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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended March 31, 2005
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from to
Commission File Number: 0-18450
COLOR IMAGING, INC.
------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 13-3453420
-------- ----------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
4350 PEACHTREE INDUSTRIAL BOULEVARD, SUITE 100
NORCROSS, GEORGIA 30071 30071
----------------------------------------------- ----------
(Address of principal executive offices) (Zip code)
(770) 840-1090 FAX (770) 242-3494
---------------------------------
(Registrant's telephone number, including area code)
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 whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes __ No X --
As of April 20, 2005, there were12,690,305 shares of Common Stock outstanding.
COLOR IMAGING, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2005
INDEX
PART I: FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Balance Sheets at March 31, 2005
(Unaudited) and December 31, 2004(Audited)...........................3
Condensed Statements of Operations (Unaudited)
for the Three Months ended March 31, 2005 and 2004...................4
Condensed Statements of Cash Flows (Unaudited)
for the Three Months ended March 31, 2005 and 2004...................5
Notes to Interim Unaudited Condensed Financial Statements..............6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations...................................10
Item 3. Quantitative and Qualitative Disclosures about Market Risks......26
Item 4. Controls and Procedures ......................................... ...27
PART II: OTHER INFORMATION
Item 1. Legal Proceedings ...................................................28
Item 2. Unregistered sales of equity securities
and use of proceeds.................................................28
Item 3. Defaults Upon Senior Securities......................................30
Item 4. Submission of Matters to a Vote of Security Holders...................30
Item 5. Other information ....................................................30
Item 6. Exhibits..............................................................31
Signatures....................................................................33
Exhibits
2
PART I: FINANCIAL INFORMATION
ITEM 1 -FINANCIAL STATEMENTS
COLOR IMAGING, INC.
CONDENSED BALANCE SHEETS
31-Mar-05 31-Dec-04
(Unaudited) (Audited)
--------------- ---------------
- ASSETS -
CURRENT ASSETS:
Cash $ 1,918,745 $ 2,044,989
Accounts receivable - net of allowance for doubtful accounts
of $93,965 and $93,201 for 2005 and 2004, respectively 2,780,078 2,412,354
Inventories 5,331,472 4,854,939
Related party portion of IDR bond - current -- 92,664
Other current assets 106,427 106,618
--------------- ---------------
TOTAL CURRENT ASSETS 10,136,722 9,511,564
--------------- ---------------
PROPERTY, PLANT AND EQUIPMENT - NET 6,645,942 6,601,832
--------------- ---------------
OTHER ASSETS:
Related party portion of IDR bond -- 554,764
Deferred expense re: potential transactions 33,936 --
Other assets 23,871 27,864
--------------- ---------------
57,807 582,628
--------------- ---------------
$ 16,840,471 $ 16,696,024
=============== ===============
- LIABILITIES & STOCKHOLDERS' EQUITY -
CURRENT LIABILITIES:
Revolving credit lines $ -- $ --
Accounts payable 2,145,547 1,625,282
Current portion of notes payable 6,192 6,071
Current portion of notes payable - related parties -- 67,816
Current portion of bonds payable -- 390,000
Other current liabilities 28,130 7,500
--------------- ---------------
TOTAL CURRENT LIABILITIES 2,179,869 2,096,669
--------------- ---------------
LONG TERM LIABILITIES:
Notes payable 3,844 5,438
Bonds payable 2,075,000 2,335,000
Deferred tax liability 704,250 602,450
--------------- ---------------
TOTAL LONG TERM LIABILITIES 2,783,094 2,942,888
--------------- ---------------
TOTAL LIABILITIES 4,962,963 5,039,557
--------------- ---------------
COMMITMENTS & CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, $.01 par value, authorized 20,000,000 shares;
12,690,305 shares issued and outstanding at 2005 and 2004 126,903 126,903
Additional paid-in capital 12,681,472 12,681,472
Accumulated deficit (930,867) (1,151,908)
--------------- ---------------
11,877,508 11,656,467
--------------- ---------------
$ 16,840,471 $ 16,696,024
=============== ===============
See notes to consolidated financial statements.
3
COLOR IMAGING, INC.
CONDENSED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED MARCH 31,
-------------------------------
2005 2004
------------ -------------
SALES $ 5,628,987 $ 5,601,217
C0ST OF SALES 3,832,067 4,195,184
------------ -------------
GROSS PROFIT 1,796,920 1,406,033
------------ -------------
OPERATING EXPENSES
Administrative 436,605 396,668
Research & development 293,897 310,176
Sales & marketing 761,248 598,084
------------ ------------
1,491,750 1,304,928
------------ ------------
INCOME FROM OPERATIONS 305,170 101,105
------------ ------------
OTHER INCOME (EXPENSE)
Other income 41,848 93,580
Financing expenses (24,177) (23,955)
------------ ------------
17,671 69,625
------------ ------------
INCOME BEFORE PROVISION FOR INCOME TAXES 322,841 170,730
PROVISION FOR INCOME TAXES 101,800 68,200
------------ ------------
NET INCOME $ 221,041 $ 102,530
============ ============
INCOME PER COMMON SHARE
Basic $ .02 $ .01
Diluted $ .02 $ .01
============ ============
WEIGHTED AVERAGE SHARES OUTSTANDING
Basic 12,690,305 12,730,505
Assumed conversion 2,128 17,857
------------ ------------
Diluted 12,692,433 12,748,362
============ ============
See accompanying notes
4
COLOR IMAGING, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
THREE MONTHS ENDED MARCH 31,
----------------------------
2005 2004
------------ ------------
Cash flows from operating activities:
Net income $ 221,041 $ 102,530
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization 152,552 148,404
Deferred income taxes 121,800 66,950
Decrease (increase) in:
Accounts receivable and other receivables (367,724) (469,617)
Inventories (476,533) (32,343)
Prepaid expenses and other assets 651,612 305,320
Increase (decrease) in:
Accounts payable and accrued liabilities 540,895 (527,299)
------------ ------------
Net cash provided by (used in) operations 823,643 (406,055)
------------ ------------
Cash flows (used in) investing activities:
Capital expenditures (196,662) (125,338)
Other asset re: potential transaction (10,364) --
------------ ------------
Net cash (used in) investing activities (207,026) (125,338)
------------ ------------
Cash flows from financing activities:
Repurchase of common shares and warrants -- (13,105)
Net (payments) under related party borrowings (67,816) (97,315)
Net (payments) under IDR Bond (650,000) --
Principal payments of long-term debt (1,473) (1,361)
Deferred costs re: potential transaction (23,572) --
------------ ------------
Net cash (used in) financing activities (742,861) (111,781)
------------ ------------
Net (decrease) in cash (126,244) (643,174)
Cash at beginning of year 2,044,989 2,213,830
------------ ------------
Cash at end of period $ 1,918,745 $ 1,570,656
============ ============
Supplemental disclosure of cash flow Information:
Cash paid during the period for:
Interest and financing expense $ 20,633 $ 20,411
============ ============
Income taxes $ 0 $ 0
============ ============
See accompanying notes
5
COLOR IMAGING, INC.
NOTES TO INTERIM CONDENSED FINANCIAL STATEMENTS
March 31, 2005
(Unaudited)
NOTE 1. BASIS OF PRESENTATION
The accompanying unaudited interim condensed financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial information and with the
instructions to Form 10-Q. Accordingly, they do not include all of the
information and footnotes required by accounting principles generally accepted
in the United States of America for complete financial statements. In the
opinion of management, all adjustments (consisting of normal recurring accruals
and adjustments) considered necessary for a fair presentation have been
included. Operating results for the three months ended March 31, 2005 are not
necessarily indicative of the results that may be expected for the year ended
December 31, 2005
NOTE 2. COMMON STOCK AND EQUIVALENTS
In accordance with the provisions of SFAS No. 148, the Company has elected to
continue applying the intrinsic value approach under APB No. 25 in accounting
for its stock-based compensation plans. Accordingly, the Company does not
recognize compensation expense for stock options when the exercise price at the
grant date is equal to or greater than the fair market value of the stock at
that date. The Company generally recognizes compensation expense only when it
grants options with a discounted exercise price, at which time any resulting
compensation expense is recognized ratably over the associated service period,
which is generally the option vesting term.
During the three months ended March 31, 2005 and 2004, the Company did not grant
any options to employees and on March 31, 2005 options granted to an employee to
purchase 10,000 shares of the Company's common stock at an exercise price of
$.54 per share lapsed. The fair value of option granted is estimated on the date
of the grant using the Black-Scholes option-pricing model. For purposes of pro
forma disclosures, the estimated fair value of the options is amortized over the
average vesting period of the options.
The following table illustrates the effect on net income and net income per
share as if the fair value based method had been applied to all outstanding and
vested awards in each period:
THREE MONTHS MARCH 31,
----------------------------
2005 2004
------------ ------------
Net income, as reported $ 251,041 $ 102,530
Less: Pro forma stock based
compensation expense - net of tax 20,846 24,766
------------ ------------
Pro forma net income $ 230,195 $ 77,764
============ ============
Basic Earnings per share:
As reported $ 0.02 $ 0.01
Pro forma $ 0.02 $ 0.01
Diluted Earnings per share:
As reported $ 0.02 $ 0.01
Pro forma $ 0.02 $ 0.01
In computing the number of options exercisable, shares of common stock subject
to options or warrants that are currently exercisable or will become exercisable
within 60 days of the date of this report are deemed outstanding. The following
is a summary of total outstanding and exercisable options and stock warrants at
March 31, 2005:
Options and Warrants Outstanding Options and Warrants Exercisable
Weighted-Average
Range of Exercise Weighted-Average Remaining Weighted-Average
Prices Number Exercise Price Contractual Life Number Exercise Price
- --------------------- --------- ---------------- ------------------- --------- ----------------
Options $0.45-$2.75 1,410,000 $1.59 3.29 years 1,037,500 $1.89
Warrants $2.00 100,000 $2.00 0.28 years 100,000 $2.00
---------------- ------------------- --------- ----------------
Options and warrants 1,510,000 $1.62 3.09 years 1,137,500 $1.90
================ ================
6
NOTE 3. INVENTORIES
Inventories consisted of the following components as of March 31, 2005 and
December 31, 2004:
March 31, 2005 December 31, 2004
---------------- -----------------
Raw materials $ 1,309,732 $ 945,311
Work-in-process 1,776,835 1,464,875
Finished goods 2,373,632 2,526,370
Obsolescence allowance (128,727) (81,617)
---------------- -----------------
Total $ 5,331,472 $ 4,854,939
================ =================
NOTE 4. CHANGES TO BORROWING ARRANGEMENTS
The Company has a $1.5 million revolving line of credit, as amended, with an
outstanding balance as of March 31, 2005 of $0, bearing interest at the
one-month Libor interest rate in effect two business days before the first day
of the month plus 2.50%. As of March 31, 2005, the interest rate was the
one-month Libor rate of 2.86% plus 2.50% (5.36%). This revolving line of credit
has a June 30, 2005 expiration date.
Under the line of credit, the Company is permitted to borrow up to 75% of
eligible accounts receivable and 50% of eligible inventories (up to a maximum of
$750,000 and not to exceed 50% of the total outstanding). On February 6, 2004,
the Bank issued an irrevocable standby letter of credit in the amount of $1.5
million for the benefit of a non-affiliated foreign supplier. The letter of
credit has an expiration date of June 30, 2005. On January 5, 2005, the
irrevocable standby letter of credit was amended and reduced by $500,000 to $1
million. The Company has granted the Bank a security interest in all of the
Company's assets as security for the repayment of the line of credit and the
obligations under the letter of credit. The Bank agreement also contains various
covenants that the Company is required to maintain, and as of March 31, 2005,
the Company was in compliance with these covenants.
NOTE 5. SIGNIFICANT CUSTOMERS
In the three month period ended March 31, 2005, one customer accounted for 16%
of net sales. The Company does not have a written or oral contract with this
customer. All sales are made through purchase orders. Accounts receivable from
this customer at March 31, 2005, was $287,700.
NOTE 6. SIGNIFICANT SUPPLIERS
In the three months ended March 31, 2005, the Company purchased 28% and 23% of
its raw materials, components and supplies from two foreign suppliers with the
former being an affiliate. On February 6, 2004, the Company's Bank issued on
behalf of the Company an irrevocable standby letter of credit in the amount of
$1.5 million for the benefit of its largest non-affiliated foreign supplier. On
January 5, 2005, the irrevocable standby letter of credit was amended and
reduced by $500,000 to $1 million. At March 31, 2005, accounts payable to these
suppliers were $653,352 and $438,152, respectively (see also Note 8).
NOTE 7. FINANCIAL REPORTING FOR BUSINESS SEGMENTS:
The Company believes that its operations are in a single industry segment
involving the development and manufacture of products used in electronic
printing. All of the Company's assets are domestic. The sales to unaffiliated
customers by geographic region from continuing operations for the three-month
periods ended March 31 are as follows:
2005 % 2004 %
------------ ---- ------------ ----
Sales to Unaffiliated Customers:
United States $ 2,632,341 47% $ 3,182,361 57%
Europe 1,900,150 34% 1,222,352 22%
Mexico 592,967 10% 808,546 14%
Asia 260,450 5% 260,518 5%
All Others 243,079 4% 127,440 2%
------------ ------------
Total $ 5,628,987 100% $ 5,601,217 100%
============ ============
7
NOTE 8. RELATED PARTY TRANSACTIONS:
(A) LEASE:
Directors, Jui-Hung Wang, Jui-Kung Wang, Sueling Wang and Jui-Chi Wang, own
Kings Brothers, LLC, the landlord from which the Company leases its Norcross,
Georgia, plant. The real property lease agreement between the Company and Kings
Brothers, LLC, was entered into on April 1, 1999, and was amended on February 5,
2003, extending the expiration date from March 31, 2009 to March 31, 2013. The
rental payments for quarter ended March 31, 2005, were $139,587.
(B) INDUSTRIAL DEVELOPMENT REVENUE BOND
On June 1, 1999, the Development Authority of Gwinnett County (the Authority),
issued $4,100,000 of industrial development revenue bonds on behalf of the
Company and Kings Brothers, LLC. The 2.27% revenue bonds, 3.27% inclusive of the
1% letter of credit fee, as of March 31, 2005, are payable in varying annual
principal and monthly interest payments through July 2019. The bond is secured,
as amended on April 7, 2003, by specific equipment assets of the Company and by
real property owned by Kings Brothers, LLC. The bonds, along with the line of
credit and term loan, are held by two related financial institutions.
A loan agreement between the Authority and the Company and Kings Brothers, LLC
allows funds to effectively pass through the Authority to the Company. The
majority of the proceeds, $3,125,872, were used by the Company to purchase and
install certain manufacturing equipment, while $974,128 was used by Kings
Brothers, LLC to pay down the mortgage on the real property leased to the
Company. The Company and the Related Party are jointly obligated to repay any
outstanding debt. Under the Joint Debtor Agreement of June 28, 2000, between the
Company and the Kings Brothers, LLC, each has agreed to be responsible to the
other for their share of the bond obligations and that any party causing an act
of default shall be responsible for 100% of the bond obligations. The amount for
which Kings Brothers, LLC is responsible to the Company is reflected in current
and other assets of the Company. On March 8, 2005, Kings Brothers, LLC prepaid
the then outstanding principal balance attributable to it in the amount of
$647,460, and per the amendment to the Joint Debtor Agreement as of that date
between the Company and Kings Brothers the prepayment was first applied to the
principal due under the bond in the amount of $390,000 on July 1, 2005. Kings
Brothers, LLC amounts owed to the Authority are secured by a lien on the real
property leased by the Company and by a personal guarantee, as amended, executed
by Director and President of the Company, Sueling Wang. As of March 31, 2005,
the bond principal outstanding was $2,075,000 and the portion due from Kings
Brothers, LLC was $0.
(C) PURCHASES:
The Company purchased from an affiliate for the three months ended March 31,
2005, $961,012 of all in one imaging cartridges, injection molded cartridges and
bottles for copiers and laser printers. Accounts payable to the affiliate at
March 31, 2005, was $653,352. See also Note 6.
(D) MARKETING AND LICENSE AGREEMENT:
On June 1, 2003, the Company entered into a Marketing and Licensing Agreement
with its foreign affiliate. Per the Marketing and Licensing Agreement the
affiliate agrees to indemnify and hold harmless the Company for any costs and
expenses arising from any defective licensed product, and/or any recalled
licensed product including litigation arising therefrom. Further the affiliate
agrees to credit the Company for product cost, shipping and related expenses
arising from any defective licensed product, and/or any recalled licensed
product. Effective April 1, 2004, the parties agreed to amend the Marketing and
Licensing Agreement to reduce the costs of the product to the Company and to
include a royalty payment by the Company to the affiliate based on the net
profit realized upon the sale of the products, after certain marketing expenses
of the Company. Royalty payments for the three months ended March 31, 2005, were
$26,558.
(E) NOTES PAYABLE:
On March 14, 2002, the Company borrowed $500,000 from director, Sueling Wang, on
an unsecured basis. The interest rate on the loan was 12% per annum, matured on
March 14, 2003 and was evidenced in writing. On September 2, 2002, the note was
modified to extend the term to March 1, 2005, provide for a $100,000 principal
payment, decrease the interest rate to 6% per annum and provide for interest
only payments through February 28, 2003 and 24 monthly payments of principal
with interest extra beginning on April 1, 2003, in the amount of $7,500. The
Company borrowed the $500,000 to meet a supplier commitment for product.
Principal and interest paid Sueling Wang on the note for the quarter ended March
31, 2005 was $15,000 and $149, respectively. As of March 31, 2005 the principal
outstanding was $0.
On August 21, 2002, the Company borrowed $100,000 from director, Jui-Chi Wang,
on an unsecured basis. The loan bears interest at the rate of 6% per annum,
matured on March 1, 2005 and was evidenced in writing. The Company borrowed this
amount in order to repay $100,000 borrowed from director Sueling Wang on March
14, 2002. The note is interest only through February 28, 2003, and then is fully
amortizing over 24 months with principal and interest payments payable monthly
beginning April 1, 2003 in the amount of $4,434. Principal and interest paid
Jui-Chi Wang on the note for the quarter ended March 31, 2005 was $8,803 and
$65, respectively. As of March 31, 2005 the principal outstanding was $0.
8
NOTE 8. RELATED PARTY TRANSACTIONS (CONTINUED):
(E) NOTES PAYABLE (CONTINUED):
On August 21 and September 2, 2002, the Company borrowed $200,000 and $300,000,
respectively, from director, Jui-Hung Wang, on an unsecured basis. The loan
bears interest at the rate of 6% per annum, matured on March 1, 2005 and was
evidenced in writing. The Company borrowed this amount in order to make a
principal payment due on its industrial development bond in the approximate
amount of $255,000, for the acquisition of capital equipment in the approximate
amount of $125,000 and for general corporate purposes. The note is interest only
through February 28, 2003, and then is fully amortizing over 24 months with
principal and interest payments payable monthly beginning April 1, 2003 in the
amount of $22,170. Principal and interest paid Jui-Hung Wang on the note for the
quarter ended March 31, 2005 was $44,013 and $326, respectively. As of March 31,
2005 the principal outstanding was $0.
(F) COMMON STOCK
On March 6, 2003, the Company received from Chi Fu Investment Co Ltd $6,075,000
of subscription proceeds for the public sale of 4,500,000 of its common shares
at a price of $1.35 per share in its offering on Form SB-2 filed with the
Securities and Exchange Commission. Chi Fu Investment Co Ltd is a wholly owned
subsidiary of the Company's affiliate, General Plastic Industrial Co., Ltd, and
as of March 31, 2005, Company directors Jui-Hung Wang, Jui-Chi Wang and Jui-Kung
Wang each owned 8.0%, 8.4% and 1.8%, respectively, of General Plastic Industrial
Co., Ltd.
NOTE 9. SUBSEQUENT EVENT
On April 14, 2005, Company's Board of Directors approved a reverse split of the
Company's common stock, with cash payments for fractional shares held by
stockholders with less than one whole share, to be followed immediately by a
forward split at the same ratio to effect a going private transaction. The
Company has had less than 300 stockholders of record since last year, and if the
transaction is approved by the Company's stockholders at its next annual meeting
and implemented, it would enable the Company to voluntarily terminate the
registration of its Common Stock under the Securities Exchange Act of 1934 and
go private. The going private transaction is subject to conditions and
uncertainties, including stockholder approval, the Board's determination to
proceed with the reverse stock split, the conditions of the consent of the
Company's lender and the Company's ability to fund the payment for fractional
shares. .
9
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The following discussions should be read in conjunction with our condensed
financial statements and the related notes thereto.
BACKGROUND
Color Imaging, formerly known as Advatex Associates, Inc., was incorporated in
Delaware in 1987. On May 16, 2000, Advatex, Logical Acquisition Corp., Color
Acquisition Corp., Logical Imaging Solutions, Inc. and Color Image, Inc. entered
into a Merger Agreement and Plan of Reorganization pursuant to which on June 28,
2000, Logical Acquisition Corp. merged with and into Logical Imaging Solutions
and Color Acquisition Corp. merged with and into Color Image. Pursuant to the
Merger Agreement, stockholders of Logical Imaging Solutions and Color Image
exchanged their shares for shares of common stock of Advatex. Logical Imaging
Solutions stockholders converted their shares into shares of common stock of
Advatex at the ratio of 1.84843 shares of common stock of Advatex for each one
share of Logical Imaging Solutions. Color Image stockholders converted their
shares into shares of common stock of Advatex at the ratio of 15 shares of
common stock of Advatex for each one share of Color Image. Following the
conversion of shares by Logical Imaging Solutions and Color Image stockholders,
stockholders of Logical Imaging Solutions and Color Image owned approximately
85% of the outstanding shares of common stock of Advatex and stockholders of
Advatex before the merger owned approximately 15% and Logical Imaging Solutions
and Color Image became wholly-owned subsidiaries of Advatex. The purpose of the
merger was to combine Color Image's toner and consumable expertise and
manufacturing plant with Logical Imaging Solutions' advanced printing system
capabilities to offer a wider product range and ensure product supply for
Logical Imaging Solutions' Solution Series printing systems. Management also
anticipated that the merger with a company that was subject to the Securities
Exchange Act of 1934 would also permit the reorganized business to offer shares
to other acquisition candidates, in lieu of cash.
On July 7, 2000, pursuant to a vote of our stockholders, we changed our name to
Color Imaging, Inc. On December 31, 2000, Color Image, Inc. was merged with and
into Color Imaging. On September 11, 2002, we entered into a share exchange
agreement with Digital Color Print, Inc. and four of our directors to divest our
wholly owned subsidiary, Logical Imaging Solutions, Inc. On September 30, 2002,
the share exchange transaction was completed and Color Imaging disposed of its
wholly-owned subsidiary, Logical Imaging Solutions, Inc., in a common stock
share exchange with Digital Color Print, Inc., which is owned by four former
directors for 1.7 million shares of our common stock and warrants to purchase up
to 15% of the common stock of Digital Color Print or Logical Imaging Solutions.
Since its founding in 1993, Logical Imaging Solutions, Inc.'s development
efforts have focused on creating a high-speed digital variable data printing
system for commercial printing applications that combines software, hardware and
consumable products not only for black text for image printing but also in
color. As the result of our disposing of Logical Imaging Solutions, Inc. we no
longer offer printing systems to commercial printers nor the support services
and consumables related thereto. As a further result of Color Imaging's
divestiture of Logical Imaging Solutions, our investments in the furthering of
Logical Imaging Solutions' technologies and carrying its operations have ceased.
Significantly, since the merger on June 28, 2000, Color Imaging had invested
approximately $2.35 million in the operations of Logical Imaging Solutions and
the development of its technologies.
COLOR IMAGING, INC.
Since 1989, Color Imaging has developed, manufactured and marketed products used
in electronic printing. Color Imaging formulates and manufactures black text and
specialty toners, including color and magnetic character recognition toners for
numerous digital and analog photocopiers, laser printers and facsimile machines.
Color Imaging's toners permit the photocopying and printing of a wide range of
user-selected colors and also the full process color printing of cyan, yellow,
magenta and black. Magnetic character recognition toners enable the printing of
magnetic characters that are required for the high-speed processing of checks
and other financial documents. Color Imaging also supplies other consumable
products used in electronic printing and photocopying, including toner
cartridges, cartridge components and imaging drums.
Color Imaging has continually expanded its product line and manufacturing
capabilities. This expansion has led to the creation and marketing of black
text, color, magnetic character recognition and specialty toner formulations,
including aftermarket toners and imaging products for printers and facsimile
machines manufactured by Brother(TM), Canon(TM), Fuji-Xerox(TM), Hewlett
Packard(TM), Lexmark(TM), Kyocera(TM), Minolta(TM), Okidata(TM). Color Imaging
also manufactures and/or markets toners for use in Canon(TM), Gestetner(TM),
Kyocera/Mita(TM), Konica(TM), Lanier(TM), Minolta(TM), Ricoh(TM), Savin(TM),
Sharp(TM), Toshiba(TM), Xerox(TM) copiers. Color Imaging also offers product
enhancements, including imaging supplies that enable standard laser printers to
print magnetic character recognition data. Color Imaging markets branded
products directly to original equipment manufacturers ("OEMs") and its
aftermarket products worldwide to distributors and re-manufacturers of laser
printer toner cartridges and to distributors and dealers of copier products.
Our strategy for growing revenue and operating profit is to expand, including
through strategic acquisition(s), our printer and copier products business. The
key elements of our strategy are (1) increasing vertical integration by
supplying complete toner and cartridge devices, (2) capitalizing on our research
and development expertise of producing specialty, color and digital copier and
or multifunctional device toners, (3) exploiting the efficiencies associated
with the investment made in manufacturing facilities, (4) expanding our sources
for products from strategic suppliers that we can add value to or resell and
that complement our product lines, (5) increasing international sales and (6)
increasing our copier distributor and dealer customer base.
10
RECENT DEVELOPMENTS
Business Color Products
Business color (meaning copiers or printers with a separate "black" color as
well as the three primary colors of red, blue and yellow) continues to grow with
more and more OEM machine introductions, especially in the higher copy or
printing speeds where full finishing is needed. We have grown our business color
finished product net sales from approximately 10% of our sales in 2004 to 29%
for the quarter ended March 31, 2005, and we expect our sales from color
finished products to continue to increase. The effect of these sales already
reflect in our improving gross and operating profit margins, and we expect these
margins for year 2005 to surpass those of 2004.
A large portion of the business color copier market has been captured by Ricoh
with their B to C machine placements. B to C means ... black to color enabled.
Ricoh is also expanding its color printer only market with many new machine
introductions. New introductions will be the Ricoh 3000 and 4000 printers which
will be added to their current 5000, 7000 and 7100 printer line. Ricoh's intent,
we believe, is to upgrade their entire machine population to these new versions.
We believe cost per color copy is the key to higher volumes of full color copies
in the workplace, and now:
o we plan to continue to introduce color toner cartridges for selected, new,
high volume business color machines,
o we have a full line of business color toners for the Ricoh family of copy
machines, and
o we are prepared to support the entire Ricoh color offering, including their
new printers.
In the quarter ended March 31, 2005, we introduced color toners for the
Konica/Minolta family of business color copiers. Similar copier engines are used
in Konica, Minolta, Kyocera/Mita and Imagistics machines. We have a cartridge
that is universal, meaning it fits across this entire product line.
Additionally, we introduced separate color cartridges for the new C-350 "bizhub"
machine which has been received very well in the marketplace. New products
coming for this family are the Konica 8050 engine and the new C-500 "bizhub."
Here, again, we intend to provide a complete offering of color cartridges for
these product lines.
During the second quarter of 2005, we plan to introduce color toner cartridges
for the OKI printer line of 5100/7200/9300 printers. OKI has been successful
placing this desktop printer and our new universal cartridges will fit many of
these new printers. Also during the second quarter we to plan to introduce color
products for the Sharp and Toshiba business color machines.
We next plan to expand our business color toner cartridge product line by
offering the Canon line of "Business Color" cartridges with the first products
to be introduced planned to be Canon C3100 and C3200 color products.
With the rapid introduction of new color multifunctional printers ("MFP's") by
the OEMs and the users' and dealers'concern about cost per copy and keeping it
down, we are positioning ourselves to be the leading provider of lower cost
aftermarket supplies for these successful business color OEM offerings.
All in one imaging, toner and drum cartridges
We introduced during 2003 the all-in-one imaging, toner and drum cartridges
manufactured by our foreign affiliate. Through March 31, 2005, the Company's net
sales for 100% new all-in-one products were:
Year 1st Quarter 2nd Quarter 3rd Quarter 4th Quarter TOTAL
- ----------- ----------- ----------- ----------- ----------- -----------
2005 $ 621,817 N/A N/A N/A $ 621,817
2004 $ 158,311 $ 657,771 $ 919,197 $ 772,064 $ 2,507,343
2003 $ -- $ -- $ 64,414 $ 64,457 $ 128,871
As of March 31, 3005, the backlog of the Company for these products was $64,367.
Board approved the Company's "going private"
On April 14, 2005, the Company's Board of Directors approved a reverse split of
Color Imaging's common stock, with cash payments for fractional shares held by
stockholders with less than one whole share, to be followed immediately by a
forward split at the same ratio to effect a going private transaction. Color
Imaging has had less than 300 stockholders of record since last year, and if the
transaction is approved by Color Imaging's stockholders at its next annual
meeting and implemented, Color Imaging expects to have fewer than 150
stockholders of record, enabling it to voluntarily terminate the registration of
its Common Stock under the Securities Exchange Act of 1934, go private and
reasonably assure its remaining private for the foreseeable future. The Company
expects to pay the stockholders whose shares will be cancelled a pre-split price
per share to be determined by the Board of Directors based upon the
recommendation of a special committee appointed to review the transaction and
the receipt of a fairness opinion from an investment banker. While the price is
subject to receipt of the fairness opinion by the special committee and the
Board, and is subject to change, the Company expects that the pre-split price
will be $1.10 per share.
11
The Company has received a conditional consent from its lender that will allow
the Company to complete the reverse stock split without violating its debt
covenants. The Company has ceased making purchases under its previously
announced stock repurchase plan. The Board has determined to refrain from any
purchases under that plan until after the stockholder meeting and the conclusion
of the reverse stock split.
The Board intends to submit the matter to the stockholders with the request that
the stockholders give the Board the authority to implement the reverse split
using one of three potential ratios: 1-for-1500, 1-for-2500 or 1-for-5000. The
forward stock split would be adjusted to use a corresponding forward ratio, e.g.
1500-for-1, 2500-for-1 or 5000-for-1. This flexibility would allow the Board to
achieve the desired benefits for the Company, in light of any intervening
changes in the mix of record holders, without having to incur the expense of
calling an additional stockholder meeting, and to not go forward with the
reverse stock split should conditions change and the Board then determines it is
no longer in the best interest of the Company and its stockholders to do so.
The matters discussed in this Form 10-Q related to the going private transaction
will be described more fully in a proxy statement to be distributed to the
stockholders. Stockholders should refer to that proxy statement. This discussion
does not constitute a solicitation for any stockholder's vote. The reverse stock
split is subject to conditions and uncertainties, including stockholder
approval, the Boards determination to proceed with the reverse stock split, the
conditions of the consent of the Company's lender and the Company's ability to
fund the payment for fractional shares. In addition, the proxy statement for the
stockholder meeting will be subject to SEC review, and there may be unforeseen
delays in implementing the reverse stock split. The Company can give no
assurance that it will be able to complete the going private reverse stock split
transaction.
MARKET OVERVIEW AND INDUSTRY
Color Imaging's market for imaging products is the installed base of electronic
printing devices: laser printers and facsimile machines and analog and digital
copiers. Color Imaging competes within this market with products supplied by the
OEM manufacturers and with other suppliers of aftermarket imaging products.
Additional products in this category include enhancement products that extend
the capabilities of the OEM's product, such as magnetic character recognition
toners that enable the printing of magnetic characters on checks and other
financial documents. We market our products worldwide and regionally primarily
to distributors of imaging products who sell to dealers and large end-users. To
a lesser extent, we sell to OEMs, re-manufacturers and a few dealers directly.
We believe the trends in the electronic printing and photocopying industry
affecting original equipment manufacturers of these devices, include (1) the
introduction of products utilizing digital and color printing technologies as
opposed to analog and black text printing, (2) offering business color printing
solutions at a cost per page that are increasingly competitive, (3) OEMs
reducing the selling price of their devices while increasing their printing
speed, functionality and networkability, (4) OEMs increasing the technological
barriers through the use of specialized toners (chemical toners incorporating
polyesters and proprietary raw materials), patents and microprocessors (machine
readable microchips with internet connectivity for supplies management), (5)
OEMs endeavoring to control the market for consumable supplies through the use
of OEMs' technologies as barriers to market entry for re-manufacturers of these
products or manufacturers of like, new, aftermarket products and (6) OEMs
utilizing prebate (license arrangements) and recycling programs to reduce the
number of OEM cartridges available for remanufacture in the aftermarket. Over
time, we believe that digital printers and photocopy machines that print at
speeds of up to 100 pages per minute will merge into one device, delivering
multifunctional capability and color printing that are net-workable at both
lower prices and operating costs to the end user. Consumables for these devices
will become increasingly difficult to remanufacture and for full-color machines
take longer to bring to market, thereby reducing the market share of
re-manufacturers and increasing the opportunity of increased market share for
newly manufactured finished product and for color toner aftermarket suppliers,
such as Color Imaging. In our experience, new aftermarket consumable products
are typically 25% cheaper than OEM's consumables with like functionality - a
savings to the consumer. Seeing that the aftermarket has increasingly gained
acceptance as product quality has steadily improved, we believe that Color
Imaging is positioning itself to take advantage of these trends.
Color Imaging's solution is, through its own technological capability and that
of strategic suppliers, to develop and introduce compatible, newly manufactured,
aftermarket products, ahead of other aftermarket competitors, at a price
significantly below that of the OEM and make these products increasingly
available through distribution channels closer to the end-user.
GROWTH STRATEGY
Our strategy for growing revenue and operating profit is to expand, including
through strategic acquisition(s), our printer and copier products business. The
key elements of our strategy are (1) increasing vertical integration by
supplying complete toner and cartridge devices, (2) capitalizing on our research
and development expertise of producing specialty, color and digital copier and
or multifunctional device toners, (3) exploiting the efficiencies associated
with the investment made in our manufacturing facilities, (4) expanding our
sources for products from strategic suppliers that we can add value to or resell
that complement our product lines, (5) expanding into new geographic markets to
customers in the United States and Europe, and (6) broadening our sales
channels.
Color Imaging's development of new toner products is focused on providing an
aftermarket product for electronic printing devices that achieves a high level
of market acceptance. Color Imaging endeavors to offer equivalent toner products
with equal or better quality at lower prices than the OEM's toner product.
12
Color Imaging is committed to increasing the value added of its toner products
to the end user by providing not only the toners but also the toner cartridge or
canister that is compatible with the OEM's equipment. Color Imaging believes
that by developing toner cartridge and canister devices for specific electronic
printing or copying machines, and integrating those devices with compatible
toners, the market for Color Imaging's toner products will expand. Color Imaging
believes that this approach will also result in increased gross margins.
Color Imaging will continue to emphasize its high margin specialty toner
capability, primarily color toners, while providing lower margin MICR and black
text toners in commodity bulk to a few customers. The bulk quantity of MICR
black text toners is currently being offered to maximize the efficiencies of
Color Imaging's manufacturing plant. The availability of this complete research
and development and manufacturing facility allows for the continued expansion of
specialty, particularly color, toner products.
During 2005, Color Imaging expects to increase its sales of higher margin
digital, color toners for certain popular business color copiers and printers.
The introduction of a few color products in 2003 and 2004 to be followed by
several during 2005 and the expansion of our sales channels is expected to help
Color Imaging increase revenues in 2005, offsetting the further loss of revenues
from our two largest customers of the last several years.
GOALS AND FOCUS FOR THE NEXT FIVE YEARS
We are of the belief that to remain a public company and offer our stockholders
both attractive value and liquidity we should have sales of at least $100
million to $150 million per year, earnings before interest, income taxes,
depreciation and amortization of $10 million to $20 million and move our stock
to a major exchange. We are prepared to grow our Company both internally through
the introduction of uniquely competitive products as well as through mergers and
or acquisitions, even though such an event could mean a change in our management
or control. Some time ago members of our management had conversations with a
specialist of the American Stock Exchange and explored the possibility of
listing with American Stock Exchange when our sales, profitability and outlook
are such that we would benefit from a major exchange listing. We also made
casual inquiries of other companies regarding the desirability of merging with
us. To date, though one such contact led to a number of discussions and
explorations, a confidentiality agreement and the exchange of financial and
business information, no definitive understanding or agreement was reached. As a
result, we have not been able to grow our business through mergers or
acquisitions or significantly from operations, and we have not realized
increased value befitting a public company for our stockholders. In January 2005
our board of directors appointed a special committee to consider strategic
alternatives. Based on the committee's recommendations, the board of directors
of our Company approved a going private transaction on April 14, 2005 (see
Recent Developments and our Form 8-K filed with the SEC on April 19, 2005).
However, there can be no assurance that the Company can complete the approved
going private transaction and achieve the savings or benefits envisioned by
management.
LAST FIVE YEARS
The purpose of the Merger in 2000 (see Background) was to combine Color Image's
toner and consumable expertise and manufacturing plant with Logical Imaging
Solutions' advanced printing system capabilities to offer a wider product range
and ensure product supply for Logical Imaging Solutions' print system, thereby
becoming an OEM with our own high speed color printer and toner supplies and the
expectation of significantly higher sales and profitability in the future. Being
a public company, we believed, would afford us the opportunity to raise capital
in the equity markets to finance significant planned growth and to use our
public stock for acquisitions of others, while increasing stockholder value.
We expanded manufacturing capacity four-fold and improved production efficiency,
raised capital in a private placement and pursued a acquisition that was
unsuccessful, necessitating the writing off of over $200,000 of deferred
expenses. In 2002, upon determining that much of Logical Imaging Solutions'
technology was not fully developed, proven in beta-testing or commercialized for
sale or accepted in the marketplace and required an undetermined amount of
capital to complete its development, while at the same time Logical Imaging
Solutions continued to incur operational losses, we divested ourselves of this
unprofitable subsidiary in which we had invested $2.3 million without realizing
our initial goal and purpose of becoming a public company, namely being a
successful OEM and substantially increasing stockholder value.
In addition, we refocused our strategy as a toner manufacturer away from low
margin (commodity-like) bulk laser toner and parts products to finished copier
and printing products, to increase sales and margins. For the year ended
December 31, 2001, our sales reached $30 million, with our three largest
customers accounting for 70% (some $21 million) of those sales, and during 2004
these customers account for only about $6.3 million of our net sales, down some
$14.7 million or 70% from 2001. The products sold to these customers were
primarily analog copier toners and developers, and our sales to these customers
of these products have rapidly declined for several reasons, including as the
products are discontinued in the market. As a result of the decreasing sales to
our largest customers, our total sales have declined. Challenged to replace the
sales lost from our largest customers, we introduced new products and expanded
our sales channels.
In 2003 we completed a public offering of 4.5 million shares of our common
stock, raising over $6 million fro our foreign affiliate and introduced 100% new
complicated toner cartridges, generally referred to as all-in-one ("AIO")
imaging, toner or drum cartridges with their becoming 11% of sales during 2004.
And, also, during 2003 we were also the first to introduce aftermarket,
full-color, Segment 3 and 4, networked copier/printer/MFP toner products,
continued research and development on other such products in 2004 and plan to
introduce several such new products in 2005 (refer to Recent Developments
herein).
13
To our knowledge we are the only source for these full-color toner products
worldwide, other than the OEMs. As a result, we stemmed the pattern of declining
sales in 2004. During the first quarter ended March 31, 2005 compared to the
same period in 2004, sales from our two largest customers declined approximately
$800,000, or 41%, while net sales to our other customers increased by
approximately $800,000, or 22%.
Over the past five years, we have transformed our business by moving from bulk
to finished products and from laser printer to copier products, building a
larger and more effective sales and customer support organization, adding copier
dealers and distributors to our customer list, expanding our international sales
from approximately 10% of sales to now over 50% of our net sales and developing
and successfully marketing business color toner products.
PRODUCTS
Our primary product focus is full-color, 100% new, finished toner cartridge
products for multifunctional printers/devices ("MFPs"), copiers and printers
(see Recent Developments). In particular, we are concentrating on work
group/networked solutions segments, complicated all in one cartridges and
selected specialty toner products for certain industrial applications and for
the printing of magnetic characters on checks and or financial documents. In
1999 approximately 10% of the Company's sales were derived from finished
products, while, at this time, some 80% of the Company's sales are derived from
finished products.
While 100% new all-in-one ("AIO") products are important for increasing sales,
full-color ("business color") finished toner products without competition from
others except the OEMs for the "sweet-spot" of digital multi-functional
copiers/printers, will make the largest contribution to increasing sales and
profitability. During 2004 approximately 10% of our sales were derived from
these business color products, and we believe they will be approximately 40% of
our total revenues during 2005.
WHY 100% NEW PRODUCTS AND PRODUCT TRENDS
While remanufactured or refurbished ("remanufactured") toner cartridges for use
in printers generally have 30% of the market in units and 25% in dollar value
and are just now being introduced for use in copiers, remanufactured cartridges
have a perception with the users from past experience of being of inferior
quality even though they offer a cost savings. The quality of the some 2,500
remanufacturers in the U.S. is, by its nature, inconsistent and certain
cartridges cannot be readily remanufactured due to the technology utilized by
the OEMs. Contributing to the perception of poorer quality for these products is
the fact that remanufacturers will not always replace all of the worn parts in a
particular cartridge. The dilemma is that if too few parts are changed the
cartridge could fail prematurely or not deliver the required print quality,
while changing all of the parts subject to wear not only increases the cost of
the product but also can result in more variation in print performance compared
to that of the OEM. While users may save 25% or more by using a remanufactured
cartridge, as a result of past and existing quality issues remanufactured
product have consistently enjoyed only a 30% share of the market, leaving 70% of
the users buying 100% new product from the OEM. Other than the OEM's better
branding, having substantially greater distribution for their products and
recycling programs taking empty cores out of the market, other factors
contributing the users opting for the OEM, or new product, over remanufactured
includes the inconsistent availability of remanufactured cartridges and market
confusion from the marketing of remanufactured cartridges as compatible,
remanufactured, refurbished, new drum, 100% new parts, or other descriptions,
and a wide range of prices, all of which leave the user wondering what is being
purchased.
Increasingly, the OEMs have moved to prevent aftermarket companies from
supplying alternatives to their product. The OEMs accomplish this by increasing
the technological barriers with patents, chemical toners and computer chips, and
a few have used licensing arrangements (prebate programs) for their product
(Lexmark and recently Dell Computers) to make the remanufacture of their
cartridges illegal. In addition, recycle programs designed to get the OEM's
cartridge back from the user, effectively keeping it away from remanufacturers,
are growing worldwide. While recycle programs are touted as being protective of
the environment, and they are, their effect is to reduce competition from
remanufacturers by taking cartridges off the market. On the other hand, a 100%
new product priced lower than the OEM and competitively with remanufactured
cartridges, redesigned so as not to infringe on the OEM's intellectual property,
is not subject to many of the above mentioned problems. Further, with our
improved financial strength, significant trade support from our affiliated
foreign supplier and expected profitability of our color products, we believe we
will not need additional financial resources to realize our goals, excepting,
perhaps, the needs that may arise should we be successful in identifying and
completing a merger or acquisition.
MARKETING AND SALES
While we have changed our product mix from almost entirely bulk toners and parts
to now primarily finished products, we have also expanded our sales channels
over the last five years from almost solely unfinished printer products sold to
domestic remanufacturers, and a few distributors serving them, to distributors
and dealers worldwide of finished copier and printer products, including
acquiring large private label arrangements (OEM and distributor). As a result,
our international sales have increased from approximately 10% to over 50% of our
total sales. We accomplished this by acquiring significant corporate account
relationships and implementing a worldwide manufacturer's representative program
and recruiting industry experienced and successful technical sales and marketing
executives. During 2005 we plan to substantially increase the sales of our color
copier products by obtaining additional large dealer customers for these
products in the United States and distributors in Europe.
14
STOCKHOLDER VALUE, LIQUIDITY AND MERGERS OR ACQUISITIONS
Many of our stockholders invested in our private placement that closed in 2001
at a price per share of $2.00 per share and in 2003 our public offering of
4,500,000 shares of our common stock at $1.35 per share. We believe that these
and our other stockholders are expecting a return on their investment and a more
liquid market for our stock. In 2002 we divested ourselves of a subsidiary that
was losing money and had required investments by us of some $2.35 million. Its
new owner acquired several hundred thousand shares of our common stock in an
exchange thereafter and it and its management has been selling these shares in
the market since 2003, including through the first quarter of 2005, contributing
to the decline in our stock price of from over $2.00 per share during 2002 to
the low of $0.30 in March 2003. Though the divestiture of the subsidiary, the
completion of our public offering and our improved operations significantly
improved the financial condition of the Company, our stock price languishes and
on April 11, 2005, closed at $0.48. With the belief that our common shares were
undervalued and represented a good use of some of the Company's working capital,
in 2002 our Board of Directors approved through September 30, 2004, the
repurchase of up to the lesser of $1 million or 1 million shares of our common
stock. During 2004 our Board of Directors approved the extension of our stock
repurchase program to September 30, 2005, and from inception through March 31,
2005, the Company has repurchased 84,700 of the Company's common shares at a
cost of approximately $56,100 and at an average price of $0.66. In December 2004
the Company felt either a merger or going private transaction was becoming more
likely, and as a result instructed its broker to halt the purchase of the
Company's common shares in the market, and the Company will not purchase any
additional shares on the market until the going private transaction approved by
the board on April 14, 2005, is concluded or cancelled.
We continue to be interested in making our Company more successful, more
quickly, through a successful acquisition or merger. In that regard our criteria
for a generally acceptable merger/acquisition candidate include:
o An experienced and capable management team that would remain.
o A sound and improving financial condition with sales of from $25 million to
$75 million and earnings before interest, income taxes, depreciation and
amortization of from $4 million to $15 million.
o Products that would complement ours and offer unique competitive
advantages.
o Sales channels to include office product superstores, contract stationers,
corporate accounts, copy product distributors or dealers.
o Distribution not only in the United States but preferably in Europe as
well.
o A core value and excellent reputation for high quality.
Our management realizes that an acquisition or merger with a company like that
described above could mean changes to both the existing management of our
Company, control over the Company's operations and, among other things, whether
or not the Company is the surviving entity or remains a public company. With
approximately 75% of our common shares controlled by directors, officers,
affiliates and other family members, management believes that these stockholders
and others could be persuaded to vote for the completion of a merger or
acquisition that was expected to increase in the future both stockholder value
and liquidity. However, management has had preliminary discussions with a number
of potential merger candidates over the last few years without coming to any
conclusion on a transaction.
At this time there are no definitive proposals for a merger transaction, though
we continue to seek out and engage in discussions with prospective merger or
acquisition candidates and previously formed a special committee of the board of
directors to investigate strategic alternatives, including going private. We
have found that as a result of our being public, it is more difficult for a
private company to be merged with us, due to the requirements of Sarbanes-Oxley
and other securities laws and regulations. There can be no assurance that any
merger or going private transaction will be completed.
OVERVIEW
The following discussion and analysis should be read in conjunction with our
financial data and our Financial Statements and notes appearing elsewhere in
this report.
Net sales for the three months ended March 31, 2005 increased by approximately
$28,000, or less than 1%, to $5.6 million, compared to 2004. Net sales in 2005
increased primarily due to increased sales derived from color and monochrome
copier toner product sales to customers other than our historically largest
customers whose sales for the first quarter 2005 compared to the same period of
2004 declined approximately $800,000. In the three months ended March 31, 2005
and 2004, our net sales were primarily generated from the sale of finished
consumable products for electronic printers and photocopying machines and
comprised approximately 83% and 76% of net sales, respectively. For the three
months ended March 31, 2005, our historically two largest imaging products
customers accounted for 16% and 4% of net sales, respectively, while for the
same period in 2004 they were 30% and 5% of net sales, respectively. Sales to
these customers consist primarily of analog copier products, and as a result are
expected to be less than 10% of our total sales in 2006.
Net sales made outside of the United States increased to approximately $2.9
million, or 53% of total sales for the three months ended March 31, 2005,
compared to $2.4 million, or 43% for the three months ended March 31, 2004. This
increase in international sales resulted primarily from the increase in sales of
color copier products to customers other than our two, historically, largest
customers.
15
The following table reflects the consolidated new orders, net of cancellations,
revenues and backlog as of the beginning and end of the three months ended March
31, 2005, as well as for Color Imaging's two general product lines.
Backlog Backlog
at start at end
of New Net of
Year Orders Revenue Quarter
-------- -------- -------- --------
(IN THOUSANDS OF DOLLARS)
2005:
Copier/AIO Products $ 1,404 $ 4,437 $ 4,667 $ 1,173
Printer Products 547 799 962 385
-------- -------- -------- --------
Total 1,951 5,236 5,629 1,558
======== ======== ======== ========
CRITICAL ACCOUNTING ESTIMATES
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" discusses our financial statements that have been prepared in
accordance with accounting principles generally accepted in the United States of
America. The preparation of these financial statements requires us to make
estimates and assumptions that affect the reported amount of assets and
liabilities at the date of the financial statements, the disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
On an on-going basis, we evaluate our estimates and judgments, including those
related to revenue recognition, valuation allowances for inventory and accounts
receivable, warranty and impairment of long-lived assets. We base our estimates
and judgments on historical experience and on various other factors that we
believe to be reasonable under the circumstances. The result of these estimates
and judgments form the basis for making conclusions about the carrying value of
assets and liabilities that are not readily apparent from other sources. Actual
results may differ from these estimates under different assumptions or
conditions. Our significant estimates and assumptions are reviewed and any
required adjustments are recorded on a quarterly basis.
A critical accounting policy is one that is both important to the portrayal of
Color Imaging's financial condition and results and requires management's most
difficult, subjective or complex judgments, often as a result of the need to
make estimates about the effect of matters that are inherently uncertain.
Management believes the following critical accounting policies affect its more
significant judgments and estimates in the preparation of its consolidated
financial statements.
VALUATION ALLOWANCE FOR ACCOUNTS RECEIVABLE. We maintain allowances for doubtful
accounts for estimated losses resulting from the inability of our customers to
make required payments. These allowances are based on historical experience,
credit evaluations and specific customer collection issues we have identified.
Since our accounts receivable are often concentrated in a relatively few number
of customers, a significant change in the liquidity or financial position of any
one of these customers could have a material adverse impact on the
collectibility of our accounts receivable and our future operating results. For
the years ended December 31, 2004, 2003 and 2002 our write-offs were
approximately $19,638, $41,339 and $8,733, or averaged less than $20,000 per
year. As of March 31, 2005, we had $2,780,078 of accounts receivable net of a
$93,965 valuation allowance.
INVENTORY VALUATION. Our inventories are recorded at the lower of standard cost
or the current estimated market value. As with any manufacturer or wholesaler,
economic conditions, cyclical customer demand, product introductions or pricing
changes of our competitors and changes in purchasing or distribution can affect
the carrying value of inventory. Demand for our products has fluctuated
significantly and may do so in the future, which could result in an increase in
the cost of inventory or an increase in excess inventory quantities on hand. As
circumstances warrant, we record lower of cost or market inventory adjustments.
In some instances these adjustments can have a material effect on the financial
results of an annual or interim period. In order to determine such adjustments,
we evaluate the age, inventory turns, estimated fair value and, in the case of
toner products, whether or not they can be reformulated and manufactured into
other products, and record any adjustment if estimated fair value is below cost.
Through periodic review of each of our inventory categories and by offering
markdown or closeout pricing, we regularly take steps to sell off slower moving
inventory to eliminate or lessen the effect of any lower of cost or market
adjustment. If assumptions about future demand or actual market conditions are
less favorable than those projected by management, write-downs of inventory
could be required, and there can be no assurance that future developments will
not necessitate further write-downs. For the years ended December 31, 2004, 2003
and 2002 we made inventory obsolescence reserves of $280,000, $275,000 and
$240,000, totaling $795,000, or an average of $265,000 per year, and we have
written-down or disposed of approximately $296,000, $212,000 and $279,000 for
the same period for a total of $787,000 of inventory, or an average of $262,000
per year. Our experience over the last few years has indicated an obsolescence
rate of approximately $20,000 per month. As of March 31, 2005, we had
approximately $5,331,000 of inventory net of approximately a $128,700 valuation
provision.
16
VALUATION OF LONG-LIVED ASSETS. We periodically evaluate whether events and
circumstances have occurred which may affect the estimated useful life or the
recoverability of the remaining balance of our long-lived assets, such as our
investment in our toner manufacturing equipment. Our manufacturing equipment is
suitable for, and is used to make, a large number of products, and as such we
have not experienced any impairment due to the discontinuation of any
product(s). During the years 2000 through 2002 we moved and expanded our
manufacturing facilities, upgrading the technologies we employ, and during 2003
we continued to upgrade and take out of service equipment that has reached its
useful life or was no longer competitive, much of all of which was fully
depreciated. We have approximately $8.2 million invested in such equipment and
plant improvements, with a carrying value of $6.1 million, that have estimated
lives of up to twenty years. Should competing technologies or offshore
competitors cause our manufacturing technology to be non-competitive, or should
other events or circumstances indicate that the carrying amount of these assets
would not be recoverable, the estimated life of these assets may need to be
shortened and their carrying value could be materially affected. If the sum of
the undiscounted expected cash flows from an asset to be held and used in
operations is less than the carrying value of the asset, an impairment loss is
recognized.
WARRANTY. We provide a limited warranty, generally ninety (90) days, to all
purchasers of our products. Accordingly, we do not make a provision for the
estimated cost of providing warranty coverage, and instead we expense these
costs as they are incurred. On occasion, we have been required and may be
required in the future to provide additional warranty coverage to ensure that
our products are ultimately accepted or to maintain customer goodwill. We
incurred no material warranty expenses for 2004, 2003 and 2002. While our
warranty costs have historically not been significant we cannot guarantee that
we will continue to experience a similar level of predictability with regard to
warranty costs as we have in the past. In addition, the introduction of more
expensive finished products, manufactured by us and by others and distributed by
us through more sales channels, technological changes or previously unknown
defects in raw materials or components may result in more extensive and frequent
warranty claims than anticipated, which could have a material adverse impact on
our operating results for the periods in which such additional costs
materialize.
RESULTS OF OPERATIONS
Color Imaging's net sales were $5.6 million for the three months ended March 31,
2005, a increase of approximately 0.5% from March 31, 2004. The net sales by
product category were as follows:
% Increase
(Dollars in thousands) 2005 % (Decrease) 2004 %
---------- ----- ---------- ---------- -----
Product Category:
Cartridges and bottles
Copier/AIO finished products $ 4,290 76% 19% $ 3,600 64%
Printer finished products 367 7% (44%) 660 12%
---------- ---------- ----------
4,657 83% 9% 4,260 76%
Bulk toner and parts 972 17% (28%) 1,341 24%
---------- ---------- ----------
Total net revenue $ 5,629 100% 0% $ 5,601 100%
========== ========== ==========
The following table sets forth certain information derived from the Company's
unaudited interim statements of operations:
THREE MONTHS ENDED
MARCH 31,
------------------------
2005 2004
------ ------
(PERCENTAGE OF NET SALES)
Net sales 100 100
Cost of sales 68 75
Gross profit 32 25
Administrative expenses 8 7
Research and development 5 5
Sales and marketing 14 11
Operating income 5 2
Interest expense - 1
Depreciation and amortization 3 2
Income before taxes 6 3
Provision for income taxes 2 1
Net income 4 2
17
THREE MONTHS ENDED MARCH 31, 2005 COMPARED TO THREE MONTHS ENDED MARCH 31, 2004
NET SALES. Our net sales increased by $28,000, or 0.5%, to $5.629 million for
the three months ended March 31, 2004, from $5.601 million for the three months
ended March 31, 2004. Net sales made in the United States were $2.6 million, a
decrease of $0.6 million, or 17%, from $3.2 million made in the comparable
period in 2004. Net sales made outside of the United States increased by
approximately $0.6 million, or 24%, for the current quarter compared to the same
quarter of 2004. The decrease in net sales for the current quarter compared to
that of a year ago of approximately $800,000 from our two, historically, largest
customers was offset by the increase in our color and monochrome toner product
sales to other customers. Of the $5.6 million in net sales, $4.7 million, or
83%, were attributable to our copier and printer finished products, while net
sales of these same products were $4.3 million, or 76%, for the comparable
period in 2004. The revenue increase from copier finished products from 2004 to
2005 was 19%, reflecting primarily increased sales of our color and monochrome
copier products to customers other than our two, historically, largest
customers. Sales of our bulk toner and parts products for the three months ended
March 31, 2005 were $1.0 million compared to $1.3 million for the same period of
2004. We believe that sales of our finished copier and printer products will
continue to increase while sales of our bulk toner and parts products will
continue to decrease during 2004, as the result of our not introducing fewer
monochrome and color, commodity, bulk laser toner products and increased
competition.
COST OF GOODS SOLD. Cost of goods sold decreased by approximately $363,000, or
9%, to $3.8 million from $4.2 million for the three months ended March 31, 2005
and for the comparable period in 2004, primarily as the result of the decrease
in lower margin net sales to our two largest customers and the increase in
higher, color, finished product sales. Cost of goods sold as a percentage of net
sales decreased by 7 percentage points from 75% for the three months ended March
31, 2005 to 68% for the three months ended March 31, 2005, primarily as the
result of reduced sales derived from certain very low margin products previously
sold to our largest customers and a larger percentage of sales being derived
from sales of color products with higher gross margins. With the expected
increase in sales derived from our color copier toner products, we expect our
cost of goods sold to further decrease as a percentage of net sales.
GROSS PROFIT. As a result of the above factors, gross profit increased to $1.8
million in the three months ended March 31, 2005 from $1.4 million in the three
months ended March 31, 2005, or approximately $.4 million, while net sales for
the same period increased by $28,000. Gross profit as a percentage of net sales
increased by 7 percentage points from 25% to 32% for the three months ended
March 31, 2005, as compared to the corresponding period of the prior year.
OPERATING EXPENSES. Operating expenses increased $187,000 million, or 14%, to
$1.49 million in the three months ended March 31, 2005 from $1.30 million in the
three months ended March 31, 2004. General and administrative, selling and R&D
expenses increased, as a percentage of net sales, to 27% in the three months
ended March 31, 2005 from 23% in the three months ended March 31, 2004. General
and administrative expenses increased approximately 10%, or $40,000 to $437,000
for the three months ended March 31, 2005 from the comparable period in 2004,
largely resulting from $50,000 paid for strategic advisory services. Selling
expenses increased by $163,000, or 27%, in the three months ended March 31, 2005
compared to the three months ended March 31, 2004. Selling expenses increased
primarily as a result of increased payroll expenses and recruiting fees paid in
connection with the hiring of five regional sales vices presidents in the United
States and increased travel related expenses. Research and development expenses
decreased by $16,000, or 5%, to $294,000 in the three months ended March 31,
2005, primarily as the result of decreased payroll expenses which were partially
offset by higher product testing expenses.
OPERATING INCOME. As a result of the above factors, operating income increased
by $204,000, or 202%, net of the $50,000 paid for strategic advisory services,
to a profit of $305,000 in the three months ended March 31, 2005 from $101,000
in the three months ended March 31, 2004.
INTEREST AND FINANCE EXPENSE. Interest expense was $24,000 in the three months
ended March 31, 2005 and for the three months ended March 31, 2004. The decrease
in the level of interest bearing debt was offset by the increase in interest
expenses resulting from the increase to interest rates. We expect that our debt
levels will continue to decline in 2005, while the average rate we are paying on
our debt facilities will increase.
OTHER INCOME. Other income decreased by $52,000, or 74%, from income of $94,000
to income of $42,000 in the three months ended March 31, 2005 from the three
months ended March 31, 2004, primarily as the result of lower income derived
from the exchange of Euros with the resetting of the Euro exchange rate to 1.25.
INCOME TAXES. As the result of our profit in the three months ended March 31,
2005, we recorded an income tax provision of $101,800, after reducing the
valuation allowance for deferred tax assets $28,000 for the period, while the
income tax provisions were $68,000 for the three months ended March 31, 2004.
Based upon our current profitability, during 2005 we expect to reverse all of
the deferred tax asset valuation allowance of $112,500 that we had as of the
year ended December 31, 2004 in connection with our net operating loss carry
forward.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2005, and December 31, 2004, our working capital and current ratio
was approximately $8.0 million and $7.4 million and 4.65 to 1 and 4.54 to 1,
respectively. Our working capital and current ratio have benefited primarily
from the net proceeds we received from the public sale of our common stock
during March 2003 and our improved profitability.
18
Cash flows provided by operating activities were $823,000 in the three months
ended March 31, 2005 compared to $406,000 used in operations in the three months
ended March 31, 2004. The cash flows provided by continuing operating activities
in the three months ended March 31, 2005 increased primarily due to the decrease
in other assets, a prepayment of some $650,000 was made on the IDR bond by our
affiliate, and an increase in accounts payable and other liabilities. Overall,
with our sales internationally increasing as a percentage of our total net
sales, our collections of accounts receivable are expected to continue to slow,
since we sell internationally typically on longer terms and payment by these
customers is often beyond terms. As a result, the carrying of higher levels of
accounts receivable will likely be an increasing use of our cash, together with
higher levels of inventory to support our new color product introductions and
customers in Europe.
Cash flows used in investing activities were $207,000 in the three months ended
March 31, 2005, compared to $125,000 in the three months ended March 31, 2004.
The increase in cash used in investing activities in the three months ended
March 31, 2005, was primarily attributable to the acquisition of factory
equipment.
The Company has a $1.5 million revolving line of credit, as amended, with an
outstanding balance as of March 31, 2005 of $0, bearing interest at the
one-month Libor interest rate in effect two business days before the first day
of the month plus 2.50%. As of March 31, 2005, the interest rate was the
one-month Libor rate of 2.86% plus 2.50% (5.36%). This revolving line of credit
has a June 30, 2005 expiration date, and we plan to renew it for up to one year
to expire June 30, 2006. Under the line of credit, the Company is permitted to
borrow up to 75% of eligible accounts receivable and 50% of eligible inventories
(up to a maximum of $750,000 and not to exceed 50% of the total outstanding). On
February 6, 2004, the Bank issued an irrevocable standby letter of credit in the
amount of $1.5 million for the benefit of a non-affiliated foreign supplier. The
letter of credit has an expiration date of June 30, 2005, and guarantees the
payment of moneys owed the supplier for materials purchased from them by the
Company. On January 5, 2005, the irrevocable standby letter of credit was
amended and reduced by $500,000 to $1 million. At March 31, 2005 the Company's
accounts payable and purchase commitments to this supplier were approximately
$654,800. The Company has granted the Bank a security interest in all of the
Company's assets as security for the repayment of the line of credit and the
obligations under the letter of credit.
The Bank agreement also contains various covenants that the Company is required
to maintain, and as of March 31, 2005, the Company was in compliance with these
covenants.
Cash flows used by financing activities were $743,000, primarily for the
repayment of $650,000 of IDR bond and $67,000 of affiliate debt, for the three
months ended March 31, 2005 compared to cash flows used by financing activities
of $112,000 for the same period in 2004.
On April 18, 2003, Color Imaging established a stock repurchase program under
which Color Imaging's common stock, with an aggregate market value up to the
lesser of $1 million or 1 million shares, may be acquired in the open market or
through private or other transactions. Through March 31, 2005, Color Imaging has
repurchased 84,700 shares of our common stock for approximately $56,100, or for
an average price of $0.663 per share. During December 2004, the Company halted
the repurchase of its common shares in the market and does not intend to
purchase additional shares in the market until such time as the Company's going
private transaction is completed or cancelled. In connection with the going
private transaction, we expect to incur a total of approximately $250,000 for
transaction expenses, including legal, accounting and investment banking fees,
and we expect to expend approximately $250,000 to cash out the fractional share
holdings. The Company believes it has sufficient working capital to fund these
expenditures without incurring any additional debt.
Our liquidity is affected by many factors, some based on the normal operations
of our business and others related to the uncertainties of the industry and
global economies. Although our cash requirements will fluctuate based on the
timing of these factors, we believe that current cash and cash equivalents, cash
flows from operations and amounts available under our credit agreement will be,
in the aggregate, sufficient to finance our operating and investing activities
for at least the next 12 months, which will include expenditures not to exceed
approximately $675,000 for manufacturing equipment, $150,000 for research and
development equipment, $175,000 potentially for computer and software upgrades,
the estimated $500,000 to complete our going private transaction and the staging
of some $250,000 of inventory in Europe to support the growing sales of our
color copier products in that market and any advances made by our bank on our
behalf under our off-balance sheet arrangement of $1 million for a standby
letter of credit issued to a non-affiliated foreign supplier.
19
FACTORS THAT MAY AFFECT FUTURE RESULTS AND INFORMATION CONCERNING
FORWARD-LOOKING STATEMENTS
RISK FACTORS
RISKS RELATED TO OUR BUSINESS:
OUR BUSINESS DEPENDS ON A LIMITED NUMBER OF CUSTOMERS.
For the three months ended March 31, 2005, one customer accounted for
approximately 16% of our net sales, down from 24% for the twelve months ended
December 31, 2004. We do not have a contract with this customer and all of the
sales to them are made through purchase orders. While our products typically go
through the customer's required qualification process, which we believe gives us
an advantage over other suppliers, this does not guarantee that the customer
will continue to purchase from us. The loss of this customer, including through
an acquisition, other business combination or the loss by them of business from
their customers could have a substantial and adverse effect on our business. We
have in the past, and may in the future, lose one or more major customers or
substantial portions of our business with one or more of our major customers. If
we do not sell products or services to customers in the quantities anticipated,
or if a major customer reduces or terminates its relationship with us, market
perception of our products and technology, growth prospects, and financial
condition and results of operation could be harmed.
OUR RELIANCE ON SALES TO A FEW MAJOR CUSTOMERS AND GRANTING CREDIT TO THOSE
CUSTOMERS PLACES US AT FINANCIAL RISK.
As of March 31, 2005, receivables from one customer comprised 10% of accounts
receivable. A concentration of our receivables from a small number of customers
places us at risk should these receivables become uncollectible. If any one or
more of our major customers is unable to pay us it could adversely affect our
results of operations and financial condition. Color Imaging attempts to manage
this credit risk by performing credit checks, requiring significant partial
payments prior to shipment where appropriate, and actively monitoring
collections.
APPROXIMATELY 20% OF OUR BUSINESS DEPENDS ON A FOREIGN SUPPLIER APPROVED BY TWO
OF OUR CUSTOMERS TO WHOM WE HAVE ISSUED A LETTER OF CREDIT.
Some of our products incorporate technologies that are available from a
particular foreign supplier that has been approved by two of our customers.
Approximately 20% of our sales for the three months ended March 31, 2005 were
derived from products limited to a specific foreign supplier. For the three
months ended March 31, 2005, we purchased 23% of our supplies from that same
foreign supplier. We do not have a written agreement with this or any other
supplier. We rely on purchase orders. To secure the payment of moneys due this
same foreign supplier we have caused our bank to issue a standby letter of
credit in the amount of $1.5 million, amended and reduced to $1 million on
January 5, 2005, that expires June 30, 2005. We expect to renew the letter of
credit prior to its expiration. Should we be unable to obtain the necessary
materials from this foreign supplier, including as a result of our not being
able to modify, extend or renew the letter of credit upon expiry, product
shipments could be prevented or delayed, which could result in a loss of sales.
If we are unable to fulfill existing orders or accept new orders because of a
shortage of materials, we may lose revenues and risk losing customers.
IF OUR CRITICAL SUPPLIERS FAIL TO DELIVER SUFFICIENT QUANTITIES OF MATERIALS OR
PRODUCTS IN A TIMELY AND COST-EFFECTIVE MANNER IT COULD NEGATIVELY AFFECT OUR
BUSINESS.
We use a wide range of materials in the manufacture of our products, and we use
numerous suppliers to supply materials and certain finished products. We
generally do not have guaranteed supply arrangements with our suppliers. Because
of the variability and uniqueness of customers' orders, we do not maintain an
extensive inventory of materials for manufacturing or resale. Key suppliers
include providers of special resins, toners and toner related products,
including those from our largest supplier who is also foreign, and our injection
molder affiliate that provides plastic bottles, cartridges and related
components designed to avoid the intellectual property rights of others.
Although we make reasonable efforts to ensure that raw materials, toners and
certain finished products are available from multiple suppliers, this is not
always possible; accordingly, some of these materials are being procured from a
single supplier or a limited group of suppliers. Many of these suppliers are
outside the United States, including our largest supplier, resulting in longer
lead-times for many important materials, which could cause delays in meeting
shipments to our customers. We have sought, and will continue to seek, to
minimize the risk of production interruptions and shortages of key materials and
products by:
o selecting and qualifying alternative suppliers for key materials and
products;
o monitoring the financial stability of key suppliers; and
o maintaining appropriate inventories of key materials and products.
There can be no assurance that results of operations will not be materially and
adversely affected if, in the future, we do not receive in a timely and
cost-effective manner a sufficient quantity of raw materials, toners or finished
products to meet our production or customer delivery requirements.
20
OUR SUCCESS IS DEPENDENT ON OUR ABILITY TO UTILIZE AVAILABLE MANUFACTURING
CAPACITY.
From 1999 through 2000, we expanded our manufacturing capacity by acquiring new
manufacturing equipment and moving to a larger location. Thereafter we further
expanded our capacity by placing in service additional manufacturing equipment
during 2002 and 2003, and we continue to make investments in and acquire and
install new factory equipment. To fully utilize these new additions to the
factory, new formulations for toner have to be developed specifically for
manufacture on this new equipment or orders for larger quantities of existing
toners must be obtained. While we have been successful in developing formulas
for new equipment in the past and increasing sales of many of our existing toner
products, our continued success will be dependent on our ability to develop
additional formulations or increase our sales from existing formulations and
manufacture the toners with the new equipment to achieve a reduction in
production costs. We cannot assure you that we will be successful in developing
all of the formulations needed in the future or that we will be able to
manufacture toner at a lower production cost on a regular basis or that such
products will achieve market acceptance. If we are not successful in increasing
the sales of our manufactured products, or if our existing sales from
manufactured products declines, our business will be materially and adversely
affected.
OUR SUCCESS IS DEPENDENT ON OUR ABILITY TO SUCCESSFULLY DEVELOP, OR USE OR HAVE
ACCESS TO THIRD PARTIES', INTELLECTUAL PROPERTY OR PRODUCTS THAT WE CAN
COMMERCIALIZE AND THAT ACHIEVE MARKET ACCEPTANCE.
Our success depends in part on our ability to develop proprietary toner formulas
and manufacturing processes, maintain trade secret protection and operate
without infringing the proprietary rights of others. Future claims of
intellectual property infringement could prevent us from obtaining products
incorporating the technology of others and could otherwise adversely affect our
operating results, cash flows, financial position or business, as could expenses
incurred enforcing intellectual property rights against others or defending
against claims that our products or those acquired from others infringe the
intellectual property rights of another.
Success in the aftermarket imaging industry depends, in part, on developing
consumable products that are compatible with the printers, photocopiers and
facsimile machines made by the OEMs, and that have a selling price less than
that of like consumable supplies offered by the OEM. For example, if the OEMs
introduce chemical toners with better imaging characteristics and higher yields,
microprocessor chips that communicate between the toner cartridge and the
device, or introduce products using patented or other proprietary technologies,
then the aftermarket industry has to respond with ongoing development programs
to offer compatible products that emulate the OEMs' without infringing upon the
OEM's intellectual property.
Technical innovations are inherently complex and require long development cycles
and appropriate professional staffing. Our future business success depends on
our ability, and those of critical suppliers, to develop and introduce new
products that successfully address the changing technologies of the OEMs, meet
the customer's needs and win market acceptance in a timely and cost-effective
manner. If we do not develop and introduce products compatible with the OEM's
technologies in a timely manner in response to changing market conditions or
customer requirements, our business could be seriously harmed.
The challenges we face in implementing our business model include establishing
market acceptance of existing products and successfully developing or acquiring
new products for resale that achieve market acceptance, as well as obtaining
additional channels through which to sell various products. We must successfully
commercialize the products that are currently being developed, such as our color
and magnetic character recognition toner for printers and black text and color
toners for new digital copiers and continue to acquire from third parties
all-in-one cartridges, parts, materials and finished product that can be
integrated into finished products or sold as our products. While we have
successfully developed toners in the past and are in the late stages of
developing and testing several new toners, we have not commercialized many of
the toners that are under development. While we have in the past acquired from
third parties materials and products that we have been successful in selling,
there can be no assurance that parts, materials or products for new products
will be available or will achieve market acceptance, or that we will be
successful in increasing our sales to large regional, national or international
retailers. If we fail to successfully commercialize products we develop or
acquire for resale from third parties, or if these products fail to achieve
market acceptance, our financial condition and results of operation would be
seriously harmed.
OUR BUSINESS MIGHT BE ADVERSELY AFFECTED BY OUR DEPENDENCE ON FOREIGN BUSINESS.
We sell a significant amount of product to customers outside of the United
States. International sales accounted for 53% of net sales in the three months
ended March 31, 2005. We expect that shipments to international customers will
continue to account for a material portion of net sales. During the three month
period ended March 31, 2005, our sales were made to customers outside the United
States as follows:
o Europe (including Eastern Europe) - 34%
o Mexico - 10%
o Asia/Southeast Asia - 5%
o Other - 4%
21
Most of our products sold internationally, including those sold to our larger
international customers, are on open account, giving rise to the added costs of
collection in the event of non-payment. On foreign customer accounts other than
those we feel are credit worthy and justify open credit terms with us, we
mitigate the risk of non-payment and collection of foreign accounts receivable
by obtaining foreign credit insurance on those customers who qualify. Further,
should a product shipped overseas be defective, the Company would experience
higher costs in connection with a product recall or return and replacement.
Most of our sales are priced in U.S. dollars, but because we began selling
products in Europe denominated in Euros during 2001, fluctuations in the Euro
could also cause our products there to become less affordable or less
competitive or we may sell some products at a loss to otherwise maintain
profitable business from a customer. We recorded gains of $154,583, $149,110 and
$2,858 during the twelve month periods ended December 31, 2004, 2003 and 2002,
respectively, as a result of foreign currency transactions, and for the three
months ended March 31, 2005, we reported a gain of $3,523.
While our business has not been materially affected in the past by foreign
business or currency fluctuations, because of our increasing dependence on
international revenues, our operating results could be negatively affected by a
continued or additional decline in the economies of any of the countries or
regions in which we do business. Periodic local or international economic
downturns, trade balance issues, changes to duties, tariffs or environmental
regulations, political instability and fluctuations in interest and currency
exchange rates could negatively affect our business and results of operations.
We cannot assure you that these factors will not have a material adverse effect
on our international sales and would, as a result, adversely impact our results
of operation and financial condition.
OUR RESULTS OF OPERATIONS MAY BE MATERIALLY HARMED IF WE ARE UNABLE TO RECOUP
OUR INVESTMENT IN RESEARCH AND DEVELOPMENT.
The rapid change in technology in our industry requires that we continue to make
investments in research and development in order to not only develop
technologies that function like the OEMs' and do not infringe on the OEMs'
intellectual property rights, but we must also enhance the performance and
functionality of our products and keep pace with competitive products and
satisfy customer demands for improved performance, features, functionality and
costs. There can be no assurance that revenues from future products or product
enhancements will be sufficient to recover the development costs associated with
such products or enhancements or that we will be able to secure the financial
resources necessary to fund future development. Research and development costs
typically are incurred before we confirm the technical feasibility and
commercial viability of a product, and not all development activities result in
commercially viable products. In addition, we cannot ensure that these products
or enhancements will receive market acceptance or that we will be able to sell
these products at prices that are favorable to us. Our business could be
seriously harmed if we are unable to sell our products at favorable prices or if
the market in which we operate does not accept our products.
OUR INTELLECTUAL PROPERTY PROTECTION IS LIMITED.
We do not rely on patents to protect our proprietary rights. We do rely on a
combination of laws such as trade secrets and contractual restrictions such as
confidentiality agreements to protect proprietary rights. Despite any
precautions we have taken:
o laws and contractual restrictions might not be sufficient to prevent
misappropriation of our technology or deter others from developing similar
technologies; and
o policing unauthorized use of our products is difficult, expensive and
time-consuming and we might not be able to determine the extent of this
unauthorized use.
Therefore, there can be no assurance that we can meaningfully protect our rights
in such unpatented proprietary technology or that others will not independently
develop substantially equivalent proprietary products or processes or otherwise
gain access to the proprietary technology. Reverse engineering, unauthorized
copying or other misappropriation of our proprietary technology could enable
third parties to benefit from our technology without paying us, which could
significantly harm our business.
WE DEPEND ON THE EFFORTS AND ABILITIES OF CERTAIN SENIOR MANAGEMENT AND OTHER
KEY PERSONNEL TO CONTINUE OUR OPERATIONS AND GENERATE REVENUES.
Our success depends to a significant extent on the continued services of senior
management and other key personnel. While we do have confidentiality agreements
with executive officers and certain other key individuals, we have few
employment agreements and either party upon giving the required notice may
terminate them. The loss of the services of any of our executive officers or
other key employees could harm our business. Our success also depends on our
ability to attract, retain and motivate highly skilled employees. Competition
for qualified employees in the industries in which we operate is intense. If we
fail to hire and retain a sufficient number of qualified employees, our business
will be adversely affected.
22
WE HAVE A SINGLE MANUFACTURING FACILITY AND WE MAY LOSE REVENUE AND BE UNABLE TO
MAINTAIN OUR CLIENT RELATIONSHIPS IF WE LOSE OUR PRODUCTION CAPACITY.
We manufacture all of the products we sell in our existing facility in Norcross,
Georgia. If our existing production facility becomes incapable of manufacturing
products for any reason, we may be unable to meet production requirements, we
may lose revenue and we may not be able to maintain our relationships with our
customers. Without our existing production facility, we would have no other
means of manufacturing products until we were able to restore the manufacturing
capability at our facility or develop an alternative manufacturing facility.
Although we carry business interruption insurance to cover lost revenue and
profits in an amount we consider adequate, this insurance does not cover all
possible situations. In addition, our business interruption insurance would not
compensate us for the loss of opportunity and potential adverse impact on
relations with our existing customers resulting from our inability to produce
products for them.
OUR ACQUISITION STRATEGY MAY PROVE UNSUCCESSFUL.
We intend to pursue acquisitions of businesses or technologies that management
believes complement or expand the existing business. Acquisitions of this type
involve a number of risks, including the possibility that the operations of any
businesses that are acquired will be unprofitable or that management attention
will be diverted from the day-to-day operation of the existing business. An
unsuccessful acquisition could reduce profit margins or otherwise harm our
financial condition, by, for example, impairing liquidity and causing
non-compliance with lending institution's financial covenants. In addition, any
acquisition could result in a dilutive issuance of equity securities, our going
private, the incurrence of debt or the loss of key employees. Certain benefits
of any acquisition may depend on the taking of one-time or recurring accounting
charges that may be material. We cannot predict whether any acquisition
undertaken by us will be successfully completed or, if one or more acquisitions
are completed, whether the acquired assets will generate sufficient revenue to
offset the associated costs or other adverse effects. We are exploring the
possibility of a strategic merger. Any such merger could result in a change in
control of the Company. There can be no assurance that any merger or acquisition
could be successfully completed. In addition, the Company could incur expenses
in exploring a merger or acquisition transactions that are not completed.
COMPLIANCE WITH GOVERNMENT REGULATIONS MAY CAUSE US TO INCUR UNFORESEEN
EXPENSES.
Our black text, color and magnetic character toner supplies and manufacturing
operations are subject to domestic and international laws and regulations,
particularly relating to environmental matters that impose limitations on the
discharge of pollutants into the air, water and soil and establish standards for
treatment, storage and disposal of solid and hazardous wastes. In addition, we
are subject to regulations for storm water discharge, and as a requirement of
the State of Georgia have developed and implemented a Storm Water Pollution
Prevention Plan. We are also required to have a permit issued by the State of
Georgia in order to conduct various aspects of our business. Compliance with
these laws and regulations has not in the past had a material adverse affect on
our capital expenditures, earnings or competitive position. There can be no
assurance, however, that future changes in environmental laws or regulations, or
in the criteria required to obtain or maintain necessary permits, will not have
a material adverse affect on our operations.
OUR QUARTERLY OPERATING RESULTS FLUCTUATE AS A RESULT OF MANY FACTORS.
Our quarterly operating results fluctuate due to various factors. Some of these
factors include the mix of products sold during the quarter, the availability
and costs of raw materials or components, the costs and benefits of new product
introductions, and customer order and shipment timing. Because of these factors,
our quarterly operating results are difficult to predict and are likely to vary
in the future.
DUE TO INHERENT LIMITATIONS, OUR SYSTEM OF DISCLOSURE AND INTERNAL CONTROLS AND
PROCEDURES MAY NOT BE SUCCESSFUL IN PREVENTING ALL ERRORS OR FRAUD, OR IN MAKING
ALL MATERIAL INFORMATION KNOWN IN A TIMELY MANNER TO THE APPROPRIATE MANAGEMENT.
Though we have concluded with reasonable assurance that our books, records and
accounts are kept in reasonable detail, accurately and fairly reflect the
transactions and dispositions of assets, transactions are recorded as necessary
to permit preparation of financial statements in accordance with generally
accepted accounting principles, receipts and expenditures and access to assets
is permitted in accordance with authorizations of management and directors of
the Company, we do not have internal auditors and we depend on a small staff
with which it is sometimes difficult to segregate certain duties or to document
our practices in policies and procedures. Further, notwithstanding management's
conclusions, the effectiveness of a system of disclosure and internal controls
and procedures is subject to certain inherent limitations, including cost and
staffing limitations, judgments used in decision making, assumptions regarding
the likelihood of future events, soundness of internal controls and fraud. Due
to such inherent limitations, the Company's system of disclosure or internal
controls and procedures may not be successful in preventing all errors or fraud,
or in making all material information known in a timely manner to the
appropriate management. In addition, we have not completed our policy and
procedure documentation and testing of internal control over financial reporting
as required under Section 404 of the Sarbanes-Oxley Act. If we fail to achieve
and maintain the adequacy of our internal controls, as such standards are
modified, supplemented or amended from time to time, we may not be able to
ensure that we can conclude on an ongoing basis that we have effective internal
controls over financial reporting in accordance with Section 404. Moreover,
effective internal controls are necessary for us to produce reliable financial
reports and are important to helping prevent financial fraud. If we cannot
provide reliable financial reports or prevent fraud, our business and operating
results could be harmed, investors could lose confidence in our reported
financial information, and the trading price of our stock could drop
significantly.
23
RISKS RELATING TO OUR INDUSTRY:
WE OPERATE IN A COMPETITIVE AND RAPIDLY CHANGING MARKETPLACE.
There is significant competition in the toner and consumable imaging products
industry in which we operate. In addition, the market for digital color printers
and copiers and related consumable products is subject to rapid change and the
OEM technologies are becoming increasingly difficult barriers to market entry.
Many competitors, both OEMs and other after market firms, have longer operating
histories, larger customer bases, greater brand recognition and significantly
greater financial, marketing and other resources than we do. These competitors
may be able to devote substantially more resources to developing their business
than we can. Our ability to compete depends upon a number of factors, including
the success and timing of product introductions, marketing and distribution
capabilities and the quality of our customer support. Some of these factors are
beyond our control. In addition, competitive pressure to develop new products
and technologies could cause our operating expenses to increase substantially.
THE IMAGING SUPPLIES INDUSTRY IS COMPETITIVE AND WE ARE RELATIVELY SMALL IN SIZE
AND HAVE FEWER RESOURCES IN COMPARISON WITH MANY OF OUR COMPETITORS.
Our industry includes large original equipment manufacturers of printing and
photocopying equipment and the related imaging supplies, as well as other
manufacturers and resellers of aftermarket imaging supplies, with substantial
resources to support customers worldwide. Our future performance depends, in
part, upon our ability to continue to compete successfully worldwide. All of the
original equipment manufacturers and many of our other competitors are
diversified companies with greater financial resources and more extensive
research, engineering, manufacturing, marketing and customer service and support
capabilities than we can provide. We face competition from companies whose
strategy is to provide a broad array of products, some of which compete with the
products that we offer. These competitors may bundle their products in a manner
that may discourage customers from purchasing our products. In addition, we face
competition from smaller emerging imaging supply companies whose strategy is to
provide a portion of the products and services that we offer. Loss of
competitive position could impair our prices, customer orders, revenues, gross
margins, and market share, any of which would negatively affect our operating
results and financial condition. Our failure to compete successfully with these
other companies would seriously harm our business. There is risk that larger,
better-financed competitors will develop and market more advanced products than
those that we currently offer or may be able to offer, or that competitors with
greater financial resources may decrease prices thereby putting us under
financial pressure. The occurrence of any of these events could have a negative
impact on our revenues.
OUR PRODUCTS HAVE SHORT LIFE CYCLES AND ARE SUBJECT TO FREQUENT PRICE
REDUCTIONS.
Rapidly evolving and increasingly difficult technologies, frequent new product
introductions and significant price competition characterize the markets in
which we operate. Consequently, our products have short life cycles, and we must
frequently reduce prices in response to product competition. Our financial
condition and results of operations could be adversely affected if we are unable
to manufacture new and competitive products in a timely manner. Our success
depends on our ability to develop and manufacture technologically advanced
products, price them competitively, and achieve cost reductions for existing
products. Technological advances require sustained research and development
efforts, which may be costly and could cause our operating expenses to increase
substantially.
OUR FINANCIAL PERFORMANCE DEPENDS ON OUR ABILITY TO SUCCESSFULLY MANAGE
INVENTORY LEVELS, WHICH IS AFFECTED BY FACTORS BEYOND OUR CONTROL.
Our financial performance depends in part on our ability to manage inventory
levels to support the needs of new and existing customers. Our ability to
maintain appropriate inventory levels often depends on factors beyond our
control, including unforeseen increases or decreases in demand for our products
and production and supply difficulties. Demand for our products can be affected
by product introductions or price changes by competitors or by us, the life
cycle of our products, or delays in the development or manufacturing of our
products. Our operating results and ability to increase the market share of our
products may be adversely affected if we are unable to address inventory issues
on a timely basis.
RISKS RELATING TO OWNING OUR COMMON STOCK:
OUR OFFICERS AND DIRECTORS BENEFICIALLY OWN APPROXIMATELY 28% OF THE OUTSTANDING
SHARES OF COMMON STOCK, AND AN AFFILIATE OWNS 35% OF OUR COMMON STOCK, ALLOWING
THESE STOCKHOLDERS TO CONTROL MATTERS REQUIRING APPROVAL OF THE STOCKHOLDERS.
As a result of such ownership, and potential increased ownership, by our
officers and directors, other investors will have limited control over matters
requiring approval by the stockholders, including the election of directors.
Such concentrated control may also make it difficult for the stockholders to
receive a premium for their shares of our common stock in the event we enter
into transactions that require stockholder approval. In addition, certain
provisions of Delaware law could have the effect of making it more difficult or
more expensive for a third party to acquire, or of discouraging a third party
from attempting to acquire control of us.
24
EXERCISE OF OPTIONS WILL DILUTE EXISTING STOCKHOLDERS AND COULD DECREASE THE
MARKET PRICE OF OUR COMMON STOCK.
As of April 20, 2005, we had issued and outstanding 12,690,305 shares of common
stock, options and warrants to purchase an additional 1,410,000 and 100,000
shares of common stock, respectively. The existence of the remaining options and
warrants may adversely affect the market price of our common stock and the terms
under which we obtain additional equity capital.
THE COMPANY MAY GO PRIVATE, WHICH MAY RESULT IN STOCKHOLDERS OWNING SHARES IN A
PRIVATE COMPANY WITHOUT THE ABILITY TO SELL THEIR SHARES IN THE PUBLIC MARKET.
The Board on April 14, 2005, approved a "going private" transaction for the
Company. One result of such a transaction would be to remove the Company's stock
from trading on the OTC Bulletin Board, and the stock would not be eligible for
trading on any stock exchange. The Company has less than 300 holders of record
of its common stock, and is eligible to terminate its SEC reporting requirements
without stockholder approval or additional financing. Should the Company go
private, some stockholders may have shares in the Company for which there would
be no public market and their ability to sell the shares would be impeded.
Furthermore, the Company would not file current, quarterly or annual reports or
be subject to the proxy requirements of the federal securities laws.
Stockholders may therefore find it more difficult to obtain information about
the Company and its financial performance. The Company expects to incur
substantial expenses in connection with the going private transaction and may
not be able to realize sufficient cost savings to recover those expenses. In
addition, should the Company go private, this may adversely affect the Company's
access to capital and its ability to complete any proposed merger transaction.
WE MAY FACE POTENTIAL REGULATORY ACTION OR LIABILITY IN CONNECTION WITH OUR 2001
PRIVATE PLACEMENT.
Our issuance of common stock and warrants in a private placement which was
completed in 2001 could subject us to potential adverse consequences, including
securities law liability and the voiding of contracts entered into in connection
with the private placement. If our activities or the activities of other parties
in the 2001 private placement are deemed to be inconsistent with securities laws
under Section 29 of the Securities Exchange Act of 1934 or our activities or the
activities or the activities of other parties are deemed to be inconsistent with
the broker dealer registration provisions of Section 15(a) of the Exchange Act:
o we may be able to void our obligation to pay transaction-related fees in
connection with the private placement and we may receive reimbursement for
fees already paid;
o persons with whom we have entered into securities transactions that are
subject to these transaction-related fees may have the right to void these
transactions; and
o we may be subject to regulatory action.
Due to the inherent uncertainties involved with the interpretation of securities
laws, we are unable to predict the following: the validity of any potential
liability in connection with our private placement, the outcome of any
regulatory action or potential liability or the outcome of voiding transactions
in connection with the private placement. The defense of any regulatory action
or litigation and any adverse outcome could be costly and could have a material
adverse effect on our financial position and results of operations and could
divert management attention.
OUR COMMON STOCK IS LISTED ON THE OVER-THE-COUNTER (OTC) BULLETIN BOARD, AND IF
WE GO PRIVATE MAY ONLY BE TRADEABLE IN THE PINK SHEETS, WHICH MAY MAKE IT MORE
DIFFICULT FOR STOCKHOLDERS TO SELL THEIR SHARES AND MAY CAUSE THE MARKET PRICE
OF OUR COMMON STOCK TO DECREASE.
Because our common stock is listed on the OTC Bulletin Board, and may, if we go
private, be traded only in the pink sheets, the liquidity of our common stock is
impaired, not only in the number of shares in float and that are bought and
sold, but also through delays in the timing of transactions, and limited
coverage by security analysts and the news media, if any, of us. As a result,
prices for shares of our common stock may be lower than might otherwise prevail
if our common stock was traded on NASDAQ or a national securities exchange, like
the American Stock Exchange.
OUR STOCK PRICE MAY BE VOLATILE AND AN INVESTMENT IN OUR COMMON STOCK COULD
SUFFER A DECLINE IN VALUE.
The market price of our common stock may fluctuate significantly in response to
a number of factors, some of which are beyond our control. These factors
include:
o progress of our products through development and marketing;
o announcements of technological innovations or new products by us or our
competitors;
o government regulatory action affecting our products or competitors'
products in both the United States and foreign countries;
25
o developments or disputes concerning patent or proprietary rights;
o actual or anticipated fluctuations in our operating results;
o the loss of key management or technical personnel;
o the loss of major customers or suppliers;
o the outcome of any future litigation;
o changes in our financial estimates by securities analysts;
o fluctuations in currency exchange rates;
o general market conditions for emerging growth and technology companies;
o broad market fluctuations;
o recovery from natural disasters; and
o economic conditions in the United States or abroad.
OUR CHARTER DOCUMENTS AND DELAWARE LAW MAY HAVE THE EFFECT OF MAKING IT MORE
EXPENSIVE OR MORE DIFFICULT FOR A THIRD PARTY TO ACQUIRE, OR TO ACQUIRE CONTROL
OF, US.
Our certificate of incorporation makes it possible for our board of directors to
issue preferred stock with voting or other rights that could impede the success
of any attempt to change control of us. Our certificate of incorporation and
bylaws eliminate cumulative voting, which may make it more difficult for a
minority stockholder to gain a seat on our board of directors and to influence
board of directors' decision regarding a takeover. Delaware Law prohibits a
publicly held Delaware corporation from engaging in certain business
combinations with certain persons, who acquire our securities with the intent of
engaging in a business combination, unless the proposed transaction is approved
in a prescribed manner. This provision has the effect of discouraging
transactions not approved by our board of directors as required by the statute
which may discourage third parties from attempting to acquire us or to acquire
control of us even if the attempt would result in a premium over market price
for the shares of common stock held by our stockholders.
The information referred to above should be considered by investors when
reviewing any forward-looking statements contained in this report, in any of our
public filings or press releases or in any oral statements made by us or any of
our officers or other persons acting on our behalf. The important factors that
could affect forward-looking statements are subject to change, and we disclaim
any obligation or duty to update or modify these forward-looking statements.
FORWARD-LOOKING STATEMENTS
Statements contained in this report which are not statements of historical fact
are forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
These forward-looking statements may be identified by the use of forward-looking
terms such as "believes," "expects," "may", "will," "should" or "anticipates" or
by discussions of strategy that involve risks and uncertainties. From time to
time, we have made or may make forward-looking statements, orally or in writing.
These forward-looking statements include statements regarding our ability to
borrow funds from financial institutions or affiliates, to engage in sales of
our securities, our effecting a going private transaction and realizing any
savings and improved profitability as a result, our intention to repay certain
borrowings from future sales of our securities or cash flow, the ability to
expand capacity by placing in service additional manufacturing equipment and
making use of that capacity, our expected acquisition of business or
technologies, whether or not we will remain public or go private, our plans for
broadening our sales channels and the outlets for our products, our expectation
that shipments to international customers will continue to account for a
material portion of net sales, anticipated future revenues, our introduction of
new products, particularly business color and all in one products, and our
increasing our sales from business color and all in one cartridges, digital
copier, color and magnetic character recognition toner products, sales, our
expectations for operations, demand, technology, products, business ventures,
major customers, major suppliers, retention of key officers, management or
employees, competition, capital expenditures, credit arrangements and other
statements regarding matters that are not historical facts, involve predictions
which are based upon a number of future conditions that ultimately may prove to
be inaccurate. Our actual results, performance or achievements could differ
materially from the results expressed in, or implied by, these forward-looking
statements. Forward-looking statements are made based upon management's current
expectations and beliefs concerning future developments and their potential
effects upon our business. We cannot predict whether future developments
affecting us will be those anticipated by management, and there are a number of
factors that could adversely affect our future operating results or cause our
actual results to differ materially from the estimates or expectations reflected
in such forward-looking statements. These factors include the "Risk Factors"
discussed above.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
Market risk is the risk of loss to future earnings, to fair values or to future
cash flows that may result from changes in the price of a financial instrument.
The value of a financial instrument may change as a result of changes in
interest rates, exchange rates, commodity prices, equity prices and other market
changes. Market risk is attributed to all market sensitive financial
instruments, including long-term debt.
We do not hold any investments or assets outside of the United States. However,
we are exposed to financial market risks, including changes in foreign currency
exchange rates and interest rates.
26
Beginning in 2001, we became subject to foreign currency risk with respect to
future costs or cash flows from our sales in Euros. We estimate that about 96%
of our transactions are denominated in U.S. dollars, excepting those sales in
Euros. We have adjusted our prices annually with our customer to reflect the
change in the exchange rate and do not expect to be subject to material foreign
currency risk, accordingly, with respect to those sales. As a result, to date,
we have not entered into any foreign currency forward exchange contracts or
other derivative financial instruments to hedge the effects of adverse
fluctuations in foreign currency exchange. We incurred a net foreign currency
transaction gain of approximately $3,500 in the quarter ended March 31, 2005,
and we incurred a net foreign currency transaction gain of $154,583, $149,110
and $2,858 in the years ended December 31, 2004, 2003 and 2002, respectively.
Our pricing for our products sold in Euros is currently at the rate of 1.25
Euros relative to the U.S. dollar. A 10% change in the value of the Euro from
1.25 Euros relative to the United States dollar, based upon the sales in Euros
for the first quarter of 2005, would cause approximately a $6,700 foreign
currency translation adjustment in an average month, a type of other
comprehensive income (loss), which would be a direct adjustment to stockholders'
equity.
Our revolving line of credit bears interest based on interest rates tied to the
prime rate or LIBOR rate, either of which may fluctuate over time based on
economic conditions. As a result, we are subject to market risk for changes in
interest rates and could be subjected to increased or decreased interest
payments if market rates fluctuate and we are in a borrowing mode. At March 31,
2005, there were no amounts outstanding under the line of credit agreement and,
accordingly, a sustained increase in the reference rate of 1% would not cause
our annual interest expense to change.
Color Imaging's investment policy requires investments with high credit quality
issuers and or over night repurchase agreements with our bank. Investments made
by Color Imaging will principally consist of U.S. government and government
agency obligations and investment-grade, interest-bearing corporate debt
securities with varying maturity dates of five years or less, or the overnight
purchase of securities held in our bank's investment portfolio. Because of the
credit criteria of Color Imaging's investment policies, the primary market risk
associated with these investments is interest rate risk. Color Imaging does not
use derivative financial instruments to manage interest rate risk or to
speculate on future changes in interest rates. Color Imaging had approximately
$1 million invested in short-term securities available-for-sale through a fund
at March 31, 2005, and we received dividends of approximately $3,800 while
recording a net asset value decrease of approximately $2,900 for the quarter
ended March 31, 2005. During March 2005 Color Imaging moved all of its
investments into short term agency securities.
Management believes that a reasonable change in raw material prices could have a
material impact on future earnings or cash flows, because we generally are not
able to offset increases to our costs with higher prices for our products.
ITEM 4. CONTROLS AND PROCEDURES
a) We maintain disclosure controls and procedures that are designed to ensure
that information required to be disclosed on our Exchange Act reports is
recorded, processed, summarized and reported within the time periods specified
in the Commission's rules and forms, and that such information is accumulated
and communicated to our management, including our Chief Executive Officer and
Chief Financial Officer, as appropriate, to allow timely decisions regarding
required disclosure.
The Company's management, including the Chief Executive Officer and Chief
Financial Officer, does not expect that its disclosure controls will prevent all
error and all fraud. A control system, no matter how well conceived and
operated, can provide only reasonable, not absolute, assurance that the
objectives of the control system are met. Further, the design of a control
system must reflect the fact that there are resource constraints, and the
benefits of controls must be considered relative to their costs. Because of the
inherent limitations in all control system, evaluation of controls may not
detect all control issues and instances of fraud, if any, within the Company.
These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdown can occur because of simple
error or mistake. The design of any system of controls also is based in part
upon certain assumptions about the likelihood of future events. The design may
not succeed in achieving its stated goals under all potential future conditions.
The Company has, however, designed its disclosure controls and procedures to
provide, and believes that such controls and procedures do provide, reasonable
assurance that information required to be disclosed by the Company in reports
that it files or submits under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods specified in the
SEC's rules and forms. The disclosure in this paragraph about inherent
limitations of control systems does not modify the conclusions set forth in the
next paragraph of the Company's Chief Executive Officer and its Chief Financial
Officer concerning the effectiveness of the Company's disclosure controls and
procedures.
As of the end of the period covered by this report, March 31, 2005, we carried
out an evaluation, under the supervision and with the participation of Color
Imaging's management, including our Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of Color Imaging's
disclosure controls and procedures. Based upon this evaluation, the Chief
Executive Officer and Chief Financial Officer concluded that our disclosure
controls and procedures were effective at the reasonable assurance level to
ensure that information required to be disclosed on our Exchange Act reports is
recorded, processed, summarized and reported within the time periods specified
in the Commission's rules and forms, and that such information is accumulated
and communicated to our management, including our Chief Executive Officer and
Chief Financial Officer, as appropriate, to allow timely decisions regarding
required disclosure.
b) Our Chief Executive Officer and Chief Financial Officer are involved in
ongoing evaluations of internal controls. On April 19, 2005, in anticipation of
the filing of this Form 10-Q, they reviewed our internal controls and have
determined, based on such review, that, there have been no significant changes
in our internal controls or in other factors that would significantly affect our
internal controls during the quarter ended March 31, 2005.
27
PART II
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
On January 23, 2003, the Company's registration statement on Form SB-2,
registering up to 7 million shares of the Company's common stock, was declared
effective (Registration Statement No. 333-76090), and the Company's officers and
directors commenced the offering. On March 13, 2003, the Company completed the
public sale of 4,500,000 shares of the Company's common stock at a price of
$1.35 per share, whereby the Company received $6,075,000 in gross proceeds from
an affiliate, and the Company terminated the offering before the sale of all 7
million of registered shares. The net proceeds received by the Company, after
expenses of $174,416, was $5,900,584. None of the aforementioned expenses were
direct or indirect payments to directors, officers, their associates or persons
owning ten (10) percent or more of the common stock of the Company.
On April 18, 2003, the Company established a stock repurchase program under
which the Company may purchase on the open market the lesser of the aggregate
value of $1,000,000 or 1,000,000 shares in compliance with Rule 10b-18, and we
have reallocated proceeds for this program. Though management is authorized to
repurchase the Company's common stock in the aggregate amount of $1,000,000, due
to the limitations imposed by Rule 10b-18 and the limited number of shares
repurchased to date in accordance therewith and considering the repurchase
program, as approved by the board, expires September 30, 2005, the use of
proceeds per Form SB-2 as reflected herein is based upon no more than $500,000
being expended for this purpose and very likely much less. And, given that
management does not intend to repurchase any additional shares of the Company's
common stock in the market until the Company's going private transaction is
either completed or cancelled, it is likely that no additional funds will be
expended to repurchase the Company's common stock in the market. Management will
evaluate, later this year, the reallocation of these funds, as well as the
potential extension of the repurchase program beyond September 30, 2005, as the
status of the Company's going private transaction becomes more clear.
Our intended uses, as reallocated, of the $6,075,000 of proceeds received from
the public sale of our common stock, and our uses through March 31, 2005, are
listed below in descending order of priority:
Purpose: Amount Used Reallocated Remaining
- ------------------------------------------ ----------- ------------ ------------ -----------
Accounts payable and other corporate
and offering expenses . . . . . . . . . . $ 1,000,000 $ (115,042) $ (884,958) $ 0
To retire debt (1) . . . . . . . . . . . . $ 350,000 $ (324,301) $ (25,699) $ 0
To retire debt (2) . . . . . . . . . . . . $ 1,050,000 $ (956,883) $ (93,117) $ 0
To retire debt (3) . . . . . . . . . . . . $ 0 $ (235,000) $ 235,000 $ 0
To reduce IDR Bond debt (4). . . . . . . . $ 0 $ (548,928) $ 846,264 $ 297,336
To acquire capital assets. . . . . . . . . $ 1,500,000 $ (318,774) $ 0 $ 1,181,226
To repurchase our stock (5). . . . . . . . $ 0 $ (56,133) $ 500,000 $ 443,867
For other general corporate purposes
including working capital . . . . . . . . $ 2,175,000 $( 736,072) $ (577,490) $ 861,438
----------- ------------ -----------
Total: $ 6,075,000 $(3,291,133) $ 2,783,867
Pending application:
- -------------------
Short-term investments . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,283,867
Pay down of revolving line of credit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,500,000
- ----------------
(1) On November 30, 2000, we entered into a loan for $500,000 with a 5-year
term, secured by specific manufacturing equipment, maturing November 30, 2004,
with General Electric Capital Corporation for the purchase of toner
manufacturing equipment. The interest rate was 10.214% and the monthly principal
and interest payments were $10,676.39.
(2) On June 24, 1999, we entered into a loan for $1,752,000 with a 7-year term,
secured by our business assets, maturing June 24, 2006, with SouthTrust Bank for
the refinancing of obligations owing the bank for the acquisition of equipment
and that due under a previous working capital line of credit. The interest rate
was 7.90% per annum and the monthly principal and interest payments were
$27,205.
(3) On July 24, 1999, as amended, we entered into a borrowing arrangement under
a revolving line of credit in the maximum amount of $2.5 million. During March
2003 we temporarily used $1,735,000 of our proceeds from our public offering on
Form SB-2 to pay down the line of credit to $0, which at that time had an
interest rate of 3.8375%. On June 16, 2003, we renewed and restructured the line
of credit with the bank, reducing the maximum availability to $1.5 million and
permanently retiring $235,000.
(4) On June 1, 1999, the Development Authority of Gwinnett County (the
Authority), issued $4,100,000 of industrial development revenue bonds on behalf
of the Company and Kings Brothers, LLC. The 1.09% revenue bonds, 2.09% inclusive
of the 1% letter of credit fee, as of June 30, 2004, are payable in varying
annual principal and monthly interest payments through July 2019. The bond is
secured, as amended on April 7, 2003, by specific equipment assets of the
Company and by real property owned by Kings Brothers, LLC. A loan agreement
between the Authority and the Company and Kings Brothers, LLC allows funds to
effectively pass through the Authority to the Company. The majority of the
proceeds, $3,125,872, were used by the Company to relocate, purchase and install
certain manufacturing equipment, while $974,128 was used by Kings Brothers, LLC
to pay down the mortgage on the real property leased to the Company. The Company
and the Related Party are jointly obligated to repay any outstanding debt. As of
28
December 31, 2004, the bond principal outstanding was $2,725,000 and the portion
due from Kings Brothers, LLC was $647,428. The $846,264 of principal to be
repaid under the IDR bond, as reallocated hereinabove, is the Company's share of
the bond principal due and payable on the 1st of July 2003, 2004 and 2005,
respectively.
(5) From July 2003 through March 31, 2005, under the repurchase program the
Company has repurchased 84,700 shares of our common stock on the open market for
$56,133, or at an average price of $0.66. All of the shares repurchased under
the program have been cancelled and retired as of March 31, 2005. There remains
$943,867 available for future common stock repurchases under the authorization
of the board of directors and $443,867 as allocated by management hereinabove.
During March 2003, using proceeds from the offering on Form SB-2, the Company
retired debt owed to General Electric Capital Corporation and SouthTrust Bank,
and to the extent proceeds were not required in the amounts outlined for those
purposes, they have been reallocated to be used for general corporate purposes.
During March 2003, pending application of the proceeds from the offering on Form
SB-2, the Company paid down its line of credit with the bank by the then
outstanding principal balance of $1,735,000. On June 16, 2003, with the renewal
of our line of credit with SouthTrust Bank, we permanently reduced our revolving
line of credit to $1,500,000; and, as a result, we retired $235,000 of that debt
with our bank.
The Company's share of the principal payment due under the IDR Bond on July 1,
2003, in the amount of $266,840 has been paid, and as of March 31, 2005,
$282,088 was paid on the IDR bond debt due July 1, 2004. The above table
reflects the July 1, 2003 and 2004 payments on the IDR bond. The Company's share
of the principal payment due under the IDR bond on July 1, 2005, is $297,336.
With the amendment of the Joint Debtor Agreement between the Company and Kings
Brothers, LLC, Kings Brothers' portion of the outstanding principal due under
the IDR bond was prepaid on March 8, 2005 and was applied to the entire
principal installment due July 1, 2005. As a result, the Company does not have a
principal installment to pay on July 1, 2005 under the IDR bond, and instead the
Company's next installment in the amount of $405,000 will be due July 1, 2006.
Pending application, we have retained the balance of the net proceeds in a
deposit account with the bank and an investment account with a securities firm
related to the bank.
No direct or indirect payments to directors, officers, their associates or
persons owning ten (10) percent or more of the Company's common stock were made
with proceeds from the Company's offering on Form SB-2
ISSUER MARKET PURCHASES OF EQUITY SECURITIES
On April 18, 2003, the Company established a stock repurchase program under
which the Company may purchase on the open market the lesser of the aggregate
value of $1,000,000 or 1,000,000 shares in compliance with Rule 10b-18 until
September 30, 2005, as extended by the board of directors during the annual
meeting held on May 18, 2004, and we have reallocated proceeds for this program.
From July 2003 through December 31, 2003, under the repurchase program the
Company repurchased 44,500 shares of our common stock on the open market at an
average price of $0.65. From January 1 through December 31, 2004, under the
repurchase program the Company has repurchased 40,200 shares of our common stock
on the open market at an average price of $0.68. From January 1 through March
31, 2005, the Company has not repurchased any of our common stock. Since the
inception of the repurchase program the Company has repurchased 84,700 shares of
our common stock for $56,133 and at an average price of $0.66. There remains
$943,867 available for future common stock repurchases, as authorized by the
board of directors.
- --------------------------------------------------------------------------------------------------
ISSUER (MARKET) PURCHASE OF EQUITY SECURITIES
- --------------------------------------------------------------------------------------------------
Maximum Number
Total Number of (or Approximate
Shares Purchased Dollar Value) of
Total Number Average Price as Part of Publicly Shares that May Be
of Shares Paid per Publicly Announced Purchased Under the
Period Purchased Share ($) Plans or Programs Plans or Programs
- -------------------- ---------------- --------------- -------------------- -----------------------
During 2003 (1) 59,500 0.69 59,500
During 2004 40,200 0.68 40,200
---------------- --------------- -------------------- -----------------------
During 2005
January 0 -- 0
February 0 -- 0
March 0 -- 0
---------------- --------------- -------------------- -----------------------
Total 2005 0 -- 0 1,000,000
---------------- --------------- -------------------- -----------------------
Total 99,700 0.66 99,700 1,000,000
29
(1) Includes 15,000 shares purchased by Jui-Chi Wang, who may be deemed to be an
affiliated purchaser under Rule 10b-18. These shares are not included in the
Company's stock repurchase program.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
30
ITEM 6 -EXHIBITS
(a) EXHIBITS
Exhibit
No. Description
- -------- -----------
2.1 Merger Agreement and Plan of Reorganization dated May 16,
2000, by and between Advatex Associates, Inc., Logical Imaging
Solutions Acquisition Corp., Color Imaging Acquisition Corp.,
Logical Imaging Solutions, Inc., and Color Image, Inc.,
incorporated by reference to the Registrant's Form 8-K filed on
July 17, 2000.
2.2 Amendment No. 1 to the Merger Agreement and Plan of
Reorganization dated June 15, 2000, incorporated by reference to
the Registrant's Form 8-K filed on July 17, 2000.
2.3 Amendment No. 2 to the Merger Agreement and Plan of
Reorganization dated June 26, 2000, incorporated by reference to
the Registrant's Form 8-K filed on July 17, 2000.
2.4(1) Share Exchange Agreement dated as of September 11, 2002 between
Color Imaging, Inc., Logical Imaging Solutions, Inc., Digital
Color Print, Inc., and the shareholders of Digital Color Print,
Inc., incorporated by reference to Exhibit 2.1 to the
Registrant's Form 8-K filed September 26, 2002.
2.5 Amendment No. 1 to Share Exchange Agreement dated as of September
20, 2002 between Color Imaging, Inc., Logical Imaging Solutions,
Inc., Digital Color Print, Inc., and the shareholders of Digital
Color Print, Inc., incorporated by reference to Exhibit 2.2 to
the Registrant's Form 8-K filed September 26, 2002.
3.1 Certificate of Incorporation, incorporated by reference to
Exhibit 3.1 to the Registration statement on Form SB-2 filed July
15, 2002.
3.2 Bylaws, incorporated by reference to the Registrant's Form 10-QSB
for the quarter ended March 31, 2002.
4.1 Stock Purchase Agreement between the Company and Wall Street
Consulting Corp. dated October 30, 2001, incorporated by
reference to Exhibit 4.1 to the Registration statement on Form
SB-2 filed May 31, 2002.
4.2 Promissory Note of Wall Street Consulting Corp. dated October 30,
2001, incorporated by reference to Exhibit 4.2 to the
Registration statement on Form SB-2 filed May 31, 2002.
4.3 Form of Warrant issued to Selling Stockholders, incorporated by
reference to Exhibit 4.3 to the Registration statement on Form
SB-2 filed November 28, 2001.
4.4 Development Authority of Gwinnett County, Georgia Industrial
Development Trust Indenture dated June 1, 1999, incorporated by
reference to Exhibit 4.27 to the Registration statement on Form
SB-2 filed May 31, 2002.
4.5 Loan Agreement between the Company, Kings Brothers LLC and the
Development Authority of Gwinnett County, Georgia dated June 1,
1999, incorporated by reference to Exhibit 4.28 to the
Registration statement on Form SB-2 filed May 31, 2002.
4.6 Joint Debtor Agreement dated June 28, 2000 by and among Color
Image, Inc., Kings Brothers, LLC, Dr. Sueling Wang, Jui-Chi Wang,
Jui-Kung Wang, and Jui-Hung Wang, incorporated by reference to
Exhibit 4.28 to the Registration statement on Form SB-2 filed
February 11, 2002.
4.7 First Amendment to Joint Debtor Agreement dated January 1, 2001
by and among Color Imaging, Kings Brothers, LLC, Dr. Sueling
Wang, Jui-Chi Wang, Jui-Kung Wang, and Jui-Hung Wang,
incorporated by reference to Exhibit 4.29 to the Registration
statement on Form SB-2 filed February 11, 2002.
31
Exhibit
No. Description
- -------- -----------
4.8 $500,000 Promissory Note between Color Imaging and Sueling Wang
dated March 14, 2002, incorporated by reference to Exhibit 4.34
to the Registration statement on Form SB-2 filed April 11, 2002.
4.9 $500,000 Promissory Note between Color Imaging and Jui Hung Wang
dated August 21, 2002, incorporated by reference to Exhibit 4.50
to the Registration statement on Form SB-2 filed October 2, 2002.
4.10 $100,000 Promissory Note between Color Imaging and Jui Chi Wang
dated August 21, 2002, incorporated by reference to Exhibit 4.51
to the Registration statement on Form SB-2 filed October 2, 2002.
4.11 First Note Modification Agreement between Sueling Wang and Color
Imaging dated August 27, 2002, incorporated by reference to
Exhibit 4.52 to the Registration statement on Form SB-2 filed
October 2, 2002.
4.12 Amended and restated $1,500,000 revolving note between Color
Imaging and SouthTrust Bank dated June 16, 2003, incorporated by
reference to Exhibit 4.12 to the Registrant's Form 10-Q for the
quarter ended June 30, 2003.
4.13 Amended and restated loan and security agreement between Color
Imaging and SouthTrust Bank dated June 16, 2003, incorporated by
reference to Exhibit 4.13 to the Registrant's Form 10-Q for the
quarter ended June 30, 2003.
4.14 Amendment to Loan Documents between Color Imaging and SouthTrust
Bank dated June 29, 2004, incorporated by reference to Exhibit
4.14 to the Registrant's Form 10-Q for the quarter ended June 30,
2004.
10.1 Second Amendment to Joint Debtors Agreement by and between the
Registrant and Kings Brothers LLC, incorporated by reference to
Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed
On March 15, 2005.
31.1+ Chief executive officer's certification pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
31.2+ Chief financial officer's certification pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
32.1+ Chief executive officer's certification pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
32.2+ Chief financial officer's certification pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
- -----------------------
+ Filed herewith.
(1) Pursuant to Rule 601(b)(2), the schedules and exhibits to this Agreement
shall not be filed. A list of the schedules and exhibits is contained on the
last page of the Agreement. The Registrant agrees to furnish supplementally a
copy of any of the omitted schedules and exhibits to the Securities and Exchange
Commission upon request.
32
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant has duly
caused this report to be signed on its behalf by the undersigned thereunto duly
authorized.
COLOR IMAGING, INC.
/S/ JUI-KUNG WANG
--------------------------------------
April 21, 2005 Jui-Kung Wang
Chief Executive Officer
/S/ MORRIS E. VAN ASPEREN
--------------------------------------
Morris E. Van Asperen
Executive Vice President and
Chief Financial Officer
33