFACTURING
FACILITIES. In 1997, the Company produced its line of meatless products at its
plant in Portland, Oregon. Beginning in February 1998, the Company began
production at a second facility, formerly a Heinz, USDA-approved, frozen food
plant. The second facility, which is located approximately 20 miles north of
Salt Lake City in an industrial park in Clearfield, Utah, was secured through a
five-year lease that the Company has the option to renew for two successive
five-year terms. The Company commenced operations at its new Utah facility
during the first quarter of 1998 and may eventually transfer all manufacturing
operations to the Utah facility if circumstances so warrant.
8
The 120,000 square-foot Clearfield facility will be able to handle multiple
manufacturing lines for the Company's products. The Company also intends to
establish a new continuous manufacturing process at the Clearfield facility,
which is expected to improve the quality and consistency of the Company's
products as well as increase operating efficiencies longer term. The facility
provides a more central location than the Portland plant with better
distribution routes and the opportunity for consolidated shipping. The Company
believes the facility will be able to handle its production requirements through
annual sales of over $200 million.
PROCESS. The production process involves cleaning, chopping and mixing
ingredients, forming, baking, and quick freezing patties, and then packaging
them. Products are shipped fully cooked, frozen and packaged via temperature
controlled truck to distributors throughout North America, and by temperature
controlled container to Europe.
COMPETITION
The market for meatless food products is highly competitive. The Company's
products compete primarily on the basis of taste, quality of natural
ingredients, ease of preparation, availability, value, and consumer awareness
and acceptance of the Gardenburger(R) brand. Many of the Company's competitors
have substantially greater resources and operate in broader geographic areas
than the Company.
The Company believes that its principal competitors are Worthington Foods, Inc.,
which distributes its products through institutional food service channels and
retail stores; Pillsbury, which distributes "Green Giant Harvest Burgers" for
Archer-Daniels-Midland into institutional food service and retail sectors; Boca
Burger, which distributes a line of soy-based meat analog burgers in both the
food service and retail sectors; Imagine Foods, Inc., which distributes "Ken &
Robert's" burgers into institutional and retail sectors; and a number of smaller
health or natural foods producers.
The Company believes that its products compare favorably to those offered by
competitors. The Company believes that the Gardenburger(R) brand taste and
texture are superior to that of other veggie or soy-based burgers. The calorie
and fat content of Gardenburger(R) products is generally equivalent to that of
other meatless burger products. While Gardenburger(R) patties generally sell for
a slightly higher price than other meatless patty products, management believes
that the higher price reflects the value consumers place on the Gardenburger(R)
brand.
The Company believes that low-fat meat products, such as ConAgra's Healthy
Choice 96 percent Extra Lean Ground Beef burger and chicken/turkey based
patties, compete with meatless patties in general and, as a result, with the
Gardenburger(R) veggie patty and its variations. However, sales trend data over
the past few years indicates that consumers are actively seeking alternatives to
meat products.
In a broader sense, the Company's products compete with frozen, mass produced
entrees and low calorie/low fat national consumer brands such as Healthy Choice,
Lean Cuisine and Weight Watchers, whose name recognition, advertising budgets
and resources are significantly greater than those of the Company.
9
EMPLOYEES
The Company has approximately 175 full-time equivalent employees. The Company
also utilizes a temporary workforce during peak, seasonal demand periods, which
averages 70 employees. The Company's employees are not represented by a labor
union, and the Company believes its relations with employees are excellent.
TRADEMARKS
The Company has registered the trademark "Gardenburger" and a number of other
trademarks with the United States Patent and Trademark Office. The Company has
also registered or applied for registration of certain of its trademarks in the
United Kingdom, Australia, Canada, Germany, Switzerland and other countries.
The Company actively monitors use of its trademarks by food service customers
and others and takes action it believes appropriate to halt infringement or
improper usage. The Company defends its intellectual property aggressively and
from time to time is engaged in normal infringement protection activities and
other challenges.
SIGNIFICANT CUSTOMERS
For the fiscal year ended December 31, 1997, NORPAC Food Sales ("Norpac")
accounted for approximately 19 percent of revenue and 7 percent of the accounts
receivable balance at December 31, 1997. Sysco Corporation ("Sysco") accounted
for approximately 10 percent of revenue for the year ended December 31, 1997,
and 7 percent of the accounts receivable balance at December 31, 1997. These two
companies have been significant customers of the Company for several years, and
their loss could have a material adverse effect on the Company's business.
Historically, the Company has not incurred significant losses related to its
accounts receivable.
SOURCES OF SUPPLY
The Company uses natural ingredients such as mushrooms, oats, rice, onions, and
egg whites. These are common agricultural items typically available in most
parts of the United States. In addition, the Company uses packaging and other
materials that are common in the food industry. As a result, the Company
believes, but cannot assure, that its sources of supply are reasonably reliable
and that the Company is at no greater risk on supply matters than other similar
food processors and producers.
FORWARD-LOOKING STATEMENTS; RISK FACTORS
Statements in this Form 10-K Annual Report that are not historical in nature,
including discussion of the Company's expansion plans and research and
development efforts, are "forward-looking statements" within the meaning of the
Private Securities Litigation Reform Act of 1995. Forward-looking statements
involve known and unknown risks, uncertainties and other factors that may cause
the actual results, performance, or achievements of the Company to be materially
different from historical results or from any future results, performance, or
achievements expressed or implied by the forward-looking statements. In addition
to statements that explicitly describe such risks and uncertainties, readers
should consider statements labeled with the terms "believes," "belief,"
"expects," intends," "anticipates" or "plans" to be uncertain and
forward-looking. Important risks that could cause actual results, performance,
or achievements to differ from those expressed or implied by the forward-looking
statements include those described below, those described in Item 7 and those
described elsewhere in this Form 10-K Annual Report. Given these risks and
uncertainties, investors are cautioned not to place undue reliance on the
forward-looking statements. The Company disclaims any obligation to update any
such factors or to publicly announce the result of any revisions to any of the
forward-looking statements contained in this Form 10-K Annual Report to reflect
future events or developments.
10
RISKS ASSOCIATED WITH NATIONAL ADVERTISING CAMPAIGN. A major element of the
Company's growth strategy includes a significant print and television media
advertising campaign. The Company's past advertising and promotional activities
focused primarily on print ads in food service trade publications, trade shows
and radio advertising; the Company has had limited experience with large-scale
national advertising. Television advertising is relatively expensive compared to
other forms of advertising. Consequently, the Company's increased emphasis on
this medium will significantly increase sales and marketing expenses without any
assurance that consumer demand will increase proportionately, if at all.
PRODUCT CONCENTRATION; INTRODUCTION OF NEW PRODUCTS. The majority of the
Company's net sales have been attributable to its flagship product, the
Gardenburger(R) veggie patty. Sales of the Gardenburger(R) veggie patty and its
variants accounted for substantially all of the Company's net sales in 1997. The
Company believes that the Gardenburger(R) veggie patty will continue to
constitute a substantial portion of net sales. Any decrease in the overall level
of sales of, or the prices for, the Company's Gardenburger(R) veggie patty or
the failure of demand for the Gardenburger(R) veggie patty to increase at the
rate currently anticipated, whether as a result of competition, change in
consumer demand, or other unforeseen events, could have a material adverse
effect upon the Company's business, results of operations and financial
condition.
The Company plans to introduce several new products to its line of meat
replacement products. There can be no assurance that the Company will be able to
successfully introduce these new products or that any of the new products will
gain market acceptance.
CHANGING CONSUMER PREFERENCES. The Company's business is focused on providing
products in response to the public's demand for foods that support overall
health and fitness. Consumer demand for the Company's products is heavily
reliant upon a continued public focus on the desirability of a healthy
lifestyle, as well as the potential risks associated with eating meat and
poultry products, including E. coli and salmonella. There can be no assurance
that public emphasis on a nutritious, healthy diet will continue or that certain
processes will not be developed and utilized to reduce risks associated with
eating meat. For example, the FDA recently approved the irradiation of red meat,
which could significantly reduce the risk of E. coli in hamburger. A decline in
consumer demand for meat alternative products would have a material adverse
effect upon the Company's business, results of operations and financial
condition. Additionally, demand for the Company's products may be affected
generally by consumer preferences, which are subject to frequent and
unanticipated changes. The Company is dependent in significant part on its
ability to continue to produce healthy and appealing products that anticipate,
gauge and respond in a timely manner to changing consumer demands and
preferences. Failure to anticipate and respond to changes in consumer
preferences could lead to, among other things, lower sales, excess inventories,
diminished consumer loyalty and lower margins. There can be no assurance that
the current level of demand for the Company's products will be sustained or
grow.
11
CUSTOMER CONCENTRATION. In 1997, the Company's two largest accounts were Norpac
and Sysco, which accounted for approximately 19 percent and 10 percent of the
Company's revenues, respectively. There can be no assurance that sales to these
accounts will not decrease or that these customers will not choose to replace
the Company's products with those of competitors. The loss of either of these
accounts or any significant decrease in the volume of products purchased by
these customers would have a material adverse effect on the Company. Continuity
of customer relationships is important and events that impact the Company's
customers, such as labor disputes, may have a material adverse impact on the
Company.
CONCENTRATION OF CAPACITY; RISKS ASSOCIATED WITH OPENING OF NEW FACILITY. The
Company commenced operations at its new Utah facility during the first quarter
of 1998 and may eventually transfer all manufacturing operations to the Utah
facility if circumstances so warrant. There can be no assurance that the Company
will not experience significant difficulties in its transition to the new
facility, including, but not limited to, difficulties in maintaining product
quality and its ability to hire and train a new workforce. In addition, the
Company may experience higher than expected costs in connection with the
transition, including costs associated with operating both new and existing
facilities simultaneously for longer than anticipated. The Company could
experience delays in the manufacture of the Company's products, quality control
problems or the inability to produce products in commercial quantities or on a
cost-effective basis as a result of the transition to the new facility.
COMPETITION. The market for meatless food products is highly competitive. The
Company's competitors in the meatless patty segment may develop and market
products perceived by consumers to be tastier, healthier, or otherwise more
appealing than the Company's products. There can be no assurance that the
Company will not experience competitive pressures, particularly with respect to
pricing, that could have a material adverse effect on the Company's business,
results of operations and financial condition. Additionally, other major food
companies, many of which have substantially greater resources than the Company,
may become more active in the meatless patty business, either directly or
through the acquisition of smaller meatless patty companies.
FLUCTUATIONS IN OPERATING RESULTS; SEASONALITY. The Company has experienced
significant quarterly fluctuations in operating results and anticipates that
these fluctuations will continue in future periods. These fluctuations have
resulted, in part, from varying prices of vegetables, new product introductions,
expansion into new markets, sales promotions, the level of marketing
expenditures and competition. The Company has in the past experienced
fluctuations in sales due to seasonal changes in product demand, with net sales
historically higher in the June and September quarters and lower in the March
and December quarters. The Company expects these seasonal trends to continue in
the foreseeable future. A significant portion of the Company's expenses is
relatively fixed and the timing of increases in expenses is based in large part
on the Company's forecasts of future sales. If sales are below expectations in
any given period, the adverse impact on results of operations may be magnified
by the Company's inability to adjust spending quickly enough to compensate for
the sales shortfall. The Company may also choose to reduce prices or increase
spending in response to market conditions, which could have a material adverse
effect upon the Company's business, results of operations and financial
condition.
12
RAW MATERIALS SUPPLY. As with most food products, the availability and price of
raw materials used in the Company's products may be affected by a number of
factors beyond the control of the Company, such as economic factors affecting
growing decisions, frosts, drought, floods, other weather conditions, various
plant diseases, pests and other acts of nature. Because the Company does not
control the production of raw materials, it is also subject to delays caused by
interruption in production of materials based on conditions not within its
control. Such conditions include job actions or strikes by employees of
suppliers, weather, crop conditions, transportation interruptions, and natural
disasters or other catastrophic events. There can be no assurance that the
Company will be able to obtain alternative sources of raw materials at favorable
prices, or at all, if it experiences supply shortages.
PRODUCT LIABILITY. The Company's business involves the preparation and
processing of food products. The Company has from time to time received
complaints and claims from consumers regarding ill effects allegedly caused by
its products. While such claims have not resulted in any material liability to
date, there can be no assurance that future claims will not be made or that any
such claim will not result in adverse publicity for the Company or monetary
damages, either of which could have a material adverse effect upon the Company's
business, results of operations and financial condition. The Company currently
maintains certain product liability insurance coverage, but there can be no
assurance that such coverage will be sufficient to cover the cost of defense or
related damages in the event of a significant product liability claim.
DEPENDENCE ON KEY PERSONNEL. The Company's success depends to a significant
extent upon the continued service of Lyle G. Hubbard, its President and Chief
Executive Officer. The loss of his services could have a material adverse effect
on the Company. Furthermore, the Company is dependent on its ability to
identify, recruit and retain other key personnel. The competition for such
employees is intense, and there can be no assurance the Company will be
successful in such efforts.
GOVERNMENT REGULATION. The manufacturing, packaging, labeling, advertising,
distribution and sale of the Company's products are subject to regulation by
various governmental agencies, principally the Food and Drug Administration
("FDA"). The FDA regulates the Company's products under the Federal Food, Drug
and Cosmetic Act and related regulations. The Company's activities are also
subject to regulation by the Federal Trade Commission. The Company's activities
are also regulated by various agencies of the states, localities and foreign
countries to which the Company distributes its products and in which the
Company's products are sold. The Company believes that it presently complies in
all material respects with the foregoing laws and regulations. There can be no
assurance that future compliance with such laws or regulations will not have a
material adverse effect on the Company's business, results of operations and
financial condition.
The Company may become subject to additional laws or regulations administered by
the FDA or other federal, state or foreign regulatory authorities or more
stringent interpretations of current laws or regulations in the future. Although
the Company is unable to predict the nature of such future laws, regulations,
interpretations or applications, such requirements could include the
reformulation of certain products to meet new standards, the recall or
discontinuance of certain products that cannot be reformulated, imposition of
additional record-keeping requirements, expanded documentation of the properties
of certain products, expanded or different labeling, and scientific
substantiation. Any or all of such requirements could have a material adverse
effect on the Company's business, results of operations and financial condition.
13
INTELLECTUAL PROPERTY. The Gardenburger(R) trademark and other trademarks are
important to the Company's commercial success. Although the Company aggressively
takes steps to protect its rights in these trademarks, including obtaining
registration of the trademarks in the United States and other countries as it
deems appropriate, there can be no assurance that third parties will not
infringe or misappropriate the Company's trademarks.
The Company's recipes and production processes are protected as trade secrets.
The Company does not hold any patents covering its products or production
methods. Trade secret protection can last indefinitely so long as appropriate
precautions are taken to avoid disclosure. Although the Company seeks to protect
its trade secrets through confidentiality agreements and appropriate contractual
provisions, some or all of the trade secrets and other know-how that the Company
considers proprietary could be developed independently by others, could
otherwise become known by others or could be deemed to be in the public domain.
ITEM 2. PROPERTIES
The Company leases approximately 19,000 square feet of administrative office
space at 1411 SW Morrison, Suite 400 in Portland, Oregon, pursuant to a two-year
lease that terminates on December 31, 1998. The Company has the option to renew
the lease for an additional term of not less than two years in length.
Current monthly rent is $19,265.
The Company leases approximately 20,000 square feet of pre-production, storage
and distribution space at 10264 SE Jennifer, Clackamas, Oregon under a lease
that expires on April 30, 1998. The Company pays the sum of $13,000 per month in
rent for this facility and the equipment in the facility. The Company also
leases 15,000 square feet of distribution space at 215 SE Stark, Portland,
Oregon under a six-month lease that expires on June 30, 1998. On July 1, 1998,
the lease will become a month-to-month lease that is terminable on two-months'
notice. Rental on the Stark Street facility is $8,500 per month in 1998 and
$9,000 per month in 1999.
The Company leases additional space for research and development and production
at 1416 S.E. Eighth Avenue in Portland, Oregon. The facility is leased on a
month-to-month basis from Paul F. Wenner, the Company's Chief Creative Officer,
and Frank S. Card, a shareholder of the Company, at a rental rate of $2,200 per
month, which the Company considers to be consistent with rental rates charged by
unaffiliated property owners in the same market area.
The Company also leases 120,000 square feet of production space at Freeport
Center, Building A-16, in Clearfield, Utah, pursuant to a five-year lease that
terminates on December 31, 2002. The Company has the option to renew the lease
for two successive five-year terms. The Company began utilizing such space for
production in the first quarter of 1998. The monthly rent on this facility is
currently $28,000.
The Company owns 40,000 square feet of production facilities at 1005 S.E.
Washington Street, Portland, Oregon, and a 1,200 square foot annex at the same
location.
14
The Company owns approximately 18 acres of land near the Portland Airport. The
property was purchased as a site for expansion of the Company's manufacturing
capabilities. The Company has entered into a purchase and sale agreement with an
effective date of March 18, 1998, with Opus Northwest, L.L.C., a Delaware
limited liability company ("Opus Northwest"), to sell the property to Opus
Northwest. The contingent purchase price is $1,874,953, or $3.85 per square foot
of net usable area, and is based on the assumption that the property has 11.18
acres of net usable area. The Company may terminate the purchase and sale
agreement if the purchaser's survey shows that the net usable area is less than
487,000 square feet.
ITEM 3. LEGAL PROCEEDINGS
- - ------ -----------------
There are currently no material, pending legal proceedings to which the Company
or its subsidiaries are a party. From time to time, the Company becomes involved
in ordinary, routine or regulatory legal proceedings incidental to the business
of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- - ------ ---------------------------------------------------
At a special meeting of the shareholders held on October 17, 1997, the Company's
shareholders approved the change of the Company's name to Gardenburger, Inc.
from Wholesome & Hearty Foods, Inc.
Voting results were as follows:
For Against Abstain
- - -------------------- -------------------- -----------------
7,562,834 171,066 15,622
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
- - ------ ---------------------------------------------------------------------
The Company's Common Stock trades on the National Market tier of The Nasdaq
Stock Market under the symbol GBUR. The Common Stock traded under the symbol
WHFI until October 17, 1997, when the symbol was changed to GBUR in connection
with the change in the Company's name from Wholesome & Hearty Foods, Inc. to
Gardenburger, Inc.
The high and low sales prices for the two years in the period ended December 31,
1997 were as follows:
1996 High Low
------------------ --------- ---------
Quarter 1 $9.50 $6.50
Quarter 2 9.38 7.13
Quarter 3 8.38 6.38
Quarter 4 8.25 6.00
15
1997 High Low
------------------ --------- --------
Quarter 1 $ 7.13 $6.00
Quarter 2 8.50 6.63
Quarter 3 10.13 7.13
Quarter 4 12.00 8.13
The approximate number of shareholders of record and beneficial shareholders at
March 6, 1998 was 800 and 10,500, respectively.
There were no cash dividends declared or paid in 1997 or 1996. The Company does
not anticipate declaring cash dividends in the foreseeable future.
ITEM 6. SELECTED FINANCIAL DATA
- - ------ -----------------------
IN THOUSANDS:
EXCEPT PER SHARE AMOUNTS 1997 1996(1) 1995 1994 1993
- - ---------------------------------- ----------- ---------- ---------- ----------- -----------
STATEMENT OF OPERATIONS DATA
Net sales $ 56,837 $ 40,527 $ 36,818 $ 24,448 $ 13,341
Gross margin 29,601 20,621 18,720 13,057 7,206
Operating expenses 31,662 19,158 15,022 9,466 4,547
Operating income (loss) (2,061) 1,463 3,698 3,591 2,659
Net income (loss) $ (1,393) $ 1,063 $ 2,510 $ 2,391 $ 1,532
Basic net income (loss) per share $ (0.16) $ 0.13 $ 0.33 $ 0.32 $ 0.23
Diluted net income (loss) per $ (0.16) $ 0.12 $ 0.29 $ 0.28 $ 0.19
share
BALANCE SHEET DATA
Working capital $ 11,504 $ 13,393 $ 11,978 $ 11,037 $ 6,710
Total assets 27,245 24,934 19,325 15,320 10,363
Shareholders' equity 19,839 20,979 16,955 14,028 9,151
GROWTH INDICATORS (UNAUDITED)
Net sales growth 40% 10% 51% 83% 92%
Operating income growth (decline) n/a (60%) 3% 35% 149%
Net income growth (decline) n/a (58%) 5% 56% 166%
Net income per share growth n/a (59%) 4% 47% 90%
(decline)
(1) Operating expenses in 1996 included a $612 one-time charge for acquired
in-process research and development related to the Gorilla Foods
acquisition.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
- - ------ -----------------------------------------------------------------------
OF OPERATION
------------
GENERAL
FORWARD-LOOKING STATEMENTS
Statements in this report which are not historical in nature, including
16
discussion of the Company's expansion plans and research and development
efforts, are forward-looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Forward-looking statements involve
known and unknown risks, uncertainties and other factors that may cause the
actual results, performance or achievements of the Company to be materially
different from any future results, performance or achievements expressed or
implied by such forward-looking statements. Such factors with respect to the
Company include changes in food manufacturing technology, volatility in raw
materials prices, product acceptance by consumers, the Company's ability to
implement its retail distribution expansion plans, the effectiveness of the
Company's sales and marketing efforts and intensifying competition in the
meatless food products industry. Given these uncertainties, investors are
cautioned not to place undue reliance on the forward-looking statements. The
Company disclaims any obligation to update any such factors or to publicly
announce the result of any revisions to any of the forward-looking statements
contained in this report to reflect future events or developments.
A major element of the Company's growth strategy includes a significant print
and television media advertising campaign. The Company's past advertising and
promotional activities focused primarily on print ads, trade shows and radio
advertising; the Company has had limited experience with large scale national
broadcast advertising. Television advertising is relatively expensive compared
to other forms of advertising in terms of dollar outlays. Consequently, the
Company's increased emphasis on this medium will significantly increase sales
and marketing expenses in terms of absolute dollars without any assurance that
consumer demand will increase proportionately, if at all.
The majority of the Company's net sales have been attributable to its flagship
product, the Gardenburger veggie patty. Sales of the Gardenburger veggie patty
and its variants accounted for substantially all of the Company's net sales in
1997. The Company believes that the Gardenburger veggie patty will continue to
constitute a substantial portion of net sales. Any decrease in the overall level
of sales of, or the prices for, the Company's Gardenburger veggie patty or the
failure of demand for the Gardenburger veggie patty to increase at the rate
currently anticipated, whether as a result of competition, change in consumer
demand, or other unforeseen events, could have a material adverse effect upon
the Company's business, results of operations and financial condition.
The Company currently plans to introduce several new products to its line of
meat replacement products during 1998. There can be no assurance that the
Company will be able to successfully introduce these new products or that any of
the new products will gain market acceptance.
The Company commenced operations at its new Utah facility during the first
quarter of 1998 and may eventually transfer all manufacturing operations to the
Utah facility if circumstances so warrant. There can be no assurance that the
Company will not experience significant difficulties in its transition to the
new facility, including, but not limited to, difficulties in maintaining product
quality and its ability to hire and train a new workforce. In addition, the
Company may experience higher than expected costs in connection with the
transition, including costs associated with operating both new and existing
facilities simultaneously for longer than anticipated.
In light of the foregoing factors, as well as other variables, past financial
performance should not be considered a reliable indicator of future performance
and management believes that historical trends should not be relied on to
anticipate results or trends in future periods.
17
ACQUISITION OF GORILLA FOODS, INC. AND WHOLE FOOD MARKETING
In January 1996 the Company completed the acquisition of Ojai, California-based
Gorilla Foods, Inc., a privately held developer and manufacturer of wheat
protein-based, meatless food products, including the GardenDog. The Company
issued 240,000 shares of the Company's Common Stock in exchange for all
outstanding common shares of Gorilla Foods, and paid $68,750 in cash. In
addition, the Company agreed to issue up to an additional 200,000 shares of the
Company's Common Stock in 50,000 share increments if the Company's sales of
wheat protein-based products reach certain levels over the next five years. The
Company incurred a one-time charge of $612,000 in the first quarter of 1996 as a
result of the acquisition of in-process research and development associated with
this acquisition, with the remainder of the purchase price primarily allocated
to goodwill. Pro forma financial information has not been provided as the pro
forma results are not materially different from actual results.
In a separate transaction in January 1996, the Company completed the acquisition
of the assets of Whole Food Marketing, Inc., a Southern California-based food
broker of the Company's and Gorilla Foods' products. The Company paid $350,000
for the assets of Whole Food Marketing, Inc.
RESULTS OF OPERATIONS
The following table is derived from the Company's Statements of Operations for
the periods indicated and presents the results of operations as a percentage of
net sales.
Calendar year ended December 31, 1997 December 31, 1996 December 31, 1995
- - ------------------------------ ---------------------- ---------------------- ----------------------
Net sales 100.0% 100.0% 100.0%
Cost of goods sold 47.9 49.1 49.2
--------- --------- ---------
Gross margin 52.1 50.9 50.8
Sales and marketing expense
46.1 33.5 30.3
General and administrative
expense 9.6 12.3 10.5
Acquired in-process research
and development -- 1.5 --
--------- --------- ---------
Operating income (loss) (3.6) 3.6 10.0
Other income (expense) -- 0.8 0.4
--------- --------- ---------
Income (loss) before income
taxes (3.6) 4.4 10.4
Income taxes (benefit) (1.1) 1.8 3.6
========= ========= =========
Net income (loss) (2.5)% 2.6% 6.8%
========= ========= =========
1997 COMPARED TO 1996
NET SALES. Net sales for 1997 increased 40.2 percent to $56.8 million from $40.5
million for 1996. The Company has increased its sales levels in each of its
major channels, including food service, retail, natural foods and club stores.
Such increases are primarily a result of increased marketing and public
relations activities, which have increased awareness of the Company's products
throughout its channels of distribution. The Company's main area of growth in
1997 was in the retail grocery channel where sales increased 167 percent. This
increase was driven mainly by increasing store penetration from 30 percent U.S.
ACV at the end of 1996 to 70 percent U.S. ACV by the end of 1997.
18
GROSS MARGIN. Gross margin increased 43.7 percent to $29.6 million (52.1 percent
of net sales) for 1997 from $20.6 million (50.9 percent of net sales) for 1996.
The increase in gross margin as a percentage of net sales is primarily due to an
increased sales base to absorb fixed costs, improvements in manufacturing
efficiencies at its Portland, Oregon manufacturing facility and selected price
increases.
SALES AND MARKETING EXPENSE. Sales and marketing expense increased to $26.2
million (46.1 percent of net sales) for 1997 from $13.6 million (33.5 percent of
net sales) for 1996. The increase is primarily a result of costs associated with
the Company's plan to aggressively expand its retail grocery business nationwide
in 1997 and increased promotional activities, including the launching of a new
national advertising campaign.
GENERAL AND ADMINISTRATIVE EXPENSE. General and administrative expense increased
to $5.5 million (9.6 percent of net sales) for 1997 from $5.0 million (12.3
percent of net sales) for 1996. General and administrative expense remained
relatively constant as increases in compensation expense related to additional
personnel to support the growth of the Company and increased bonus accruals in
1997 were substantially offset by a decrease in severance and hiring costs,
absence of litigation costs in 1997 resulting from the settlement of a lawsuit
against the Company during the third quarter of 1996 and a related insurance
refund of $240,000 which was received in the first quarter of 1997.
ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT. In connection with the acquisition
of Gorilla Foods, Inc. in 1996, the Company recorded a one-time pretax charge of
$612,000 ($386,000 net of taxes) related to acquired in-process research and
development costs. The value assigned to the in-process research and development
was determined by appraisal and represents those efforts in process at the
acquisition date that had not yet established technological feasibility and that
had no alternative future uses. Accounting rules require that such costs be
charged to expense as incurred. The Company currently believes that these
research and development efforts will result in commercially viable products
over the next several years.
OPERATING INCOME (LOSS). Operating loss was $2.1 million in 1997 compared to
operating income (without the one-time charge for purchased in-process research
and development) of $2.1 million (5.1 percent of net sales) for 1996 as a result
of the individual line item changes discussed above.
OTHER INCOME (EXPENSE). Other income decreased to $9,000 in 1997 from $327,000
in 1996 primarily as a result of decreased cash balances in 1997 and therefore
lower interest income in 1997, as well as a loss in 1997 related to the
disposition of certain property and equipment.
INCOME TAXES. The Company's income tax rate for 1997 decreased to 32.1 percent
compared to 40.6 percent for 1996, primarily due to lower amounts of tax exempt
interest and dividends, as well as a lower effective state rate in 1997.
NET INCOME (LOSS). Net loss was $1.4 million for 1997 compared to net income of
$1.1 million (2.6 percent of net sales) for 1996 as a result of the individual
line item changes discussed above. The Company believes that the impact of
inflation on net income (loss) was not material for fiscal years 1997 and 1996.
1996 COMPARED TO 1995
NET SALES. Net sales for 1996 increased 10.1 percent to $40.5 million from $36.8
million for 1995. The Company increased its sales levels in each of its major
channels, including food service, retail and club stores. Such increases were
primarily a result of increased marketing and public relations activities, which
increased awareness of the Company's products throughout its channels of
distribution. At the beginning of the second quarter of 1996, the Company
started selling to additional large retail chains in Southern California. In
January 1996, the Company discontinued selling its Alymond Beverage and Alymond
Cheeze products, which resulted in natural foods sales declining $1.0 million
from the prior year.
GROSS MARGIN. Gross margin increased 10.2 percent to $20.6 million (50.9 percent
of net sales) for 1996 from $18.7 million (50.8 percent of net sales) for 1995.
Gross margin as a percentage of net sales remained constant primarily as a
result of continued upward pressures on pricing in certain raw materials, offset
by process improvements at the Company's manufacturing plant in Portland,
increased food service sales, which have higher margins, and start-up costs
associated with a new food service product-type in 1995 that were not duplicated
in 1996.
SALES AND MARKETING EXPENSE. Sales and marketing expenses increased to $13.6
million (33.5 percent of net sales) for 1996 from $11.2 million (30.3 percent of
net sales) for 1995. The increase was primarily attributable to increased
expenditures during 1996 related to the promotion of sales for additional retail
chains that the Company began supplying during the first half of 1996, increased
payroll expense as a result of hiring additional field sales personnel, costs
associated with the Company's plan to aggressively grow its retail grocery
business in 1997 and increased promotional activities in general to support and
promote the growth of the Company.
GENERAL AND ADMINISTRATIVE EXPENSE. General and administrative expense increased
to $5.0 million (12.3 percent of net sales) for 1996 from $3.9 million (10.5
percent of net sales) for 1995. The increase was primarily a result of
non-recurring costs to defend litigation which was settled in the third quarter
of 1996, relocation and recruiting expense in connection with the hiring of
personnel to support the growth of the Company, approximately $400,000 for
management transition costs during the second quarter of 1996 and ongoing costs
related to the overall growth of the Company, including an improved support
infrastructure.
OPERATING INCOME. Operating income (without the one-time charge for purchased
in-process research and development) decreased to $2.1 million (5.1 percent of
net sales) for 1996 compared to $3.7 million (10.0 percent of net sales) for
1995 as a result of the individual line item changes discussed above.
OTHER INCOME (EXPENSE). Other income increased to $327,000 in 1996 from $153,000
in 1995 primarily as a result of increased cash balances and corresponding
increased interest income.
INCOME TAXES. The Company's income tax rate for 1996 was 40.6 percent compared
to 34.8 percent for 1995. The increase from the 34.8 percent rate achieved for
fiscal 1995 was primarily a result of non-deductible goodwill expenditures in
1996, adjustments in 1996 relating to prior years and a one-time tax benefit
received in 1995 from the State of Oregon.
20
NET INCOME. Net income decreased to $1.1 million (2.6 percent of net sales) for
1996 compared to $2.5 million (6.8 percent of net sales) for 1995 as a result of
the individual line item changes discussed above. The Company believes that the
impact of inflation on net income was not material for fiscal years 1996 and
1995.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 1997, the Company had working capital of $11.5 million, which
included $2.6 million of cash and cash equivalents as compared to $13.4 million
in working capital at December 31, 1996, including $7.8 million of cash and cash
equivalents. The decrease in cash and cash equivalents is primarily due to the
use of $3.6 million in operations and net purchases of $1.7 million of property
and equipment, offset by $247,000 provided by the exercise of stock options and
related income tax benefits.
Accounts receivable increased $6.0 million to $8.8 million at December 31, 1997
from $2.8 million at December 31, 1996, due primarily to growth of the business
and significant sales at the end of the fourth quarter of 1997. Days' sales
outstanding were 34 at December 31, 1997, compared to 32 at December 31, 1996.
Inventories decreased $1.6 million to $3.2 million at December 31, 1997 from
$4.8 million at December 31, 1996, due primarily to a decrease in finished goods
inventory resulting from significant sales at the end of 1997. Inventory turned
9.6 times on an annualized basis in the fourth quarter of 1997 compared to 5.1
times for all of 1996.
Prepaid expenses increased $1.9 million to $2.3 million at December 31, 1997
from $378,000 at December 31, 1996, due primarily to prepaid marketing and sales
expenses.
Accounts payable increased $1.0 million to $3.2 million at December 31, 1997
from $2.2 million at December 31, 1996, due primarily to the growth of the
Company and the timing of payments at year-end.
In May 1997, the Company announced the lease of a production facility in
Clearfield, Utah. The Company leased various production and other equipment for
this facility. There were no lease payments associated with the facility in
1997. Annual lease payments on the facility and equipment will total $1.4
million during 1998.
Capital expenditures of $12.1 million during 1997 resulted primarily from a
capacity expansion project at one of the Company's production facilities,
including building improvements and new processing equipment, and from equipment
purchases for the start-up of the Company's newly leased Utah facility.
The Company is in the process of assessing the impact of Year 2000 related
issues on its business and is currently assessing potential costs to upgrade its
information and operating systems. Management does not expect any Year 2000
modifications to materially impact the Company.
Management believes that the Company's existing working capital, in combination
with cash flow from operations, funds available under credit facilities and
potential new debt and/or equity offerings to support the Company's aggressive
marketing plans should be sufficient to support working capital requirements
over the next year.
21
NEW ACCOUNTING PRONOUNCEMENT
In June 1997, the FASB issued Statement of Financial Accounting Standard No.
130, "Reporting Comprehensive Income" ("SFAS 130"). This statement establishes
standards for reporting and displaying comprehensive income and its components
in a full set of general-purpose financial statements. The objective of SFAS 130
is to report a measure of all changes in equity of an enterprise that result
from transactions and other economic events of the period other than
transactions with owners. The Company expects to adopt SFAS 130 in the first
quarter of 1998 and does not expect comprehensive income to be materially
different from currently reported net income.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
- - ------- ----------------------------------------------------------
No disclosure is required under this item.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
- - ------ -------------------------------------------
The financial statements and notes thereto required by this item begin on page
F-1 as listed in Item 14 of Part IV of this document.
Unaudited quarterly financial data for each of the eight quarters in the
two-year period ended December 31, 1997 is as follows:
IN THOUSANDS, EXCEPT PER SHARE DATA 1ST QUARTER 2ND QUARTER 3RD QUARTER 4TH QUARTER
- - ----------------------------------- ----------- ----------- ----------- -----------
1997
Net sales $ 10,304 $ 13,465 $ 16,071 $ 16,997
Gross margin 5,115 6,842 8,179 9,465
Net income (loss) (355) (1,371) (645) 978
Basic net income (loss) per share (0.04) (0.16) (0.08) 0.11
Diluted net income (loss) per share (0.04) (0.16) (0.08) 0.10
1996
Net sales $ 9,439 $ 11,352 $ 11,431 $ 8,305
Gross margin 4,798 5,879 5,823 4,121
Net income (loss) 58(1) 521 778 (294)
Basic net income (loss) per share 0.01 0.06 0.09 (0.03)
Diluted net income (loss) per share 0.01 0.06 0.09 (0.03)
(1) Operating expenses in the first quarter of 1996 included a $612 one-time
charge for acquired in-process research and development related to the
Gorilla Foods acquisition.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
- - ------ ---------------------------------------------------------------
FINANCIAL DISCLOSURE
--------------------
None.
22
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
- - ------- --------------------------------------------------
Information required by this item is included under the captions ELECTION OF
DIRECTORS, EXECUTIVE OFFICERS and SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING
COMPLIANCE in the Company's Proxy Statement for its 1998 Annual Meeting of
Shareholders and is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
- - ------- ----------------------
Information required by this item is included under the captions EXECUTIVE
COMPENSATION, DIRECTOR COMPENSATION, EMPLOYMENT CONTRACTS AND TERMINATION OF
EMPLOYMENT AND CHANGE-IN-CONTROL ARRANGEMENTS and COMPENSATION COMMITTEE
INTERLOCKS AND INSIDER PARTICIPATION IN COMPENSATION DECISIONS in the Company's
Proxy Statement for its 1998 Annual Meeting of Shareholders and is incorporated
herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- - ------- --------------------------------------------------------------
Information required by this item is included under the caption SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT in the Company's Proxy
Statement for its 1998 Annual Meeting of Shareholders and is incorporated herein
by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- - ------- ----------------------------------------------
Information required by this item is included under the caption CERTAIN
RELATIONSHIPS AND RELATED TRANSACTIONS in the Company's Proxy Statement for its
1998 Annual Meeting of Shareholders and is incorporated herein by reference.
23
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
- - ------- ---------------------------------------------------------------
(A) FINANCIAL STATEMENTS AND SCHEDULES
Page
----
Report of Arthur Andersen LLP F-1
Balance Sheets - December 31, 1997 and 1996 F-2
Statements of Operations for the years ended
December 31, 1997, 1996 and 1995 F-3
Statements of Shareholders' Equity - December 31,
1997, 1996 and 1995 F-4
Statements of Cash Flows for the years ended
December 31, 1997, 1996 and 1995 F-5
Notes to Financial Statements F-6
Report of Independent Public Accountants on Financial
Statement Schedule F-15
Schedule II Valuation and Qualifying Accounts F-16
(B) REPORTS ON FORM 8-K
There were no reports on Form 8-K filed during the quarter ended December 31,
1997.
(C) EXHIBITS
Exhibits are listed on the Index to Exhibits following the financial statements
included in this report.
24
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Date: March 27, 1998
--------------
GARDENBURGER, INC.
By: /s/ Lyle G. Hubbard
-------------------------------------
Lyle G. Hubbard
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities indicated on March 27, 1998.
Signature Title
- - --------- -----
/s/ Lyle G. Hubbard
- - --------------------- Director, President and Chief Executive Officer
Lyle G. Hubbard (Principal Executive Officer)
/s/ Richard C. Dietz
- - --------------------- Executive Vice President, Chief Financial
Richard C. Dietz Officer, Secretary and Treasurer
(Principal Financial and Accounting Officer)
RICHARD L. MAZER*
- - --------------------- Director
Richard L. Mazer
MARY O. MCWILLIAMS*
- - --------------------- Director
Mary O. McWilliams
MICHAEL L. RAY*
- - --------------------- Director
Michael L. Ray
E. KAY STEPP*
- - --------------------- Chairman of the Board
E. Kay Stepp
PAUL F. WENNER*
- - --------------------- Founder, Chief Creative Officer
Paul F. Wenner and Director
*/s/ Richard C. Dietz
- - ---------------------
Richard C. Dietz
(Attorney-in-Fact)
25
Report of Independent Public Accountants
To the Board of Directors and Shareholders of
Gardenburger, Inc.:
We have audited the accompanying balance sheets of Gardenburger, Inc. (an Oregon
corporation) as of December 31, 1997 and 1996 and the related statements of
operations, shareholders' equity and cash flows for each of the three years in
the period ended December 31, 1997. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audit in accordance with generally accepted auditing standards.
Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Gardenburger, Inc. as of
December 31, 1997 and 1996, and the results of its operations and its cash flows
for each of the three years in the period ended December 31, 1997, in conformity
with generally accepted accounting principles.
/s/ ARTHUR ANDERSEN LLP
Portland, Oregon,
February 5, 1998
F-1
GARDENBURGER, INC.
BALANCE SHEETS
(In thousands, except share amounts)
December 31, December 31,
1997 1996
------------------ ------------------
Assets
Current Assets:
Cash and cash equivalents (Note 1) $ 2,602 $ 7,755
Accounts receivable, net of allowances of
$275 and $177 (Note 1) 8,848 2,800
Inventories, net (Notes 1 and 2) 3,203 4,790
Prepaid expenses 2,321 378
Income taxes receivable 475 653
Deferred income tax benefit (Note 6) 713 470
------- -------
Total Current Assets 18,162 16,846
Property, Plant and Equipment, net of accumulated
depreciation of $2,005 and $1,220 (Notes 1 and 3) 7,822 6,814
Other Assets, net of accumulated amortization of
$250 and $122 (Note 1) 1,261 1,274
------- -------
Total Assets $27,245 $24,934
======= =======
Liabilities and Shareholders' Equity
Current Liabilities:
Accounts payable $ 3,165 $ 2,173
Payroll and related liabilities payable 948 458
Accrued employee bonuses 668 221
Accrued relocation 161 178
Accrued brokers' commissions 469 199
Accrued slotting fees 679 10
Other current liabilities 568 214
------- -------
Total Current Liabilities 6,658 3,453
Deferred Income Tax Liability (Note 6) 438 502
Other Long-Term Liabilities 310 -
Shareholders' Equity:
Preferred Stock, no par value, 5,000,000 shares
authorized; none issued (Note 9) - -
Series A Junior Participating Preferred Stock,
no par value, 250,000 shares authorized;
none issued (Note 9) - -
Common Stock, no par value, 25,000,000 shares
authorized; shares issued and outstanding:
8,608,254 and 8,566,456 8,651 8,468
Additional paid-in capital 4,203 4,139
Retained earnings 6,985 8,372
------- -------
Total Shareholders' Equity 19,839 20,979
------- -------
Total Liabilities and Shareholders' Equity $27,245 $24,934
======= =======
The accompanying notes are an integral part of these balance sheets.
F-2
GARDENBURGER, INC.
STATEMENTS OF OPERATIONS
(In thousands, except per share amounts)
For the Year Ended December 31,
1997 1996 1995
--------------- --------------- ---------------
Net sales $56,837 $40,527 $36,818
Cost of goods sold 27,236 19,906 18,098
------- ------- -------
Gross margin 29,601 20,621 18,720
Operating expenses:
Sales and marketing 26,191 13,583 11,151
General and administrative 5,471 4,963 3,871
Acquired in-process research & development - 612 -
------- ------- -------
31,662 19,158 15,022
------- ------- -------
Operating income (loss) (2,061) 1,463 3,698
Other income (expense):
Interest income 145 365 284
Other, net (136) (38) (131)
------- ------- -------
9 327 153
------- ------- -------
Income (loss) before provision for
(benefit from) income taxes (2,052) 1,790 3,851
Provision for (benefit from) income taxes (659) 727 1,341
======= ======= =======
Net income (loss) $(1,393) $ 1,063 $ 2,510
======= ======= =======
Net income (loss) per share - basic $ (0.16) $ 0.13 $ 0.33
======= ======= =======
Net income (loss) per share - diluted $ (0.16) $ 0.12 $ 0.29
======= ======= =======
The accompanying notes are an integral part of these statements.
F-3
GARDENBURGER, INC.
STATEMENTS OF SHAREHOLDERS' EQUITY
For the Years Ended December 31, 1997, 1996 and 1995
(In thousands, except share amounts)
Common Stock Additional Total
-------------------------------- Paid-In Retained Shareholders'
Shares Amount Capital Earnings Equity
-------------- -------------- -------------- -------------- -------------
Balance at December 31, 1994 7,642,122 $ 7,312 $ 1,927 $ 4,789 $14,028
Exercise of Common Stock Options 59,334 291 - - 291
Income tax benefit of non-qualified stock
option exercises and disqualifying
dispositions - - 126 - 126
Net income - - - 2,510 2,510
---------- ------- ------- ------- -------
Balance at December 31, 1995 7,701,456 7,603 2,053 7,299 16,955
Exercise of Common Stock Options 625,000 625 - - 625
Income tax benefit of non-qualified stock
option exercises and disqualifying
dispositions - - 1,336 - 1,336
Issuance of shares for acquisition
of Gorilla Foods, Inc. 240,000 240 750 - 990
Foreign currency translation - - - 10 10
Net income - - - 1,063 1,063
--------- ------- ------- ------- -------
Balance at December 31, 1996 8,566,456 8,468 $ 4,139 8,372 20,979
Exercise of Common Stock Options 41,798 183 - - 183
Income tax benefit of non-qualified stock
option exercises and disqualifying
dispositions - - 64 - 64
Foreign currency translation - - - 6 6
Net loss - - - (1,393) (1,393)
========= ======= ======== ======= =======
Balance at December 31, 1997 8,608,254 $ 8,651 $ 4,203 $ 6,985 $19,839
========= ======= ======== ======= =======
The accompanying notes are an integral part of these statements.
F-4
GARDENBURGER, INC.
STATEMENTS OF CASH FLOWS
(In thousands)
For the Year Ended December 31,
1997 1996 1995
--------------- ---------------- ----------------
Cash flows from operating activities:
Net income (loss) $ (1,393) $ 1,063 $ 2,510
Effect of exchange rate on operating accounts 6 10 -
Adjustments to reconcile net income (loss) to net cash flows provided by
(used in) operating activities:
Depreciation and amortization 977 594 334
Acquired in-process research and development, net of tax - 386 -
Loss on sale of fixed assets 145 52 52
Deferred income taxes (307) (57) (154)
(Increase) decrease in:
Investments - - 507
Accounts receivable, net (6,048) 141 (519)
Inventories, net 1,587 (3,228) 1,398
Prepaid expenses (1,943) (181) (60)
Income taxes receivable, net 178 (922) 2,559
Increase (decrease) in:
Accounts payable 992 1,134 409
Payroll and related liabilities 490 50 178
Other accrued liabilities 1,723 413 239
-------- -------- --------
Net cash provided by (used in) operating activities (3,593) (545) 7,453
Cash flows from investing activities:
Payments for purchase of property and equipment (12,141) (2,428) (2,219)
Proceeds from sale of equipment 10,477 26 1
Cash paid for Gorilla Foods and Whole Food Marketing - (419) -
Other assets, net (143) (87) (137)
-------- -------- --------
Net cash used in investing activities (1,807) (2,908) (2,355)
Cash flows from financing activities:
Proceeds from exercise of common stock options and warrants 183 625 291
Income tax benefit of non-qualified stock option
exercises and disqualifying dispositions 64 1,336 126
-------- -------- --------
Net cash provided by financing activities 247 1,961 417
Increase (decrease) in cash and cash equivalents (5,153) (1,492) 5,515
Cash and cash equivalents:
Beginning of period 7,755 9,247 3,732
-------- -------- --------
End of period $ 2,602 $ 7,755 $ 9,247
======== ======== ========
The accompanying notes are an integral part of these statements.
F-5
GARDENBURGER, INC.
NOTES TO FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS AND AS OTHERWISE INDICATED)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- - ----------------------------------------------------------------
ORGANIZATION AND NATURE OF OPERATIONS
Gardenburger, Inc. was incorporated in Oregon in 1985 to provide a line of food
products in response to the public's awareness of the importance of diet to
overall health and fitness. Toward this end, the Company developed and now
produces and distributes products that include a variety of frozen, meatless
items that are generally low in cholesterol and fat. The Company's products are
principally sold to retail and institutional customers throughout the United
States.
ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent 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.
Management believes that the estimates used are reasonable.
CASH EQUIVALENTS
Cash equivalents consist of highly liquid investments with maturities at the
date of purchase of 90 days or less.
INVENTORIES
Inventories are valued at standard cost, which approximates the lower of cost
(using the first-in, first-out (FIFO) method), or market, and include materials,
labor and manufacturing overhead.
GOODWILL
Goodwill is being amortized using the straight-line method over ten years.
PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment are stated at cost. Depreciation and amortization
are provided using straight-line and accelerated methods over the estimated
useful lives of the assets. Leasehold improvements are amortized over the lease
term or the estimated useful life of the asset, whichever is shorter.
Estimated useful lives are as follows:
BUILDINGS AND IMPROVEMENTS 3-40 YEARS MACHINERY AND EQUIPMENT 7-30 YEARS
OFFICE FURNITURE AND EQUIPMENT 3-10 YEARS VEHICLES 5 YEARS
F-6
CONCENTRATIONS OF CREDIT RISK AND SIGNIFICANT CUSTOMERS
The Company invests its excess cash with high credit quality financial
institutions, which bear minimal risk, and, by policy, limits the amount of
credit exposure to any one financial institution.
For the year ended December 31, 1997, two customers accounted for approximately
19 percent and 10 percent of revenue and 7 percent and 7 percent of the accounts
receivable balance at December 31, 1997, respectively.
For the year ended December 31, 1996, two customers accounted for approximately
23 percent and 12 percent of revenue and 32 percent and 13 percent of the
accounts receivable balance at December 31, 1996, respectively.
For the year ended December 31, 1995, two customers accounted for approximately
23 and 12 percent of revenue and 24 and 8 percent of the accounts receivable
balance at December 31, 1995, respectively.
Historically, the Company has not incurred significant losses related to its
accounts receivable.
REVENUE RECOGNITION
Revenue from the sale of products is generally recognized at time of shipment to
the customer. Promotional and other discounts are accrued at time of shipment
based on historical experience.
ADVERTISING COSTS
Advertising costs, which are included in sales and marketing expense, are
expensed when the advertising first takes place. Advertising expense was
approximately $3,844, $1,539 and $871 in 1997, 1996 and 1995, respectively.
SLOTTING FEES
Slotting fees associated with new products or new territories are deferred and
amortized over the twelve-month period following the initial introductions.
RESEARCH AND DEVELOPMENT COSTS
Research and development costs are expensed as incurred. Research and
development expense was approximately $565 in 1997 and $1,000 in 1996, which
includes a one-time charge of $612 for in-process research and development in
conjunction with the acquisition of Gorilla Foods (see Note 7). The amount spent
on such activities during 1995 was immaterial.
F-7
NET INCOME (LOSS) PER SHARE
Beginning December 31, 1997, basic earnings per share (EPS) and diluted EPS are
required to be computed using the methods prescribed by Statement of Financial
Accounting Standard No. 128, EARNINGS PER SHARE (SFAS 128). Basic EPS is
calculated using the weighted average number of common shares outstanding for
the period and diluted EPS is computed using the weighted average number of
common shares and dilutive common equivalent shares outstanding. Prior period
amounts have been restated to conform with the presentation requirements of SFAS
128. Following is a reconciliation of basic EPS and diluted EPS:
Year Ended December 31, 1997 1996 1995
- - ----------------------- ----------------------------- ----------------------------- ----------------------------
Per Share Per Share Per Share
BASIC EPS Income Shares Amount Income Shares Amount Income Shares Amount
----------------------------- ----------------------------- ----------------------------
Income (loss) available to
Common Shareholders $(1,393) 8,584 $ (0.16) $ 1,063 8,456 $ 0.13 $ 2,510 7,670 $ 0.33
======= ====== ======
Effect of Dilutive Securities
Stock Options - - - 610 - 969
------- ------ ------- ------ ------- -----
DILUTED EPS
Income (loss) available to
Common Shareholders $(1,393) 8,584 $ (0.16) $ 1,063 9,066 $ 0.12 $ 2,510 8,639 $ 0.29
======= ====== ======
At December 31, 1997, 1996 and 1995, the Company had options covering 2,447,959
and 394 shares, respectively, of the Company's Common Stock outstanding that
were not considered in the respective diluted EPS calculations since they would
have been antidilutive.
RECLASSIFICATIONS
Certain amounts in the prior year financial statements have been reclassified to
conform to the current year presentation.
2. INVENTORIES
- - ---------------
Detail of inventories at December 31, 1997 and 1996 is as follows:
December 31, 1997 1996
- - ---------------------------------------- --------------- -----------------
Raw materials $ 1,148 $ 670
Packaging and supplies 193 243
Finished goods 1,862 3,877
======= =======
$ 3,203 $ 4,790
======= =======
3. PROPERTY, PLANT AND EQUIPMENT
- - ---------------------------------
December 31, 1997 1996
- - ---------------------------------------- --------------- -----------------
Land $ 787 $ 787
Building and improvements 3,374 1,968
Machinery and equipment 3,897 3,825
Vehicles 52 49
Office furniture and equipment 1,717 1,405
------- -------
9,827 8,034
Less accumulated depreciation (2,005) (1,220)
======= =======
$ 7,822 $ 6,814
======= =======
F-8
4. LINE OF CREDIT
- - -------------------
On June 26, 1997, the Company signed a $10.0 million unsecured line of credit
agreement with a commercial bank. Interest is at the bank's reference rate or,
at the Company's option, at LIBOR plus 1.0 percent or at the Offshore Rate plus
1.0 percent. The line of credit decreases to $5.0 million on April 16, 1998 and
expires July 1, 1998. The line of credit agreement contains certain financial
and other covenants. At December 31, 1997, there were no amounts outstanding
under this line of credit and the Company was in compliance with its covenants.
At December 31, 1997, the bank's reference rate was 8.5 percent.
5. LEASE COMMITMENTS
- - ----------------------
Future minimum lease payments at December 31, 1997 were as follows:
Year Ended December 31,
- - -----------------------
1998 $ 1,691
1999 1,763
2000 1,763
2001 1,793
2002 1,793
Thereafter 3,211
-------
Total $12,014
=======
Rental expense for the years ended December 31, 1997, 1996 and 1995 was $601,
$257 and $180, respectively.
6. INCOME TAXES
- - -----------------
The Company accounts for income taxes under Statement of Financial Accounting
Standards 109, ACCOUNTING FOR INCOME TAXES. The Company realizes tax benefits as
a result of the exercise of nonqualified stock options and the exercise and
subsequent sale of certain incentive stock options (disqualifying dispositions).
For financial reporting purposes, any reduction in income tax obligations as a
result of these tax benefits is credited to additional paid-in capital. Tax
benefits of $64, $1,336 and $126 were credited to additional paid-in capital in
1997, 1996 and 1995, respectively.
The provision for (benefit from) income taxes is as follows:
December 31, 1997 1996 1995
- - ---------------------------- ---------- ---------- ----------
CURRENT:
Federal $ (352) $ 616 $1,309
State - 168 186
------ ------ ------
(352) 784 1,495
DEFERRED (307) (57) (154)
====== ====== ======
$ (659) $ 727 $1,341
====== ====== ======
F-9
Total deferred income tax assets were $972 and $507 and liabilities were $697
and $539 at December 31, 1997 and 1996, respectively. Individually significant
temporary differences are as follows:
December 31, 1997 1996
- - ----------------------------------- --------------- --------------
Accounts receivable reserves $ 115 $ 74
Inventory 174 238
Book/tax depreciation differences (515) (517)
The Company's deferred tax assets are realizable as a result of past and future
income.
At December 31, 1997, the Company had available federal and state income tax
carryforwards of $111 and $109, respectively. The federal income tax
carryforwards do not expire and the state income tax carryforwards expire
through the year 2012.
The reconciliation between the effective tax rate and the statutory federal
income tax rate is as follows:
December 31, 1997 1996 1995
- - ----------------------------------------------- ------- ------ ------
Statutory federal income tax rate (34.0)% 34.0% 34.0%
State taxes, net of federal income tax benefit (3.5) 5.9 3.4
Tax exempt interest and dividends (1.7) (4.0) (2.3)
Trademark and goodwill amortization 1.5 2.0 --
Meals and entertainment 1.8 -- --
Revision of prior year estimates 1.6 2.0 --
Other 2.2 0.7 (0.3)
------- ------ ------
Effective tax rate (32.1)% 40.6% 34.8%
======= ====== ======
7. ACQUISITIONS
- - -----------------
In January 1996 the Company completed the acquisition of Ojai, California-based
Gorilla Foods, Inc., a privately held developer and manufacturer of wheat
protein-based, meatless food products, including the GardenDog. The Company
issued 240 shares of the Company's Common Stock in exchange for all outstanding
common shares of Gorilla Foods, and paid $69 in cash. In addition, the Company
agreed to issue up to an additional 200 shares of the Company's Common Stock in
50 share increments if the Company's sales of wheat protein-based products reach
certain levels over the next five years. The Company incurred a one-time charge
of $612 in the first quarter of 1996 as a result of the acquisition of
in-process research and development associated with this acquisition, with the
remainder of the purchase price primarily allocated to goodwill.
In a separate transaction in January 1996, the Company completed the acquisition
of the assets of Whole Food Marketing, Inc., a Southern California based food
broker of the Company's and Gorilla Foods' products. The Company paid $350 for
the assets of Whole Food Marketing, Inc., all of which was allocated to
goodwill. This acquisition was accounted for under the purchase method.
F-10
Pro forma financial information has not been provided for these acquisitions, as
the pro forma results are not materially different from actual results.
8. RELATED PARTY TRANSACTIONS
- - -------------------------------
The Company leases its S.E. 8th Avenue plant facility from the Company's Chief
Creative Officer and one other shareholder. This lease agreement provides for a
$2.2 monthly rent payment. The lease provides for cancellation, without penalty,
by either party with a 30-day notice.
9. SHAREHOLDERS' EQUITY
- - -------------------------
PREFERRED STOCK
The Company has authorized 5,000 shares of preferred stock. Such stock may be
issued by the Board of Directors in one or more series, with the preferences,
limitations and rights of each series to be determined by the Board of
Directors.
PREFERRED SHARE PURCHASE RIGHTS
In April 1996, the Company declared a dividend distribution of one preferred
share purchase right on each outstanding share of the Company's Common Stock.
Each right will entitle shareholders to buy one one-hundredth of a share of
Series A Junior Participating Preferred Stock of the Company at an exercise
price of $47 per share. The rights will be exercisable if a person or group
acquires 15 percent or more of the Company's Common Stock or announces a tender
offer for 15 percent or more of the Common Stock. The Company's Board of
Directors is entitled to redeem the rights at $.01 per right at any time before
a person has acquired 15 percent or more of the outstanding Common Stock.
STOCK OPTIONS AND WARRANTS
On March 10, 1992, the Company granted a non-statutory stock option to its then
Chief Executive Officer exercisable for 1,650 shares of the Company's Common
Stock. Such option is exercisable for a period of ten years from the date of
grant at an exercise price of $1.00 per share, the fair market value of the
Company's Common Stock on the date of grant. During 1996, an option covering 625
of the shares was exercised. At December 31, 1997, an option to purchase 1,025
shares of Common Stock was outstanding, all of which were exercisable. At
December 31, 1997, 1,025 shares of the Company's Common Stock were reserved for
issuance under this option grant.
In addition, the Company has a 1992 First Amended and Restated Combination Stock
Option Plan (the "Plan") which provides for the issuance of incentive stock
options ("ISOs") to employees and officers of the Company and non-statutory
stock options ("NSOs") to employees, officers, directors and consultants of the
Company. Under the Plan, the exercise price of an ISO cannot be less than the
fair market value on the date of grant and the exercise price of an NSO cannot
be less than 85 percent of fair market value on the date of grant. Options
granted under the Plan generally vest three to five years from the date of grant
and generally expire ten years from the date of grant. At December 31, 1997, the
Company had 2,091 shares of Common Stock reserved for issuance under the Plan.
F-11
Activity under the Plan is summarized as follows:
Shares Available Shares Subject to Weighted Average
for Grant Options Exercise Price
-------------------- --------------------- ----------------------
Balances December 31, 1994 460 240 $ 7.88
Additional shares reserved 1,500 -- --
Options granted (326) 326 11.77
Options canceled 13 (13) 10.19
Options exercised -- (58) 4.95
-------------------- --------------------- ----------------------
Balances, December 31, 1995 1,647 495 10.73
Options granted (902) 902 7.88
Options canceled 21 (21) 12.11
Options exercised -- (9) 3.08
-------------------- --------------------- ----------------------
Balances, December 31, 1996 766 1,367 8.87
Options granted (173) 173 7.16
Options canceled 76 (76) 8.91
Options exercised -- (42) 4.37
==================== ===================== ======================
Balances, December 31, 1997 669 1,422 $ 8.36
==================== ===================== ======================
STATEMENT OF FINANCIAL ACCOUNTING STANDARDS NO. 123
During 1995, the Financial Accounting Standards Board issued SFAS 123 which
defines a fair value based method of accounting for employee stock options and
similar equity instruments and encourages all entities to adopt that method of
accounting for all of their employee stock compensation plans. However, it also
allows an entity to continue to measure compensation cost for those plans using
the method of accounting prescribed by APB 25. Entities electing to continue to
use the accounting treatment in APB 25 must make pro forma disclosures of net
income and, if presented, earnings per share, as if the fair value based method
of accounting defined in SFAS 123 had been adopted.
The Company has elected to account for its stock-based compensation plans under
APB 25; however, the Company has computed, for pro forma disclosure purposes,
the value of all options granted during 1997, 1996 and 1995 using the
Black-Scholes option pricing model as prescribed by SFAS 123 using the following
weighted average assumptions for grants:
For the Year Ended
December 31, 1997 1996 1995
-------------- ------------- ---------------
Risk-free interest rate 6.25% 6.0% 6.0%
Expected dividend yield 0% 0% 0%
Expected lives 6.5 years 8 years 8 years
Expected volatility 58.11% 60.94% 64.51%
F-12
Using the Black-Scholes methodology, the total value of options granted during
1997, 1996 and 1995 was $760, $4,762 and $2,721, respectively, which would be
amortized on a pro forma basis over the vesting period of the options (typically
four years). The weighted average per share fair value of options granted during
1997, 1996 and 1995 was $4.45, $5.55 and $8.47, respectively. If the Company had
accounted for its stock-based compensation plans in accordance with SFAS 123,
the Company's net income (loss) and net income (loss) per share would
approximate the pro forma disclosures below:
For the Year Ended
December 31, 1997 1996 1995
------------------------- --------------------------- ---------------------------
As Reported Pro Forma As Reported Pro Forma As Reported Pro Forma
----------- --------- ----------- --------- ------------ -----------
Net income (loss) $(1,393) $(3,102) $1,063 $(299) $2,510 $1,046
Basic net income (loss)
per share $(0.16) $(0.36) $0.13 $(0.04) $0.33 $0.14
Diluted net income
(loss) per share $(0.16) $(0.36) $0.12 $(0.04) $0.29 $0.12
The effects of applying SFAS 123 in this pro forma disclosure are not indicative
of future amounts. SFAS 123 does not apply to awards prior to January 1, 1995,
and additional awards are anticipated in future years.
The following table summarizes information about stock options outstanding at
December 31, 1997:
Options Outstanding Options Exercisable
- - ------------------------------------------------------------------------------ -----------------------------------
Weighted
Average Weighted Number of Weighted
Range of Exercise Number Remaining Average Shares Average
Prices Outstanding at Contractual Exercise Exercisable at Exercise Price
12/31/97 Life - Years Price 12/31/97
- - ------------------- ---------------- --------------- -------------- ---------------- ---------------
$ 1.00 1,025 4.0 $ 1.00 1,025 $ 1.00
3.08-5.00 14 4.0 3.30 14 3.30
6.51-9.00 1,026 8.3 7.77 405 7.58
9.56-11.75 351 5.7 11.57 308 11.56
11.76-13.25 31 7.4 12.85 31 12.85
============= ====== ===== ======== ======= ========
$ 1.00-13.25 2,447 6.1 $ 5.52 1,783 $ 4.54
============= ====== ===== ======== ======= ========
At December 31, 1996 and 1995, 1,575 and 2,010 options, respectively, were
exercisable at weighted average exercise prices of $4.05 per share and $2.66 per
share, respectively.
F-13
10. 401(K) PLAN
- - ----------------
The Company has a 401(k) Salary Deferral Plan, which covers all employees who
have reached the age of 18. The covered employees may elect to have an amount
deducted from their wages for investment in a retirement plan. The Company
matches 100 percent of employee contributions up to two percent of compensation.
The Company's contribution to this plan was approximately $106 in 1997, $74 in
1996 and $51 in 1995.
11. SUPPLEMENTAL CASH FLOW INFORMATION
- - ---------------------------------------
Supplemental disclosure of cash flow information is as follows:
1997 1996 1995
- - --------------------------------------------------------- ------------- ------------ -------------
Cash paid during the period for interest $ -- $ -- $ 1
Cash paid during the period for income taxes 13 1,062 96
Issuance of Common Stock in exchange for the assets of
Gorilla Foods, Inc. -- 990 --
F-14
Report of Independent Public Accountants
on Financial Statement Schedule
We have audited in accordance with generally accepted auditing standards, the
financial statements included in Gardenburger, Inc.'s Form 10-K, and have issued
our report thereon dated February 5, 1998. Our audit was made for the purpose of
forming an opinion on those statements taken as a whole. The schedule listed on
page F-16 is the responsibility of the Company's management and is presented for
purposes of complying with the Securities and Exchange Commission's rules and is
not part of the basic financial statements. This schedule has been subjected to
the auditing procedures applied in our audit of the basic financial statements
and, in our opinion, fairly states, in all material respects, the financial data
required to be set forth therein in relation to the basic financial statements
taken as a whole.
/s/ ARTHUR ANDERSEN LLP
Portland, Oregon
February 5, 1998
F-15
SCHEDULE II
GARDENBURGER, INC.
VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED DECEMBER 31, 1995, 1996 AND 1997
(In thousands)
Column A Column B Column C Column D Column E
- - -------------------------------------- -------------- ---------------------------------- ------------- ---------------
Balance Charged Charged to Balance
at Beginning to Costs and Other Accounts - Deductions - at End
Description of Period Expenses Describe Describe(a) of Period
- - -------------------------------------- -------------- --------------- ---------------- ------------- ---------------
Year Ended December 31, 1995:
Reserves deducted from asset accounts:
Allowance for uncollectible accounts $ 50 $ 72 $ - $ 2 $ 120
Year Ended December 31, 1996:
Reserves deducted from asset accounts:
Allowance for uncollectible accounts $ 120 $ 70 $ - $ 13 $ 177
Year Ended December 31, 1997:
Reserves deducted from asset accounts:
Allowance for uncollectible accounts $ 177 $ 128 $ - $ 30 $ 275
(a) Charges to the account included in this column are for the purposes for which the reserve was created.
F-16
Exhibit Index
Exhibit No. Description
- - ----------- -----------
3.1 Restated Articles of Incorporation as amended October 17, 1997(8)
3.2 1995 Restated Bylaws(6)
4 Instruments defining the rights of security holders. See Article
II, Sections 3, 4 and 5 of Restated Articles of Incorporation and
Article I of 1995 Restated Bylaws(6)(8)
10.1 Business Loan Agreement with Bank of America re: Line-of-Credit,
dated June 26, 1997(9)
10.2 Plant Lease-1416 S.E. 8th, Portland, Oregon(1)
10.3 First Amendment to Plant Lease-1416 S.E. 8th, Portland, Oregon
10.4 Office Lease-975 S.E. Sandy Blvd., Portland, Oregon(4)
10.5 Consent to Assignment and Option to purchase 1005 S.E.
Washington, Portland, Oregon(1)
10.6 Morrison Plaza Office Lease dated October 29, 1996(10)
10.7 First Amendment to Morrison Plaza Office Lease, dated December 9,
1997
10.8 Facility Lease by and between Freeport Center Associates, a Utah
general partnership and Wholesome & Hearty Foods, Inc., an Oregon
corporation, dated May 28, 1997(9)
10.9 Addendum dated August 1, 1997 to Facility Lease by and between
Freeport Center Associates and Wholesome & Hearty Foods, Inc.
10.10 Purchase and Sale Agreement and Receipt For Earnest Money Between
the Iseli Family Partnership, an Oregon Partnership (Seller) and
the Company (Buyer), as amended, dated May 8, 1995(5)
10.11 1992 First Amended and Restated Combination Stock Option
Plan(4)(11)
10.12 Lyle Hubbard Employment Agreement dated April 14, 1996(10)(11)
10.13 Paul F. Wenner Employment Agreement and Amendment thereto(1)(11)
10.14 Paul F. Wenner Stock Option Agreement(2)(11)
10.15 Form of Severance Agreement for Executive Officers(10)(11)
10.16 Form of Indemnification Agreement between the Company and its
Officers and Directors(3)(11)
10.17 Plan and Agreement of Reorganization by Exchange by the Company
of its Voting Stock for Substantially All The Properties of
Gorilla Foods, Inc., dated January 31, 1996(5)
Exhibit No.
- - -----------
10.18 1998 Executive Annual Incentive Plan(11)
10.19 Consulting Agreement between the Company and E. Kay Stepp, dated
November 1, 1996(10)(11)
10.20 Amendment No. 1 to Consulting Agreement between the Company and
E. Kay Stepp, dated January 1, 1998(11)
10.21 Rights Agreement between the Company and First Chicago Trust
Company of New York, dated April 25, 1996(7)
10.22 Lease Agreement between BA Leasing & Capital Corporation and
Gardenburger, Inc., dated as of December 17, 1997
10.23 Form of Option Agreement for Option grants to executive officers
after May 24, 1995(11)
10.24 Purchase and Sale Agreement with effective date of March 18,
1998, between the Company and Opus Northwest, L.L.C. for the sale
of real property at N.E. 166th and Airport Way in Portland,
Oregon
23 Consent of Arthur Andersen LLP
24 Powers of Attorney
27.1 Financial Data Schedule
27.2 Restated Financial Data Schedule
(1) Incorporated by reference to the Company's Form S-1 Registration Statement
(Commission File No. 33-46623) as filed with the Securities and Exchange
Commission on May 6, 1992.
(2) Incorporated by reference to the Company's fiscal year ended December 26,
1992 Form 10-K Annual Report as filed with the Securities and Exchange
Commission on March 23, 1993.
(3) Incorporated by reference to the Company's fiscal year ended December 25,
1993 Form 10-K Annual Report as filed with the Securities and Exchange
Commission on March 23, 1994.
(4) Incorporated by reference to the Company's fiscal year ended December 31,
1994 Form 10-K Annual Report as filed with the Securities and Exchange
Commission on March 30, 1995.
(5) Incorporated by reference to the Company's fiscal year ended December 31,
1995 Form 10-K Annual Report as filed with the Securities and Exchange
Commission on March 29, 1996.
(6) Incorporated by reference to the Company's Form 10-Q Quarterly Report for
the quarter ended September 30, 1996, as filed with the Securities and
Exchange Commission on November 4, 1996.
(7) Incorporated by reference to the Company's Form 8-K Current Report, as
filed with the Securities and Exchange Commission on May 8, 1996.
(8) Incorporated by reference to the Company's Form 10-Q Quarterly Report for
the quarter ended September 30, 1997, as filed with the Securities and
Exchange Commission on November 4, 1997.
(9) Incorporated by reference to the Company's Form 10-Q Quarterly Report for
the quarter ended June 30, 1997, as filed with the Securities and Exchange
Commission on August 14, 1997.
(10) Incorporated by reference to the Company's fiscal year ended December 31,
1996 Form 10-K Annual Report as filed with the Securities and Exchange
Commission on March 25, 1997.
(11) Management contract or compensatory plan or arrangement.