SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
/X/ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2004
OR
/ /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 033-78252
FIVE STAR PRODUCTS, INC.
(Exact name of registrant as specified in its charter)
Delaware 13-3729186
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(State of Incorporation) (I.R.S. Employer Identification No.)
777 Westchester Avenue, White Plains, New York, NY 10604
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(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (914) 249-9700
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.01 Par Value
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(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the best
of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10- K. /x/
Indicate by check mark whether the registrant is an accelerated filer.Yes No X
The aggregate market value of the outstanding shares of the Registrant's Common
Stock, par value $.01 per share, held by non-affiliates as of June 30, 2004 was
approximately $996,000 based on the closing price of the Common Stock on the OTC
Bulletin Board, which is operated by the NASDAQ Stock Market.
Indicate the number of shares outstanding of each of the Registrant's classes of
common stock, as of the latest practicable date. Class Outstanding at March 15,
2005
Common Stock, par value $.01 per share 14,309,577 shares
TABLE OF CONTENTS
PART I Page
Item 1. Business 2
Item 2. Properties.....................................................8
Item 3. Legal Proceedings..............................................8
Item 4. Submission of Matters to a Vote of Security Holders............8
PART II
Item 5. Market for the Registrant's Common
Equity and Related Stockholder Matters.................................9
Item 6. Selected Financial Data.......................................10
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations.........................11
Item 7A. Quantitative and Qualitative Disclosures About Market Risk...17
Item 8. Financial Statements and Supplementary Data...................18
Item 9. Changes in and Disagreements with
Accountants on Accounting and Financial Disclosure....................36
Item 9A. Controls and Procedures......................................36
PART III
Item 10. Directors and Executive Officers of the Registrant...........37
Item 11. Executive Compensation.......................................39
Item 12. Security Ownership of Certain Beneficial
Owners and Management. and Related Stockholder Matters................44
Item 13. Certain Relationships and Related Transactions...............45
Item 14. Principal Accounting Fees and Services.......................48
PART IV
Item 15. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K...................................................49
Cautionary Statement Regarding Forward-Looking Statements
The forward-looking statements contained herein reflect Five Star Products
Inc.'s management's current views with respect to future events and financial
performance. We use words such as "expects", "intends" and "anticipates" to
indicate forward-looking statements. These forward-looking statements are
subject to certain risks and uncertainties that could cause actual results to
differ materially from those in the forward-looking statements, all of which are
difficult to predict and many of which are beyond the control of Five Star
Products Inc., including, but not limited to, our inability to compete
successfully, changing economic conditions, control of Five Star Products Inc.
by National Patent Development Corporation and those other risks and
uncertainties detailed in Five Star Products' periodic reports and registration
statements filed with the Securities and Exchange Commission.
If any one or more of these expectations and assumptions proves incorrect,
actual results will likely differ materially from those contemplated by the
forward-looking statements. Even if all of the foregoing assumptions and
expectations prove correct, actual results may still differ materially from
those expressed in the forward-looking statements as a result of factors we may
not anticipate or that may be beyond our control. While we cannot assess the
future impact that any of these differences could have on our business,
financial condition, results of operations and cash flows or the market price of
shares of our common stock, the differences could be significant. We do not
undertake to update any forward-looking statements made by us.
PART I
Item 1: Business
General Development of Business
Five Star Products Inc. (the "Company" or "Five Star") is engaged in
the wholesale distribution of home decorating, hardware and finishing products.
It serves over 3,500 independent retail dealers in twelve states, making Five
Star one of the largest distributors of its kind in the Northeast. Five Star
operates two state -of -the -art warehouse facilities, located in Newington, CT
and East Hanover, NJ. All operations are coordinated from Five Star's New Jersey
headquarters. At December 31, 2004 Five Star is a majority owned subsidiary of
National Patent Development Corporation ("NPDC").
The Company, which was then 37.5% owned by GP Strategies Corporation
("GPS"), purchased its business from GPS in 1998 in exchange for cash and a
$5,000,000 unsecured 8% note payable ("the Note"). In 2002 and 2003, GPS
converted $1,000,000 principal amount of the Note into 4,272,727 shares of the
Company's common stock. In 2004, the Company, through a tender offer,
repurchased approximately 2,628,000 shares of its common stock. The conversion
of the Note and the tender offer increased GPS' ownership in the Company to
approximately 64%. On July 30, 2004, GPS contributed its ownership interest in
Five Star and the Note to National Patent Development Corporation ("NPDC"). On
November 24, 2004, GPS completed the spin-off to its shareholders of the common
stock of NPDC (the "Spin-Off").
2
GPS provided legal, tax, business development, insurance and employee
benefit administrative services to the Company pursuant to a management services
agreement for a fee of up to $10,000 per month ("the Agreement"). The Agreement
is automatically renewable for successive one-year terms unless one of the
parties notifies the other in writing at least six months prior to the end of
the initial term or any renewal thereof. The Agreement was renewed for 2005. The
management fee was increased to $25,000 per month effective October 1, 2004. In
addition the Company agreed to reimburse GPS $16,666 per month for Jerome I.
Feldman's (GPS' Chief Executive Officer) service to the Company effective
October 1, 2004. As a result of the Spin-Off, GPS transferred to NPDC the rights
and obligations under the Agreement.
In the first quarter of 2000, the Company expanded its sales territory
with the addition of an established, dedicated sales force servicing the
Mid-Atlantic States, and as far south as North Carolina. This addition to the
sales force generates revenues of approximately $9 million annually. The Company
services this new territory from its 236,000 square foot East Hanover, New
Jersey facility, from which it also services the Northeast, enabling the Company
to leverage its fixed costs over a broader revenue base.
The Company offers products from leading manufacturers such as Cabot
Stain, William Zinsser & Company, DAP, General Electric Corporation, American
Tool, USG, Stanley Tools, Minwax and 3M Company. The Company distributes its
products to retail dealers, which include lumber yards, "do-it yourself"
centers, hardware stores and paint stores principally in the northeast region.
It carries an extensive inventory of the products it distributes and provides
delivery, generally within 24 to 72 hours. The Company has grown to be one of
the largest independent distributors in the Northeast by providing a complete
line of competitively priced products, timely delivery and attractive pricing
and financing terms to its customers. Much of the Company's success can be
attributed to a continued commitment to provide customers with the highest
quality service at reasonable prices.
As one of the largest distributors of paint sundry items in the
Northeast, the Company enjoys cost advantages and favorable supply arrangements
over the smaller distributors in the industry. This enables the Company to
compete as a "low cost" provider. The Company uses a fully computerized
warehouse system to track all facets of its distribution operations. The Company
has enhanced the sophistication of its warehouse and office facilities to take
full advantage of economies of scale, speed the flow of orders and to compete as
a low cost distributor. Nearly all phases of the selling process from inventory
management to receivable collection are automated and tracked; all operations
are overseen by senior management at the New Jersey facility. The Company is
able to capitalize on manufacturer discounts by strategically timing purchases
involving large quantities.
Management takes a proactive approach in coordinating all phases of the
Company's operations. For example, sales managers require all sales
representatives to call on customers once every week. Each salesperson transmits
his or her orders through the Company's automated sales system, to the IBM
AS/400 computer located at the New Jersey facility. The salesperson system
combines the ability to scan product codes in the customers' stores and download
the information to a laptop computer for final transmission. Based on the floor
plan of each warehouse and the location of products therein, the computer
designs a pattern for the orders to be picked. The orders are then relayed to
the appropriate location and typically picked in the evening. The warehouse
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facilities are well-maintained and skillfully organized. A bar-coded part number
attached to the racking shelves identifies the location of each of the
approximately 23,000 stock keeping units (SKUs). The products are loaded onto
The Company's trucks in the evening in the order that they will be unloaded, and
are delivered directly to the customers locations the following morning.
Additional information about the Company may be found at www.fivestargroup.com
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Customers
Five Star's largest customer accounted for approximately 3.9% of its sales
in 2004 and its 10 largest customers accounted for approximately 13.4% of such
sales. All such customers are unaffiliated and Five Star does not have a
long-term contractual relationship with any of them.
Management Information System
All of Five Star's inventory control, purchasing, accounts payable and
accounts receivable are fully automated on an IBM AS/400 computer system. In
addition, Five Star's software alerts buyers to purchasing needs, and monitors
payables and receivables. This system allows senior management to control
closely all phases of Five Star's operations. Five Star also maintains a
salesperson-order-entry system, which allows the salesperson to scan product and
then download the information to a laptop. The laptop contains all product and
customer information and interacts with the AS/400.
Purchasing
Five Star relies heavily upon its purchasing capabilities to gain a
competitive advantage relative to its competitors. Five Star's capacity to stock
the necessary products in sufficient volume and its ability to deliver them
promptly upon demand is one of the strongest components of service in the
distribution business, and is a major factor in Five Star's success.
Since retail outlets depend upon their distributor's ability to supply
products quickly upon demand, inventory is the primary working capital
investment for most distribution companies, including Five Star. Through its
strategic purchasing decisions, Five Star carries large quantities of inventory
relative to its competitors and thus can boast fill ratios of approximately 95%.
All purchasing decisions based on current inventory levels, sales
projections, manufacturer discounts and recommendations from sales
representatives, are made by the merchandising group, located in New Jersey, in
order to coordinate effectively Five Star's activities. In addition to senior
management's active involvement, regional sales managers play an extremely
critical role in this day-to-day process.
Five Star has developed strong, long-term relationships with the leading
suppliers since its predecessor company, J. Leven, was founded in 1912. As a
major distributor of paint sundry items, suppliers rely on Five Star to
introduce new products to market. Furthermore, suppliers have grown to trust
Five Star's ability to penetrate the market. As a result, Five Star is often
4
called on first by manufacturers to introduce new products into the marketplace.
For example, Minwax, Bestt Liebco and Cabot Stain have utilized Five Star to
introduce and distribute some of their new product innovations.
Marketing
The do-it-yourself industry relies on distributors to link manufacturer's
products to the various retail networks. The do-it-yourself market operates on
this two-step distribution process, i.e., manufacturers deal through
distributors who in turn service retailers. This occurs principally because most
retailers are not equipped to carry sufficient inventory in order to be cost
effective in their purchases from manufacturers. Thus, distributors add
significant value by effectively coordinating and transporting products to
retail outlets on a timely basis. Five Star distributes and markets products
from hundreds of manufacturers to all of the various types of retailers from
regional paint stores, to lumber yards, to independent paint and hardware
stores.
The marketing efforts are directed by regional sales managers. These
individuals are responsible for designing, implementing and coordinating
marketing policies. They work closely with senior management to coordinate
company-wide marketing plans as well as to service Five Star's major multi-state
customers. In addition, each regional sales manager is responsible for
overseeing the efforts of his sales representatives.
The sales representatives, by virtue of frequent contact with Five Star's
customers, are the most integral part of Five Star's marketing strategy. It is
their responsibility to generate revenue, ensure customer satisfaction and
expand the customer base. Each representative covers an assigned geographic
area. The representatives are compensated based solely on commission. Five Star
has experienced low turnover in its sales force; most representatives have a
minimum of five years' experience with Five Star. Many sales representatives had
retail experience in the paint or hardware industry when they were hired by Five
Star.
Five Star's size, solid reputation for service, large inventory and
attractive financing terms provide sales representatives with tremendous
advantages relative to competing sales representatives from other distributors.
In addition, the representatives' efforts are strengthened by company-sponsored
marketing events. For example, each year in the first quarter, Five Star invites
all of its customers to special trade shows for Five Star's major suppliers, so
that suppliers may display their products and innovations. Five Star also
participates in advertising circular programs in the spring and the fall which
contain discount specials and information concerning new product innovations.
Five Star has a history of enhancing its growth through complementary
acquisitions which have allowed it to preempt much of its competition as a
high-quality, competitively priced distributor.
5
Industry Dynamics
The Do-It-Yourself Industry
The paint sundry items distribution industry is closely related to the
do-it-yourself retail market, which has tended to exhibit elements of
counter-cyclicality. In times of recession, consumers tend to spend more on home
improvements if they cannot afford to trade up to bigger homes. In times of
economic strength, consumers tend to spend heavily in home improvements because
they believe they can afford to complete their home improvement projects.
According to the National Retail Hardware Association, total retail sales by
home improvement retailers are estimated to be $236 billion in 2004 and are
projected to grow at a 5.3% compound rate through 2008.
Painting is the quintessential do-it-yourself project. Painting has to
be done more frequently than most remodeling jobs, and it is a relatively
inexpensive way to update the appearance of a home. For these reasons, the paint
and paint sundry items industry tends to be counter-cyclical and a solid growth
segment of the do-it-yourself market.
Competition
Competition within the industry is intense. There are large national
distributors commonly associated with national franchises such as Ace and
TruServ as well as smaller regional distributors, all of whom offer similar
products and services. Five Star's customers face stiff competition from Home
Depot and Lowe's, which purchase directly from manufacturers and dealer-owned
distributors such as Ace and TruServ. Moreover, in some instances manufacturers
will bypass the distributor and choose to sell and ship their products directly
to the retail outlet. The principal means of competition for Five Star are its
strategically placed distribution centers and its extensive inventory of
quality, name-brand products. Five Star will continue to focus its efforts on
supplying its products to its customers at a competitive price and on a timely,
consistent basis. In the future, Five Star will attempt to acquire complementary
distributors and to expand the distribution of its line of private-label
products sold under the "Five Star" name. Through internal growth and
acquisitions, Five Star has already captured a leading share in its principal
market, the Northeast. This growth-oriented acquisition strategy of acquiring
complementary distributors has allowed Five Star to compete against a
substantial number of its competitors. While other paint sundry items
distributors sell to the same retail networks as Five Star, they are at a
distinct disadvantage due to Five Star's experience, sophistication and size.
Hardware stores that are affiliated with the large, dealer-owned
distributors such as Ace also utilize Five Star's services because they are
uncomfortable with relying solely on their dealer network. Most cooperative-type
distributors lack the level of service and favorable credit terms that
independent hardware stores enjoy with Five Star. Five Star effectively competes
with the dealer-owned distributors because it provides more frequent sales
calls, faster deliveries, better financing terms and a full line of vendors and
products to choose from.
6
Employees
The Company employs approximately 260 people. Management-employee
relations are considered good at both of Five Star's warehouse facilities. The
Teamsters union represents approximately 94 union employees at the New Jersey
warehouse facility. The Connecticut warehouse facility is completely
non-unionized. Five Star has never experienced a labor strike at its facilities.
Five Star's contract with Local No. 11, affiliated with the International
Brotherhood of Teamsters expires on December 20, 2008.
Risk Factors
Competition Could Adversely Affect our Performance
Competition within the do-it-yourself industry is intense. There are
large national distributors commonly associated with national franchises such as
Ace and TruServ as well as smaller regional distributors, all of whom offer
products and services similar to those offered by Five Star. Moreover, in some
instances, manufacturers will bypass distributors and choose to sell and ship
their products directly to retail outlets. In addition, Five Star's customers
face stiff competition from Home Depot, and Lowe's, which purchases directly
from manufacturers, and national franchises such as Ace and TruServ. Five Star
competes principally through its strategically placed distribution centers and
its extensive inventory of quality, name-brand products. Five Star will continue
to focus its efforts on supplying its products to its customers at a competitive
price and on a timely, consistent basis.
Our subsidiaries' inability to compete successfully would materially
adversely affect our business and financial condition.
Changing economic conditions in the United States could harm our business.
Our revenues and profitability are related to general levels of
economic activity and employment in the United States. As a result, any
significant economic downturn or recession could harm our business or financial
condition.
Control by NPDC
The Company is controlled by the Company's principal stockholder, NPDC,
whose interest may not be aligned with those of the Company's other
stockholders. As of March 15, 2005 NPDC owned approximately 64% of the Company's
outstanding common stock. Accordingly, NPDC will be able to influence our
management and affairs and all matters requiring stockholder approval, including
the election of directors and approval of significant corporate transactions.
This concentration of ownership may have the effect of delaying, discouraging or
preventing a change in control and might affect the market price of the
Company's common stock. See Notes 8 and 17 to Notes to Consolidated Financial
Statements for a description of transactions between the Company and NPDC.
7
Item 2. Properties
Five Star leases 236,000 square feet in New Jersey, 111,000 square feet
in Connecticut, 1,300 square feet of sales offices in New York and 800 square
feet in Maryland. Five Star's operating lease for the New Jersey facility
expires in March, 2007, and the annual rent is $1,187,000. Five Star's lease for
the Connecticut facility expires in February, 2007, and its annual rent is
$402,000. The New York sales office pays $19,000 per year in rent and the
Maryland office pays $11,000. The Company's White Plains, New York office space
is provided by GPS pursuant to the Agreement. GPS, provided legal, tax, business
development, insurance and employee benefit administrative services to the
Company pursuant to the Agreement for a fee of up to $10,000 per month. The
Agreement is automatically renewable for successive one-year terms unless one of
the parties notifies the other in writing at least six months prior to the end
of the initial term or any renewal thereof. The Agreement was renewed for 2005.
The Agreement was amended and the management fee was increased to $25,000 per
month effective October 1, 2004. As a result of the Spin-Off, GPS transferred to
NPDC its rights and obligations under the agreement.
The facilities leased by the Company are considered to be suitable and
adequate for their intended uses and are considered to be well maintained and in
good condition.
Item 3. Legal Proceedings
The Company is from time to time subject to litigation or other legal
proceedings arising in the ordinary course of business. The Company is not a
party to any legal proceeding, the outcome of which is believed by management to
have a reasonable likelihood of having any material adverse effect upon the
financial condition and operating results of the Company.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the
fourth quarter of the fiscal year covered by this report.
8
Part II
Item 5: Market for the Registrant's Common Equity and Related Stockholder
Matters
The following table presents the high and low prices for the Common
Stock for 2004 and 2003. The Company's Common Stock, $.01 par value, is quoted
on the OTC Bulletin Board, which is operated by the NASDAQ Stock Market.
Quarter High Low
2004 First $.30 $.13
Second $.32 $.21
Third $.30 $.14
Fourth $.45 $.19
2003 First $0.18 $.09
Second $0.19 $.10
Third $0.21 $.09
Fourth $0.20 $.07
The number of shareholders of record of the Common Stock as of March
15, 2005 was 3,559 and the closing price of the Common Stock on the OTC Bulletin
Board on that date was $.26. The Company has not declared any cash dividends in
2004 and 2003. The current policy of the Company's Board of Directors is to
retain earnings, if any, to finance the operation of the Company's business. The
payment of cash dividends on the Common Stock in the future will depend on the
Company's earnings, financial condition and capital needs and on other factors
deemed pertinent by the Company's Board of Directors.
Equity Compensation Plan Information as of December 31, 2004.
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
Plan category Number of securities Weighted-average Number of securities
to be issued upon exercise price of remaining available for
Non-Qualified exercise of outstanding options future issuance under
Stock Option Plan outstanding options equity compensation
plans (excluding securities
reflected in column(a))
(a) (b) (c)
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
Equity compensation
plans not approved by 1,100,000 $0.14 1,500,000
security holders
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
Total 1,100,000 $0.14 1,500,000
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
For a description of the material terms of the Company's Non-Qualified
Stock Option Plan, see Note 8 in the Notes to the Consolidated Financial
Statements.
9
FIVE STAR PRODUCTS, INC. AND SUBSIDIARIES
SELECTED CONSOLIDATED FINANCIAL DATA
(in thousands, except per share amounts)
Item 6. Selected Financial Data
Years Ended December 31,
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2004 2003 2002 2001 2000
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Statement of Operations Data:
Revenue $101,982 $95,085 $94,074 $94,908 $93,878
Cost of goods sold 82,592 77,366 77,461 78,854 77,372
Selling, general and administrative
expenses 16,329 15,743 14,313 13,576 13,154
Net income 1,140 598 391 417 775
Income per share:
Basic $0.08 $0.04 $0.03 $0.03 $0.06
Diluted $0.07 $0.04 $0.03 $0.03 $0.06
Years Ended December 31,
--------------------------------------------------------------
----------- ------------ ----------- ----------- -------------
2004 2003 2002 2001 2000
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Balance Sheet Data:
Current assets $39,296 $35,719 $34,214 $35,045 $34,983
Current liabilities 35,538 29,651 27,585 28,762 29,183
Non-current liabilities 19 2,800 4,500 5,000 5,000
Working capital 3,758 6,068 6,629 6,283 5,800
Total assets 40,475 36,896 35,366 36,184 36,188
Total stockholders' equity 4,918 4,445 3,281 2,422 2,005
10
Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations
Results of Operations
Overview
Five Star is a publicly held company that is a leading distributor in
the United States of home decorating, hardware, and finishing products. Five
Star offers products from leading manufacturers in the home improvement industry
and distributes those products to retail dealers, which include lumber yards,
"do-it yourself" centers, hardware stores and paint stores. Five Star has grown
to be one of the largest independent distributors in the Northeast United States
by providing a complete line of competitively priced products, timely delivery
and attractive pricing and financing terms to its customers.
The following key factors affect Five Star's financial and operation
performance:
o its ability to negotiate the lowest prices from its suppliers,
o its ability to increase revenue by obtaining new customers, while
maintaining a level fixed cost structure by utilizing its existing
warehouses,
o the housing market in general,
o consumers' confidence in the economy,
o consumers' willingness to invest in their homes, and
o weather conditions that are conducive to home improvement projects.
The following key performance measures are utilized by the Company's
management to run Five Star's business:
o new U.S. housing starts,
o sales of existing homes,
o sales of high margin products to its customers,
o purchases from each vendor, and
o performance benchmarks used by Home Depot and Lowe's, such as number
of stores and square footage, as well as financial benchmarks.
Five Star operates in the Home Improvement market, which has grown in
recent years and for which the Home Improvement Research Institute predicts
average annual industry growth of nearly 5% for the next several years.
Nonetheless, Five Star faces intense competition from large national
distributors, smaller regional distributors, and manufacturers that bypass the
distributor and sell directly to the retail outlet. The principal means of
competition for Five Star are its strategically placed distribution centers and
its extensive inventory of quality, name-brand products. In addition, Five
Star's customers face stiff competition from Home Depot and Lowe's, which
purchase directly from manufacturers. As a result of such competition, while the
Home Improvement market has expanded significantly in recent years, Five Star's
revenue has not increased at the same rate, and such revenue would have declined
11
if Five Star had not entered into new geographic sales territories as described
below. In spite of this, the independent retailers that are Five Star's
customers remain a viable alternative to Home Depot and Lowe's, due to the
shopping preferences of and the retailer's geographic convenience for some
consumers.
Five Star has continued to expand its sales territory with an addition
of a sales force servicing the Mid-Atlantic States, as far south as North
Carolina, which has generated additional annual revenues of approximately $9
million since 2000. Five Star services this territory from its existing New
Jersey warehouse, enabling Five Star to leverage its fixed costs over a broader
revenue base. To further expand, Five Star will attempt to grow its revenue base
in the Mid-Atlantic States, to acquire complementary distributors and to expand
the distribution of its use of private-label products sold under the "Five Star"
name.
Results of Operations
Year Ended December 31, 2004 compared to Year Ended December 31, 2003
The Company recognized income before income taxes of $2 million for the
year ended December 31, 2004 as compared to income before income taxes of $1
million for the year ended December 31, 2003. The increase in profitability of
$1 million is primarily due to increased gross margin of $1.7 million, mainly
offset by an increase in selling, general and administrative expense of $0.5
million
Sales. Sales increased by $6.9 million from $95.1 million in 2003 to
$102 million in 2004. The increase was primarily a result of increased sales to
the Company's existing customer base. Sales to existing customers have increased
mainly due to Five Star offering more product lines for the retailers to stock,
as well as Five Star conducting small local trade shows for its customers to
create additional sales. Revenue was favorably affected by clement weather in
the Northeast during 2004, causing an increase in home improvement projects.
Gross margin. Gross margin of $19.4 million or 19% of sales, in 2004
increased by $1.7 million or 9.4%, when compared to gross margin of $17.7
million, or 18.6% of sales, in 2003. The increase in gross margin dollars was
primarily the result of increased sales. The increase in gross margin
percentages from 2003 to 2004 were primarily a result of improved purchasing
efficiencies and product mix sold, partially offset by increased warehousing
costs. The Company includes warehousing costs in Cost of Goods Sold.
Selling, general and administrative. General and administrative
expenses increased by $0.6 million or 3% primarily due to increased delivery
expenses, salesmen commissions, medical expenses and legal and professional
fees.
Interest expense. The increase in interest expense in 2004 of $0.1
million is the result of an increase in average borrowings related to the
Company's Loan Agreement, offset by a decrease in average borrowings related to
the Note.
12
Income taxes. The company recognized income tax expense of $0.8 million
in 2004 and $0.4 in 2003, at an effective income tax rate of 42% for both years.
Year Ended December 31, 2003 compared to Year Ended December 31, 2002
The Company recognized income before income taxes of $1 million for the
year ended December 31, 2003 as compared to income before income taxes of $0.7
million for the year ended December 31, 2003. The increase in profitability of
$0.3 million is primarily due to increased gross margin of $1.1 million and
other income of $0.5 million, primarily offset by an increase in selling,
general and administrative expense of $1.4 million.
Sales. Sales increased by $1 million from $94.1 million in 2002 to
$95.1 million in 2003. The slight increase in sales was primarily a result of
increased sales to the Company's existing customer base.
Gross margin. Gross margin of $17.7 million or 18.6% of sales, in 2003
increased by $1.1 million or 6.7%, when compared to gross margin of $16.6
million, or 17.7% of sales, in 2002. The increase in gross margin dollars and
percentage was primarily the result of increased sales, improved purchasing
efficiencies and product mix sold, partially offset by increased warehousing
costs. The Company includes warehousing costs in Cost of Goods Sold.
Selling, general and administrative. General and administrative
expenses increased by $1.4 million or 10% primarily due to increased marketing
expenses, office payroll and medical expenses and computer expense.
Interest expense. The decrease in interest expense in 2003 of $0.1
million is the result of an decrease in interest rates related to the Company's
Loan Agreement, as well a decrease in average borrowings related to the Note.
Income taxes. The company recognized income tax expense of $0.4 million
in 2003 and $0.3 million in 2003 at an effective income tax rate of 42% in 2003
and 46% in 2002.
Liquidity and Capital Resources
At December 31, 2004, the Company had cash of $4,000 and working
capital of $3,578,000, a decrease in cash of $2,000 and a decrease in working
capital of $2,310,000 from cash of $6,000 and working capital of $6,068,000 as
of December 31, 2003, respectively. The Company believes that cash generated
from operations and borrowing availability under existing credit agreements will
be sufficient to fund the Company's working capital requirements for at least
the next twelve months.
The decrease in working capital in 2004 is a result of the
reclassification of the $2,800,000 note payable to NPDC from long-term to
short-term debt, primary offset by increased accounts receivable due to
increased revenue. The decrease in cash in 2004 was due to cash used in
operations of $619,000 and cash used for additions to machinery and equipment of
13
$275,000; offset by cash provided by financing activities of $892,000,
consisting of net proceeds from short-term borrowings of $1,549,000, offset by
purchases of treasury stock of $657,000.
On June 20, 2003, the Company's wholly-owned subsidiary, Five Star
Group, Inc., obtained a Loan and Security Agreement (the "Loan Agreement") with
Bank of America (formerly Fleet Capital Corporation) (the "Lender"). The Loan
Agreement has a five-year term, with a maturity date of June 30, 2008. The Loan
Agreement, as amended on May 28, 2004, provides for a $28,000,000 revolving
credit facility, which allows Five Star Group, Inc. to borrow based upon a
formula of up to 55% of eligible inventory and 80% of eligible accounts
receivable, as defined therein. The interest rates under the Loan Agreement
consist of LIBOR plus a credit spread of 2% (4.28% at December 31, 2004) for
borrowings not to exceed $15,000,000 and the prime rate (5.25% at December 31,
2004) for borrowings in excess of the above-mentioned LIBOR-based borrowings.
The credit spreads can be reduced in the event that Five Star Group, Inc.
achieves and maintains certain performance benchmarks. At December 31, 2004,
approximately $18,234,000 was outstanding under the Loan Agreement and
approximately $434,000 was available to be borrowed.
In March 2005, Five Star Group, Inc. amended the Loan Agreement to
allow it to increase the maximum amount that can be borrowed under the revolving
credit facility to $30,000,000 through June 30, 2005; reverting back to a
maximum of $28,000,000 on July 1, 2005.
In connection with the Loan Agreement, Five Star Group, Inc. also
entered into a derivative transaction with the Lender on June 20, 2003. The
derivative transaction is an interest rate swap and has been designated as a
cash flow hedge. Effective July 1, 2004 through June 30, 2008, Five Star Group,
Inc. will pay a fixed interest rate of 3.38% to the Lender on notional principal
of $12,000,000. In return, the Lender will pay to Five Star Group, Inc. a
floating rate, namely, LIBOR, on the same notional principal amount. The credit
spread under the new Loan Agreement is not included in, and will be paid in
addition to this fixed interest rate of 3.38%.
On June 17, 2004, Five Star Group, Inc. has also entered into a
derivative interest rate collar transaction during the period from July 1, 2004
through June 30, 2008 on notional principal of $12,000,000. The transaction
consists of an interest rate floor of 2.25%, whereas if LIBOR is below 2.25%,
the Lender will pay to Five Star Group, Inc. the difference between LIBOR and
2.25%, on the same notional principal amount. The transaction also consists of
an interest rate cap of 5.75%, whereas if LIBOR is above 5.75%, Five Star Group,
Inc. will pay to the Lender the difference between LIBOR and 5.75%, on the same
notional principal amount.
The interest rate swap and interest rate collar entered into by the
Company in connection with the Loan Agreement are being accounted for under SFAS
No. 133, as amended, "Accounting for Derivative Instruments and Hedging
Activities." SFAS No. 133 requires all derivatives to be recognized in the
balance sheet at fair value. Derivatives that are not hedges must be adjusted to
fair value through earnings. If the derivative is a cash flow hedge, changes in
the fair value of the derivative are recognized in other comprehensive income
until the hedged item is recognized in earnings. The ineffective portion of a
derivative's change in fair value is immediately recognized in earnings. Changes
14
in the fair value of the interest rate swap, which has been designated as a cash
flow hedge, were recognized in other comprehensive income. Changes in the fair
value of the interest rate collar from June 17, 2004 through December 31, 2004
amount to approximately $19,000, which has been charged to earnings during year
ended December 31, 2004.
Contractual Obligations and Commitments
The following table summarizes long-term debt, capital lease
commitments, operating lease commitments, purchase commitments and employment
agreements as of December 31, 2004 (in thousands):
Payments due in
2005 2006-2007 2008-2009 After 2009 Total
---- --------- --------- ---------- -----
Long-term debt $ 2,800 $ - $ - $ - $ 2,800
Operating lease commitments 2,202 2,954 340 - 5,496
Employment agreements 938 150 - - 1,088
------- -------- ----------- ------- -------
Total $ 5,940 $ 3,104 $340 $ - $9,384
Application of Critical Accounting Policies
The Company's consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States of
America. Certain accounting policies have a significant impact on amounts
reported in the financial statements. A summary of those significant accounting
policies can be found in Note 2 to the Company's financial statements included
herein.
Among the significant judgments made by management in the preparation
of the Company's financial statements are the determination of the allowance for
doubtful accounts and adjustments of inventory valuations. These adjustments are
made each reporting period in the ordinary course of accounting.
Revenue recognition
Revenue on product sales is recognized at the point in time when the
product has been shipped, title and risk of loss has been transferred to the
customer, and the following conditions are met: persuasive evidence of an
arrangement exists, the price is fixed and determinable, and collectibility of
the resulting receivable is reasonably assured. Allowances for estimated returns
and allowances are recognized when sales are recorded.
Valuation of accounts receivable
Provisions for allowance for doubtful accounts are made based on
historical loss experience adjusted for specific credit risks. Measurement of
15
such losses requires consideration of Five Star's historical loss experience,
judgments about customer credit risk, and the need to adjust for current
economic conditions. The allowance for doubtful accounts as a percentage of
total gross trade receivables was 2.1 % and 5.5% as of December 31, 2004 and
December 31, 2003, respectively. The Company wrote off approximately $487,000 in
uncollectible accounts in 2004.
Recent Accounting Pronouncements
During December 2004, the Financial Accounting Standards Board ("FASB")
issued a new standard entitled Statement of Financial Accounting Standards
("SFAS") 123R, Share-Based Payment, which would revise SFAS No. 123, Accounting
for Stock Based Compensation, and amend SFAS No. 95, Statement of Cash Flows.
Among other items, the new standard would require the expensing, in the
financial statements, of stock options issued by the Company. The new standard
will be effective July 1, 2005, for calendar year companies. Five Star is
currently evaluating the method of adoption of SFAS No. 123R, including the
valuation methods and assumptions that underlie the valuation of the awards. As
permitted under SFAS No. 123 the Company currently accounts for share-based
payments to employees using Accounting Principles Board ("APB") Opinion No. 25
intrinsic value method, and as such, recognizes no compensation cost for
employee stock options. Accordingly the adoption of SFAS No. 123R fair value
method could have a significant impact on the Company's results of operations,
although it will have no impact on the Company's overall financial position. The
impact of adoption of SFAS No. 123R cannot be predicted at this time, because it
will depend on levels of share-based payments in the future.
In November 2004, the FASB issued SFAS No. 151, Inventory Costs, an
amendment to ARB No. 43, Chapter 4 (FAS 151). FAS 151 amends Accounting Research
Bulleting No. 43, to clarify that abnormal amounts of idle facility expense,
freight, handling costs and wasted material (spoilage) should be recognized as
current period charges. In addition, FAS 151 requires that allocation of fixed
production overhead to inventory be based on the normal capacity of the
production facilities. The Company is required to adopt FAS 151 beginning
January 1, 2006. The Company is currently assessing the impact that FAS 151 will
have on its results of operations, financial position or cash flows.
16
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
As of December 31, 2004, the Company had approximately $6.2 million of
variable rate borrowings. The Company estimates that for every 1% fluctuation in
general interest rates, assuming debt levels at December 31, 2004, interest
expense would vary by $62,000.
The Company is a party to an interest rate swap agreement designated as
a cash flow hedge whereby changes in the cash flows of the swap will offset
changes in the interest rate payments on the Company's variable-rate revolving
loan, thereby reducing the Company's exposure to fluctuations in LIBOR. Changes
in the fair value of the interest rate swap are recognized in accumulated other
comprehensive income, net of income taxes.
Effective July 1, 2004 through June 30, 2008, Five Star Group, Inc.
will pay a fixed interest rate of 3.38% to the Lender on notional principal of
$12,000,000. In return, the Lender will pay to Five Star Group, Inc. a floating
rate, namely, LIBOR, on the same notional principal amount. The credit spread
under the new Loan Agreement is not included in, and will be paid in addition to
this fixed interest rate of 3.38%.
On June 17, 2004, Five Star Group has also entered into a derivative
interest rate collar transaction during the period from July 1, 2004 through
June 30, 2008 on notional principal of $12,000,000. The transaction consists of
an interest rate floor of 2.25%, whereas if LIBOR is below 2.25%, the Lender
will pay to Five Star Group, Inc. the difference between LIBOR and 2.25%, on the
same notional principal amount. The transaction also consists of an interest
rate cap of 5.75%, whereas if LIBOR is above 5.75%, Five Star Group, Inc. will
pay to the Lender the difference between LIBOR and 5.75%, on the same notional
principal amount.
17
8. Financial Statements and Supplementary Data
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
Report of Independent Registered Public Accounting Firm 19
Financial Statements:
Consolidated Balance Sheets - December 31, 2004 and 2003 20
Consolidated Statements of Operations and Comprehensive Income -
Years ended December 31, 2004, 2003 and 2002 21
Consolidated Statements of Changes in Stockholders' Equity -
Years ended December 31, 2004, 2003 and 2002 22
Consolidated Statements of Cash Flows -
Years ended December 31, 2004, 2003 and 2002 23
Notes to Consolidated Financial Statements 24
18
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders of
Five Star Products, Inc.:
We have audited the accompanying consolidated balance sheets of Five Star
Products Inc. and subsidiaries (the "Company") as of December 31, 2004 and 2003
and the related consolidated statements of operations and comprehensive income,
changes in stockholders' equity and cash flows for each of the years in the
three-year period ended December 31, 2004. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Five Star Products
Inc. and subsidiaries as of December 31, 2004 and 2003, and the consolidated
results of their operations and their cash flows for each of the years in the
three year period ended December 31, 2004, in conformity with accounting
principles generally accepted in the Unites States of America.
EISNER LLP
New York, New York
March 4, 2005
19
FIVE STAR PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
December 31, December 31,
2004 2003
----
Assets
Current assets
Cash $ 4 $ 6
Accounts receivable, less allowance
for doubtful accounts of $306 and $702, respectively 9,622 8,870
Inventory 29,334 26,427
Deferred income taxes 164 108
Prepaid expenses and other current assets 172 308
--------- ---------
Total current assets 39,296 35,719
Machinery and equipment, net 855 873
Deferred income taxes 178 140
Other assets 146 164
---------- ---------
Total Assets $40,475 $36,896
======= =======
Liabilities and Stockholders' Equity
Current liabilities
Short-term borrowings $18,234 $16,685
Note payable to NPDC 2,800 -
Accounts payable and accrued expenses
(including due to affiliates of $37 and $257, respectively) 14,504 12,966
------ --------
Total current liabilities 35,538 29,651
Long-term debt to GP Strategies - 2,800
Interest rate collar 19 -
--------- ----------
Total Liabilities 35,557 32,451
------ ------
Stockholders' equity
Common stock, authorized 30,000,000 shares,
par value $.01 per share; 17,293,098 shares issued and
14,310,077 outstanding in 2004 and 17,292,882 shares
issued and 16,937,651 outstanding in 2003 173 173
Additional paid-in capital 8,552 8,552
Accumulated deficit (3,168) (4,308)
Accumulated other comprehensive income 61 71
Treasury stock, at cost (700) (43)
----------- ------------
Total stockholders' equity 4,918 4,445
--------- ---------
$ 40,475 $36,896
======== =======
See accompanying notes to the consolidated financial statements.
20
FIVE STAR PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(in thousands, except per share data)
Year Ended December 31,
2004 2003 2002
---- ---- ----
Sales $ 101,982 $ 95,085 $ 94,074
Cost of goods sold 82,592 77,366 77,461
------ ------- --------
Gross margin 19,390 17,719 16,613
Selling, general and
administrative expenses (16,329) (15,743) (14,313)
-------- -------- --------
Operating income 3,061 1,976 2,300
Other income (loss) 16 45 (450)
Interest expense (including amounts
to affiliates of $224, $312 and $384) (1,096) (990) (1,131)
------- -------- --------
Income before income taxes 1,981 1,031 719
Income tax expense (841) (433) (328)
--------- -------- --------
Net income $ 1,140 $ 598 $ 391
Other comprehensive income (loss),
net of tax:
Change in value of cash flow hedge (17) 122 -
Tax benefit (expense) 7 51 -
-------- --------- ----------
Comprehensive income $ 1,130 $ 669 $ 391
======= ======= =======
Net income per share
Basic $0.08 $ 0.04 $ 0.03
===== ======== ========
Diluted $0.07 $ 0.04 $ 0.03
===== ======== ========
See accompanying notes to the consolidated financial statements.
21
FIVE STAR PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Years Ended December 31, 2004, 2003 and 2002
(in thousands)
Accumulated
Common Additional Treasury Other Total
Stock Paid-in Accumulated Stock Comprehensive Stockholders'
Par Value Capital Deficit At Cost Income Equity
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
Balance at December 31, 2001 $130 $7,589 $(5,297) $0 $0 $2,422
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
Net income 391 391
Purchase of 269,271 shares of treasury stock (35) (35)
Issuance of 2,272,727 shares of common stock
in payment of indebtedness to GP Strategies 23 477 500
Issuance of compensatory stock options 3 3
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
Balance at December 31, 2002 $153 $8,069 $(4,906) $(35) $0 $3,281
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
Net income 598 598
Purchase of 86,000 shares of treasury stock (8) (8)
Issuance of compensatory stock options 3 3
Issuance of 2,000,000 shares of common stock
in payment of indebtedness to GP Strategies 20 480 500
Increase in market value of interest
rate swap, net of tax 71 71
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
Balance at December 31, 2003 $173 $8,552 $(4,308) $(43) $71 $4,445
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
Net income 1,140 1,140
Purchase of 2,628,000 shares of treasury stock (657) (657)
Decrease in market value of interest
rate swap, net of tax (10) (10)
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
Balance at December 31, 2004 $173 $8,552 $(3,168) $(700) $61 $4,918
- ----------------------------------------------------- ------------ ---------- ----------- ----------- --------------- --------------
See accompanying notes to the consolidated financial statements.
22
FIVE STAR PRODUCTS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Year Ended December 31,
------------------------------------------------
---------------- -------------- ----------------
2004 2003 2002
---- ---- ----
Cash flows from operating activities:
Net income $ 1,140 $ 598 $ 391
Adjustments to reconcile net income
to net cash (used in) provided by operating activities:
Depreciation and amortization 293 287 267
Deferred income taxes (86) (55) (51)
Issuance of compensatory stock options - 3 3
Loss on interest rate collar 19 - -
Changes in other operating items:
Accounts receivable (752) (817) 1,053
Inventory (2,907) (2,763) (339)
Prepaid expenses and other current assets 136 64 73
Accounts payable and accrued expenses 1,538 1,298 1,429
----- ------- -----
Net cash (used in) provided by operating activities $ (619) (1,385) 2,826
------- -------- -----
Cash flows from investing activities:
Additions to machinery and equipment (275) (294) (229)
----- -------- -------
Cash flows from financing activities:
Net proceeds from (repayments of)
short-term borrowings 1,549 2,877 (2,606)
Repayments of note payable to GP Strategies - (1,200) -
Purchase of treasury stock (657) (8) (35)
----- ---------- --------
Net cash provided by (used in)
financing activities 892 1,669 (2,641)
--- ------ -------
Net decrease in cash (2) (10) (44)
Cash at beginning of period 6 16 60
------- -------- ---------
Cash at end of period $ 4 $ 6 $ 16
====== ======== ========
Supplemental disclosures of cash flow information:
Cash paid during the periods for:
Interest $ 979 $ 990 $ 1,148
===== ====== =======
Income tax $ 522 $ 530 $ 171
===== ====== ========
Non-cash financing activity:
Exchange of long-term debt to
GP Strategies for common stock $ - $ 500 $ 500
======= ====== =========
See accompanying notes to the consolidated financial statements.
23
FIVE STAR PRODUCTS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
1. Business and relationship with National Patent Development Corporation
Five Star Products, Inc. (the "Company" or "Five Star") owns 100% of Five Star
Group, Inc. which is a wholesale distributor of home decorating, hardware and
finishing products in the northeastern United States. At December 31, 2004 the
Company is a majority owned subsidiary of National Patent Development
Corporation ("NPDC").
The Company, which was then 37.5% owned by GP Strategies Corporation
("GPS"), purchased its business from GPS in 1998 in exchange for cash and a
$5,000,000 unsecured 8% note payable ("the Note"). In 2002 and 2003, GPS
converted $1,000,000 principal amount of the Note into 4,272,727 shares of the
Company's common stock. In 2004, the Company, through a tender offer,
repurchased approximately 2,628,000 shares of its common stock. The conversion
of the Note and the tender offer increased GPS' ownership in the Company to
approximately 64%. On July 30, 2004, GPS contributed its ownership interest in
Five Star and the Note to NPDC. On November 24, 2004, GPS completed the spin-off
to its shareholders of the common stock of NPDC.
2. Summary of significant accounting policies
Principles of consolidation. The consolidated financial statements include the
accounts of the Company and its wholly owned subsidiaries. All significant
intercompany balances and transactions have been eliminated in consolidation.
Revenue recognition. Revenue on product sales is recognized at the point in time
when the product has been shipped, title and risk of loss has been transferred
to the customer, and the following conditions are met: persuasive evidence of an
arrangement exists, the price is fixed and determinable, and collectibility of
the resulting receivable is reasonably assured. Allowances for estimated returns
and allowances are recognized when sales are recorded.
Reclassifications. Certain prior year amounts in the financial statements and
notes thereto have been reclassified to conform to 2004 classifications.
Inventory. Inventory is valued at the lower of cost, using the first-in,
first-out (FIFO) method, or market. Inventory consists solely of finished
products, and includes allocated warehousing costs.
Machinery and equipment. Fixed assets are carried at cost less accumulated
depreciation. Major additions and improvements are capitalized, while
maintenance and repairs that do not extend the lives of the assets are expensed.
Gain or loss, if any, on the disposition of fixed assets is recognized currently
in operations. Depreciation is calculated primarily on a straight-line basis
over estimated useful lives of the assets.
Shipping and handling costs. Shipping and handling costs are included as a part
of selling, general and administrative expense. These cost amounted to
$4,756,000, $4,416,000 and $4,441,000 for the years ended December 31, 2004,
2003 and 2002, respectively.
24
Advertising costs. The Company expenses advertising costs as incurred.
Advertising expense was $91,000, $57,000 and $57,000 for the years ended
December 31, 2004, 2003 and 2002, respectively.
Income taxes. Income taxes are provided for based on the asset and liability
method of accounting pursuant to Statement of Financial Accounting Standards
("SFAS") No. 109, "Accounting for Income Taxes". Under SFAS No. 109, deferred
tax assets and liabilities are recognized for the estimated future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
in effect for the year in which those temporary differences are expected to be
recovered or settled. Under SFAS No. 109, the effect on deferred tax assets and
liabilities of a change in tax rates is recognized in income in the period that
includes the enactment date.
Use of estimates. The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from these estimates.
Concentration of credit risk. Financial instruments that potentially subject the
Company to significant concentrations of credit risk consist primarily of
accounts receivable. Sales are made principally to independently owned paint and
hardware stores in the northeast United States.
Fair value of financial instruments. The carrying value of cash and cash
equivalents, accounts receivable and accounts payable approximate estimated fair
values because of short maturities. The carrying value of short term borrowings
approximates estimated fair value because borrowings accrue interest which
fluctuates with changes in LIBOR. The estimated fair value for the Company's
$2,800,000 fixed rate note payable to NPDC and GPS approximated carrying values
at December 31, 2004 and 2003, respectively, using calculations based on market
rates. Derivative instruments are carried at fair value representing the amount
the Company would receive or pay to terminate the derivative.
Derivatives and hedging activities. SFAS No. 133, as amended, "Accounting for
Derivative Instruments and Hedging Activities" requires all derivatives to be
recognized in the balance sheet at fair value. Derivatives that are not hedges
must be adjusted to fair value through earnings. If the derivative is a cash
flow hedge, changes in the fair value of the derivative are recognized in other
comprehensive income until the hedged item is recognized in earnings. The
ineffective portion of a derivative's change in fair value is immediately
recognized in earnings. Changes in the fair value of the interest rate swap,
which has been designated as a cash flow hedge, were recognized in other
comprehensive income. Changes in the fair value of the interest rate collar are
recognized in earnings (See Note 3).
Recent Accounting Pronouncements. During December 2004, the Financial Accounting
Standards Board ("FASB") issued a new standard entitled Statement of Financial
Accounting Standards ("SFAS") 123R, Share-Based Payment, which would revise SFAS
No. 123, Accounting for Stock Based Compensation, and amend SFAS No. 95,
25
Statement of Cash Flows. Among other items, the new standard would require the
expensing, in the financial statements, of stock options issued by the Company.
The new standard will be effective July 1, 2005, for calendar year companies.
Five Star is currently evaluating the method of adoption of SFAS No. 123R,
including the valuation methods and assumptions that underlie the valuation of
the awards. As permitted under SFAS No. 123 the Company currently accounts for
share-based payments to employees using Accounting Principles Board ("APB")
Opinion No. 25 intrinsic value method, and as such, recognizes no compensation
cost for employee stock options. Accordingly the adoption of SFAS No. 123R fair
value method could have a significant impact on the Company's results of
operations, although it will have no impact on the Company's overall financial
position. The impact of adoption of SFAS No. 123R cannot be predicted at this
time, because it will depend on levels of share-based payments in the future.
However had the Company adopted SFAS No. 123R in prior periods, the impact of
that statement would have approximated the impact of SFAS No. 123 as described
in the disclosure of pro forma net income and earnings per share shown below
under "Stock-based compensation"
In November 2004, the FASB issued SFAS No. 151, Inventory Costs, an amendment to
ARB No. 43, Chapter 4 (FAS 151). FAS 151 amends Accounting Research Bulleting
No. 43, to clarify that abnormal amounts of idle facility expense, freight,
handling costs and wasted material (spoilage) should be recognized as current
period charges. In addition, FAS 151 requires that allocation of fixed
production overhead to inventory be based on the normal capacity of the
production facilities. The Company is required to adopt FAS 151 beginning
January 1, 2006. The Company is currently assessing the impact that FAS 151 will
have on its results of operations, financial position or cash flows.
Stock-based compensation. The Company has elected to continue to account for its
stock-based compensation plans using the intrinsic value method prescribed by
Accounting Principles Board. Opinion No. 25 ("APB No. 25"), "Accounting for
Stock Issued to Employees". Under the provisions of APB No. 25, employee
compensation is measured as the excess, if any, of the quoted market price of
the Company's common stock at the date of the grant over the amount an employee
must pay to acquire the stock.
Had the Company determined compensation cost based on the fair value method at
the grant date for its stock options under SFAS No. 123, the Company's net
income and per share amounts would have been changed to the pro forma amounts
indicated below (in thousands, except per share amounts):
Year Ended December 31,
2004 2003 2002
---- ---- ----
Net income - as reported $1,140 $598 $391
Compensation expense net of tax (12) (18) (33)
---- ----- -------
Pro forma net income $1,128 $580 $358
====== ======== ====
Per share data
Basic - as reported $0.08 $0.04 $0.03
Basic - pro forma $0.08 $0.04 $0.03
Diluted - as reported $0.07 $0.04 $0.03
Diluted - pro forma $0.07 $0.04 $0.03
26
The Company did not grant any options during 2004 and 2003. The weighted-average
fair value of options granted in 2002 was approximately $0.08 using the
Black-Scholes option-pricing model with the following assumptions.
Volatility 73%
Risk -free interest rate 2.52%-4.14%
Expected life in years 3
Dividend yield 0%
Earnings per share. Basic earnings per share (EPS) is based upon the weighted
average number of common shares outstanding during the period. Diluted EPS is
based upon the weighted average number of common shares outstanding during the
period assuming the issuance of common shares for all dilutive potential common
shares outstanding. For the years ended December 31, 2003 and 2002 options
outstanding to purchase approximately 1,530,000 and 1,700,000 shares of common
stock, respectively, were not included in the diluted per share computation
because their effect would be anti-dilutive.
Earnings per share (EPS) for the years ended December 31, 2004, 2003 and 2002
are computed as follows (in thousands, except per share amounts):
Year ended December 31,
---------------------------------------------
--------------- -------------- --------------
2004 2003 2002
---- ---- ----
Basic EPS
Net income $ 1,140 $ 598 $ 391
------- ------ --------
Weighted average shares outstanding 14,967 15,442 13,742
------ ------ ------
Basic earnings per share $ 0.08 $ 0.04 $ 0.03
------ ------- --------
Diluted EPS
Net income $ 1,140 $ 598 $ 391
------- ------ --------
Weighted average shares outstanding 14,967 15,442 13,742
Dilutive effect of stock options 395 _____ 74
------ ----- ---------
Weighted average shares
outstanding, diluted 15,362 15,442 13,816
------ ------ -------
Diluted earnings per share $ 0.07 $ 0.04 $ 0.03
------ ------- ---------
3. Short-term borrowings
In 2003, the Company's wholly-owned subsidiary, Five Star Group, Inc., obtained
a Loan and Security Agreement (the "Loan Agreement") with Bank of America
Business Capital (formerly Fleet Capital Corporation) (the "Lender"). The Loan
27
Agreement has a five-year term, with a maturity date of June 30, 2008. The Loan
Agreement, as amended on May 28, 2004, provides for a $28,000,000 revolving
credit facility, which allows Five Star Group, Inc. to borrow based upon a
formula of up to 55% of eligible inventory and 80% of eligible accounts
receivable, as defined therein. The interest rates under the Loan Agreement
consist of LIBOR plus a credit spread of 2% (4.28% at December 31, 2004) for
borrowings not to exceed $15,000,000 and the prime rate (5.25% at December 31,
2004) for borrowings in excess of the above-mentioned LIBOR-based borrowings.
The credit spreads can be reduced in the event that Five Star Group, Inc.
achieves and maintains certain performance benchmarks. At December 31, 2004 and
2003, approximately $18,234,000 and $16,685,000 was outstanding under the Loan
Agreement and approximately $434,000 and $480,000 was available to be borrowed,
respectively. Substantially all of the Company's assets are pledged as
collateral for these borrowings. Under the Loan Agreement Five Star is subject
to covenants requiring minimum net worth, limitations on losses, if any, and
minimum or maximum values for certain financial ratios. As of December 31, 2004
the Company was in compliance with all required covenants.
In March 2005, Five Star Group, Inc. amended the Loan Agreement to allow it to
increase the maximum amount that can be borrowed under the revolving credit
facility to $30,000,000 through June 30, 2005; reverting back to a maximum of
$28,000,000 on July 1, 2005.
In connection with the Loan Agreement, Five Star Group, Inc. also entered into a
derivative transaction with the Lender. The derivative transaction is an
interest rate swap and has been designated as a cash flow hedge. Effective July
1, 2004 through June 30, 2008, Five Star Group, Inc. will pay a fixed interest
rate of 3.38% to the Lender on notional principal of $12,000,000. In return, the
Lender will pay to Five Star Group, Inc. a floating rate, namely, LIBOR, on the
same notional principal amount. The credit spread under the new Loan Agreement
is not included in, and will be paid in addition to this fixed interest rate of
3.38%. The fair value of the interest rate swap amounted to $105,000 and
$122,000 at December 31, 2004 and 2003, respectively and is included in other
assets in the accompanying balance sheets.
On June 17, 2004, Five Star Group, Inc. also entered into a derivative interest
rate collar transaction during the period from July 1, 2004 through June 30,
2008 on notional principal of $12,000,000. The transaction consists of an
interest rate floor of 2.25%, whereas if LIBOR is below 2.25%, the Lender will
pay to Five Star Group, Inc. the difference between LIBOR and 2.25%, on the same
notional principal amount. The transaction also consists of an interest rate cap
of 5.75%, whereas if LIBOR is above 5.75%, Five Star Group, Inc. will pay to the
Lender the difference between LIBOR and 5.75%, on the same notional principal
amount. Changes in the fair value of the collar from June 17, 2004 through
December 31, 2004 amount to approximately $19,000, which has been charged to
earnings during the year ended December 31, 2004 and is shown as a non-current
liability in the accompanying 2004 balance sheet.
4. 401(k) plan
The Company maintains a 401(k) Savings Plan for employees who have completed one
year of service. The Savings Plan permits pre-tax contributions to the Savings
Plan of 2% to 50% of compensation by participants pursuant to Section 401(k) of
the Internal Revenue Code. The Company matches 40% of the participants' first 6%
of compensation contributed, not to exceed an amount equivalent to 2.4% of that
participant's compensation.
28
The Savings Plan is administered by a trustee appointed by the Board of
Directors of the Company and all contributions are held by the trustee and
invested at the participants' directions in various mutual funds. The Company's
expense associated with the Savings Plan was approximately $123,000, $125,000
and $110,000 for the years ended December 31, 2004, 2003, and 2002,
respectively.
5. Machinery and equipment
Machinery and equipment consist of the following (in thousands):
December 31, Estimated
------------
2004 2003 useful lives
---- ---- ------------
Machinery and equipment 383 $308 5-7 years
Furniture and fixtures 1,196 1,029 5 years
Leasehold improvements 872 839 3-9 years
--- ------
2,451 2,176
Accumulated depreciation and amortization (1,596) (1,303)
------- -------
$855 $ 873
==== ======
Depreciation and amortization expense for the years ended December 31, 2004,
2003, and 2002 was $293,000, $287,000, and $267,000, respectively.
6. Related party transactions
(a) Management agreement
GPS provided legal, tax, business development, insurance and employee benefit
administrative services to the Company pursuant to a management services
agreement for a fee of up to $10,000 per month ("the Agreement"). The Agreement
was automatically renewable for successive one-year terms unless one of the
parties notifies the other in writing at least six months prior to the end of
the initial term or any renewal thereof. The Agreement is renewed for 2005. The
management fee was increased to $25,000 per month effective October 1, 2004. In
addition the Company agreed to reimburse GPS for $16,666 per month for Mr.
Feldman's (GPS' Chief Executive Officer) service to the Company effective
October 1, 2004. As a result of the spin-off of NPDC, GPS transferred to NPDC
the rights and obligations under the Agreement.
Fees incurred under the Agreement totaled $215,000, $100,000 and $98,000, for
the years ended December 31, 2004, 2003 and 2002, respectively, and are included
in selling, general and administrative expenses in the consolidated statements
of operations. At December 31, 2003, the amount due to GPS under the Agreement
which is included in accounts payable and accrued expenses was $257,000. At
December 31, 2004, the amount due to NPDC under the Agreement was $37,000, which
is included in accounts payable and accrued expenses.
In addition, GPS and NPDC incurred certain expenses on behalf of Five Star,
primarily involving insurance, legal and other professional expenses. Five Star
29
reimbursed GPS and NPDC for such expense, which amounted to approximately
$239,000, $338,000 and $98,000 for the years ended December 31, 2004, 2003 and
2002, respectively.
(b) Related party debt
The Company's wholly-owned subsidiary, Five Star Group, Inc., has an unsecured
note payable (the "Note") to JL Distributors, Inc., a wholly-owned subsidiary of
NPDC following the spin-off of NPDC from GPS on November 24, 2004. The Note, as
amended, bears interest at 8%, which is payable quarterly, and matures on June
30, 2005. The Note is subordinated to the indebtedness under the Loan Agreement
(see Note 3) according to an Agreement of Subordination & Assignment (the
"Subordination Agreement") between Five Star Group, Inc. and JL Distributors,
Inc. dated June 20, 2003. The Subordination Agreement permits the annual
repayment of principal under certain circumstances. Pursuant to the provisions
of the Subordination Agreement, the Company made repayments to GPS in the
aggregate amount of $1,200,000 during 2003. In addition, in 2002 and 2003, GPS
also exchanged $500,000 principal amount ($1,000,000 in total) of the Note for
2,272,727 and 2,000,000 shares of the Company's common stock, respectively. In
connection with the 2003 exchange, in consideration for GPS agreeing to exchange
at a price of $0.25 per share, which was at a significant premium to the market
price of the Company's common stock on the day prior to the approval of the
transaction, the Company agreed to terminate the voting agreement and thereby
GPS obtained a controlling financial interest in the Company. The balance of the
Note was $2,800,000 as of December 31, 2004.
(c) Other related party transactions
On February 8, 2002, the Company entered into a Consulting and Severance
Agreement (the "Agreement") with Richard Grad, the former President and Chief
Executive Officer of the Company. Pursuant to the Agreement, Mr. Grad will
receive $145,000 per year for consulting services to be rendered to the Company
and a severance fee at the rate of $5,000 per year, for a five-year period
ending December 31, 2006. In addition, in August, 2002, Mr. Grad was granted
options to purchase 150,000 shares of the Company's Common Stock at the quoted
market price on the date of grant, which options will vest annually over the
term of the Agreement in equal installments. Such options were valued at an
aggregate amount of $13,000. The Agreement also provided for the repurchase by
the Company of 192,308 shares of the Company's Common Stock held by Mr. Grad for
an aggregate purchase price of $25,000. During this five-year period, Mr. Grad
is also receiving certain benefits, including medical benefits, life insurance
and use of an automobile.
On February 8, 2002, the Company entered into a Consulting and Severance
Agreement (the "Agreement") with Cynthia Krugman, the former Controller of the
Company. Pursuant to the Agreement, Ms. Krugman received $105,000 per year for
consulting services to be rendered to the Company and a severance fee of $5,000
per year, for an eighteen-month period ended June 30, 2003. The Agreement also
provided for the repurchase by the Company of 76,923 shares of the Company's
Common Stock held by Ms. Krugman for an aggregate purchase price of $10,000.
During this period, Ms. Krugman has received certain benefits, including medical
benefits. Ms. Krugman is the daughter of Richard Grad.
30
7. Income taxes
The components of income tax expense (benefit) are as follows (in thousands):
- ----------------------------------------------- -------------- -------------- ------------------
Years ended December 31, 2004 2003 2002
- ----------------------------------------------- -------------- -------------- ------------------
Current
Federal $703 $372 $ 286
State and local 224 116 93
----- ----- -------
Total current expense 927 488 379
----- ----- ------
Deferred
Federal (67) (43) (38)
State and local (19) (12) (13)
------- ------ -------
Total deferred (benefit) (86) (55) (51)
------- ------ -------
Total income tax expense $841 $433 $ 328
---- ---- ------
As of December 31, 2004 and 2003, net deferred income taxes consist of the
following (in thousands):
December 31,
---------------------------
------------ --------------
Deferred tax assets (liabilities) 2004 2003
---- ----
Allowance for doubtful accounts $ 98 $ 64
Accrued compensation 3 6
Inventory 63 38
---- -----
Total current deferred tax assets 164 108
Machinery and equipment 214 191
Interest rate collar 8 -
Deferred compensation 39 39
Interest rate swap (44) (51)
---- ----
Total long-term deferred tax assets 217 179
Valuation allowance (39) (39)
----- -----
Net long-term deferred tax assets 178 140
Net deferred tax assets $342 $248
==== ====
31
A reconciliation between the Company's tax provision and the U.S. statutory rate
follows (in thousands):
- --------------------------------------- -------------- -------------- ----------
Years ended December 31, 2004 2003 2002
- --------------------------------------- -------------- -------------- ----------
- --------------------------------------- -------------- -------------- ----------
Tax at U.S. statutory rate $673 $350 $ 245
State and local taxes net of
Federal benefit 135 69 51
Items not deductible 25 23 19
Valuation allowance adjustment - - 1
Other 8 (9) 12
------ ------ ------
Income taxes $841 $433 $ 328
==== ==== =====
Under SFAS No. 109, a valuation allowance is provided when it is more likely
than not that some portion of deferred tax assets will not be realized. The
valuation allowance was unchanged during 2004 and 2003, and increased by $1,000
during 2002.
8. Stock options
On January 1, 1994, the Company's Board of Directors adopted the Five Star
Products, Inc. 1994 Stock Option Plan (the "Stock Option Plan"), which became
effective August 5, 1994. The Stock Option Plan, as amended provides for
4,000,000 shares of Common Stock to be reserved for issuance, subject to
adjustment in the event of stock splits, stock dividends, recapitalizations,
reclassifications or other capital adjustments. Unless designated as "incentive
stock options" intended to qualify under Section 422 of the Internal Revenue
Code, options granted under the Stock Option Plan are intended to be
nonqualified options. Options may be granted to any director, officer or other
key employee of the Company and its subsidiaries, and to consultants and other
individuals providing services to the Company.
The term of any option granted under the Stock Option Plan will not exceed ten
years from the date of the grant of the option and, in the case of incentive
stock options granted to a 10% or greater holder in the total voting stock of
the Company, three years from the date of grant. The exercise price of any
option will not be less than the fair market value of the Common Stock on the
date of grant or, in the case of incentive stock options granted to a 10% or
greater holder in the total voting stock, 110% of such fair market value.
Options granted vest 20% on date of grant with the balance vesting in equal
annual installments over four years. At December 31, 2004, the Company had
1,500,000 shares of common stock reserved for future grants under the Stock
Option Plan.
32
Activity relating to stock options granted by the Company:
Number of Weighted-Average
Shares Exercise Price
Balance at December 31, 2001 2,500,000 0.18
Granted 675,000 0.15
Cancelled (245,000) 0.27
---------
Balance at December 31, 2002 2,930,000 0.16
Cancelled (1,400,000) 0.13
-----------
Balance at December 31, 2003 1,530,000 0.19
Cancelled (430,000) 0.33
-----------
Balance at December 31, 2004 1,100,000 0.14
=========
Exercisable at December 31, 2004 770,000 0.14
=======
The following table summarizes information about the Plan's options at December
31, 2004:
Exercise Number Weighted-Average Number Weighted-Average
Price Outstanding Years Remaining Exercisable Years Remaining
----------------- ----------------------- ------------------------ ------------------- -------------------------
----------------- ----------------------- ------------------------ ------------------- -------------------------
0.14 900,000 2.0 630,000 1.9
0.15 50,000 2.3 50,000 2.3
0.16 150,000 2.6 90,000 2.6
----------------- ----------------------- ------------------------ ------------------- -------------------------
----------------- ----------------------- ------------------------ ------------------- -------------------------
Total 1,100,000 2.1 770,000 2.0
9. Commitments and contingencies
The Company has several noncancellable leases which cover real property,
machinery and equipment. Such leases expire at various dates and some of them
have options to extend their terms.
Minimum rental obligations under long-term operating leases are indicated in the
table below (in thousands). Figures for real property include estimated amounts
of supplemental lease obligations, such as pro-rated assessments for property
taxes or common-area expenses.
Machinery and
Real Property equipment Total
---------- ----------------------- --------------------- -------------
2005 $ 1,768 $ 434 $ 2,202
2006 1,779 373 2,152
2007 436 366 802
2008 - 302 302
2009 - 38 38
---------- ----------------------- --------------------- -------------
---------- ----------------------- --------------------- -------------
Total $ 3,983 $ 1,513 $5,496
During 2004, 2003, and 2002, the Company incurred $2,886,000, $2,914,000 and
$2,882,000, respectively, of rental expenses. GPS has guaranteed the leases
for the Company's New Jersey and Connecticut warehouses, totaling
approximately $1,589,000 per year through the first quarter of 2007.
33
10. Valuation and Qualifying Accounts
The following is a summary of the allowance for doubtful accounts related to
accounts receivable for the years ended December 31 (in thousands):
2004 2003 2002
---- ---- ----
Balance at beginning of year $ 702 $640 $631
Charged to expense 91 107 438
Uncollectible accounts written off,
net of recoveries (487) (45) (429)
----- ----- ----
Balance at end of year $ 306 $702 $640
===== ==== ====
11. Accounts payable and accrued expenses
Accounts payable and accrued expenses are comprised of the following at December
31, 2004 and 2003 (in thousands):
December 31,
2004 2003
Accounts payable $11,597 $11,477
Accrued expenses 1,313 1,029
Due to NPDC/GPS 37 257
Other 1,557 203
----- ----------
$14,504 $12,966
34
FIVE STAR PRODUCTS, INC. AND SUBSIDIARIES
Selected Quarterly Financial Data (unaudited)
The following is a summary of the quarterly results of operations for the years
ended December 31, 2004 and 2003 (in thousands, except per share data):
March 31 June 30 September 30 December 31
-------- ------- ------------ -----------
2004:
Sales $ 26,991 $ 27,302 $ 26,678 $ 21,011
Cost of goods sold 22,522 22,362 21,934 15,774
Gross margin 4,469 4,940 4,744 5,237
Net income (loss) 259 244 126 511
Earnings (loss) per share:
Basic $0.02 $0.01 $0.01 $0.04
Diluted $0.02 $0.01 $0.01 $0.03
2003:
Sales $25,215 $24,442 $25,396 $20,032
Cost of goods sold 20,907 20,297 20,614 15,548
Gross margin 4,308 4,145 4,782 4,484
Net income 230 71 242 55
Earnings per share:
Basic $0.02 $0.00 $0.02 $0.00
Diluted $0.02 $0.00 $0.02 $0.00
35
ITEM 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None
ITEM 9A. Controls and Procedures
"Disclosure controls and procedures" are the controls and other
procedures of an issuer that are designed to ensure that information required to
be disclosed by the issuer in the reports filed or submitted by it under the
Securities Exchange Act of 1934, as amended (the "Exchange Act") is recorded,
processed, summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms. These controls and
procedures are designed to ensure that information required to be disclosed by
an issuer in its Exchange Act reports is accumulated and communicated to the
issuer's management, including its principal executive and financial officers,
as appropriate, to allow timely decisions regarding required disclosure.
Under the supervision and with the participation of the Company's Chief
Executive Officer and Chief Financial Officer, the Company carried out an
evaluation of the effectiveness of the design and operation of the Company's
disclosure controls and procedures pursuant to the Exchange Act Rule 13a-15(e)
as of December 31, 2004. Based upon the evaluation, the Chief Executive Officer
and Chief Financial Officer concluded that the Company's disclosure controls and
procedures are effective as of the end of the period covered by this report.
During the year ended December 31, 2004, there were no changes in the
Company's internal control over financial reporting that have materially
affected, or are reasonably likely to materially affect, the internal control
over financial reporting.
36
PART III
Item 10. Directors and Executive Officers of the Registrant
Jerome I. Feldman has been Chairman of the Board of the Company since
1994. In 1959 he founded GP Strategies Corporation ("GPS"), a global provider of
training and e-Learning solutions. He has been a director of GSE Systems, Inc.,
("GSE"), a real-time simulations company since 1994 and Chairman of the Board of
GSE since 1997, Chairman of the Board and Chief Executive Officer of NPDC since
August 2004 and a director of Valera Pharmaceuticals, Inc. since January 2005.
Mr. Feldman is also Chairman of the New England Colleges Fund and a Trustee of
Northern Westchester Hospital Foundation. Age 76
Charles Dawson has been President of the Company and of Five Star
Group, Inc. ("Five Star") since 2002 and Vice President and a director of the
Company since 1999. Since 1993 Mr. Dawson has held several managerial positions
with Five Star. Age 49
Bruce Sherman has been Executive Vice President, Sales of the Company
and of Five Star since 2002, Vice President and a director of the Company since
1999 and Vice President of Sales of Five Star since 1993. He is a member of the
New York and New Jersey Paint and Decorating Association. Age 52
Steven Schilit has been Executive Vice President, Chief Operating
Officer of the Company and of Five Star since 2002, Vice President and a
director of the Company since 1999 and since 1981 has held several executive
positions with Five Star. Age 58
John Moran has been a director of the Company since 2002. He is Chief
Executive Officer of GSE and a director of GSE since November 2003 and had been
Vice President of GPS since 2001, President and Chief Executive Officer of GP
e-Learning Technologies, Inc. from 2000 to 2001 and from 1994 to 2000 he was
Group President, Training and Technologies Group of General Physics Corporation.
Age 54
Carll Tucker has been a director of the Company since 2002. In 1986 he
founded Trader Publications and was its President until 1999, which published
The Patent Trader newspaper and various local magazines, newsletters and
programs for cultural institutions in Westchester, Putnam and Fairfield
counties. Trader Publications was sold to Gannett Corporation in 1999. Mr.
Tucker is the author of a weekly newspaper column in the Westchester Patent
Trader, "Looseleaves", since 1983. Mr. Tucker is also a Trustee of Northern
Westchester Hospital Center and was its Chairman of the Board from 1999-2001.
Age 52
37
Compliance with Section 16(a) of the Exchange Act
Section 16(a) of the Exchange Act requires the Company's officers and
directors, and persons who own more than 10% of a registered class of the
Company's securities, to file reports of ownership and changes in ownership with
the SEC and to furnish copies of such reports to the Company.
Based solely on its review of copies of such reports for 2004, the
Company believes that during 2004, all reports applicable to its officers,
directors and greater than 10% beneficial owners were filed on a timely basis.
Audit Committee
The Company has established an Audit Committee of the Board of
Directors consisting of Carll Tucker. The Board of Directors has determined that
Mr. Tucker qualifies as an "audit committee financial expert" under applicable
SEC regulations and satisfies the independence requirements of the SEC.
Code of Ethics
The Company has adopted a Code of Ethics for directors, officers, and
employees of the Company and its subsidiaries, including but not limited to the
principal executive officer, the principal financial officer, the principal
accounting officer or controller, or persons performing similar functions for
the Company and its subsidiaries. The Code of Ethics and Conduct of Business
Policy is available on the Company's website at www.fivestargroup.com. A copy of
this Code of Business Conduct and Ethics is also incorporated by reference into
this report as Exhibit 14.1. If the Company makes any substantive amendment to
the Code of Ethics or grants any waiver from a provision of the Code of Ethics
for its executive officers or directors, the Company will disclose the nature of
such amendment or waiver on its website at www.fivestargroup.com. The Company
will also provide a copy of such Code of Ethics and Code of Business Policy to
any person upon written request made to the Company's Secretary in writing to
the following address: Five Star Products, Inc., Attn: Secretary, 777
Westchester Avenue, White Plains, NY 10604, with a copy to Five Star Products,
Inc., General Counsel at the same address.
38
Item 11. Executive Compensation
Executive Compensation
The following table and notes present the aggregate compensation paid
by the Company's subsidiary, Five Star, to its President and to the Company's
other executive officers for services rendered to Five Star in 2004.
SUMMARY COMPENSATION TABLE
Annual
Compensation
Salary Bonus All Other
Name and Principal Position Year ($) ($) ($)
- --------------------------- ---- --- --- ---
Charles Dawson 2004 251,933 55,000 1,170(1)
President 2003 234,018 40,000 695(1)
2002 226,615 20,000 602(1)
Steven Schilit 2004 211,140 55,000 8,181(2)
Executive Vice President and 2003 212,027 40,000 5,968(2)
Chief Operating Officer 2002 201,475 -0- 5,391(2)
Bruce Sherman 2004 219,013 55,000 6,842(3)
Executive Vice President 2003 232,173 40,000 5,748(3)
Sales 2002 221,650 20,000 5,115(3)
(1) Consists of executive life insurance premiums.
(2) Consists of $5,200, $4,800 and $4,400 as matching contributions made by
the Company to the 401(k) Savings Plan for 2004, 2003 and 2002,
respectively, and $2,981, $1,168, and $991 for executive life insurance
premiums for 2004, 2003 and 2002, respectively.
(3) Consists of $5,088, $4,800 and $4,400 as matching contributions made by
the Company to the 401(k) Savings Plan for 2004, 2003 and 2002
respectively, and $1,754, $948 and $718 for executive life insurance
premiums for 2004, 2003 and 2002, respectively.
Option Grants in 2004
No options were granted to the named executive officers in 2004.
39
Aggregate Option Exercises in 2004
And Fiscal Year-End Option Values
The following table and note contain information concerning the
exercise of stock options under the Plan during 2004 and unexercised options
under the Plan held at the end of 2004 by the named executive officers. Unless
otherwise indicated, options are to purchase shares of Common Stock.
Number of Value of
Securities Unexercised
Underlying In-the-Money
Shares Acquired Unexercised Options at
on Value Options at 12/31/2004 12/31/2004 ($)
Name Exercise ($) Realized ($) Exercisable Unexercisable Exercisable Unexercisable
---- ------------ ------------ ----------- ------------- ----------- -------------
Charles Dawson -0- -0- 120,000 30,000 $16,800 $4,200
Steven Schilit -0- -0- 120,000 30,000 $16,800 $4,200
Bruce Sherman -0- -0- 120,000 30,000 $16,800 $4,200
----------------- ----------------- ------------------ ------------------- ----------------- ------------------
----------------- ----------------- ------------------ ------------------- ----------------- ------------------
-0- -0- 360,000 90,000 $50,400 $12,600
(1) Calculated based on $0.28, which the closing price of the Common Stock as was quoted on the OTC Bulletin Board on December
31, 2004, which is operated by the NASDAQ Stock Market.
Directors Compensation
During 2004, directors who were not employees of the Company or its
subsidiaries received $1,500 for each meeting of the Board of Directors
attended, and generally do not receive any additional compensation for service
on the committees of the Board of Directors. Employees of the Company or its
subsidiaries do not receive additional compensation for serving as directors.
Employment Agreements
Charles Dawson. As of November 28, 2001, Charles Dawson and Five Star
Group, Inc. entered into an employment agreement pursuant to which Mr. Dawson is
employed as President of the Company for a period commencing January 1, 2002
until December 31, 2005, (the "Employment Term"), unless sooner terminated.
Commencing January 1, 2002, Mr. Dawson's base salary is $225,000, with
annual increases of at least 3% effective on the second year of the Employment
Term. Mr. Dawson will receive a target bonus of $100,000, calculated based upon
the following two components: (1) earnings growth of the Company, and (2) an
achievement of certain Company goals, weighted 75% and 25% respectively. Mr.
Dawson's target bonus for the years 2004 and 2005, will be $120,000, and
$130,000, respectively, which will be determined by components and weighting
40
factors based upon the goals and objectives of the Company, mutually agreed
upon. Pursuant to the employment agreement, the Company granted Mr. Dawson under
the Company's option plan, options to purchase 150,000 shares of the Company's
Common Stock at an exercise price of $0.14 per share. Such options vest 20%
immediately and 20% on each November 28, commencing November 28, 2001 and
terminating on November 28, 2005. The Company is also required to provide Mr.
Dawson with an automobile.
The Company may terminate the employment agreement for cause which is
defined as (i) breach by Mr. Dawson of any of the terms of the employment
agreement, provided that the Company has given fifteen days notice prior to
termination for any breach of any of the terms of the employment agreement which
are capable of cure, (ii) gross neglect by Mr. Dawson of his duties continuing
for 30 days after written warning issued to Mr. Dawson setting forth the conduct
constituting such gross neglect, (iii) conviction of Mr. Dawson for any felony
or any crime involving moral turpitude; (iv) the conviction of Mr. Dawson of any
offense involving the property of the Company or any of its affiliates; (v) the
commission by Mr. Dawson of any act of fraud or dishonesty; (vi) the engagement
by Mr. Dawson in misconduct resulting in serious injury to the Company, or (vii)
the physical or mental disability of Mr. Dawson, whether totally or partially,
if he is unable to perform substantially his duties for a period of (i) two
consecutive months or (ii) shorter periods aggregating three months during any
twelve month period, such termination to be effective thirty days after written
notice of such decision delivered to Mr. Dawson. If Mr. Dawson is terminated for
cause, he shall not be entitled to any compensation, including without
limitation, the bonus, if any, after the date of termination for the year in
which the termination takes place. If Mr. Dawson's employment is terminated by
his death or disability, the Company is required to pay Mr. Dawson his base
salary then in effect for the month during which termination occurred, and four
months thereafter. In the event that termination occurs more than six months
after the start of the then-current contract year, Mr. Dawson shall receive a
bonus for that year prorated through the date of termination.
If the Company terminates the employment agreement for any reason,
other than those set forth in the employment agreement, the Company is obligated
to continue to pay Mr. Dawson's base salary as then in effect for the period
commencing from the date of termination and ending on the termination date of
the employment agreement and shall only be obligated to pay the Bonus, if any,
through the date of termination on a pro rata basis.
Bruce Sherman As of November 28, 2001, Bruce Sherman and Five Star
Group, Inc. entered into an employment agreement pursuant to which Mr. Sherman
is employed as Executive Vice President, Sales of the Company for a period
commencing January 1, 2002 until December 31, 2005, (the "Employment Term"),
unless sooner terminated.
Commencing January 1, 2002, Mr. Sherman's base salary is $220,000, with
annual increases of at least 3% effective on the second year of the Employment
Term. Mr. Sherman will receive a target bonus of $100,000, calculated based upon
the following two components: (1) earnings growth of the Company, and (2) an
achievement of certain Company goals, weighted 75% and 25% respectively. Mr.
Sherman's target bonus for the years 2004 and 2005, will be $120,000, and
$130,000, respectively, which will be determined by components and weighting
factors based upon the goals and objectives of the Company, mutually agreed
41
upon. Pursuant to the employment agreement, the Company granted Mr. Sherman
under the Company's option plan, options to purchase 150,000 shares of the
Company's Common Stock at an exercise price of $0.14 per share. Such options
vest 20% immediately and 20% on each November 28, commencing November 28, 2001
and terminating on November 28, 2005. The Company is also required to provide
Mr. Sherman with an automobile.
The Company may terminate the employment agreement for cause which is
defined as (i) breach by Mr. Sherman of any of the terms of the employment
agreement, provided that the Company has given fifteen days notice prior to
termination for any breach of any of the terms of the employment agreement which
are capable of cure, (ii) gross neglect by Mr. Sherman of his duties continuing
for 30 days after written warning issued to Mr. Sherman setting forth the
conduct constituting such gross neglect, (iii) conviction of Mr. Sherman for any
felony or any crime involving moral turpitude; (iv) the conviction of Mr.
Sherman of any offense involving the property of the Company or any of its
affiliates; (v) the commission by Mr. Sherman of any act of fraud or dishonesty;
(vi) the engagement by Mr. Sherman in misconduct resulting in serious injury to
the Company, or (vii) the physical or mental disability of Mr. Sherman, whether
totally or partially, if he is unable to perform substantially his duties for a
period of (i) two consecutive months or (ii) shorter periods aggregating three
months during any twelve month period, such termination to be effective thirty
days after written notice of such decision delivered to Mr. Sherman. If Mr.
Sherman is terminated for cause, he shall not be entitled to any compensation,
including without limitation, the bonus, if any, after the date of termination
for the year in which the termination takes place. If Mr. Sherman's employment
is terminated by his death or disability, the Company is required to pay Mr.
Sherman his base salary then in effect for the month during which termination
occurred, and four months thereafter. In the event that termination occurs more
than six months after the start of the then-current contract year, Mr. Sherman
shall receive a bonus for that year prorated through the date of termination.
If the Company terminates the employment agreement for any reason,
other than those set forth in the employment agreement, the Company is obligated
to continue to pay Mr. Sherman's base salary as then in effect for the period
commencing from the date of termination and ending on the termination date of
the employment agreement and shall only be obligated to pay the Bonus, if any,
through the date of termination on a pro rata basis.
Steven Schilit As of November 28, 2001, Steven Schilit and Five Star
Group, Inc. entered into an employment agreement pursuant to which Mr. Schilit
is employed as Executive Vice President and Chief Operating Officer of the
Company for a period commencing January 1, 2002 until December 31, 2005, (the
"Employment Term"), unless sooner terminated.
Commencing January 1, 2002, Mr. Schilit's base salary is $200,000, with
annual increases of at least 3% effective on the second year of the Employment
Term. Mr. Schilit will receive a target bonus of $100,000, calculated based upon
the following two components: (1) earnings growth of the Company, and (2) an
achievement of certain Company goals, weighted 75% and 25% respectively. Mr.
Schilit's target bonus for the years 2004 and 2005, will be $120,000, and
$130,000, respectively, which will be determined by components and weighting
factors based upon the goals and objectives of the Company, mutually agreed
upon. Pursuant to the employment agreement, the Company granted Mr. Schilit
under the Company's option plan, options to purchase 150,000 shares of the
42
Company's Common Stock at an exercise price of $0.14 per share. Such options
vest 20% immediately and 20% on each November 28, commencing November 28, 2001
and terminating on November 28, 2005. The Company is required also to provide
Mr. Schilit with an automobile.
The Company may terminate the employment agreement for cause which is
defined as (i) breach by Mr. Schilit of any of the terms of the employment
agreement, provided that the Company has given fifteen days notice prior to
termination for any breach of any of the terms of the employment agreement which
are capable of cure, (ii) gross neglect by Mr. Schilit of his duties continuing
for 30 days after written warning issued to Mr. Schilit setting forth the
conduct constituting such gross neglect, (iii) conviction of Mr. Schilit for any
felony or any crime involving moral turpitude; (iv) the conviction of Mr.
Schilit of any offense involving the property of the Company or any of its
affiliates; (v) the commission by Mr. Schilit of any act of fraud or dishonesty;
(vi) the engagement by Mr. Schilit in misconduct resulting in serious injury to
the Company, or (vii) the physical or mental disability of Mr. Schilit, whether
totally or partially, if he is unable to perform substantially his duties for a
period of (i) two consecutive months or (ii) shorter periods aggregating three
months during any twelve month period, such termination to be effective thirty
days after written notice of such decision delivered to Mr. Schilit. If Mr.
Schilit is terminated for cause, he shall not be entitled to any compensation,
including without limitation, the bonus, if any, after the date of termination
for the year in which the termination takes place. If Mr. Schilit's employment
is terminated by his death or disability, the Company is required to pay Mr.
Schilit his base salary then in effect for the month during which termination
occurred, and four months thereafter. In the event that termination occurs more
than six months after the start of the then-current contract year, Mr. Schilit
shall receive a bonus for that year prorated through the date of termination.
If the Company terminates the employment agreement for any reason,
other than those set forth in the employment agreement, the Company is obligated
to continue to pay Mr. Schilit's base salary as then in effect for the period
commencing from the date of termination and ending on the termination date of
the employment agreement and shall only be obligated to pay the Bonus, if any,
through the date of termination on a pro rata basis.
43
Item 12. Security Ownership of Certain Beneficial Owners and Management
PRINCIPAL STOCKHOLDERS
The following table sets forth certain information as of March 15, 2005,
with respect to shares of Common Stock which are beneficially owned by (a)
each person who owns more than 5% of the Company's Common Stock, (b) each
director of the Company, (c) each of the persons named in the Summary
Compensation Table and (d) all executive officers and directors of the Company
as a group.
Beneficial Ownership
Number of Percentage
Name and Address Common Shares of Class
National Patent Development Corporation 9,133,417(1) 63.8%
777 Westchester Avenue
White Plains, NY 10604
Jerome I. Feldman 120,000(2) *
Charles Dawson 120,000(3) *
Bruce Sherman 120,000(3) *
Steven Schilit 120,000(3) *
John Moran 120,000(3) *
Carll Tucker 50,000(3) *
All directors and executive officers
as a group (6 persons) 650,000(3) 4.1
- --------------
* The number of shares owned is less than one percent of the outstanding shares
of Common Stock.
(1) See "Certain Relationships and Related Transactions."
(2) Includes and 120,000 shares of Common Stock issuable upon exercise of
currently exercisable stock options held by Mr. Feldman.
(3) Includes 120,000 shares of Common Stock issuable upon exercise of
currently exercisable stock options held by each of Messrs. Feldman,
Dawson, Sherman, Schilit, Moran, and 50,000 shares of Common Stock
issuable upon exercise of currently exercisable stock options held by
Mr. Tucker, and 650,000 shares for all executives and officers as a
group.
44
EQUITY COMPENSATION PLAN INFORMATION
The following is information as of December 31, 2004 about shares of
Company Common Stock that may be issued upon exercise of options under the
Company's Non-Qualified Stock Option Plan. For a description of the material
terms of the Company's Non-Qualified Stock Option Plan, see Note 10 to the Notes
to the Consolidated Financial Statements included in the Company's Annual Report
for the year ended December 31, 2004.
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
Plan category Number of securities Weighted-average Number of securities
Non-Qualified to be issued upon exercise price of remaining available for
Stock Option Plan exercise of outstanding options, future issuance under
outstanding options, warrants and rights equity compensation
warrants and rights plans (excluding securities
reflected in column(a)
(a) (b) (c)
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
Equity compensation (outstanding options) (weighted average number of options left
plans not approved price)
by security holders 1,100,000 $0.14 1,500,000
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
Total 1,100,000 $0.14 1,500,000
- ------------------------------- ---------------------------- ------------------------- ---------------------------------
Item 13. Certain Relationships and Related Transactions
On September 30, 1998, the Company purchased its business from GP
Strategies Corporation ("GPS"), for approximately $16,500,000 in cash and a five
year, 8%, $5,000,000 unsecured promissory note (the "Note"). The maturity of the
Note has been extended until June 30, 2005, as amended on March 31, 2004.
On August 2, 2002 the Company entered into a transaction to reduce its
long-term debt to GPS. The principal amount of the Note was reduced by $500,000
to $4,500,000. In connection with this debt reduction, GPS received 2,272,727
shares of the Company's common stock. The transaction valued the Company's
common stock at $0.22 per share, which was a premium to the open market value at
that time. As a result of this transaction, GPS' ownership of the Company
increased to approximately 48% from approximately 37% of the Company's
outstanding shares of common stock.
On October 8, 2003, GPS exchanged $500,000 principal amount of the Note
for 2,000,000 shares of the Company's common stock, reducing the outstanding
principal amount of the Note to $3,000,000 (as described below) and increasing
GPS' ownership of the Company's common stock to approximately 54% of the then
outstanding shares. In consideration for GPS agreeing to exchange the debt for
common stock at a conversion price of $0.25 per share, which was more than twice
the $0.11 closing market price of the Company's common stock on the day prior to
approval of the transaction, the Company agreed to terminate the voting
agreement between the Company and GPS. The voting agreement, which by its terms
would in any case have terminated on June 30, 2004, provided that GPS (i) would
45
vote its shares of the Company's common stock so that not more than 50% of the
members of the Company's board of directors would be officers or directors of
the Company and (ii) would vote on matters other than the election of directors
in the same proportion as the Company's other shareholders. The transaction was
approved by a Special Committee of Company's board of directors; the Special
Committee consisted of an independent non-management director who is
unaffiliated with the Company.
On June 20, 2003, GPS entered into an Agreement of Subordination and
Assignments (the "Subordination Agreement") with the Company and its lenders
that permits the annual repayment of principal on the Note. Pursuant to the
provisions of the Subordination Agreement, in 2004 GPS received partial
repayment from the Company in the amount of $1,200,000, which along with the
exchange transaction described above reduced the outstanding principal amount of
the Note from $4,500,000 to $2,800,000. On July 30, 2004, GPS contributed its
ownership interest in the Company and the Note to NPDC. On November 24, 2004,
GPS completed the spin-off of the common stock NPDC.
On February 6, 2004, the Company announced an issuer tender offer
through which it would repurchase up to 5,000,000 shares, or approximately 30%
of its common stock currently outstanding, at $0.21 per share, originally set to
expire on March 16, 2004. On March 17, 2004, the Company announced that it had
increased the price it was offering to pay for the shares in the tender offer to
$0.25 per share and extended the offer to March 31, 2004. Based on the final
tabulation by the depositary for the tender offer, approximately 2,628,000
shares of common stock were tendered and acquired by the Company. The effect of
the tender offer and the exchange transactions described above was to increase
GPS' ownership in the Company to approximately 64%.
If, following the tender offer, GPS were to increase its ownership to
at least 80% of Five Star's common stock, Five Star would become, for federal
tax purposes, part of the affiliated group of which GPS is the common parent. As
a member of such affiliated group, Five Star would be included in GPS's
consolidated federal income tax returns, Five Star's income or loss would be
included as part of the income or loss of the affiliated group and any of Five
Star's income so included might be offset by the consolidated net operating
losses, if any, of the affiliated group. The agreement between GPS and Five Star
also provided that, if Five Star became a member of the affiliated group, GPS
and Five Star would enter into a tax sharing agreement pursuant to which Five
Star would make tax sharing payments to GPS equal to 80% of the amount of taxes
Five Star would pay if Five Star were to file separate consolidated tax returns
but did not pay as a result of being included in GPS affiliated group. As a
result of the spin-off of NPDC, which held GPS's interest in Five Star, NPDC
would enter into such tax sharing agreement in lieu of GPS.
GPS has guaranteed the leases for Five Star's New Jersey and Connecticut
warehouses and leases for certain equipment, totaling approximately $1,589,000
per year through the first quarter of 2007. GPS's guarantee of such leases was
in effect when the Company's business was conducted by a wholly-owned subsidiary
of GPS. In 1998, GPS sold substantially all of the operating assets of the Five
Star business to the predecessor corporation of the Company. As part of this
transaction, the landlord of the New Jersey and Connecticut facilities and the
46
lessor of the equipment did not consent to the release of GPS's guarantee. GPS's
guarantees have continued after the Spin-Off.
Five Star's White Plains, New York office space is provided by GPS
pursuant to the Management Services Agreement described below.
In 2004, Michael Feldman received $17,000 from the Company and in 2003
received $51,000 from the Company. Michael Feldman is the son of Jerome I.
Feldman. Jerome I. Feldman, is the Chairman of the Board of the Company. John
Moran, the Chief Executive Officer of GSE and a former executive of the GPS is a
director of the Company and Andrea D. Kantor, the Vice President and General
Counsel of GPS, is also the General Counsel of the Company.
GPS provided legal, tax, business development, insurance and employee
benefit administrative services to the Company pursuant to a management services
agreement for a fee of up to $10,000 per month ("the Agreement"). The Agreement
was automatically renewable for successive one-year terms unless one of the
parties notifies the other in writing at least six months prior to the end of
the initial term or any renewal thereof. The Agreement was renewed for 2005. The
management fee was increased to $25,000 per month effective October 1, 2004. In
addition the Company agreed to reimburse GPS for $16,666 per month for Mr.
Feldman's (GPS' Chief Executive Officer) service to the Company effective
October 1, 2004. As a result of the spin-off of NPDC, GPS transferred to NPDC
the rights and obligations under the Agreement.
Fees incurred under the Agreement totaled $215,000, $100,000 and
$98,000, for the years ended December 31, 2004, 2003 and 2002, respectively. At
December 31, 2003, the amount due to GPS under the Agreement which is included
in accounts payable and accrued expenses was $257,000. At December 31, 2004, the
amount due to NPDC under the Agreement was $37,000, which is included in
accounts payable and accrued expenses.
In addition, GPS and NPDC incurred certain expenses on behalf of Five
Star, primarily involving insurance, legal and other professional expenses. Five
Star reimbursed GPS and NPDC for such expense, which amounted to approximately
$239,000, $338,000 and $98,000 for the years ended December 31, 2004, 2003 and
2002, respectively.
47
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Independent Auditors Fees
The following table sets forth the fees billed to the Company for the
fiscal years ended December 31, 2004 and 2003 for professional services rendered
by the Company's independent auditors, Eisner LLP:
December 31, December 31,
2004 2003
---- ----
Audit Fees(a)........................$100,000. $108,850
Audit-Related Fees(b)................$.10,000. $ 10,000
Tax Fees 0 -0-
All other Fees..........................0..... -0-
- ----------
(a) Audit fees consisted principally of fees for the audit of the annual
financial statements and reviews of the condensed consolidated financial
statements included in the Company's quarterly reports on Form 10-Q and
review of registration statements.
(b) Audit-related fees consisted of the audit of the financial statements of
the Company's employee benefit plan.
Policy on Pre-Approval of Services Provided by Independent Auditor
Pursuant to the requirements of the Sarbanes-Oxley Act of 2002, the
terms of the engagement of Eisner LLP are subject to specific pre-approval
policies of the Audit Committee. All audit and permitted non-audit services to
be performed by Eisner LLP require pre-approval by the Audit Committee in
accordance with pre-approval policies established by the Audit Committee. The
procedures require all proposed engagements of Eisner LLP for services of any
kind be directed to the Company's General Counsel and then submitted for
approval to the Audit Committee prior to the beginning of any service.
48
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a)(1) The following financial statements are included in Part II, Item 8:
Page
Report of Independent Registered Public Accounting Firm 19
Financial Statements:
Consolidated Balance Sheets - December 31, 2004 and 2003 20
Consolidated Statements of Operations and Comprehensive Income -
Years ended December 31, 2004, 2003 and 2002 21
Consolidated Statements of Changes in Stockholders' Equity -
Years ended December 31, 2004, 2003 and 2002 22
Consolidated Statements of Cash Flows -
Years ended December 31, 2004, 2003 and 2002 23
Notes to Consolidated Financial Statements 24
(a)(2) Schedules have been omitted because they are not required
or are not applicable, or the required information has been
included in the financial statements or the notes thereto.
(a)(3) See accompanying Index to Exhibits
49
SIGNATURE
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
FIVE STAR PRODUCTS, INC.
Charles Dawson, President
Dated: March 31, 2004
Signature Title
Charles Dawson President, and Director
(Principal Executive and Operating Officer)
Jerome I. Feldman Chairman of the Board
Bruce Sherman Executive Vice President, Sales and Director
Steven Schilit Executive Vice President, Chief Operating Officer
and Director
Gregory Golkov Chief Financial Officer
(Principal Financial and Accounting Officer)
John Moran Director
50
INDEX TO EXHIBITS
Exhibit No. Document
3. Amended Certificate of Incorporation of the Registrant. Incorporated
herein by reference to Exhibit 3 of the Registrant's Annual Report on
Form 10-K for the year ended December 31, 1996.
3.1 Amended By-laws of the Registrant. Incorporated herein by reference to
Exhibit 3.1 of the Registrant's Annual Report on Form 10-K/A for the
year ended December 31, 2003.
10. 1994 Stock Option Plan of the Registrant as amended on January 1,
2002. Incorporated herein by reference to Exhibit 10 of the
Registrant's Annual Report on Form 10-K for the year ended December
31, 2001.
10.1 Management Services Agreement, dated as of August 5, 1994, between GP
Strategies Corporation and the Registrant. Incorporated herein by
reference to Exhibit 10.3 of the Registrant's Registration Statement
on Form S-1 filed on July 22, 1994, Registration Statement No.
33-78252.
10.2 Amended Voting Agreement, dated as of June 30, 2002 between Registrant
and GP Strategies Corporation. Incorporated herein by reference to
Exhibit 10.3 of the Registrant's Annual Report on Form 10-K for the
year ended December 31, 2002.
10.3 Lease dated as of February 1, 1986 between Vernel Company and Five
Star Group, Inc., as amended on July 25, 1994. Incorporated herein by
reference to Exhibit 10.6 of the Registrant's Annual Report on Form
10-K for the year ended December 31, 1998.
10.4 Lease dated as of May 4, 1983 between Vornado, Inc., and Five Star
Group, Inc. Incorporated herein by reference to Exhibit 10.7 of the
Registrant's Annual Report on Form 10-K for the year ended December
31, 1998.
10.5 Lease Modification and Extension Agreement dated July 6, 1996 between
Hanover Public Warehousing, Inc. and Five Star Group, Inc.
Incorporated herein by reference to Exhibit 10.8 of the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1998.
10.6 Agreement between Five Star Group and Local No. 11 affiliated with
International Brotherhood of Teamsters dated December 12, 2000.
Incorporated herein by reference to Exhibit 10.7 to the Registrant's
Annual Report on Form 10-K for the year ended December 31, 2000.
51
10.7 Memorandum of Agreement by and between Five Star Group and Teamsters
Local 11, affiliated with International Brotherhood of Teamsters dated
December 12, 2003. Incorporated herein by reference to Exhibit 10.7 of
the Registrant's Annual Report on Form 10-K for the year ended
December 31, 2003.
10.8 Asset Purchase Agreement dated as of August 31, 1998 between Five Star
Products, Inc. and Five Star Group, Inc. Incorporated herein by
Reference to Exhibit 10 of the Registrant's Form 8-K dated September
15, 1998.
10.9 Loan and Security Agreement dated as of June 20, 2003 by and between
the Registrant, as Borrower and Fleet Capital as Lender. Incorporated
herein by reference to Exhibit 10.1 of the Registrant's Form 10-Q for
the quarter ended June 30, 2003.
10.10 Agreement of Subordination & Assignment dated as of June 20, 2003 by
JL Distributions, Inc., as Creditor in favor of Fleet Capital
Corporation as Lender to Five Star Group, Inc. as Debtor. Incorporated
herein by reference to Exhibit 10.2 of the Registrant's Form 10-Q for
the quarter ended June 30, 2003.
10.11 First Modification Agreement dated as of May 28, 2004 by and between
Five Star Group, Inc. as borrower and Fleet Capital Corporation, as
Lender.*
10.12 Second Modification Agreement dated as of March 22, 2005 by and
between Five Star Group, Inc. as borrower and Fleet Capital
Corporation, as Lender.*
10.13 Amended Note in the amount of $2,800,000 dated December 19, 2003,
between the Registrant and GP Strategies Corporation. Incorporated
herein by reference to Exhibit 10.11 of the Registrant's Annual Report
on Form 10-K for the year ended December 31, 2003.
10.14 Amended Note in the amount of $2,800,000 dated March 31, 2004, between
the Registrant and GP Strategies Corporation. Incorporated herein by
reference to Exhibit 10.12 of the Registrant's Annual Report on Form
10-K for the year ended December 31, 2003.
10.15 Consulting and Severance Agreement dated as of February 8, 2002
between the Registrant and Richard Grad. Incorporated herein by
reference to Exhibit 10.11 of the Registrant's Annual Report on Form
10-K for the year ended December 31, 2001.
10.16 Employment Agreement dated as of November 28, 2001 between the
Registrant and Charles Dawson. Incorporated herein by reference to
52
Exhibit 10.12 of the Registrant's Annual Repot on Form 10-K for the
year ended December 31, 2001.
10.17 Employment Agreement dated as of November 28, 2001 between the
Registrant and Bruce Sherman. Incorporated herein by reference to
Exhibit 10.13 of the Registrant's Annual Report on Form 10-K for the
year ended December 31, 2001.
10.18 Employment Agreement dated as of November 28, 2001 between the
Registrant and Steven Schilit. Incorporated herein by reference to
Exhibit 10.14 of the Registrant's Annual Report on Form 10-K for the
year ended December 31, 2001.
10.19 Agreement dated as of January 22, 2004, between the Company and GP
Strategies Corporation. Incorporated herein by reference to Exhibit
99(d) of the Registrant Schedule TO filed on February 6, 2004.
10.20 Tax Sharing Agreement dated as of February 1, 2004 between Registrant
and GP Strategies Corporation. Incorporated herein by reference to
Exhibit 10.19 of the Registrant's Annual Report on Form 10-K for the
year ended December 31, 2003.
14.1 Code of Ethics Policy. Incorporated herein by reference to Exhibit
14.1 of the Registrant's Annual Report on Form 10-K/A for the year
ended December 31, 2003
21. Subsidiaries*
22. N/A
31.1 Certification of Chief Executive Officer*
31.2 Certification of Chief Financial Officer*
32.1 Certification Pursuant to 18 U.S.C. Section 1350*
_______
* Filed herewith
53