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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON DC 20549
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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 28, 1997
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM
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Commission file number 0-22534-LA
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MONTEREY PASTA COMPANY
(Exact name of registrant as specified in its charter)
DELAWARE 77-0227341
(State of incorporation) (IRS employer identification number)
1528 MOFFETT STREET
SALINAS, CALIFORNIA 93905
(408) 753-6262
(Address, including zip code, and telephone number, including area code,
of Registrant's principal executive offices)
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Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.001
par value
Indicate by check mark whether 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, and (2) has been subject to such filing requirements
for the past 90 days. Yes ___ No _X_
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.
The approximate aggregate market value of the voting stock held by
non-affiliates of the issuer as of March 13, 1998 was $12,925,234. The number of
shares outstanding of the issuer's common stock as of March 13, 1998, was
12,841,193.
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PART I
ITEM 1. BUSINESS
INTRODUCTION
Monterey Pasta Company ("the Company") was incorporated in June, 1989 as a
producer and distributor of refrigerated gourmet pasta and sauces to restaurants
and grocery stores in the Monterey, California area. The Company has since
expanded its operations to provide its products to grocery and club stores
throughout the United States. The Company's overall strategic plan is to enhance
the value of the Monterey Pasta Company brand name by distributing its gourmet
pasta products through multiple channels of distribution.
The Company produces and markets premium quality refrigerated gourmet pasta
and pasta sauces, emphasizing superior flavors and innovative products. It seeks
to build brand recognition and customer loyalty by employing a marketing program
that focuses on developing multiple points of sale for the Company's products.
The Company markets and sells its products primarily through grocery and club
stores.
The Company currently offers 43 varieties of contemporary gourmet pasta
products that are produced using the Company's proprietary recipes, including
refrigerated cut pasta, ravioli, tortelloni, tortellini, and pasta sauces.
Examples of the Company's pasta and pasta sauces include: Snow Crab Ravioli,
Roasted Garlic Chicken Ravioli, Chicken Tarragon Ravioli, Smoked Salmon Ravioli,
Gorgonzola Roasted Walnut Ravioli, Sweet Red Pepper Fettuccini, Five Cheese
Tortelloni, Sun Dried Tomato Pesto Sauce, Roasted Garlic Artichoke Sauce, and
Reduced Fat Sundried Tomato Cream and Alfredo sauces. New products introduced in
1997 and 1998 include Lobster Ravioli, Fire Roasted Vegetable Ravioli, Beef
Cabernet Ravioli, two Southwest/Mexican Raviolis, Lemon Alfredo Sauce, and
Ranchero Salsa. Monterey Pasta believes its pasta products appeal to
health-conscious consumers who are seeking excellent quality, convenience and
value, as well as innovative taste combinations.
The Company sells its pasta and sauces through leading grocery store chains,
including Safeway, Albertsons, Giant Foods, Hannaford Bros., Kroger, Star
Markets, Shaws, and Nob Hill; and club store chains such as Costco and Sam's
Club Stores (a division of Walmart). As of December 28, 1997, approximately 3100
grocery and club stores offered Monterey Pasta's products.
The success of the Company's efforts will depend on three key factors: (1)
whether grocery and club store chains will continue to increase the number of
their stores offering the Company's products, (2) whether the Company can
continue to increase the number of grocery and club store chains offering its
products, and 3) continued introduction of new products that meet consumer
acceptance. Grocery and club store chains continually re-evaluate the products
carried in their stores, and no assurances can be given that the chains
currently offering the Company's products will continue to do so in the future.
In March, 1997, one half of the Company's outstanding Series B-1 Convertible
Preferred Stock with a face amount of $250,000 and a book value of $298,771 was
converted into 160,256 shares of Common Stock. The remainder of the B-1 stock
with a face value of $250,000 and a book value of $294,771 was converted into
207,894 shares of Common Stock during October, 1997. Of the 207,894 shares of
common stock issued, 22,660 shares represented penalty shares awarded due to
late effectiveness of the Company's Registration Statement.
During December, 1997, Clearwater Fund IV, Ltd. (formerly GFL Performance
Fund, Ltd.) converted $3,000,000 of Series A-1 Preferred Stock into 4,108,108
shares of Company Common Stock. The book value of the Series A-1 Preferred Stock
was $3,589,248 and, after conversion and subsequent sale of 145,145 shares,
Clearwater Fund owned approximately 26% of the Company's outstanding Common
Stock.
2
On February 13, 1998, the Company was notified by the NASDAQ Stock Market,
Inc. ("NASDAQ") that the Company's Series A convertible Preferred stock
offering, as amended by the Series A-1 Agreement in March of 1997, had violated
Rule 4460(i)(l)(D)(ii) which requires shareholder approval prior to the issuance
of securities convertible into common stock equal to, or in excess of, 20% of
outstanding shares at the time of issuance. The NASDAQ required the Company to
repurchase 2,365,066 shares, held by Clearwater Fund IV, Ltd., or face delisting
from the National NASDAQ market.
After reviewing its options, Company management, in concert with the
Company's Board of Directors and its legal advisors, decided to begin
negotiations with the Clearwater Fund IV, Ltd. to repurchase 2,365,066 shares.
Negotiations were completed March 5, 1998 and the Company repurchased the shares
for a total consideration of $2,690,000 or $1.1375/share. Outstanding shares
after the repurchase are 12,841,193, for a reduction of 15.6% in shares
outstanding.
This Form 10-K contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, and Section 21E of the Securities
Exchange Act of 1934, that involve substantial risks to the Company, including
statements about the Company's recent operating losses, the possible need for
additional capital, the ability to attract and retain qualified management, the
need to add points of distribution and the need to develop new products. In
connection therewith, please see the cautionary statements contained herein in
"Business Risks" which identify important factors that could cause actual
results to differ materially from those in the forward-looking statements.
INDUSTRY OVERVIEW
The Company believes that the U.S. retail market for refrigerated pasta is
large and highly fragmented. Although refrigerated pasta products are not new,
fresh pasta and pasta sauce were essentially created as a national specialty
food category in 1986 when Nestle Fresh Foods Co., a division of Nestle S.A.
("Nestle"), introduced its Contadina-Registered Trademark- brand of fresh pasta.
In 1990, Kraft General Foods, Inc., a division of Philip Morris ("Kraft"),
unveiled its DiGiorno-Registered Trademark- brand of fresh pasta nationally.
The Company believes that the growth in the fresh pasta category has been
aided by several factors including both the intensive advertising by Nestle and
Kraft, and the changing consumer taste preferences to favor distinctive, high
quality, freshly prepared healthy foods. The Company further believes that
consumers are demanding more healthful food products as they learn more about
the importance of one's diet in a healthy lifestyle. For example, the U.S.
Surgeon General has recommended that consumers lower the percentage of calories
from fat in their diets to no more than 30%, and the U.S. Department of
Agriculture recommends that 60-70% of Americans' daily caloric intake come from
complex carbohydrates. Consequently, much of consumers' demand for more
healthful food products is focused on lowering the fat content of their diets
and increasing their intake of complex carbohydrates. The Company believes that
the sale of pasta, which is generally low in fat and high in complex
carbohydrates, is benefiting from the trend towards healthier eating.
No assurance can be given that the refrigerated pasta and sauce industry
will expand further. Nor can there be any assurance that current levels of
public attention to personal health, fitness and diet, or current perceptions of
healthfulness associated with fresh pasta and pasta sauces will continue in the
future. In particular, the public perception of the healthfulness associated
with pasta-based meals may decline due to a recent study by the Center for
Science in the Public Interest finding high fat content in cheese and
cream-based pastas and pasta sauces. In 1996 the Company introduced low fat
sauces and low fat ravioli in response to such concerns and the Company's
products, in general, rank among the lowest in fat grams when compared to the
competition. Additionally, as the Company expands to different regions of the
United States, the Company may encounter differing public perceptions and
concerns about health and diet. This may adversely impact the Company's
marketing and expansion strategy and cause it to incur greater expenses in
promoting its products.
3
STRATEGY
Monterey Pasta's objective is to become a leading national supplier of
refrigerated gourmet pasta and pasta sauces through distribution of its products
to grocery and club stores. The key elements of the Company's strategy include
the following:
- Create brand awareness by communicating to the consumer that Monterey
Pasta Company provides a healthful and nutritious line of products and to
promote repeat business by reinforcing positive experiences with the
Company's products.
- Introduce new products on a timely basis to maintain customer interest and
to respond to changing consumer tastes. In order to maximize its margins,
the Company will focus its efforts on those new products that can be
manufactured and distributed out of its Salinas, California facility and
will supplement its existing line of cut pasta, ravioli, tortelloni,
tortellini, and sauces.
- Reduce total operating costs through continual evaluation of
administrative and production staffing and procedures. The Company will
consider additional minor capital improvements at its manufacturing
facility in order to increase production efficiencies and capacities, and
to reduce the Company's cost of goods.
- Expand market share through same-store revenue growth, addition of new
grocery and club store chains, geographic diversification, and product
line expansion, including creation of additional meal occasions using
Monterey Pasta products.
The Company will continue to direct its advertising and promotional
activities to specific programs customized to suit its retail grocery and club
store accounts. This will include in-store demonstrations, coupons, scan backs,
cross-couponing and other related activities.
PRODUCTS
The Company produces and markets the following gourmet refrigerated cut
pasta, ravioli, tortelloni, tortellini and pasta sauces under the Monterey Pasta
Company product name:
YEAR INTRODUCED
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Cut Pasta:
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Egg Fettuccini 1989
Egg Linguini 1989
Garlic Basil Fettuccini 1989
Sweet Red Pepper Fettuccini 1989
Angel Hair 1989
Ravioli:
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Garlic Basil/Cheese 1989
Spinach and Cheese 1989
Gorgonzola Roasted Walnut 1989
Smoked Monterey Jack/Cilantro 1992
Smoked Salmon 1992
Snow Crab 1993
Mediterranean 1993
Vermont Cheddar/Roasted Garlic 1994
Chicken Tarragon 1996
Low Fat Cheese 1996
Chicken Sausage 1996
Roasted Garlic Chicken 1996
4
YEAR INTRODUCED
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Lobster 1997
Beef Cabernet 1997
Fire Roasted Vegetable 1997
Chili Cilantro with Southwestern Chicken 1998
Blue Corn with Sonoma Jack Habanero Cheese 1998
Tortelloni:
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Spinach Mushroom 1994
Sundried Tomato and Asiago Cheese 1994
Five Cheese 1996
Tortellini:
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Garlic Basil Cheese 1996
Sauces:
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Sweet Tomato Basil 1989
Pesto 1989
Sundried Tomato Cream 1991
Sundried Tomato Pesto 1992
Fresh Herb Alfredo 1993
Roasted Garlic Artichoke 1995
Reduced Fat Herb Alfredo 1995
Reduced Fat Sundried Tomato Cream 1995
Thick and Chunky Tomato Basil 1996
Tomato 1996
Lemon Alfredo 1997
Ranchero Salsa 1998
The Company is committed to diversifying its product offerings with
innovative new pasta products and product lines. The Company's product
development team and product development consultants focus on creating new pasta
products that innovatively blend complementary tastes, food textures and
ingredients while strictly adhering to the Company's emphasis on freshness,
healthfulness and quality. As new products are introduced, selected items will
be discontinued to help ensure that the product line is focused on consumer
demand, to maximize the Company's return on its shelf space in grocery and club
stores, and to respond to changing trends and consumer preferences.
The Company's refrigerated cut pasta, ravioli, tortelloni, tortellini and
pasta sauces are packaged in clear lightweight containers which reveal the fresh
appearance of its products. Monterey Pasta presents its products with a colorful
logo, distinctive packaging styles, ingredient information and cooking
instructions to communicate the gourmet, fresh and healthful qualities of its
pasta and pasta sauces.
The goal of the Company is to introduce new products on a timely and regular
basis to maintain customer interest and to respond to changing consumer tastes.
There can be no assurance that the Company's efforts to achieve such a goal will
result in successful new products or product lines or that new products can be
developed and introduced on a timely and regular basis. If the Company's new
products are not successful, the Company's grocery and club store sales may be
adversely affected as customers seek new products.
PRODUCTION
The Company produces its refrigerated pasta products in a Monterey County,
California facility which, in 1995, was expanded to 37,666 square feet from its
initial configuration of 10,000 square feet. It is
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strategically located in one of the largest produce-growing regions in the
United States and is near several major vendors and food service distributors.
The expanded facility is certified by the United States Food and Drug
Administration (USDA) and utilizes state of the art thermal processing, chilling
and packaging processes. As part of an addition to the existing lease, the
company had added 4,649 square feet which will be available by August of 1998
(See "Properties"). The space will materially improve the efficiency,
flexibility, and capacity of the existing layout.
The current facility is staffed by approximately 155 employees, including a
purchasing agent, quality control, accounting personnel, sales staff, drivers,
and production line workers. Refrigerated pasta is manufactured at the facility
using high quality ingredients such as Extra Fancy Durham wheat, whole eggs or
egg whites, fresh herbs and IQF (Individually Quick Frozen) herbs and spices,
and local cheeses and milk products. The ingredients are mixed in accordance
with the Company's proprietary recipes. After filling with fresh and unusual
fillings such as snow crab, lobster, and Vermont cheddar cheese, the ravioli and
tortellini products receive a prescribed thermal process (pasteurization) to
insure product safety and to preserve flavor, quality and shelf life. The
product is then chilled immediately and packaged in controlled atmosphere trays.
Pasta sauces are mixed and processed in individual batches in accordance with
the Company's proprietary processes and recipes and then directly packed and
sealed in plastic containers. After preparation, processing, chilling and
packaging, all pasta and sauces are kept in cold storage to preserve quality and
shelf life.
The Company continuously reviews a variety of small capital projects for the
production department. The future addition of assets will be evaluated for
increased efficiency, flexibility and need. The Company maintains adequate
production capacity to accommodate the forecasted growth of its current product
line over the next two to three years. It currently has plans to increase its
refrigeration space by 40 percent because of capacity and efficiency needs.
DISTRIBUTION
The Company's success depends upon an effective system of distribution for
its products. Through March 1997, Monterey Pasta used its direct store delivery
system ("DSD") to deliver its products in Northern California. In April of 1997,
as part of the plan to nationalize its operations, the Company reduced its DSD
program to approximately 70 stores and three drivers, and assigned the balance
to food distributors. The Company also converted its largest DSD account,
Safeway, to warehouse direct delivery. To distribute its products to other parts
of the country, the Company uses common carriers. The dependence on other
companies for delivery of its products poses a risk to the Company. While this
method of delivery has been reliable and available at acceptable rates thus far,
there can be no assurance that the Company will continue to be able to negotiate
acceptable freight rates in the future and that delivery will not be disrupted
for reasons including, but not limited to, adverse weather, natural disasters or
labor disputes in the trucking industry.
GROCERY CHAIN AND CLUB STORE SALES
Monterey Pasta sells its refrigerated pasta and pasta sauces to chain
grocery and club stores.
NUMBER OF STORES CARRYING
MONTEREY PASTA PRODUCTS
-------------------------------
1995 1996 1997
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Retail Grocery Stores................................................ 4,200 3,400 2,600
Club Stores.......................................................... 100 200 500
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Total.............................................................. 4,300 3,600 3,100
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6
For the years 1995, 1996 and 1997, Costco and Safeway each accounted for
approximately 47% and 12%, 41% and 9%, and 50% and 8%, respectively, of total
net revenues, while Sam's Club stores accounted for 12% of 1997 net revenues.
The Company currently sells its products to four separate Costco regions which
make purchasing decisions independently of one another. These regions
re-evaluate, on a regular basis, the products carried in their stores. There can
be no assurance that these Costco regions will continue to offer Monterey Pasta
products in the future or continue to allocate Monterey Pasta the same amount of
shelf space. The loss of any of these three major customers could materially
adversely affect the Company's business operations.
In 1997, the average grocery store carried 11 individual Monterey Pasta
products, or Stock Keeping Units ("SKUs"), and the average club store carried 12
SKUs.
MARKETING
The Company's marketing strategy is to create brand awareness by
communicating to the consumer that Monterey Pasta Company provides a gourmet
quality nutritious line of products and to promote repeat business by
reinforcing positive experiences with the Company's products. The Company's
approach includes the introduction of new products on a timely basis to maintain
customer interest and to respond to changing consumer tastes. Additionally, the
Company will continue to expand its sales into those geographic regions that
will best support the purchase of the Company's upscale, premium grade products.
COMPETITION
The Company's business is subject to significant competition. The fresh
pasta and pasta sauce industry is highly competitive and is dominated by a small
number of very large national companies, such as Nestle, with its
Contadina-Registered Trademark- brand, and Kraft, with its
DiGiorno-Registered Trademark- brand, along with a number of regional
competitors, such as Mallards, recently acquired by Tyson, Romance, and Trios,
just acquired by ConAgra. Multinational competitors and some of the regional
competitors have significantly more brand name recognition, marketing personnel,
and cash resources than the Company. Moreover, competition for shelf space in
grocery stores is intense and poses great difficulty for smaller food companies.
To date, the Company has benefited from the marketing efforts of Nestle and
Kraft and certain large regional companies. These companies have committed
significant financial resources towards advertisement, promotion and development
of the fresh pasta and pasta sauce industry, which have contributed to the rapid
expansion of this market and to the increased consumer attention to the
refrigerated pasta and sauce category. No assurance, however, can be given that
these large companies will continue to expend such resources in the future or
that the Company will continue to enjoy such benefits. In the future, the
Company may be required to incur significantly greater expenses for promotion,
advertisement and marketing, which could adversely affect profitability. There
can be no assurance that the Company will be able to commit funds to promotion,
advertisement and marketing while operating profitably.
Competitive factors in the refrigerated pasta and sauce industry include
brand awareness, product quality and taste, healthfulness, price and
availability of grocery and club store shelf space. The Company's suggested
retail prices are slightly higher than its competitors' prices to emphasize the
premium quality of its product line. The Company believes the excellent quality,
taste and healthfulness of its products are superior to that of its competitors,
although its brand name recognition and access to grocery shelf space is
significantly less than many of its competitors. The Company believes that the
variety of its product line, which focuses on contemporary California cuisine,
provides a competitive advantage over many companies who market traditional
Italian-style pasta and sauce products.
MANAGEMENT
Information relating to directors and executive officers of the Company is
set forth in Part III of this report.
7
MANAGEMENT INFORMATION SYSTEMS
The Company purchased a new integrated management information system in 1996
with the objective to implement an electronic link between the Company's retail
sales operations, production facilities and the corporate offices. The
Expandable MRP system ("Expandable") is central to the Company's efforts to
automate, centralize and streamline many of the Company's key functions
including accounting and finance, human resources, and production and inventory
control.
Expandable was used in 1996 for accounts receivable and accounts payable
processing, sales order management, and inventory control. The manufacturing
operations extended its use to include bill of material (recipe) management and
MRP processes in 1997. The general ledger module was tested in late 1996, was
activated live in January 1997, and is now in its second year of use. During the
summer of 1998 the Company plans to install a new version of Expandable to
insure compliance with year 2000 needs.
GOVERNMENT REGULATION
The Company is subject to the regulations of the U.S. Food and Drug
Administration (FDA), the U.S. Department of Agriculture (USDA), and state and
local regulations relating to cleanliness, maintenance of food production
equipment, food storage, cooking and cooling temperatures and food handling, and
is subject to unannounced on-site inspections of production facilities.
Regulations in new markets, new regulations in existing markets, and future
changes in existing regulations may adversely impact the Company by raising the
cost of production and delivery of pasta and sauces and/or by affecting the
perceived healthfulness of the Company's products. A failure to comply with one
or more regulatory requirements could result in a variety of sanctions,
including fines and the withdrawal of the Company's products from store shelves.
The Company is not aware of any currently existing facts or circumstances that
would cause it to fail to comply with any of the regulations to which it is
currently subject.
EMPLOYEES
As of December 28, 1997, the Company employed a total of 155 persons,
including 27 administrative personnel, 6 sales personnel, 3 drivers, and 119
production personnel. None of the Company's employees are represented by a labor
union and the Company believes its relations with its employees are good.
TRADEMARKS AND SERVICE MARKS
The Company registered the "Monterey Pasta Company" name and logo design
with the United States Patent and Trademark Office. An "in use" application is
pending for the new revised "postage stamp" logo design that has been in
commerce as of July, 1996. There can be no assurance that competitors will not
adopt similar names or logo designs outside the protection of the Company's
trademark registration.
ITEM 2. PROPERTIES
During February, 1996, the Company leased 9,160 square feet of executive
office and training space facilities in downtown San Francisco. The Company
vacated this space in January, 1997 following a staff reduction and
consolidation of all operations in the Company's factory in Monterey County. The
Company subleased the San Francisco property at a premium, as of April 1, 1997,
to a large publishing interest for the remaining term of the lease.
Effective February 6, 1998, the Company leased an additional 4,649 sq. ft.
in the same building it now occupies in Monterey County, California, bringing
the total square footage leased to 42,315 pursuant to a lease which expires in
2004 with two ten year options for renewal . The additional space will be used
to increase the efficiency of the production and storage areas. In addition, the
Company has an agreement with its landlord to lease an additional 1,365 sq. ft.
now occupied by a finance company. This space will
8
place complete control of the building in the hands of Monterey Pasta by August,
1998 and will be either used for expansion or subleased at a comparable rate to
the current tenant until such time as it is needed for Company operations. The
total square footage now under control by the Company is 43,680, or
approximately one acre of building space. Company management believes that the
properties/facilities are suitable and adequate for the Company's needs.
The Company currently leases one outside warehouse facility in Salinas,
California comprised of 4,800 square feet. This warehouse is used to store
excess coolers and display racks, packaging materials and company records. It is
a month-to-month lease and may be terminated when the Company moves into its
additional space at its current site in August of 1998, with an offset of
approximately $1,800 per month to the cost of the additional 4,649 square feet
leased in February.
ITEM 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings, other than ordinary,
routine litigation incidental to the Company's business, to which the Company is
a party or to which any of its property is subject. The Company's former
subsidiary, UFO, has been a defendant in several lawsuits alleging breach of
payment in vendor related matters. As noted above, the Company sold UFO in 1996,
and the new owner assumed all current and future liabilities associated with
that business. Although there can be no assurance given as the results of such
legal proceedings, based upon information currently available, management does
not believe these proceedings will have a material adverse effect on the
financial position, cash flows, or results of operations of the Company.
OTHER LAWSUITS
On August 5, 1997, Lance H. Mortensen, former President, Chief Executive
Officer and Director of the Company, filed a complaint against the Company
alleging that he is entitled to at least $310,919 pursuant to a written
employment agreement. That agreement contained a binding arbitration provision.
In the arbitration the Company intends to vigorously contest Mr. Mortensen's
claim. The Company has insurance coverage for the employee benefits portion of
the claim and the insurance company has committed to pay legal costs emanating
from the defense of the claim.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to vote during the fourth quarter of 1997.
9
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
PRICE RANGE OF COMMON STOCK
The Company effected its initial public offering on December 7, 1993 at a
price to the public of $6.00 per share. Since that date, the Company's Common
Stock has traded on the NASDAQ National Market System under the symbol "PSTA."
The following table sets forth for the period indicated, the high and low sales
prices of shares of the Common Stock on the NASDAQ National Market System.
HIGH LOW
----- ---
Fiscal year 1996:
First quarter.................................................................. 6 1/4 4 7/8
Second quarter................................................................. 7 1/4 5 7/8
Third quarter.................................................................. 6 5/8 3 3/8
Fourth quarter................................................................. 4 1 49/64
Fiscal year 1997:
First quarter.................................................................. 2 7/8 1 5/8
Second quarter................................................................. 2 3/4 1 5/8
Third quarter.................................................................. 2 3/8 1 7/16
Fourth quarter................................................................. 2 3/16 3/4
As of March 19, 1998, there were 317 stockholders of record of the Common
Stock.
DIVIDEND POLICY
The Company has not paid any cash dividends to Common stockholders. The
Company intends to retain future earnings in its business and does not
anticipate paying cash dividends on the outstanding Common stock in the near
future.
However, the Company did pay $50,000 to its prior Series A Preferred
Stockholder constituting an annual dividend equal to 4% of the purchase price of
the Series A Preferred Stock through December 28, 1996. This dividend was
payable in Common stock at 80% of the market price of Common shares on the
effective date of the Company's S-3 Registration Statement, which was October
24, 1997. The market price used in the conversion was $1.6875 per share ($1.35
per share net price), which resulted in the issuance of 37,037 shares. In
addition, the Company paid two $5,000 quarterly dividends to the holder of the
Series B-1 shares while the Registration Statement on Form S-3 was pending.
Also, $30,000 was paid to the holder of the Series B-1 on April 4, 1997, a
portion of which was for past dividends (See "Deemed Dividends" below).
DEEMED DIVIDENDS
The Company's agreements for Series A and B Convertible Preferred stock,
originally issued in August 1996, were amended in March and early April, 1997.
The original agreements provided for certain dividends, as well as penalties if
the related Common conversion shares were not registered by November 1, 1996.
Under the amended agreements, which called for the exchange of the
unconverted Series A and B shares for new Series A-1 and B-1 shares, $240,000
was paid to the holder of the Series A-1 stock on March 31, 1997, in lieu of all
prior penalties; $30,000 was paid to the holder of Series B-1 on April 4, 1997,
in lieu of all prior penalties and dividends. An additional $14,000 in penalties
was incurred during the
10
period from May 1, 1997 to May 6, 1997, the date of filing of the amended
Registration Statement covering the related conversion shares. Of this amount,
$12,000 was paid to the holder of the Series A-1 shares and $2,000 was paid to
the B-1 shareholder. The amended agreement for the Series B-1 Convertible
Preferred stock called for additional penalties if the Registration Statement
was not declared effective by July 31, 1997. The Registration Statement was not
declared effective until October 24, 1997. Therefore, additional penalties of
$30,000 were paid to the holder of the B-1 Convertible Preferred Stock. Holders
of the March, 1997 private placement shares were guaranteed an 8% annual yield
from the inception of the private placement until the effectiveness of the
Company's Registration Statement on form S-3. This resulted in the payment of
$126,000 in the form of 77,087 shares of the Company's common stock.
There are no further provisions for dividends, penalties or guaranteed yield
after October 24, 1997.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected consolidated financial data for the
Company. This data should be read in conjunction with the consolidated financial
statements and related notes included elsewhere in this Form 10-K.
YEARS ENDED
-------------------------------------------------------
1993 1994 1995 1996 1997
--------- --------- --------- --------- -----------
(DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA)
CONSOLIDATED STATEMENTS OF OPERATIONS DATA:
- -------------------------------------------------------
Net revenues from continuing operations................ $ 4,738 $ 9,738 $ 18,716 $ 24,492 $ 23,447
Income (loss) from continuing operations (1)........... $ 329 $ (1,261) $ (1,297) $ (8,453) $ 474
Income (loss) from discontinued operations............. $ (79) $ (1,772) $ (21,279) $ 220 $ 37
Net income (loss) per share--total..................... N/A $ (0.57) $ (3.50) $ (1.13) $ 0.02
Net income after pro forma income tax provision (1).... $ 172 N/A N/A N/A N/A
Pro forma income from continuing operations per
share................................................ $ 0.10 N/A N/A N/A N/A
Weighted average common and common equivalent shares
outstanding (2)...................................... 2,636,111 5,303,811 6,440,198 8,276,608 10,458,451
CONSOLIDATED BALANCE SHEET DATA:
- -------------------------------------------------------
Working capital (deficit).............................. $ 10,878 $ 4,719 $ 597 $ (377) $ 2,444
Total assets........................................... $ 14,446 $ 22,117 $ 11,691 $ 10,789 $ 11,029
Total debt and capital lease obligations............... $ 445 $ 127 $ 3,958 $ 1,635 $ 1,797
Stockholders' equity................................... $ 13,082 $ 20,397 $ 2,405 $ 5,085 $ 7,360
- --------------------------
(1) Net income has been adjusted pro forma for 1993 as if the Company had
converted for tax purposes from Subchapter S to Subchapter C. Income from
continuing operations for 1993 does reflect a tax provision because the
Company reported under Subchapter S in those years. The pro forma tax
provision for 1993, assuming a conversion to Subchapter C, was $77,000.
(2) Weighted average shares outstanding and income per share represent the
average number of shares outstanding for such periods adjusted to reflect
the approximately 175.38 for one stock split and a .9231-to-1 Preferred
Stock dividend (accounted for as a stock split) authorized on August 31,
1993.
11
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the financial
statements and related notes and other information included in this report. The
financial results reported herein do not indicate the financial results that may
be achieved by the Company in any future period.
BACKGROUND
Monterey Pasta Company was incorporated in June 1989 as a producer and
wholesaler of refrigerated gourmet pasta and sauces to restaurants and grocery
stores in the Monterey, California area. The Company has since expanded its
operations to provide its products to grocery and club stores throughout the
United States. The Company's overall strategic plan is to enhance the value of
the Monterey Pasta Company brand name by distributing its gourmet pasta products
through multiple channels of distribution.
The Company's distribution of pasta and pasta sauces to grocery and club
stores increased from approximately 25 stores as of December 1989, to
approximately 4,300 in December 1995, and declined to approximately 3,100 as of
December 28, 1997. During 1994, 1995 and 1996, significant costs were incurred
to promote this expansion including product demonstration, advertising,
warehousing, and distribution costs and the hiring of additional personnel. In
1997, the focus was changed to developing a profitable distribution base. Hence,
the reduction in store totals and the return to profitability. During 1998 the
Company expects to add profitable retail and club distribution.
Effective December 31, 1995, the Company discontinued the business of its
restaurant and franchise subsidiaries, and wrote off its entire $7,693,000
investment in 1995. Accordingly, the restaurant and franchise businesses are
accounted for as discontinued operations in the accompanying consolidated
financial statements for all periods presented. The Company sold its restaurant
subsidiary to an affiliate of Mr. Lance Mortensen, a former Chairman and Chief
Executive Officer and Director of the Company.
The success of the Company depends on a number of factors including whether
the Company can continue to add new products, whether grocery and club store
chains will continue to expand the number of their stores offering the Company's
products, and whether the Company can continue to increase the number of grocery
and club store chains offering its products. Grocery and club store chains
continually re-evaluate the products carried in their stores and no assurances
can be given that the chains currently offering the Company's products will
continue to do so in the future.
The Company believes that access to substantially greater capital resources,
coupled with continued reduction of its administrative and production costs,
will be key requirements in the Company's efforts to enhance its competitive
position and increase its market penetration. In order to support its expansion
program, the Company has developed, and is continuing to develop new products
for the consumers and revised advertising and promotional activities for its
retail grocery and club store accounts. There can be no assurance that the
Company will be able to increase its net revenues from grocery and club stores.
Because the Company will continue to make expenditures associated with the
expansion of its business, the Company's results of operations may be affected.
CONTINUING OPERATIONS FOR 1995, 1996 AND 1997
Net revenues from continuing operations were $18,716,000, $24,492,000 and
$23,447,000 for 1995, 1996 and 1997, respectively, reflecting an annual increase
in sales of 31% for 1996, when compared to 1995, and a 4% decline for 1997 when
compared to 1996. The increase in 1996 was the result of increased distribution
on a per-store basis to approximately 3,600 individual grocery and club stores
by year-end of 1996, compared to approximately 1,300 in 1994, and 4,300 for
1995. The decline in sales in 1997 reflected the elimination of unprofitable
chains and Direct Store Delivery accounts.
12
Margins declined from 41% in 1995 to 35% in 1996 due to an emphasis on
increasing distribution, albeit at significantly lower margins. The 6% gross
margin increase from 35% in 1996 to 41% in 1997 was due mainly to reduced sales
discounts and allowances through better controls and elimination of unprofitable
accounts.
Selling, general and administrative expenses decreased by $7,514,000 or 46%,
to $8,724,000 in 1997. These expenses totaled $8,460,000 in 1995 and $16,238,000
in 1996, reflecting a growth of $7,778,000 or 92% from 1995 to 1996. Included in
1996's increased spending was over $8 million specifically for sales and
marketing, including incremental headcount and promotional expenses deemed
necessary, at that time, to expand the business base. The 1995 increases were
also attributable to expansion of the Company's infrastructure, including
increased administrative and management salaries, recruiting and training, and
facilities costs. Additionally, selling costs were high as a result of the
Company's efforts to obtain new customers and enter new geographic markets. This
trend was reversed in 1997 as a result of redefined marketing focus, and
facilities consolidation, with reduced headcount and related overhead expenses
implemented in late 1996 and early 1997.
Depreciation and amortization expense, included in selling, general and
administrative expenses, increased to $961,000, or 4% of net revenues in 1997,
compared to $919,000 or 4% of net revenues in 1996, and $686,000 or 4% in 1995.
These increases relate primarily to capital expenditures in the Salinas,
California production facility. The Company anticipates further increases in
depreciation and amortization in future periods as additional equipment is
purchased and placed in service.
Net interest expense of $211,000 was recognized in 1997 compared to net
interest expense of $431,000 recognized in 1996 and $493,000 in 1995, which
included $40,000 in interest income and $533,000 guaranteed conversion discount
on convertible debt. The 1996 interest expense included $173,000 for guaranteed
discount on convertible debt and $258,000 of interest expense. Cash raised by
the March, 1997 private placement helped reduce interest expense in 1997.
RESULTS OF DISCONTINUED OPERATIONS FOR 1995 AND 1996
Net revenues from discontinued operations were $5,836,000 and $1,796,000 for
1995 and 1996 (prior to sale of UFO), respectively. Operating losses from
discontinued operations were $13,586,000, and $839,000 for 1995 and 1996 (prior
to sale of UFO), respectively. The total 1995 losses from discontinued
operations also included $4,890,000 in losses from disposition and $2,803,000 in
losses during the phaseout period covering provisions relating to 1996 losses
prior to sale of UFO, accruals related to discontinued operations, and
provisions to reduce the net assets from discontinued operations to their net
realizable value. The 1996 losses were charged directly to the resulting
reserves, as were other expenditures related to the restaurant and franchising
operations. During 1996, the reserves were also reduced by $220,000 to reflect
adjustments of estimates to the actual Company expenditures. Remaining reserves
of $388,000 at the end of 1996 were utilized during 1997, including a $37,000
recovery.
LIQUIDITY AND CAPITAL RESOURCES
During the twelve month period ended December 28, 1997, $1,026,000 of cash
was used in the Company's operations, compared to $8,083,000 used in 1996,
related to the operating losses from continuing operations and expenditures
related to discontinued operations.
In December 1995, the Company obtained a $3,000,000 credit facility from a
commercial lending institution. The proceeds from such financing were used for
sales and marketing expenses, working capital, and capital investment. This
facility was renegotiated with another bank in July, 1997 to avail the Company
of lower interest rates and was increased to $4,000,000 in March, 1998 to allow
for a stock repurchase from Clearwater Fund IV, Ltd. (See page 3).
13
In August, 1996, the Company sold approximately $3,308,000, net of expenses
but before deemed dividend of $875,000 resulting from the guaranteed conversion
discount, of convertible preferred stock. This preferred stock was convertible
into common stock at 80% of the market value of the Company's common stock as
defined in the subscription agreement. The stock was comprised of 3000 shares of
Series A at $1,000 par value, and 500 shares of series B also at $1,000 par
value.
All accrued and future dividends on Series A Preferred Stock were replaced
by a payment of $50,000 in the form of stock of the Company valued at 80% of the
fair market value of the Company's common stock on the date of effectiveness of
the Company's S-3 Registration Statement. In lieu of prior and ongoing penalties
for failing to obtain effectiveness, the Company paid $240,000 from the proceeds
of its 1997 Common Stock offering. The transaction was effected by the exchange
of 3,000 shares of newly issued Series A-1 Preferred Stock for the 3,000 shares
of outstanding Series A Preferred Stock being canceled.
The 500 shares of outstanding Series B Preferred Stock at December 29, 1996
had an initial face value of $500,000. Half of the Series B shares were
converted into 160,256 shares of Common Stock as of March 13, 1997. The
remaining shares were exchanged for 250 shares of Series B-1 Preferred Stock,
and the Company paid $30,000 in settlement of all amounts previously owed for
dividends and penalties.
On December 31, 1996, the Company offered 1,600 Units, each unit consisting
of 1000 shares, at $1,350 per Unit in a private placement. This financing closed
in March, 1977 with the Company selling approximately $1,980,000, net of
expenses, of its common stock in a private offering to accredited investors at a
gross average price of $1.35 per share for 1,600,000 shares. Sentra Securities
Corporation acted as placement agent, (the "Placement Agent") on a "best
efforts", "any or all" basis. The Placement Agent received $108,000 in execution
and expense fees and warrants to purchase 532,800 shares of common stock
exercisable at a price of $2.25 per share, for a term of three years. The net
proceeds from the offering were used by the Company for advertising, marketing,
promotion, capital equipment and working capital. The shares of common stock
were restricted securities with registration rights and were registered as part
of an S-3 Registration Statement effective October 24, 1997. The holders of the
private placement were guaranteed an annual yield of 8% while the Registration
Statement was pending. This resulted in the payment of $126,000 in the form of
77,087 shares of Company common stock.
As discussed above, the Company used $1,026,000 in cash during 1997 for
continuing and discontinued operations. The Company had an operating income of
$702,000 and net working capital at December 28, 1997 was $2,444,000, an
increase of $2,821,000 over the prior year. As part of its return to profitable
operations, the Company:
- withdrew from certain unprofitable markets and customers;
- renegotiated terms with certain other customers;
- realigned its marketing focus, reducing related slotting fees and
advertising expenditures;
- renegotiated agreements with preferred shareholders reducing certain
dividends and penalties;
- relocated and centralized its corporate headquarters from San Francisco
into its manufacturing plant
- location in Salinas, California; and
- reduced its headcount and related overhead.
While there can be no assurance as to the outcome of the Company's
initiatives, management believes these changes in its business, as discussed
above, will allow the Company to enhance its financial position and operating
results. Management believes that the Company's credit facility and cash
generated from continuing operations will provide adequate funding to meet its
needs through 1998.
14
SALES AND MARKETING
The Company's sales and marketing strategy targets sustainable growth. Its
focus is on increasing sales through expansion of its club store and retail
grocery business, increasing its distribution through the rapidly growing number
of natural and organic food retailers, and the introduction of innovative new
products designed to meet consumer needs.
Expansion of the Company's club store business continued in 1997 with the
addition of national distribution of its products through Sam's Club Stores (a
division of Wal-Mart) and Cub Foods of Colorado. The Company continued its
strong, ongoing relationship with Costco in 1998, adding the 38 store Seattle
Division in March, with an initial commitment for 10 SKU's in each store. During
1997 the retail grocery segment saw the addition of the Company's products to
Kroger's Columbus, Ohio division, with approximately 50 stores. Monterey Pasta
products are sold in over 200 Kroger stores.
Monterey Pasta's products are made with no preservatives or artificial
ingredients. Capitalizing on this strength, the Company plans to pursue
increased distribution through natural and organic food retailers, whose growth
has exceeded 20% annually in recent years. The Company estimates there are 450
potential natural and organic retail grocery stores available for its products.
The Company is introducing new Southwest/Mexican products to help fulfill
its objective of providing added meal occasions to the consumer, and to take
advantage of the fast growing market for southwestern and Mexican food products.
Initial offerings in the new line include Blue Corn Ravioli with Sonoma Jack
Habanero Cheese filling, Chili Cilantro Ravioli with Southwestern Chicken
filling, and a new Ranchero Salsa.
The Company's new product offering will also include the introduction of
items into the growing home meal replacement ("HMR") category. The Company will
introduce its first three products in the HMR line in early 1998.
COST REDUCTIONS
The Company significantly reduced its total corporate and plant
administrative headcount and costs on a going-forward basis as part of the plan
adopted in the fourth quarter of 1996 to return to profitable operations and
optimize the financial performance. In January, 1997, the Company relocated its
corporate headquarters from San Francisco, California to its manufacturing
facility in Salinas, California. This move resulted in a substantial reduction
of future corporate and overhead costs, beginning in the second quarter of 1997.
In addition, the Company significantly reduced the scope of its advertising
and media campaigns. The Company will continue with those promotional
activities, such as in-store demonstrations, that it considers effective and
consistent with its ongoing sales objectives. In this light, the Company's
slotting fees from club stores and grocery chains for shelf space allocations,
for example, declined significantly starting in the fourth quarter of 1996.
Total 1997 selling, general and administrative expenses declined $7.5 million
compared to 1996.
In an effort to continue to reduce the cost of production, the Company
invested $1.8 million in machinery and equipment and leasehold improvements in
retooling its Salinas production facilities over the last two years to increase
operating efficiencies as well as the shelf life of its products.
MAJOR CUSTOMERS
Two of the Company's retail customers, Costco and Sam's, accounted for 50%
and 12% respectively of the Company's sales for the twelve months ended December
28, 1997. No other customer accounted for greater than 10% of net revenues for
the period.
15
BUSINESS RISKS
Certain characteristics and dynamics of the Company's business and of
financial markets generally create risks to the Company's long-term success and
to predictable quarterly results. These risks include:
- - RECENT OPERATING LOSSES: NO ASSURANCE OF CONTINUED PROFITABILITY. The
Company's profitability began to decline in 1994. In the second quarter of
1994, the Company reported its first operating loss from continuing
operations. The Company reported additional operating losses from continuing
operations in nine of fourteen quarters since then. The Company's net income
from continuing operations for the quarter ended December 1997 was $363,000,
a third straight profitable quarter. At December 29, 1997, the Company had an
accumulated deficit of $34,717,000. There can be no assurance that the
Company will be able to maintain its profitability in the long term.
- - LIQUIDITY; NEED FOR ADDITIONAL CAPITAL. Management believes that it will
have sufficient resources to provide adequate liquidity to meet the Company's
planned capital and operating requirements through 1998. Thereafter, the
Company's operations will need to be funded either with funds generated
through operations or with additional debt or equity financing. If the
Company's operations do not provide cash sufficient to fund its operations
and the Company seeks outside financing, there can be no assurance that the
Company will be able to obtain such financing when needed, on acceptable
terms. In addition, any future equity financing or convertible debt financing
would cause the Company's stockholders to incur dilution in net tangible book
value per share of Common Stock.
- - DEFERRED TAX ASSETS. Since the Company could not determine that it was more
likely than not that the deferred tax assets would be realized, a 100%
valuation allowance was provided in 1995, 1996, and 1997.
- - KEY PERSONNEL; MANAGEMENT TRANSITION. The success of the Company depends on
the efforts of key management personnel. On August 1, 1997, the interim Chief
Executive Officer was replaced by a permanent Chief Executive Officer, R.
Lance Hewitt. On September 18, 1997 the Company appointed a new Chief
Financial Officer, Stephen L. Brinkman. Neither officer has previously been a
part of the Company's management team. The Company's success will depend on
its ability to operate under new management, to effect a smooth transition to
new management with minimal disruption in operations, and to motivate and
retain key employees and officers. There can be no assurance that the Company
will be able to complete a smooth transition from its prior management team
to the current management team, that new officers will be able to perform
effectively, or that significant management turnover will not continue in the
future. At March 13, 1998 there are no keyman insurance policies in place.
- - IMPACT OF INFLATION. The Company believes that inflation has not had a
material impact on its operations to date. Substantial increases in labor,
employee benefits, freight, energy, ingredients and packaging, rents and
other operating expenses could adversely affect the operations of the
Company's business in future periods. The Company cannot predict whether such
increases will occur in the future.
- - VOLATILITY OF STOCK PRICE. The market price of the Company's common stock
has fluctuated substantially since the initial public offering of the
Company's common stock in December 1993. Such volatility may, in part, be
attributable to the Company's operating results or to changes in the
direction of the Company's expansion efforts. In addition, changes in general
conditions in the economy, the financial markets or the food industry,
natural disasters or other developments affecting the Company or its
competitors could cause the market price of the Company's common stock to
fluctuate substantially. In addition, in recent years, the stock market has
experienced extreme price and volume fluctuations. This volatility has had a
significant effect on the market prices of securities issued by many
companies, including the Company, for reasons sometimes unrelated to the
operating performance of these companies. Any shortfall in the Company's net
sales or earnings from levels expected by securities
16
analysts or the market could have an immediate and significant adverse effect
on the trading price of the Company's common stock in any given period.
Additionally, the Company may not learn of such shortfalls until late in the
fiscal quarter, which could result in an even more immediate and significant
adverse effect on the trading price of the Company's common stock.
- - RISKS INHERENT IN FOOD PRODUCTION. The Company faces all of the risks
inherent in the production and distribution of refrigerated food products,
including contamination, adulteration and spoilage, and the associated risks
of product liability litigation and declines in the price of its stock may be
associated with even an isolated event. The Company has a modern production
facility, employs what it believes is state-of-the-art thermal processing,
temperature-controlled storage, HAACP programs intended to insure food
safety, and has obtained USDA approval for its production plant. However,
there can be no assurance that the Company's procedures will be adequate to
prevent the occurrence of such events.
- - DEPENDENCE ON MAJOR CUSTOMERS. In 1997 three customers accounted for 50%,
12%, and 8% respectively of the Company's total net revenues. Loss of any of
these customers, Costco, Sam's Club Stores, and Safeway, would have a
material adverse effect on the Company.
- - SEASONALITY AND QUARTERLY RESULTS. The Company's grocery and club store
accounts are expected to experience seasonal fluctuations to some extent. The
Company's business in general may also be affected by a variety of other
factors, including but not limited to general economic trends, competition,
marketing programs, and special or unusual events.
- - COMPETITION AND DEPENDENCE ON COMMON CARRIERS. The Company's business
continues to be dominated by several very large competitors which have
significantly greater resources than the Company; such competitors can
outspend the Company and negatively affect its market share and results of
operations. The Company also continues to be dependent on common carriers to
distribute its products. Any disruption in the Company's distribution system
or increase in the costs thereof could have a material adverse impact on its
business.
- - MARKETING AND SALES RISKS. The future success of the Company's efforts will
depend on a number of factors, including whether grocery and club store
chains will continue to expand the number of their individual stores offering
the Company's products and whether allowances and other incentives will
expand retail distribution. Expansion into new markets increases the risk of
significant product returns resulting from the Company's supply of slower
selling items to its customers. In addition, grocery and club store chains
continually re-evaluate the products carried in their stores and no
assurances can be given that the chains currently offering the Company's
products will continue to do so in the future. Should these channels choose
to reduce or eliminate products, the Company could experience a significant
reduction in its product sales. As indicated previously, the Company remains
dependent on the use of slotting allowances and other incentives to expand
retail distribution. In order to reduce risk, the Company has significantly
reduced expansion into new markets requiring such major expenditures.
- - EFFECTIVENESS OF REGISTRATION STATEMENT. The SEC declared the Company's
Registration Statement on Form S-3 effective as of October 24, 1997. As a
result, holders of an aggregate of up to an additional 5,782,869 shares of
the Company's common stock were eligible to sell their shares in the public
market. Subsequently, a number of such shares have been sold, and the company
repurchased 2,365,066 shares from a selling stockholder. Substantial sales by
stockholders, who continue to hold registered shares could have a negative
effect on the price of the Company's common stock.
- - YEAR 2000. Many computer systems experience problems handling dates beyond
the year 1999. The Company is assessing the internal readiness of its
computer systems for handling the year 2000. The Company expects to implement
successfully the systems and programming changes necessary to address the
year 2000 issues, and does not believe the cost of such actions will have a
material effect on the Company's results of operations or financial
condition. There can be no assurance, however, that there will not be a delay
in, or increased costs associated with, the implementation of such changes,
and
17
the Company's inability to implement such changes could have an adverse
impact on the future results of operations.
RECENTLY ISSUED ACCOUNTING STANDARDS
During 1997, the Financial Accounting Standards Board released its Statement
of Financial Accounting Standards (SFAS) No. 130, REPORTING COMPREHENSIVE
INCOME. SFAS 130, which is effective for fiscal years beginning after December
15, 1997, establishes standards for reporting and display of comprehensive
income and its components in the entity's financial statements. The objective of
SFAS 130 is to report a measure of all changes in the equity of an enterprise
that result from transactions and other economic events of the period.
Comprehensive income is the total of net income and all other non-owner changes
in equity. SFAS 130 does not address issues of recognition or measurement for
comprehensive income and its components, and therefore, it will not have an
impact on the financial condition or results of the Company upon operation.
The Financial Accounting Standards Board also recently released SFAS 131,
DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION. This
Statement, which is also effective for fiscal years beginning after December 15,
1997, requires reporting of financial and descriptive information about
reportable operating segments. Operating segments are components of an
enterprise about which separate financial information is available that is
evaluated regularly by the chief operating decision maker in deciding how to
allocate resources and in assessing performance. The Company operates in only
one business segment, production and distribution of pasta and related products,
and thus believes this new Statement will have no impact on disclosure,
financial conditions, or results of operations.
18
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and supplementary data of the Company required by
this item are set forth at the pages indicated at Item 14(a).
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On October 18, 1996, Deloitte & Touche LLP ("Deloitte") resigned as
independent public accountants for the Company. Deloitte's report on the
Company's financial statements for 1995 (1) did not contain an adverse opinion
or a disclaimer of opinion and (2) was not qualified or modified as to
uncertainty, audit scope or accounting principles.
Deloitte advised the Company that its recent registration statement on Form
S-3 should be amended due to recent changes in management and deterioration of
operations. Additionally, in a letter dated October 31, 1996, Deloitte indicated
that Item 4.1 of a Form 8-K filed by the Company on October 25, 1996, should
have included the following statement regarding auditing scope:
"Deloitte & Touche LLP ("D&T") advised the Company that
allegations of potential violations by Board members of Company
policy on insider trading would have caused D&T to expand the
scope of their work if they would have audited 1996. D&T
recommended an independent investigation of such allegations."
In response to notification about alleged potential violations of the
Company's policy, the Company's newly-elected Chief Executive Officer conducted
a preliminary investigation into the allegations. The investigation revealed,
that in connection with margin calls, a former Director incurred a Section 16(b)
violation of the Securities and Exchange Act of 1934, and another Director
incurred violations of internal Company policy as a result of margin calls. The
Company's outside attorneys, Gray Cary Ware & Freidenrich, LLP, have completed
an independent investigation into the foregoing charges and found no significant
violation.
There were no disagreements with Deloitte on any matter of accounting
principles and practices, financial statement disclosure, or auditing scope or
procedure.
On October 25, 1996, the Company engaged BDO Seidman, LLP ("BDO") to serve
as independent public accountants. The Company did not consult with BDO with
respect to the application of accounting principles to a specified transaction,
either completed or proposed, or the type of audit report that might be rendered
on the Company's financial statements, nor did the Company consult with BDO
regarding the subject of any disagreement with its former independent public
accountants or with respect to any events required to be reported pursuant to
paragraph (a)(1)(v) or Item 304 of Regulation S-K with respect to such former
independent public accountants.
19
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
As of March 13, 1998, the directors, executive officers, and other
significant employees of the Company are as follows (for additional information
on directors and executive officers refer to Part III):
DIRECTORS AND EXECUTIVE OFFICERS:
NAME AGE POSITION
- ------------------------------------------------------------ ----------- ---------------------------------------------
Charles B. Bonner........................................... 56 Director
Daniel J. Gallery........................................... 43 Director
R. Lance Hewitt............................................. 58 President, Chief Executive Officer and
Director
Floyd R. Hill............................................... 54 Director
Van Tunstall................................................ 51 Director
James Wong.................................................. 51 Director
Gerard P. Melia............................................. 32 Director
Stephen L. Brinkman......................................... 50 Chief Financial Officer and Corporate
Secretary
OTHER SIGNIFICANT EMPLOYEES:
NAME AGE POSITION
- ------------------------------------------------------------ ----------- ---------------------------------------------
Lynn Port................................................... 53 Plant Controller
Roy G. Scotton.............................................. 38 Director-Logistics and Human
Resources
Peter F. Klein.............................................. 38 Plant Manager
Ron Hendershott............................................. 47 Director-Quality Assurance and Tech.
Svcs.
Don Anspaugh................................................ 32 Sales Manager-Mid Central Region
Joseph Stirlacci............................................ 38 Sales Manager-West
Normally each director is elected for a period of one year and serves until
his or her successor is duly elected by the shareholders. Directors may can be
elected by the Board to fill a vacancy between annual shareholder meeting
elections.
The principal occupations of each director and executive officer of the
Company, for at least the past five years, are as follows:
CHARLES B. BONNER, DIRECTOR. Mr. Bonner served as a Director of the Company
from 1993 through January 1995, at which time he resigned as a Director due to
other business commitments. He was reappointed as a Director effective September
1995. Mr. Bonner is president of Pacific Resources, Inc., a merger and
acquisition advisory firm, a position he has held since September 1989. From
1979 to 1989, Mr. Bonner was president of Bonner Packing Company, a
privately-held Fresno, California based dried fruit producer. Mr. Bonner also
serves as a director for the following privately-owned corporations: O.K.
Produce Company, Spencer Fruit Company, Charles Tingey Associates, Organic Food
Products, and Murphy's Express.
DANIEL J. GALLERY, DIRECTOR. Mr. Gallery has been a Director of the Company
since January 1995. In 1984, Mr. Gallery co-founded Denver-based Carts of
Colorado, Inc., a designer and manufacturer of
20
mobile and modular merchandising equipment. As Executive Vice President of Sales
and Marketing, Mr. Gallery is responsible for worldwide sales and marketing for
Carts of Colorado.
R. LANCE HEWITT, PRESIDENT, CHIEF EXECUTIVE OFFICER AND DIRECTOR. Mr.
Hewitt joined the Company in June, 1997 as President and Director. He was named
Chief Executive Officer in August of 1997. Mr. Hewitt was most recently
President of Carriage House Fruit Company from 1995 to 1997. He was Chief
Operating Officer of Ingro Mexican Foods from 1988 to 1995. Hewitt also served
as Vice President of Marketing and sales for the Lawry's Foods division of
Thomas J. Lipton, Inc., a subsidiary of Unilever, and spent 15 years with
McCormick Schilling, Inc. in various executive capacities.
FLOYD R. HILL, DIRECTOR. Mr. Hill co-founded the Company in 1989, served as
its Secretary/Treasurer and Chief Executive Officer until 1993, and served as a
Director of the Company from 1989 until 1994. Mr. Hill became a Director again
in January 1995. He also served as the Senior Vice President of Production from
August 1993 until November 1995. From 1969 until 1991, Mr. Hill was employed by
Eli Lilly & Co. in various marketing and product development positions. Mr. Hill
is currently the President and Chief Executive Officer of Organic Food Products.
VAN TUNSTALL, DIRECTOR. Mr. Tunstall was elected to the Board of Directors
in February, 1997. He is currently consulting with a variety of companies. Mr.
Tunstall was a senior executive with Gilroy Foods, Inc., an international
manufacturer of various food product ingredients, from 1977 to 1995. He served
as President and Chairman of the Board from 1991 through 1995. Previously, Mr.
Tunstall held various positions with McCormick & Company. Inc.
JAMES WONG, DIRECTOR. Mr. Wong was elected to the Board of Directors in
March, 1997. He functions as Chairman and Chief Executive Officer of Directions
International, a U.S. based management consulting firm which he founded in 1988.
He has worked on five continents facilitating strategic alliances with suppliers
and joint venture partners to improve global market share and profitability. Mr.
Wong serves as a director on a variety of boards for both profit and
not-for-profit, privately held organizations.
STEPHEN L. BRINKMAN, CHIEF FINANCIAL OFFICER AND CORPORATE SECRETARY. Mr.
Brinkman joined the Company in August of 1997 after a 17 year career with Gilroy
Foods, Inc., where he was Controller from 1984 through 1988 and Vice President,
Finance and Administration from 1989 through 1996. Previously, he was Controller
for a large California-based farming company, and worked for Security Pacific
Bank in agricultural banking.
GERARD P. MELIA, DIRECTOR. Mr. Melia has served as Chief Financial Officer
of Clearwater Funds, a large institutional investor in the Company since 1996.
From 1993 to 1996, he was employed by Salomon Brothers providing financial and
operational support for a division trading in international securities. Mr.
Melia serves on the board of directors of Mehl/Biophile International
Corporation, a publicly-traded technology transfer company, and is a Certified
Public Accountant.
The principal occupations of other certain significant employees of the
Company, for at least the past five years, are as follows:
LYNN PORT, PLANT CONTROLLER. Mr. Port came to the Company in January, 1998.
He has over 23 years experience as a controller in agribusiness, retail,
government and health care concerns, most recently with Country Home Care from
1995 through 1997. This broad experience has given him expertise in cost
controls, cash management, forecasting and accounting systems and procedures.
ROY G. SCOTTON, DIRECTOR-LOGISTICS AND HUMAN RESOURCES. Mr. Scotton joined
the Company in June 1996 as Production Manager and was subsequently promoted to
Plant Manager. Mr. Scotton served at Nestle Food Company from 1987 to 1996, most
recently as Organizational Development Manager. In March, 1998, Mr. Scotton was
reassigned to the responsibilities formerly held by Mr. Klein, with the
exception of plant maintenance.
21
PETER F. KLEIN, PLANT MANAGER. Mr. Klein became Production Manager at the
Company in November 1994, responsible for production and plant maintenance. In
1996 he was promoted to Plant Superintendent responsible for warehouse functions
and plant maintenance. He has over 15 years of experience in overseeing
warehouse operations, shipping and receiving, and maintenance services. Prior to
joining the Company, Mr. Klein owned his own Service station and repair shop
from 1985 to 1992. In March of 1998 Mr. Klein assumed responsibility for plant
operations as well as plant maintenance and production planning, relinquishing
his warehouse functions to Mr. Scotton.
RON HENDERSHOTT, DIRECTOR OF QUALITY ASSURANCE AND TECHNICAL SERVICES. Mr.
Hendershott joined the Company in May, 1995 as Quality Control Manager. He was
promoted to his current position in March of 1998. Mr. Hendershott has over 25
years of managerial experience in Quality Control/Quality Assurance, technical
services, and regulatory affairs. Prior to joining Monterey Pasta he was with La
Victoria Foods as Director of Quality Control from 1993 through 1995 after
spending two years with Weight Watchers as Manager of Technical Support
Services. He also served with American Home Foods for seven years as Regulatory
Affairs Manager.
DON ANSPAUGH, SALES MANAGER-MID CENTRAL REGION. Mr. Anspaugh joined the
Company in March of 1998 to replace Jody Cook, who assumed new responsibilities
as a Manufacturer's Agent in a consulting role. Mr. Anspaugh has nearly ten
years of sales experience, most recently with Willett America, where he served
as Inside Sales Manager from 1995 through 1997. He was DSD Manager with the
Company from 1994 to 1995. Mr. Anspaugh also was an Area Sales Manager with
Labeljet Company, a division of Willett America, and was a District Sales
Representative with Coca Cola.
JOSEPH STIRLACCI, SALES MANAGER-WEST. Mr. Stirlacci has served as Western
Zone Manager since December of 1995. His primary responsibility is to manage,
maintain and secure club store accounts. Having been in the food and beverage
industry since 1981, Mr. Stirlacci spent seven years with Young's Market
managing wholesale liquor and wine from 1988 to 1995, after six years as the
account executive for four large grocery chains.
COMPLIANCE WITH SECTION 16(A) OF THE SECURITIES EXCHANGE ACT OF 1934
Section 16(a) of the Securities Exchange Act of 1934, as amended, requires
the Company's directors and executive officers, and persons who own more than
10% of a registered class of the Company's equity securities, to file with the
SEC initial reports of ownership and reports of changes in ownership of Common
Stock and other equity securities of the Company. Officers, directors and
greater than 10% beneficial owners are required by SEC regulations to furnish
the Company with copies of all reports they file under Section 16(a). To the
Company's knowledge, based solely on its review of the copies of such reports
furnished to the Company and written representations that no other reports were
required, all Section 16(a) filing requirements applicable to its officers,
directors and greater than 10% beneficial owners were complied with during the
fiscal year ended December 28, 1997, with three exceptions: Mr. Stephen
Brinkman, Chief Financial Officer, whose initial report on Form 3 following his
appointment was filed late, and certain reports on Form 4 for Mr. Ken Steel, a
former CEO and Director, and Mr. Timothy Ryan, a former Director, were filed
late.
22
ITEM 11. EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
LONG TERM COMPENSATION
ANNUAL COMPENSATION ------------------------
--------------------------------- SECURITIES ALL
SALARY BONUS OTHER UNDERLYING OTHER
NAME AND PRINCIPAL POSITION YEAR $ $ $ OPTIONS (#) $
- ----------------------------------------------- --------- --------- ----------- --------- ----------- -----------
R. Lance Hewitt................................ 1997 $ 94,231(1) $ -- $ 4,500(1) 100,000(1) $ --
President and Chief 1996 N/A N/A N/A N/A N/A
Executive Officer 1995 N/A N/A N/A N/A N/A
Kenneth A. Steel, Jr........................... 1997 $ --(2) $ -- $ -- 20,000(2) $ --
Interim Chief 1996 $ --(2) $ -- $ -- --(2) $ --
Executive Officer 1995 N/A N/A N/A N/A N/A
- ------------------------
Notes:
(1) Mr. Hewitt was appointed President on in June of 1997 and Chief Executive
Officer in August, 1997. He replaced Ken Steel, interim Chief Executive
Officer. He is eligible for a 35% bonus upon completing his first full year
of employment. For every year thereafter he is eligible for a bonus equal to
15% of his salary for achieving agreed-upon income targets, as approved by
the Board of Directors, and an additional 20% of his salary for exceeding
income targets by at least 10%. He will also vest 50,000 options if still
employed on the first anniversary of his May 26, 1997 employment agreement,
and 50,000 options if still employed on the second year of the agreement.
Mr. Hewitt may also receive, at the discretion of the Board of Directors, an
additional 200,000 options during the first two years of employment split as
follows: 120,000 for achieving agreed-upon business goals in the first year
and 80,000 for achieving business goals in the second year. He also receives
an auto allowance of $750.00 per month.
(2) Mr. Steel was appointed Chief Executive Officer on October 5, 1996. He
received no salary compensation, but was granted rights to purchase 550,000
shares of Common Stock on April 30, 1997 with a full recourse promissory
note for the full amount ($1,031,250) at a per share price of $1.875,
subject to time served and performance restrictions. The performance
restrictions resulted in the forfeiture of 250,000 shares, and on December,
31, 1997 the full recourse note was replaced with a two year non-interest
bearing non-recourse note expiring December 31, 1999.
23
OPTION GRANTS IN LAST FISCAL YEAR
The following table sets forth for the fiscal year ended December 28, 1997,
the options granted to the executive officers named below. During the fiscal
year ended December 28, 1997, there were no exercises of stock options by the
executive officers named in the table below.
INDIVIDUAL GRANTS
--------------------------------------------------
NUMBER OF % OF TOTAL POTENTIAL
SECURITIES OPTIONS REALIZABLE
UNDERLYING GRANTED TO EXERCISE VALUE ON 12/28/97:
OPTIONS EMPLOYEES OR BASE EXPIRATION ALTERNATIVE GRANT
NAME GRANTED(2) IN 1997 PRICE DATE DATE VALUE (1)
- ---------------------------------------------- ----------- ----------- ----------- ----------- ------------------
R. Lance Hewitt............................... 100,000 46.15 $ 2.125 05/24/07 $ 123,000
K. A. Steel, Jr............................... 20,000 9.23 1.625 08/26/07 16,200
- ------------------------
(1) The alternative grant date values are based on the modified Black-Scholes
option pricing model, assuming no dividend yield, expected volatility of
approximately 47%, risk free rate of return of 6.59%, and expected time of
exercise generally at half of the original contractual life. Actual values
realized on stock options are dependent on actual future performance of the
Company's stock, among other factors. Accordingly, the amounts may not
necessarily be realized.
(2) The 1993 Stock Option Plan provides that upon, among other things, the
dissolution, liquidation, reorganization, merger or consolidation of the
Company or the sale of all or substantially all of the assets of the
Company, or transfer of control (as such term is defined under Section 7.1
of the Plan), all outstanding options under the 1993 Stock Option Plan shall
become immediately exercisable as of the date 30 days prior to the date of
transfer of control if such options would otherwise terminate upon
consummation of the transaction or if the surviving or successor corporation
as the case may be, does not assume the Company's obligations under the 1993
Stock Option Plan, or substitute for such outstanding options.
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION
VALUES
NUMBER OF SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED OPTIONS AT IN-THE-MONEY OPTIONS AT
DECEMBER 28, 1997 DECEMBER 28, 1997
-------------------------- --------------------------------------
NAME EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- ---------------------------------------------------------- ----------- ------------- ----------------- -------------------
K. A. Steel, Jr........................................... 20,000 0 0 0
R. Lance Hewitt........................................... 0 100,000 0 0
EMPLOYMENT CONTRACTS
Mr. Hewitt has an employment agreement, the terms of which are outlined
under "Executive Compensation."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth as of March 13, 1998 (except as noted in the
footnotes to the table), certain information with respect to the beneficial
ownership of the Company's Common Stock by (i) all persons known by the Company
to be the beneficial owners of more than 5% of the outstanding Common Stock of
the Company, (ii) each director and director-nominee of the Company, (iii) the
Chief Executive
24
Officer as of March 13, 1998, and (iv) all executive officers and directors of
the Company for fiscal year 1997 through March 13, 1998, as a group.
AMOUNT AND NATURE OF
BENEFICIAL OWNERSHIP PERCENT OF CLASS
NAME AND ADDRESS OF BENEFICIAL OWNER(1) (2) (2)
- --------------------------------------------------------------------- ---------------------- -------------------
Clearwater Fund IV, Ltd. (3)......................................... 1,746,979 12.03
611 Druid Road East, Suite 200
Clearwater, Florida 34616
Kenneth A. Steel, Jr. (4)............................................ 498,000 3.43
Daniel J. Gallery (5)................................................ 90,000 .62
Van Tunstall (6)..................................................... 57,300 .39
Floyd R. Hill (7).................................................... 249,000 1.71
James Wong (8)....................................................... 5,000 .03
R. Lance Hewitt...................................................... 5,000 .03
Charles B. Bonner (9)................................................ 84,727 .58
Gerard P. Melia (10)................................................. 5,000 .03
Stephen L. Brinkman (11)............................................. 15,000 .10
All Officers and Directors as a group (8 persons).................... 1,009,027 6.92
- ------------------------
(1) Unless otherwise noted, the address of each named person is: Care of
Monterey Pasta Company, 1528 Moffett Street, Salinas, CA 93905.
(2) Includes shares of Monterey Pasta Company Common Stock underlying the
options and convertible securities outstanding held by the beneficial
owners with respect to whom the calculation is made, but does not include
shares of Common Stock that may not be acquired until more than 60 days
after March 13, 1998.
(3) The Clearwater Fund ("Clearwater") held 4,145,145 shares as of December 18,
1997, which included its final dividend payable in common stock (37,037
shares) and the shares resulting from its conversion (4,108,108).
Clearwater sold 33,100 shares (net) prior to the Company's repurchase of
2,365,066 shares on March 5, 1998, leaving 1,746,979 shares in its
possession after the transaction.
(4) Includes 300,000 restricted shares purchased with a full-recourse note
(renewed as non-recourse effective December 31, 1997) under rights granted
on April 30, 1997, and 48,000 exercisable options granted under the 1993
Stock Option Plan. Excludes 10,000 shares owned by Constance J. Steel, Mr.
Steel's wife, as to which Mr. Steel disclaims beneficial ownership.
(5) Includes 87,000 exercisable options granted under the 1993 Stock Option
Plan.
(6) Includes 5,000 exercisable options granted under the 1993 Stock Option
Plan.
(7) Includes 49,000 exercisable options granted under the 1993 Stock Option
Plan.
(8) Includes 5,000 exercisable options granted under the 1993 Stock Option
Plan.
(9) Includes 51,000 exercisable options granted under the 1993 Stock Option
Plan.
(10) Mr. Melia is employed by Clearwater Funds and disclaims beneficial
ownership of any shares owned by Clearwater Fund IV, Ltd.
(11) Includes 10,000 exercisable options granted under the 1993 Stock Option
Plan.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
On April 30, 1997, Mr. Kenneth Steel, former Chief Executive Officer,
Director, and shareholder was granted rights to purchase 550,000 shares of
Common Stock with a full recourse promissory note for the full amount at a per
share price of $1.875 per share, subject to time served and performance
restrictions.
25
The note was converted to a two year non interest bearing non-recourse status on
December 31, 1997, and was renewed for $562,500, the balance after the
forfeiture of 250,000 shares due to performance restrictions.
During 1997 the Company granted 50,000 options to a Director with a fair
market value of $22,357 in exchange for consulting services. The options had an
exercise price of $1.88, immediate vesting and expired March 12, 1998.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K AND S-8
PAGE NUMBER(S)
-----------------
(a)(1) Consolidated Financial Statements of Monterey Pasta Company:
Reports of Independent Certified Public Accountants..................................... 27,28
Consolidated Balance Sheets: Year-End 1996 and 1997..................................... 29
Consolidated Statements of Operations: Years Ended 1995, 1996 and 1997.................. 30
Consolidated Statements of Stockholders' Equity: Years Ended 1995, 1996 and
1997.................................................................................... 31,32
Consolidated Statements of Cash Flows: Years Ended 1995, 1996 and 1997.................. 33
Summary of Significant Accounting Policies.............................................. 34-36
Notes to Consolidated Financial Statements.............................................. 37-51
Schedule II--Valuation and Qualifying Accounts.......................................... 52
All other schedules have been omitted since the required information is contained in the
Consolidated Financial Statements or because such schedules are not required.
(a)(2) Exhibits: See Index to Exhibits on page 55. The Exhibits listed in the
accompanying Index of Exhibits are filed or incorporated by reference as part of
this report. Exhibit Nos. 10.1, 10.2, 10.18, 10.19, 10.20, 10.21, 10.22, 10.44,
10.45, 10.46 10.48, and 10.49 are management contracts or compensatory plans or
arrangements.
(b) Reports on Form 8-K:
The Company filed the following reports on Form 8-K during the quarter
ended December 28, 1997 and prior to filing of this Form 10-K on March 13, 1998.
- Report on Form 8-K filed on December 23, 1997, reported that Clearwater
Fund IV, Ltd. converted $2,880,000 of preferred stock into 4 million
shares of Company Common Stock.
- Report on Form 8-K filed on January 23, 1998, reported the resignation of
Timothy J. Ryan from the Board of Directors, effective December 31, 1997,
the resignations of Directors Kenneth A. Steel and Robert F. Steel
effective January 29, 1998, and the appointment of Gerard P. Melia to the
Board of Directors on January 29, 1998.
- Report on 8-K filed on March 6, 1998 reported the repurchase of 2,365,066
shares of Common Stock of the Company held by Clearwater Fund IV, Ltd. for
a purchase price of $1.1375 per share.
(c) Filing on form S-8 on January 26, 1998 was made to register 540,000
shares of company common stock which may be issued as part of the First Amended
and restated 1993 Stock Option Plan.
26
INDEPENDENT AUDITORS' REPORT
To the Stockholders and Board of Directors of
Monterey Pasta Company
We have audited the accompanying consolidated balance sheets of Monterey
Pasta Company and subsidiary as of December 29, 1996 and December 28, 1997, and
the related consolidated statements of operations, stockholders' equity and cash
flows for each of the two years then ended. We have also audited the Schedule
listed in the accompanying index at Item 14(a). These financial statements and
the Schedule are the responsibility of Monterey Pasta Company's management. Our
responsibility is to express an opinion on these financial statements and the
Schedule based on our audit.
We conducted our audits in accordance with generally accepted auditing
standards. These standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements and Schedule are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements and
Schedule. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation of the financial statements and Schedule. We
believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the consolidated financial position of Monterey Pasta
Company and subsidiary at December 29, 1996 and December 28, 1997, and the
results of their operations and their cash flows for each of the two years then
ended in conformity with generally accepted accounting principles.
Also, in our opinion, the Schedule presents fairly in all material respects,
the information set forth therein.
BDO Seidman, LLP
San Francisco, California
January 29, 1998, except for Notes 4 and 18, which are as of March 5, 1998
27
INDEPENDENT AUDITORS' REPORT
To the Stockholders and Board of Directors of
Monterey Pasta Company:
We have audited the accompanying consolidated statements of operations,
stockholders' equity and cash flows of Monterey Pasta Company and subsidiaries
for the year ended December 31, 1995. These financial statements are the
responsibility of Monterey Pasta Company's management. Our responsibility is to
express an opinion on these financial statements based on our audit.
We conducted our audit in accordance with generally accepted auditing
standards. These 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 audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated results of operations
and cash flows of Monterey Pasta Company and subsidiaries for the year ended
December 31, 1995 in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE LLP
San Francisco, California
March 29, 1996
28
MONTEREY PASTA COMPANY
CONSOLIDATED BALANCE SHEETS
DECEMBER 29, 1996 DECEMBER 28, 1997
----------------- -----------------
ASSETS (Note 4)
Current assets:
Cash and cash equivalents (Note 1).................................... $ 724,729 $ 410,228
Accounts receivable, less allowances of $924,285 and $332,877 (Notes 1
and 7).............................................................. 1,669,366 2,440,745
Inventories (Notes 2 and 7)........................................... 1,504,977 1,218,546
Prepaid expense and other (Note 10)................................... 693,870 1,519,801
-
----------------- -----------------
Total current assets................................................ 4,592,942 5,589,320
Property and equipment, net (Notes 3 and 7)............................. 5,700,902 5,057,846
Assets held for sale (Note 3)........................................... 326,701 --
Intangible and other assets, net........................................ 141,105 101,582
Deposits and other...................................................... 27,109 280,245
-
----------------- -----------------
Total assets........................................................ $ 10,788,759 $ 11,028,993
-
-
----------------- -----------------
----------------- -----------------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Bank overdraft........................................................ $ 845,372 $ 5,692
Accounts payable...................................................... 713,311 949,036
Accrued payroll and related benefits.................................. 299,968 192,787
Accrued liabilities (Note 13)......................................... 1,822,377 724,345
Current portion of notes, loans, and capitalized leases payable (Notes
1, 4 and 18)........................................................ 901,166 1,273,216
Net liability from discontinued operations (Note 15).................. 387,584 --
-
----------------- -----------------
Total current liabilities........................................... 4,969,778 3,145,076
-
----------------- -----------------
Notes, loans, and capitalized leases payable, less current portion
(Notes 1, 3, 4, and 18)............................................... 734,279 523,701
-
----------------- -----------------
Total liabilities................................................... 5,704,057 3,668,777
-
----------------- -----------------
Commitments and contingencies (Notes 5, 9, 15 and 18)
Stockholders' equity (Notes 6, 14, 16 and 18):
Series A and B Convertible Preferred Stock, no par value, 1,000,000
shares authorized, 3,500 issued and outstanding in 1996............. 4,182,790 --
Common stock, $.001 par value, 70,000,000 shares authorized, 8,714,652
and 15,206,259 issued and outstanding............................... 35,754,611 42,640,107
Shareholder note receivable........................................... -- (562,500)
Accumulated deficit................................................... (34,852,699) (34,717,391)
-
----------------- -----------------
Total stockholders' equity.......................................... 5,084,702 7,360,216
-
----------------- -----------------
Total liabilities and stockholders' equity.......................... $ 10,788,759 $ 11,028,993
-
-
----------------- -----------------
----------------- -----------------
See accompanying summary of significant accounting policies and
notes to consolidated financial statements.
29
MONTEREY PASTA COMPANY
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED
--------------------------------------------
1995 1996 1997
-------------- ------------- -------------
Net revenues (Note 11)............................................. $ 18,715,826 $ 24,492,403 $ 23,446,780
Cost of sales...................................................... 11,111,379 15,851,120 13,761,013
-------------- ------------- -------------
Gross profit....................................................... 7,604,447 8,641,283 9,685,767
Selling, general and administrative (Notes 10 and 13).............. 8,460,031 16,237,609 8,723,887
Loss on disposition or impairment of assets (Note 3)............... -- 571,544 259,480
-------------- ------------- -------------
Operating income (loss)............................................ (855,584) (8,167,870) 702,400
Interest income (expense), net (Note 4)............................ (492,681) (430,968) (211,438)
Other income, net (Note 7)......................................... 51,084 145,808 4,135
-------------- ------------- -------------
Income (loss) from continuing operations before provision for
income taxes..................................................... (1,297,181) (8,453,030) 495,097
Provision for income taxes (Note 8)................................ -- -- 20,691
-------------- ------------- -------------
Income (Loss) from continuing operations........................... (1,297,181) (8,453,030) 474,406
Discontinued operations (Note 15):
Loss from operations and disposition............................. (18,476,706) -- --
(Loss) recovery during phase-out period.......................... (2,802,622) 219,998 36,882
-------------- ------------- -------------
Net income (loss).................................................. $ (22,576,509) $ (8,233,032) $ 511,288
-------------- ------------- -------------
-------------- ------------- -------------
Net income (loss) per common share and common equivalent share
(Note 14):
Net income (loss) from continuing operations....................... $ (1,297,181) $ (8,453,030) $ 474,406
Dividends to preferred and certain common shareholders (Note 6).... -- (1,108,343) (317,647)
-------------- ------------- -------------
Net income (loss) from continuing operations attributable to common
shareholders..................................................... $ (1,297,181) $ (9,561,373) $ 156,759
-------------- ------------- -------------
-------------- ------------- -------------
Basic and diluted income (loss) per share:
Continuing operations............................................ $ (0.20) $ (1.16) $ .02
Discontinued operations.......................................... $ (3.30) $ 0.03 $ .00
-------------- ------------- -------------
Net income (loss) per common share................................. $ (3.50) $ (1.13) $ .02
-------------- ------------- -------------
-------------- ------------- -------------
Weighted average common and common equivalent shares outstanding... 6,440,198 8,276,608 10,458,451
-------------- ------------- -------------
-------------- ------------- -------------
Dividends on common shares......................................... $ -- $ -- $ --
-------------- ------------- -------------
-------------- ------------- -------------
See accompanying summary of significant accounting policies and
notes to consolidated financial statements.
30
MONTEREY PASTA COMPANY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED 1995, 1996, AND 1997
PREFERRED STOCK COMMON STOCK SHAREHOLDER
---------------------- --------------------- NOTE ACCUMULATED
SEE NOTE 6 SHARES AMOUNT SHARES AMOUNT RECEIVABLE DEFICIT TOTAL
- ----------------------------------------- ----------- --------- --------- ---------- ----------- ------------ -----------
Balance, end of 1994..................... -- $ -- 6,057,500 $23,390,174 $ -- $(2,993,158) $20,397,016
Exercise of stock options, at an average
net price per share of $6.12........... -- -- 15,733 96,305 -- -- 96,305
Issuance of common stock through Employee
Stock Purchase Plan, at an average net
price per share of $5.63............... -- -- 879 4,950 -- -- 4,950
Issuance of common stock, less offering
costs of $123,424, at an average net
price per share of $6.83............... -- -- 300,000 2,047,573 -- -- 2,047,573
Issuance of common stock, less offering
costs of $264,339, at an average net
price per share of $3.89............... -- -- 445,000 1,729,261 -- -- 1,729,261
Issuance of notes payable with beneficial
conversion feature (Note 6)............ -- -- -- 705,907 -- -- 705,907
Net loss................................. -- -- -- -- -- (22,576,509) (22,576,509)
----- --------- --------- ---------- ----------- ------------ -----------
Balance, end of 1995..................... -- -- 6,819,112 27,974,170 -- (25,569,667) 2,404,503
Conversion of 7% note payable plus
accrued interest, less costs of
$264,951, at an average net price per
share of $4.78 (including $705,907
discount recorded in 1995)............. -- -- 933,711 3,755,505 -- -- 3,755,505
Issuance of common stock in payment of
penalties related to conversion of 7%
note, at an average net price per share
of $5.06............................... -- -- 39,506 200,000 -- -- 200,000
Issuance of common stock in private
placement, net of offering costs of
$222,147, at an average net price per
share of $4.13......................... -- -- 916,000 3,785,353 -- -- 3,785,353
Issuance of common stock in payment of
lease settlement to a related party, at
an average net price per share of
$6.58.................................. -- -- 5,323 35,000 -- -- 35,000
Issuance of Series A and B convertible
preferred stock, net of offering costs
of $146,938 plus deemed dividend, at an
average net value per share of
$1,195.08.............................. 3,500 4,182,790 -- -- -- (875,000) 3,307,790
Deemed dividend of $50 per share on
preferred stock........................ -- -- -- -- -- (175,000) (175,000)
Issuance of common stock under Employee
Stock Purchase Plan, at an average
price per share of $4.58............... -- -- 1,000 4,583 -- -- 4,583
Net loss for the year.................... -- -- -- -- -- (8,233,032) (8,233,032)
----- --------- --------- ---------- ----------- ------------ -----------
Balance, end of 1996..................... 3,500 $4,182,790 8,714,652 $35,754,611 $ -- ($34,852,699) $ 5,084,702
----- --------- --------- ---------- ----------- ------------ -----------
----- --------- --------- ---------- ----------- ------------ -----------
See accompanying summary of significant accounting policies and
notes to consolidated financial statements.
31
MONTEREY PASTA COMPANY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED 1995, 1996, AND 1997 (CONTINUED)
PREFERRED STOCK COMMON STOCK SHAREHOLDER
---------------------- --------------------- NOTE ACCUMULATED
SHARES AMOUNT SHARES AMOUNT RECEIVABLE DEFICIT TOTAL
----------- --------- --------- ---------- ----------- ------------ -----------
Conversion of Series B-1 Shares to
Common Stock.......................... (500) (593,542) 345,490 582,372 -- -- (11,170)
Issuance of common stock in private
placement, net of offering costs of
$145,407, at an average net price per
share of $1.259....................... -- -- 1,600,000 1,960,448 -- -- 1,960,448
Conversion of A-1 shares to common
stock................................. (3,000) (3,589,248) 4,108,108 3,523,343 -- -- (65,905)
Options granted in lieu of fees......... -- -- -- 27,095 -- 27,095
Employee Stock Plan purchases........... -- -- 1,225 2,513 -- -- 2,513
Issuance of 550,000 shares of common
stock at $1.875 to CEO Ken Steel in
exchange for promissory note.......... -- -- 550,000 1,031,250 (1,031,250) -- --
Steel share forfeitures................. -- -- (250,000) (468,750) 468,750 -- --
Deemed dividends paid in shares......... -- -- 136,784 227,225 -- (227,225) --
Deemed and actual dividends paid in
cash.................................. -- -- -- -- -- (148,755) (148,755)
Net income for the year................. -- -- -- -- -- 511,288 511,288
----------- --------- --------- ---------- ----------- ------------ -----------
Balance, end of 1997.................... -- $ -- 15,206,259 $42,640,107 $(562,500) ($34,717,391) $ 7,360,216
----------- --------- --------- ---------- ----------- ------------ -----------
----------- --------- --------- ---------- ----------- ------------ -----------
See accompanying summary of significant accounting policies and
notes to consolidated financial statements.
32
MONTEREY PASTA COMPANY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED
------------------------------------------
SEE NOTE 12--SUPPLEMENTAL CASH FLOW INFORMATION 1995 1996 1997
- -------------------------------------------------------------------- ------------ ------------- -------------
Cash flows from operating activities:
Net Income (Loss) from continuing operations........................ $ (1,297,181) $ (8,453,030) $ 474,406
Adjustments to reconcile income from continuing operations to net
cash used in operating activities:
Depreciation and amortization..................................... 685,742 918,585 960,527
Provisions for allowances for bad debt, returns, adjustments and
spoils.......................................................... -- 771,018 (591,408)
Inventory reserves................................................ -- 15,000 --
Loss on disposition and writedown of property and equipment....... -- 571,554 259,480
Expenses paid in common stock and options......................... -- 228,363 27,095
Changes in assets and liabilities:
Accounts receivable........................................... (379,103) (1,199,134) (179,971)
Inventories................................................... (199,950) (425,001) 286,431
Prepaid expenses, intangible assets and other................. (947,732) 1,160,918 (917,957)
Accounts payable.............................................. 738,745 (798,281) (594,149)
Accrued expenses.............................................. 592,018 1,094,530 (613,002)
------------ ------------- -------------
Net cash used in continuing operations.......................... (807,461) (6,115,478) (888,548)
Net cash used in discontinued operations........................ (7,668,088) (1,967,602) (137,902)
------------ ------------- -------------
Net cash used in operating activities........................... (8,475,549) (8,083,080) (1,026,450)
------------ ------------- -------------
Cash flows from investing activities:
Redemption of held-to-maturity securities......................... 1,023,209 -- --
Purchase of property and equipment................................ (1,566,895) (1,968,360) (480,977)
Proceeds from sale of property and equipment...................... -- 75,383 159,095
Proceeds from sale of subsidiary.................................. -- 1,000 --
Advances to related party......................................... -- (350,000) --
------------ ------------- -------------
Net cash used in investing activities......................... (543,686) (2,241,977) (321,882)
------------ ------------- -------------
Cash flows from financing activities:
Bank overdrafts................................................... -- 845,372 (839,680)
Proceeds from revolving line of credit............................ -- 20,081,967 15,078,913
Repayments on revolving line of credit............................ -- (19,194,071) (14,714,032)
Proceeds from long-term debt...................................... 4,010,549 457,474 --
Securities issue costs............................................ -- -- (71,308)
Debt issuance costs............................................... -- (64,951) --
Repayment of long-term debt and capital lease obligations......... (126,914) (111,615) (253,364)
Dividends on preferred stock...................................... -- -- (148,755)
Proceeds from issuance of preferred stock......................... -- 3,307,790 --
Proceeds from issuance of common stock............................ 3,878,089 3,789,936 1,982,057
------------ ------------- -------------
Net cash provided by financing activities..................... 7,761,724 9,111,902 1,033,831
------------ ------------- -------------
Net decrease in cash................................................ (1,257,511) (1,213,155) (314,501)
Cash and cash equivalents, beginning of period...................... 3,195,395 1,937,884 724,729
------------ ------------- -------------
Cash and cash equivalents, end of period............................ $ 1,937,884 $ 724,729 $ 410,228
------------ ------------- -------------
------------ ------------- -------------
See accompanying summary of significant accounting policies and
notes to consolidated financial statements.
33
MONTEREY PASTA COMPANY
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION AND NATURE OF OPERATIONS
The consolidated financial statements include the accounts of Monterey Pasta
Company (a producer and distributor of pasta and pasta sauces), together with
its wholly-owned subsidiaries, Upscale Food Outlets, Inc. (a chain of fast food
restaurants serving the Company's product--through April 1996) and Monterey
Pasta Development Company (a franchiser of restaurants--inactive). All
significant intercompany accounts and transactions have been eliminated in
consolidation. Collectively, Monterey Pasta Company, Upscale Food Outlets, Inc.
and Monterey Pasta Development Company are referred to as the "Company." As
discussed in Note 15, the Company discontinued the operations of Upscale Food
Outlets, Inc. and Monterey Pasta Development Company effective December 31,
1995. Accordingly, the restaurant and franchise businesses are accounted for as
discontinued operations in the accompanying consolidated financial statements
for all periods presented.
The Company's production facility is located in Monterey Country,
California. The principal markets for the Company's food products are the
Western and Northeastern United States. The principal customers are retail
groceries and club stores. The Company offers credit and payment terms to its
customers in line with industry practices, generally calling for unsecured trade
accounts receivable.
ACCOUNTING PERIODS
For quarterly reporting purposes the Company employs a 4 week, 4 week,
5-week reporting period. The fiscal year ends on the last Sunday of each
calendar year (a 52/53 week year). The 1995, 1996 and 1997 fiscal years ended on
December 31, 1995 (52 weeks), December 29, 1996 (52 weeks), and December 28,
1997 (52 weeks), respectively.
RECLASSIFICATIONS
Certain of the 1996 financial statement amounts have been reclassified to
conform to the 1997 presentation.
CASH AND CASH EQUIVALENTS
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents.
ACCOUNTS RECEIVABLE AND ALLOWANCES
The Company provides reserves for estimated credit losses, product returns,
spoilage, and adjustments at a level deemed appropriate to adequately provide
for known and inherent risks related to such amounts. The allowances are based
on reviews of loss, return, spoilage, adjustment history, contractual
relationships with customers, current economic conditions, and other factors
that deserve recognition in estimating potential losses. While management uses
the best information available in making its determination, the ultimate
recovery of recorded accounts, notes, and other receivables is also dependent on
future economic and other conditions that may be beyond management's control.
However, as a means of reducing risk the Company has converted nearly 80% of its
customers, representing over 80% of sales volume, to "swell" allowances. Swell
allowances limit sales allowances to not exceed a specific percent, thereby
controlling the allowance level. Total sales allowances were 13.3 percent of
gross sales in 1997 vs. 21.7 percent in 1996, an 8.4 percent reduction.
34
MONTEREY PASTA COMPANY
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
INVENTORIES
Inventories are stated at the lower of cost (using the first-in, first-out
method) or market and consist principally of component ingredients to the
Company's refrigerated pasta and sauces, finished goods, and packaging
materials.
SLOTTING AND ADVERTISING COSTS
The Company expenses advertising costs as incurred or when the related
campaign commences. Slotting fees paid or credited to club stores and grocery
chains for shelf space allocations are amortized over the life of the agreement,
generally one year.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost. Depreciation is provided for on
the straight-line method over the estimated useful lives of the assets (or lease
term for leasehold improvements if shorter):
7 to 20
Leasehold improvements years
7 to 12
Machinery and equipment years
5 to 15
Office furniture and equipment years
Vehicles 5 to 7 years
Long-lived assets, including intangible assets, are assessed for possible
impairment whenever events or changes in circumstances indicate that the
carrying amounts may not be recoverable, or whenever management has committed to
a plan to dispose of the assets. Assets to be held and used affected by such an
impairment loss are depreciated or amortized at their new carrying amount over
the remaining estimated life; assets to be sold or otherwise disposed of are not
subject to further depreciation or amortization.
INTANGIBLE ASSETS
Intangible assets consist of tradenames and other intangibles recorded at
cost, net of accumulated amortization of $201,356 and $240,470 in 1996 and 1997,
respectively.
INCOME TAXES
The Company accounts for corporate income taxes in accordance with SFAS No.
109, "Accounting for Income Taxes", which requires an asset and liability
approach. This approach results in the recognition of deferred tax assets
(future tax benefits) and liabilities for the expected future tax consequences
of temporary timing differences between the book carrying amounts and the tax
basis of assets and liabilities. Future tax benefits are subject to a valuation
allowance to the extent of the likelihood that the deferred tax assets may not
be realized.
REVENUE RECOGNITION
The Company recognizes revenues through sales of pasta and sauce products
primarily to grocery and club store chains. Sales are recorded when goods are
shipped for most customers and upon delivery to retail locations for the Direct
Store Delivery program. Consignment shipments to club store warehouses are
recognized upon shipment to individual club store locations. Potential returns,
adjustments and spoilage allowances are provided for in accounts receivable
allowances and accruals.
35
MONTEREY PASTA COMPANY
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
STOCK-BASED COMPENSATION
Effective January 1, 1996, the Company adopted the provisions of SFAS No.
123, "Accounting for Stock-Based Compensation". Under this standard, companies
are encouraged, but not required, to adopt the fair value method of accounting
for employee stock-based transactions. Under the fair value method, compensation
cost is measured at the grant date based on the fair value of the award and is
recognized over the service period, which is usually the vesting period.
Companies are permitted to continue to account for employee stock-based
transaction under Accounting Principles Board Opinion (APB) No. 25, "Accounting
for Stock Issued to Employees," but are required to disclose pro forma net
income and earnings per share as if the fair value method had been adopted. The
Company has elected to continue to account for stock-based compensation under
APB No. 25 (see Note 6).
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amount of assets and liabilities,
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the period.
Actual results could differ from those estimates.
NEW ACCOUNTING PRONOUNCEMENTS
On March 3, 1997 the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards (SFAS) No. 128 "Earnings per Share." This
pronouncement provides a different method of calculating earnings per share than
is currently used in accordance with APB No. 15, "Earnings per Share" (see Note
14). SFAS No. 128 provides for the calculation of Basic and Diluted earnings per
share. Basic earnings per share includes no dilution and is computed by dividing
income available to common shareholders by the weighted average number of common
shares outstanding for the period. Diluted earnings per share reflects the
potential dilution of securities that could share in the earnings of an entity,
similar to fully diluted earnings per share. Because of losses in 1995 and 1996,
and the decline in the market price below the exercise price of options and
warrants in all periods, other potentially dilutive securities have an
antidilutive effect in all periods. Accordingly, calculations under the new
standard, which was adopted in 1997, were the same as those under the prior
method.
During 1997, the Financial Accounting Standards Board released SFAS No. 130,
REPORTING COMPREHENSIVE INCOME. SFAS 130, which is effective for fiscal years
beginning after December 15, 1997, establishes standards for reporting and
display of comprehensive income and its components in the entity's financial
statements. The objective of SFAS 130 is to report a measure of all changes in
the equity of an enterprise that result from transactions and other economic
events of the period. Comprehensive income is the total of net income and all
other non-owner changes in equity. SFAS 130 does not address issues of
recognition or measurement for comprehensive income and its components, and
therefore, it will not have an impact on the financial condition or results of
the Company upon operation.
The Financial Accounting Standards Board also recently released SFAS 131,
DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION. This
Statement, which is also effective for fiscal years beginning after December 15,
1997, requires reporting of financial and descriptive information about
reportable operating segments. Operating segments are components of an
enterprise about which separate financial information is available that is
evaluated regularly by the chief operating decision maker in deciding how to
allocate resources and in assessing performance. The Company operates in only
one business segment, production and distribution of pasta and related products,
and thus believes this new Statement will have no impact on disclosure,
financial conditions, or results of operations.
36
MONTEREY PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. CONCENTRATION OF CREDIT RISK AND FAIR VALUE OF FINANCIAL INSTRUMENTS
CONCENTRATION OF CREDIT RISK
Financial instruments which potentially subject the Company to concentration
of credit risk include cash and accounts receivable.
The Company maintains its cash accounts in Imperial Bank, Fresno,
California. The total bank cash balances are insured by the Federal Deposit
Insurance Corporation (FDIC) up to $100,000. A summary of total insured and
uninsured balances as of December 29, 1997 is as follows:
CASH AND CASH EQUIVALENTS
----------------------------------
COMMERCIAL
BANKS OTHER TOTAL
----------- --------- ----------
Amounts per bank and financial institution records........................... $ 395,860 $ 14,368 $ 410,228
Portion insured by FDIC...................................................... 100,000 -- 100,000
----------- --------- ----------
Uninsured amounts........................................................ $ 295,860 $ 14,368 $ 310,228
----------- --------- ----------
----------- --------- ----------
FAIR VALUE OF FINANCIAL INSTRUMENTS
At December 29, 1996 and December 28, 1997, estimated fair values for the
Company's financial instruments and methods and assumptions used in estimating
fair values were as follows:
1996 1997
-------------------------- --------------------------
CARRYING ESTIMATED CARRYING ESTIMATED
AMOUNT FAIR VALUE AMOUNT FAIR VALUE
------------ ------------ ------------ ------------
Cash and Cash Equivalents: the carrying amount in the
balance sheet approximates fair value.................. $ 724,729 $ 724,729 $ 410,228 $ 410,228
Accounts Receivable, less allowances: the carrying amount
in the balance sheet approximates fair value due to the
relatively short-term maturity of the debt and the
reserves reducing the amounts to net realizable
value.................................................. 1,669,366 1,669,366 2,440,745 2,440,745
Notes and Loans Payable (credit facility): the carrying
amount approximates fair value since the interest
floats with the prime rate............................. 1,401,261 1,401,261 1,589,265 1,589,265
Capitalized Leases Payable: the fair value is estimated
based on current interest rates and comparable current
available terms........................................ 234,184 234,184 207,652 207,652
37
MONTEREY PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. INVENTORIES
1996 1997
------------ ------------
Inventories consisted of the following:
Production--Ingredients............................................................. $ 591,853 $ 602,428
Production--Finished goods.......................................................... 654,640 382,736
Paper goods and packaging materials................................................. 313,484 288,382
------------ ------------
1,559,977 1,273,546
Allowances for spoils and obsolescence.............................................. (55,000) (55,000)
------------ ------------
$ 1,504,977 $ 1,218,546
------------ ------------
------------ ------------
3. PROPERTY AND EQUIPMENT
1996 1997
------------- -------------
Property and equipment consisted of the following:
Leasehold improvements............................................................ $ 1,748,780 $ 1,809,946
Machinery and equipment........................................................... 4,187,535 4,459,088
Computers, office furniture and equipment......................................... 753,584 743,747
Vehicles.......................................................................... 574,877 233,942
------------- -------------
7,264,776 7,246,723
Less accumulated depreciation and amortization.................................... (1,588,242) (2,252,842)
------------- -------------
5,676,534 4,993,881
Construction in progress.......................................................... 24,368 63,965
------------- -------------
$ 5,700,902 $ 5,057,846
------------- -------------
------------- -------------
During 1996, the Company identified certain property and equipment assets
which were overvalued, obsolete and/or no longer being used in the Company's
operations. These assets consisted of equipment replaced in the renovation of
the Company's production facilities, equipment designed for sales to restaurant
and food service operations which the Company has discontinued, carts and kiosks
for alternative venue operations which have also been discontinued, and office
furniture and fixtures identified as excess or impaired in value. The bulk of
these assets, included in assets held for sale in the accompanying balance
sheet, were reduced to their estimated fair value of $326,701 at December 29,
1996, resulting in a loss on writedown of $406,070 in 1996 (included in loss on
disposition and impairment of assets in the accompanying statements of
operations). An additional writedown of $46,000 in 1996 related to office
furniture and fixtures identified as excess and/or impaired in value.
38
MONTEREY PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
4. NOTES, LOANS, AND CAPITALIZED LEASES PAYABLE
Year-end debt consisted of the following: 1996 1997
--------- ---------
Credit Facility:
Receivable and inventory revolver.................................. $ 420,116 $ 952,894
Equipment revolver................................................. 397,813 --
Equipment term loan................................................ 583,332 636,371
Capitalized leases payable........................................... 234,184 207,652
--------- ---------
1,635,445 1,796,917
Less current maturities............................................ 901,166 1,273,216
--------- ---------
$ 734,279 $ 523,701
--------- ---------
--------- ---------
CREDIT FACILITY
In July 1997, the Company negotiated a new lower interest rate $3,000,000
credit facility from a new financial institution to replace a former $3,000,000
facility secured by substantially all assets of the Company, and composed of the
following:
- Accounts receivable and inventory revolver for up to $1,500,000 with
interest at prime plus 2% (10.50% at December 28, 1997)
- Equipment revolver for up to $500,000 with interest at prime plus 2.25%
(10.75% at December 28, 1997), payable at $13,889 monthly, plus interest
- Term note for up to $1,000,000 plus interest at prime plus 2.25% (10.75%
at December 28, 1997 payable at $83,333 monthly, plus interest
Based on a 1997 profitability clause in the new Security and Loan Agreement,
the Company had its interest rate on all lines lowered by 1.5% effective
February 8, 1998.
The terms of the Credit Facility prohibit the payment of cash dividends
(except with written approval) on the Company's capital stock and restricts
payments for, among other things, repurchasing shares of its capital stock.
Other terms of the Credit Facility limit the Company with respect to, among
other things, (i) incurring additional indebtedness, (ii) adversely changing the
capital structure, and (iii) acquiring assets other than in the normal course of
business including specific limits on annual capital expenditures. As of
December 28, 1997, there were no violations of any loan covenants.
Because of the need to acquire a portion of the Company's Common shares
owned by Clearwater Fund IV, Ltd. common shares (See Note 6) with a capital
commitment of $2,690,263, the company recently asked the bank to increase its
credit facility by $1 million. On February 25, 1998 the bank approved the
following new credit facility with an expiration date of 7/24/98, and revised
the loan covenants to reflect the impact of the Clearwater transaction.
- Accounts receivable and inventory revolver for up to $1,500,000 with
interest at prime plus 1/2% (9.0% at 3/13/98)
- Equipment revolver for up to $500,000 with interest at prime plus 1/2%
(9.0% at 3/13/98) payable at $13,889 monthly, plus interest
39
MONTEREY PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
- A $2,000,000 term loan with interest at prime plus 1.5% (10% at 3/13/98)
and 24 payments of 83,334 per month.
Prior to the consummation of the stock repurchase and the effective date of
the new facility, the Company had $703,000 outstanding on its receivable and
inventory line and no other bank indebtedness. After the transaction its bank
debt was $3,393,000, of which $993,000 was outstanding on the receivables/
inventory line, $400,000 owing on the equipment line and $2,000,000 outstanding
on the term note (see also Note 6).
CAPITALIZED LEASES PAYABLE
The Company leases certain equipment under capitalized leases, including
refrigeration equipment located at retail sites of the Company's single largest
customer (see Note 11). The arrangements with the customer call for title of the
equipment to be transferred to the customer if it carries Company products
continuously through August of the year 2000. The lease which includes this
equipment (as well as other items) calls for monthly payments of $6,363,
including interest at 10.90%, plus a final purchase payment at fair value not to
exceed $40,664.
The leases are collateralized by the underlying equipment with book values
of $45,897, $246,352 and $236,403 in 1995, 1996 and 1997, respectively. Future
minimum lease payments consist of:
YEAR TOTAL
- ---------------------------------------------------------------------------------- ----------
1998.............................................................................. $ 96,280
1999.............................................................................. 88,917
2000.............................................................................. 68,258
2001.............................................................................. 7,479
----------
260,934
Less amounts representing interest................................................ 53,282
----------
Net capitalized leases............................................................ $ 207,652
----------
----------
PRINCIPAL PAYMENT MATURITIES
Notes, loans and capitalized leases payable require principal payments
(including the principal portion of capitalized leases above) as follows:
AMOUNT
------------
1998............................................................................ $ 1,273,216
1999............................................................................ 457,326
2000............................................................................ 59,739
2001............................................................................ 6,636
------------
$ 1,796,917
------------
------------
5. OPERATING LEASES
The Company currently leases production, warehouse and corporate office
space as well as certain equipment in Monterey County, California under both
month-to-month and non-cancelable operating lease agreements, expiring through
November 2004. The terms of the leases generally require the Company to pay
common area maintenance, taxes, insurance, and certain other costs.
40
MONTEREY PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Future lease payments due under non-cancelable operating leases with terms
of more than one year but before consideration of subleases entered into in 1997
and 1998 (see Note 18) are as follows:
YEAR LEASE AMOUNT SUBLEASE INCOME
- ------------------------------------------------------------- ------------- ---------------
1998......................................................... $ 521,000 $ 246,000
1999......................................................... 536,000 235,000
2000......................................................... 549,000 235,000
2001......................................................... 361,000 26,000
2002 and thereafter.......................................... 338,000 --
------------- ---------------
$ 2,305,000 $ 742,000
------------- ---------------
------------- ---------------
Gross rent expense under the leases for 1995, 1996, and 1997 was $300,362,
$544,072 and 509,225; rental income in 1997 was $158,100. During 1997, the
Company subleased its San Francisco premises to a large publishing company at a
slight premium to the rent for which it has contractual liability. The sublease
expires on the same date as the underlying lease.
6. STOCKHOLDERS' EQUITY
PREFERRED STOCK
During August, 1996, 3,000 shares of Series A Convertible Preferred and 500
shares of Series B Convertible Preferred stock were issued at an average stated
price of $1,000 per share under separate agreements amended in February and
April 1997. The shares were convertible to common stock at 80% of the market
price, as defined in the agreements. The $875,000 value of the guaranteed
contractual discount rate, which is additional yield to the investors, was
accounted for as a deemed dividend to the preferred shareholders (see Note 14).
The Company's agreements for Series A and B Convertible Preferred stock provided
for certain dividends, as well as penalties if the related Common conversion
shares were not registered by November 1, 1996.
Under the amended agreements, which called for the exchange of the
unconverted Series A and B shares for new Series A-1 and B-1 shares, $240,000
was paid to the holders of the Series A-1 stock on March 31, 1997, in lieu of
all prior penalties and dividends. Also, $30,000 was paid to the holder of
Series B-1 on April 4, 1997, in lieu of all prior penalties and dividends. An
additional $13,755 in penalties was incurred during the period from May 1, 1997
to May 6, 1997, the date of filing of the amended Registration Statement
covering the related conversion shares. Of this amount, $11,613 was paid to the
holder of the Series A-1 shares and $2,142 was paid to the B-1 shareholder. The
amended agreement for the Series B-1 Convertible Preferred stock called for
additional penalties if the Registration Statement was not declared effective by
July 31, 1997. The Registration Statement was not declared effective until
October 24, 1997. Therefore, $30,000 was paid to the holder of the B-1
Convertible Preferred Stock on November 3, 1997.
In lieu of dividends for Series A-1 called for under the original
agreements, the Company agreed to pay a total amount of $50,000 to holders of
the new Series A-1 stock, constituting an annualized dividend equal to four
percent (4%) of the purchase price of the Series A Preferred Stock through
December 28, 1996. The dividend was paid in the form of 37,037 shares of the
Company's common stock, valued at $62,500 based on 80% of the $1.6875 per share
market price on the day the Registration Statement was effective. No additional
dividends will be payable on the Series A-1 stock.
During March, 1997, one-half of the Series B Convertible Preferred stock,
with a face amount of $250,000 and a total book value of $298,771, was converted
into 160,256 shares of Common Stock having a
41
MONTEREY PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
market value of $312,500. Holders of the remaining unconverted Series B-1 stock
received an 8% annual dividend from April 1, 1997 forward, payable in each
quarter; with two dividends of $5,000 paid during 1997. The remaining Series B-1
Preferred Stock was converted to 207,894 shares of common stock in October,
1997. Of the 207,894 shares of common stock issued, 22,660 shares represented
penalty shares awarded due to late effectiveness of the Company's Registration
Statement.
In December, 1997 the $3,000,000 of Series A-1 Convertible Preferred Stock
was converted into 4,108,108 shares of common stock. On February 13, 1998, the
Company was notified by the NASDAQ Stock Market, Inc. ("NASDAQ") that the
Company's Series A convertible Preferred stock offering, as amended by the
Series A-1 Agreement in March of 1997 had violated Rule 4460(i)(l)9D)(ii) which
requires shareholder approval prior to the issuance of securities convertible
into common stock equal to, or in excess of, 20% of outstanding shares at the
time of issuance. The NASDAQ required the Company to repurchase 2,365,066
shares, held by Clearwater Fund IV, Ltd., or face delisting from the National
NASDAQ market.
After reviewing its options, Company management, in concert with the
Company's Board of Directors and its legal advisors, decided to begin
negotiations with the Clearwater Fund IV, Ltd. to repurchase 2,365,066 shares.
Negotiations were completed March 5, 1998 and the Company repurchased the shares
for a total consideration of $2,690,263 or $1.1375/share. Outstanding shares
after the repurchase are 12,841,193, for a reduction of 15.6%.
COMMON STOCK (SEE ALSO PREFERRED STOCK ABOVE AND NOTE 18)
During 1995, the Company issued 445,000 shares of its common stock at a
gross price of $4.48 per share and 300,000 shares of its common stock at a gross
price of $4.86 per share in two private placements.
During 1996, a $4,000,000 convertible note payable originally issued in 1995
plus accrued interest at 7% was converted into 933,711 shares of common stock at
an average gross price of $4.31 per share (before consideration of conversion
discount and costs). Included in the interest was $705,907 relating to a
guaranteed discount from market price upon conversion treated as interest
expense and an increase in the amounts credited to common stock. In addition,
39,506 shares valued at $5.06 per share were issued to the noteholder in payment
of a penalty due to a delay in the registration of the conversion shares with
the Securities and Exchange Commission.
In April 1996, the Company issued 916,000 shares of its common stock at a
gross price of $4.38 per share in a private placement. In June 1996, the Company
issued 5,323 shares of its common stock at a gross price of $6.58 per share to a
related party in payment of a lease termination settlement (see Note 7).
The Company adopted a Shareholder Rights Agreement in May, 1996 which gives
the shareholders the right to purchase one additional share of common stock at
$28 for each share of common stock owned. The Rights are exercisable upon
announcement of pending attainment by a person or entity who (together with all
affiliates) will become the beneficial owner, through purchase or by merger, of
securities representing 20% or more of the voting power of all common stock,
except in certain circumstances of stock acquisition or merger as permitted by a
vote of the majority of the non-officer members of the Board of Directors. The
Rights, which expire upon the earlier of consummation of a merger permitted by
vote of the Board as described above or December 31, 2004 may be redeemed by the
Company at $.001 each.
During 1997, a financing consultant for the Company was granted options to
buy 50,000 shares of common stock with an exercise price of $1.88, immediate
vesting and expiring March 12, 1998. The options expired unexercised.
42
MONTEREY PASTA COMPANY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
In April 1997, the Company issued 1,600,000 shares of its common stock at a
gross price of $1.35/share in a private placement. The shares were registered as
part of the Company Registration Statement on Form S-3 which was effective
October 24, 1997.
In April 1997, the Company's then current Chief Executive Officer agreed to
purchase 550,000 shares of common stock based on an agreement containing various
time-served and performance restrictions with a full recourse note due December
31, 1997. Certain of the performance restrictions were not met and 250,000
shares were forfeited during 1997, leaving 300,000 shares outstanding at
December 28, 1997. The note, with a remaining balance of $562,500, was converted
to a non-interest bearing non-recourse status effective December 31, 1997 with
an expiration date of December 31, 1999. Because the new note is non-recourse,
the shares and related note are treated for accounting purposes as canceled and
replaced with options. The $51,000 fair value of the resulting decreed option
grant will be charged to income on its December 31 grant date, during the first
quarter of 1998.
In May of 1997 an executive search firm was granted options to purchase
7,767 shares of Company common stock with an exercise price of $2.06, immediate
vesting, and a 3 year expiration.
During November of 1997 the Company issued 77,087 shares of common stock in
lieu of a guaranteed yield on the private placement common stock issued in
March, 1997. The yield was guaranteed at 8% from date of stock issuance until
effectiveness of the Company's Registration Statement on Form S-3. The
Registration Statement was effective on October 24, 1997 and $126,471 in
penalties had accumulated.
WARRANTS
In 1993, the Company issued warrants to purchase 205,000 shares of common
stock for $8.40 per share valid through December, 1998.
In April, 1996, the Company issued warrants to purchase 400,750 shares of
its common stock at $6.50 per share in connection with a placement of 916,000
shares of common stock. The warrants, with an estimated original value of
$137,400, are valid for seven years, and include registration rights for the
related shares which were registered effective October 24, 1997.
In March, 1997, the Company issued warrants for 532,800 shares of its common
stock at $2.25 per share in connection with a private placement of 1,600,000
shares of common stock. The warrants, with an estimated original value of
$271,700, are valid for three years, and included registration rights for the
related shares which were part of the Company's S-3 which was effective October
24, 1997.
STOCK OPTION PLAN
Effective August 31, 1993, the Company's Board of Directors adopted a stock
option plan, subsequently amended and restated, which provides for the granting
of incentive stock options or non-qualified stock options to eligible employees,
consultants and outside directors. The Company has reserved 1,740,000 shares of
its common stock for issuance under the plan. The plan provides that the option
price shall not be less than the fair market value of the shares on the date of
grant; therefore, no compensation expense is recorded for employees.
Compensation or other expense is recorded for any non-employee grants at fair
value of the option award. Options generally vest over a period of one to three
years and may be exercised for a period of up to ten years. In addition, certain
options were granted by the Board outside the plan in 1995. In January of 1998,
the Company filed a Form S-8 to register up to 540,000 shares of common stock
eligible to be issued pursuant to the Plan to increase the total number of
registered shares to 1,740,000.
43
The following table shows activity in outstanding options during 1995, 1996
and 1997.
1995 1996 1997
------------------------------ ------------------------------- ------------------------------
WEIGHTED AVERAGE WEIGHTED AVERAGE WEIGHTED AVERAGE
SHARES EXERCISE PRICE SHARES EXERCISE PRICE SHARES EXERCISE PRICE
--------- ------------------- ---------- ------------------- --------- -------------------
Outstanding at beginning of
year......................... 628,933 $ 7.16 1,236,348 $ 6.70 589,681 $ 5.26
Granted........................ 905,364 6.92 505,000 4.72 491,913 2.24
Exercised...................... (10,666) 6.03 -- -- -- --
Canceled....................... (287,283) 8.43 (1,151,667) 6.45 (233,513) 6.13
--------- ----- ---------- ----- --------- -----
Outstanding at end of year..... 1,236,348 $ 6.70 589,681 $ 5.26 848,081 $ 3.24
--------- ---------- ---------
--------- ---------- ---------
Options exercisable at year
end.......................... 334,824 $ 6.25 495,823 $ 4.97 572,379 $ 3.74
--------- ---------- ---------
--------- ---------- ---------
Weighted average fair value of
options granted during the
year......................... $ 3.31 $ 2.27 $ 0.97
The following table shows information for options outstanding or exercisable
as of December 28, 1997:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------- -------------------------------------
WEIGHTED WEIGHTED
AVERAGE WEIGHTED AVERAGE WEIGHTED
REMAINING AVERAGE REMAINING AVERAGE
NUMBER OF CONTRACTUAL EXERCISE NUMBER OF CONTRACTUAL EXERCISE
RANGE OF EXERCISE PRICES SHARES LIFE PRICE SHARES LIFE PRICE
- ----------------------------------- --------- ----------- ------------- --------- ----------- -------------
$0.00-2.99......................... 586,913 8.4 years $ 1.91/share 332,698 7.7 years $ 1.85/share
$3.00-4.99......................... 20,000 8.7 years $ 3.88/share 10,000 8.7 years $ 3.88/share
$5.00-6.99......................... 212,168 5.8 years $ 6.28/share 200,681 5.7 years $ 6.31/share
$7.00-8.88......................... 29,000 7.7 years $ 7.58/share 29,000 7.7 years $ 7.58/share
--------- ---------
Total.............................. 848,081 7.8 years $ 3.24/share 572,379 7.0 years $ 3.74/share
If the Company had elected the fair value method of accounting for
stock-based compensation, compensation cost would be accrued at the estimated
fair value of stock option grants over the service period, regardless of later
changes in stock prices and price volatility. The fair value at date of grant
for options granted in 1996 and 1997 has been estimated based on a modified
Black-Scholes pricing model with the following assumptions: no dividend yield
for any year; expected volatility for 1995, 1996 and 1997 grants of
approximately 44%, 46%, and 47% based on historical results; risk-free interest
rates of 6.65%, 6.6% and 6.59%; and expected lives of approximately five years
for all grants. The following table shows net loss and loss per share for 1995,
1996 and 1997 as if the Company had elected the fair value method of accounting
for stock options.
1995 1996 1997
-------------- ------------- -----------
Net income (loss) as reported......................................... $ (22,576,509) $ (8,233,032) $ 511,288
Additional compensation expense....................................... (383,714) (291,232) (478,988)
-------------- ------------- -----------
Proforma income (loss), as adjusted................................... (22,960,223) (8,524,264) 32,300
Dividends to preferred and certain common shareholders................ -- (1,108,333) (317,647)
-------------- ------------- -----------
Proforma income(loss) attributable to common shareholders............. $ (22,960,223) $ (9,632,597) $ (285,347)
-------------- ------------- -----------
-------------- ------------- -----------
Net income (loss) per share (basic and diluted)....................... $ (3.50) $ (1.13) $ 0.02
Additional compensation expense....................................... $ (0.06) $ (0.04) $ (0.05)
-------------- ------------- -----------
Net loss per share, as adjusted....................................... $ (3.56) $ (1.17) $ (0.03)
-------------- ------------- -----------
-------------- ------------- -----------
44
POTENTIAL DILUTION
Common Stock outstanding and the effect of convertible preferred stock,
options and warrants at year-end 1996 are summarized as follows (see also Note
18):
POTENTIAL
PROCEEDS
SHARES FROM EXERCISE
------------ -----------------
Common stock outstanding......................................................... 15,206,259
Stock options.................................................................... 848,081 $ 2,749,959
Warrants......................................................................... 1,138,550 5,525,675
------------
Balance 12/28/97 before share repurchase......................................... 17,192,890
Share repurchase at March, 5, 1998............................................... 2,365,066
------------
Balance after share repurchase................................................... 14,827,824
------------
------------
EMPLOYEE STOCK PURCHASE PLAN
In October 1994, the Company's Board of Directors adopted a qualified
employee stock purchase plan. Under the purchase plan, eligible employees (those
who have completed one year of continuous employment with the Company) may
purchase shares of the Company's common stock through payroll deductions not to
exceed 10% of gross wages. The Company has reserved 200,000 shares of its common
stock for issuance under the purchase plan, which remains in effect until
terminated by the Company's Board of Directors, or until all of the shares
reserved for under the purchase plan have been issued. Unless the Board has
otherwise provided a higher amount prior to the commencement of an offering
period, the offering exercise price for each purchase period is 85% of the
lesser of (a) the fair market value of the shares on the offering date of such
offering period or (b) the fair market value of the shares on the given purchase
date. There were 897, 1,000 and 1,225 shares of common stock issued under the
plan in 1995, 1996 and 1997, respectively.
7. RELATED PARTY TRANSACTIONS
The Company previously leased office space from a partnership in which a
limited partner is a Stockholder, former Director, former President and former
Chairman of the Board of the Company (see also Notes 9 and 15). Rent expense
under this lease in 1995 and 1996 was $175,308 and $150,108, respectively. The
Company vacated this space in February 1996, and paid $65,000 plus 5,323 shares
of its common stock (see Note 6) in settlement of the lease obligation.
During 1996, the Company also purchased certain office furniture and
equipment under a prior agreement from the stockholder referred to above for
$100,000. Certain of the furniture purchased was reduced to its estimated fair
value in 1996, resulting in a writedown of $55,000 (see Note 3).
Also during 1996, the Company repaid $112,500, previously received from a
potential franchisee, to a trust controlled by the stockholder referred to above
in connection with termination of franchising operations.
Upscale Food Outlets, Inc. (UFO) was purchased from the Company in April,
1996 by an entity owned by the stockholder referred to above. During 1996, the
Company sold $62,350 in food products to UFO (see Notes 15 and 16). Of this
amount, $18,738 was not collected, and was and written off during 1997.
In addition, Other Income in 1996 includes $73,750 in short-swing profits
recovered from the stockholder referred to above pursuant to Section 16(b) of
the Securities & Exchange Act of 1934.
The Company's former Chief Executive Officer, who is also a Director and
Stockholder, is a director and stockholder of an entity from whom the Company
contracted certain co-packing service and obtained raw materials at terms and
prices similar to other third-party vendors. Another director, stockholder and
45
Chief Executive Officer of the related entity is also a co-founder, Director and
Stockholder of the Company. Payments to the related entity were $186,513 during
1996. In 1997, payments of $1,132 and billings of $18,703 for raw materials
purchases were made to this entity.
During 1995 and 1996, the Company paid $72,803 and $12,833 in operations
consulting fees to an entity owned by a Director of the Company. During 1995 and
1996, the Company made payments of $57,098 and $137,252, in connection with
purchases of carts and kiosks from another entity. The co-founder, director and
executive vice president of this entity is also a Director of the Company.
During 1996, these carts and kiosks were reduced to their estimated fair market
value resulting in a loss of $221,569 (see Note 3).
During 1997 the Company granted 50,000 options to a Director with a fair
market value of $22,357 in exchange for consulting services. The options had an
exercise price of $1.88, immediate vesting and expired March 12, 1998.
8. INCOME TAXES
The Company's income tax expense in 1997 consists of $20,961 for current
State taxes; there was no tax expense in 1995 or 1996. A reconciliation between
the Company's effective tax rate and U.S. federal income tax rate on loss from
continuing operations follows:
1995 1996 1997
--------- --------- ---------
Federal statutory rate.............................................................. (34.0)% (34.0)% 34.0%
State income taxes, net............................................................. (6.0)% (6.0)% 7.7%
Non-deductible meals and entertainment.............................................. -- .1% 3.8%
Net operating losses for which tax benefits are reduced by valuation allowances..... 40.0% 40.6% --
Absorption of net operating losses for which income taxes had been reduced by
valuation allowances.............................................................. -- -- (22.5)%
Other............................................................................... -- (.7)% (19.0)%
--------- --------- ---------
Effective income tax rate........................................................... 0.0% 0.0% 4.0%
--------- --------- ---------
--------- --------- ---------
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components of
the Company's deferred tax assets are as follows:
1996 1997
-------------- --------------
Federal net operating loss carryforward........................................... $ 12,039,000 $ 12,247,000
Reserves for restructure and discontinued operations.............................. 132,000 72,000
Depreciation, amortization and writedown on fixed assets.......................... (315,000) (241,000)
State income and franchise taxes, net of effect on Federal income taxes........... 915,000 873,000
Other............................................................................. 499,000 182,000
-------------- --------------
13,270,000 13,133,000
Less valuation allowance.......................................................... (13,270,000) (13,133,000)
-------------- --------------
Net deferred tax assets........................................................... $ -- $ --
-------------- --------------
-------------- --------------
Since the Company could not determine that it was more likely than not that
the deferred tax assets would be realized, a 100% valuation allowance was
provided in 1996 and 1997.
At December 28, 1997, the Company had tax net operating loss carryforward
(NOL) of approximately $37 million and $14 million for Federal and State tax
purposes, which expire in varying amounts through
46
2012. Should significant changes in the Company's ownership occur, the annual
amount of NOL carryforwards available for future use would be limited.
9. LITIGATION AND CONTINGENCIES
There are no material pending legal proceedings, other than routine
litigation incidental to the Company's business, to which the Company is a party
or to which any of its property is subject. The Company's former restaurant
subsidiary, UFO, has been a defendant in several lawsuits alleging breach of
lease relating to restaurants closed in 1995 and 1996. As disclosed in Note 15,
the Company sold UFO in 1996, and contractually UFO continues to have sole
responsibility for such litigation. Although there can be no assurance given as
to the results of such legal proceedings, based upon information currently
available, management does not believe these proceedings will have a material
adverse effect on the financial position or results of operations of the
Company.
On August 5, 1997, Lance H. Mortensen, former President, Chief Executive
Officer and Director of the Company, filed a complaint against the Company for
breach of the implied covenant of good faith and fair dealing. Mr. Mortensen
alleges that he is entitled to at least $310,919 pursuant to a written
employment agreement. That agreement contained a binding arbitration provision.
The arbitration is scheduled for March 18 and 19 of 1998 and the Company intends
to vigorously contest Mr. Mortensen's claim. On November 25, 1997 Mr. Mortensen
was awarded a writ of attachment in the amount of $251,185 pending resolution of
the suit. As a result, in 1998, the Company purchased a bond secured by a letter
of credit with its bank for the amount of the attachment. The writ will be
released upon settlement of the arbitration. The Company has insurance coverage
for the employee benefits portion of the claim, $55,919, and the insurance
company has committed to pay legal costs emanating from the defense of the
claim.
10. SLOTTING AND ADVERTISING COSTS
Included in the balance sheet under "Prepaid Expenses and Other" are
slotting and advertising costs of $385,929 and $1,326,925 at December 29, 1996
and December 28, 1997, relating primarily to slotting fees paid or credited to
club stores and grocery chains for shelf space allocations. Total advertising
expenses and slotting fees included in Selling, General and Administrative
expenses in the accompanying statements of operations for 1996 were $3,635,796,
including $780,106 in writedowns to net realizable value in the third and fourth
quarters of 1996. In 1997 the company incurred expenses of $1,143,922 in this
category.
11. SIGNIFICANT CUSTOMERS
Costco, Sam's Club Stores and Safeway each accounted for portions of total
revenues as follows:
1995 1996 1997
----- ----- -----
Costco............................................................................. 47% 41% 50%
Sam's Club Stores.................................................................. 0% 0% 12%
Safeway............................................................................ 12% 9% 8%
At December 29, 1996 two customers accounted for 11% and 32% of trade
accounts receivable. At December 29, 1997, one customer accounted for 37% of
trade accounts receivable.
The Company currently sells its products to four separate Costco regions
which makes purchasing decisions independently of one another. On a regular
basis, these regions re-evaluate the products carried in their stores. There can
be no assurance that these Costco regions will continue to offer Monterey
Pasta's products in the future or continue to allocate Monterey Pasta the same
amount of shelf space. Currently, the loss of either Costco or Safeway would
materially adversely affect the Company's business operations.
No other single customer accounted for more than 10% of revenues or accounts
receivable.
47
12. SUPPLEMENTAL CASH FLOW INFORMATION FOR 1995, 1996 AND 1997
1995 1996 1997
------------ ------------ ----------
CASH PAYMENTS:
Interest................................................................ $ 18,308 $ 313,155 $ 255,145
Debt issue costs........................................................ -- 64,951 --
NON-CASH OPERATING ACTIVITIES:
Charges and adjustments to reserve for discontinued operations.......... 2,964,415 260,229 36,882
Fair value of options granted in return for services.................... -- -- 27,095
Expense paid in common stock............................................ -- 228,363 --
NON-CASH FINANCING AND INVESTING ACTIVITIES:
Conversion of long term debt to common stock............................ -- 4,461,412 --
Transfer of fixed assets to assets held for sale........................ -- 326,701 --
Issuance of note receivable in sale of subsidiary....................... -- 2,500,000 --
Issuance of common stock in payment of expenses or assets............... -- 235,000 --
Capitalization of leased equipment...................................... -- 271,091 49,955
Deemed dividends on preferred and private placement common stock paid in
shares................................................................ -- 1,050,000 227,225
Purchase of restricted shares for note receivable net of forfeiture
portion............................................................... -- -- 562,500
13. EMPLOYEE BENEFIT PLAN
In 1996, the Company instituted a 401(k) Plan covering substantially all
full-time employees with six months of service. Under the Plan, employees may
elect to defer up to 15% of compensation (subject to certain limitations).
One-half of employee contributions up to 6% of compensation are matched by the
Company. In addition, the Company may make an annual discretionary
profit-sharing contribution. Employee contributions, Company matching
contributions and related earnings are always 100% vested. Company
profit-sharing contributions and related earnings vest 20% a year, with 100%
vesting after five years of service. During 1996 and 1997, the Company's expense
for matching contributions was $21,970 and $31,362, respectively; there was no
profit-sharing contribution for 1996 or 1997.
14. EARNINGS PER SHARE
Basic earnings per share are based on the weighted-average number of common
shares actually outstanding during the period. Diluted earnings per share also
include any dilutive common stock equivalents assumed to be outstanding during
the period (no includable equivalents in any period presented). The 1996 losses
are also increased by $1,108,333 for dividends on preferred stock (see Note 6),
representing amounts unavailable to actual or potential common shareholders. The
1997 net income was reduced by $317,647 for deemed dividends on preferred stock
and private placement common stock. Because of equivalent shares includable in
different periods or at different amounts, per-share amounts for the four
quarters do not necessarily equal per-share amounts for the entire year.
Options to purchase 1,226,348, 589,681, and 848,081 shares of common stock
were outstanding at year end 1995, 1996, and 1997, respectively but were not
included in the computation of diluted earnings per share because the options
exercise prices were greater than the average market price of the common shares.
Warrants to purchase 205,000, 605,750 and 1,138,550 shares at year end 1995,
1996 and 1997, respectively, were not included for the same reason.
48
15. DISCONTINUED OPERATIONS
In early 1996, the Company decided to discontinue the operations of its
restaurant and franchise subsidiaries, and wrote off the investment in those
subsidiaries effective as of December 31, 1995. In early 1996, all operations of
the franchising subsidiary, as well as agreements with two franchisees, were
terminated. In April 1996, the Company's restaurant subsidiary Update Food
Outlets, Inc. (UFO), was sold to Upscale Acquisitions, Inc. (Upscale), which is
wholly-owned by Mr. Lance Mortensen. Mr. Mortensen is the Chief Executive
Officer, president, and a director of Upscale. He is also a stockholder and
former director, Chairman of the Board, President, and Chief Executive Officer
of the Company.
The purchase price for the shares of UFO sold to Upscale was $1,000 cash
plus a note executed by Upscale for $2,500,000. In addition, under the
agreement, the Company advanced $350,000 to UFO subsequent to the purchase. The
purchase note is accounted for under the cost recovery method, which defers
recognition of income (or reduction of loss) until payments are received. The
cash advances were not accounted for under the cost recovery method but were
fully reserved at year end 1996 as possibly uncollectible. The note and advances
were written off during 1997.
Net revenues from the discontinued operations were $5,835,816 and $1,796,430
for 1995 and 1996 (prior to sale of UFO), respectively. Operating losses from
the discontinued operations were $13,586,374, and $839,314 for 1995, and 1996
(prior to sale of UFO), respectively. The total 1995 losses from discontinued
operations also included $4,890,332 losses from disposition and $2,802,622 in
losses during the phase-out period covering provisions related to 1996 losses
prior to sale of UFO, accruals related to discontinued operations, and
provisions to reduce the net assets from discontinued operations to their net
realizable value. The 1996 losses were charged directly to the resulting
reserves, as were other actual expenditures related to the restaurant and
franchising operations. During 1996 and 1997, the reserves were also reduced by
$219,998 to reflect adjustments of estimates to the actual Company expenditures.
Remaining reserves of $387,584 at the end of 1996 were utilized during 1997,
including a $36,882 recovery.
49
16. QUARTERLY INFORMATION (UNAUDITED)
The summarized quarterly financial data presented below reflect all
adjustments which, in the opinion of management, are of a normal and recurring
nature necessary to present fairly the results of operations for the periods
presented.
FIRST SECOND THIRD FOURTH
YEAR ENDED 1996 QUARTER QUARTER QUARTER QUARTER 1996
- ---------------------------------------- ------------ ------------ ------------- ------------- -------------
Net Revenue............................. $ 6,133,087 $ 6,716,498 $ 5,670,820 $ 5,971,998 $ 24,492,403
Gross profit............................ 2,603,672 3,194,949 752,085 2,090,577 8,641,283
Operating loss.......................... (481,651) (383,786) (5,957,038) (1,345,395) (8,167,870)
Loss from continuing operations......... (709,850) (450,482) (5,924,928) (1,367,770) (8,453,030)
Net loss................................ $ (709,850) $ (82,939) $ (5,924,928) $ (1,515,315) $ (8,233,032)
Basic and diluted earnings/(loss) per
common share (Note 14):
Continuing operations................. $ (0.10) $ (0.05) $ (0.75) $ (0.18) $ (1.16)
Discontinued operations............... 0.00 0.04 0.00 (0.01) 0.03
------------ ------------ ------------- ------------- -------------
Net loss............................ $ (0.10) $ (0.01 $ (0.75) $ (0.19) $ (1.13)
------------ ------------ ------------- ------------- -------------
------------ ------------ ------------- ------------- -------------
FIRST SECOND THIRD FOURTH
YEAR ENDED 1997 QUARTER QUARTER QUARTER QUARTER 1997
- ------------------------------------------ ------------ ------------ ------------ ------------ -------------
Net Revenue............................... $ 6,535,502 $ 5,552,631 $ 5,199,556 $ 6,159,091 $ 23,446,780
Gross profit.............................. 2,805,173 2,454,507 1,952,385 2,473,702 9,685,767
Operating Income (loss)................... (274,612) 237,286 349,336 390,390 702,400
Income (loss) from continuing
operations.............................. (335,049) 186,354 283,587 360,205 495,097
Net Income (loss)......................... $ (346,921) $ 220,126 $ 274,663 $ 363,420 $ 511,288
Basic and diluted earnings/(loss) per
common share (Note 14):
Continuing operations................... $ (0.05) $ 0.01 $ 0.02 $ 0.03 $ 0.02
Discontinued operations................. 0.00 0.00 0.00 0.00 0.00
------------ ------------ ------------ ------------ -------------
Net Income (loss) per share........... $ (0.05) $ 0.01 $ 0.02 $ 0.03 $ 0.02
------------ ------------ ------------ ------------ -------------
------------ ------------ ------------ ------------ -------------
17. LIQUIDITY AND CAPITAL RESOURCES
During 1997, the Company had operating income of $702,400 and used $888,548
in cash for continuing operations. In addition, the Company's net working
capital at December 28, 1997 was $2,444,000. As part of its plans to return to
profitable operations, the Company has:
- withdrawn from certain unprofitable markets and customers (See Note 3);
- renegotiated terms with certain other customers;
- realigned its marketing focus, reducing related slotting fees and
advertising expenditures (see Note 10);
- renegotiated agreements with preferred shareholders reducing certain
dividends and penalties (see Notes 6 and 18);
- relocated and centralized its corporate headquarters from San Francisco
into its manufacturing plant; located in Salinas, California (see Note
18); and
- reduced its headcount and related overhead.
50
- negotiated less expensive credit facilities.
- assumed a significant portion of services formerly provided by its CPA
firm and legal firms.
18. SUBSEQUENT EVENTS
EQUITY TRANSACTIONS
In April, 1997, the Company's then current Chief Executive Officer agreed to
purchase 550,000 shares of Common Stock based on an agreement containing various
time-served and performance conditions with a full recourse note due December
31, 1997. A portion of the shares were repurchasable by the Company at the
original price of $1.88 if the conditions were not met and, therefore, 250,000
shares were forfeited during 1997. On December 31, 1997, the note in the amount
of $562,500 was converted to non-interest bearing and was extended for two years
with an expiration of December 31, 1999. The shares have now been classified as
options and the $51,000 calculated as the fair market value in the Black-Scholes
model was recorded as an expense during the first quarter of 1998.
In March of 1998, the company repurchased 2,365,066 shares of its common
stock from Clearwater Fund IV, Ltd. for a per share price of $1.1375 and a total
consideration of $2,690,263 (See Note 6).
FINANCING TRANSACTIONS
As discussed in Note 4, the Company has a new credit facility in the amount
of $4 million effective March 3, 1998, necessitated by the repurchase of shares
from Clearwater Fund IV, Ltd.
OTHER
In February, 1998 the Company entered into an agreement to sublease a
portion of the Company's Salinas facility until August, 1998 when the Company
expects to occupy the area. Also in February, 1998 the Company acquired the
right to lease the remainder of the building's 1,365 square feet of office
space.
51
Schedule II
MONTEREY PASTA COMPANY
VALUATION AND QUALIFYING ACCOUNTS
ADDITIONS- DEDUCTIONS-
BALANCE, CHARGED TO WRITE-OFFS BALANCE,
BEGINNING COSTS AND CHARGED TO END OF
OF 1996 EXPENSE RESERVES 1996
---------- ------------ ----------- ----------
Allowances against Receivables--
Spoils, Returns, Adjustments and Bad Debts.................. $ 153,267 $ 1,061,566 $ 290,548 $ 924,285
Receivable from Related Party............................... -- 350,000 -- 350,000
Inventory Reserves--
Spoils and Obsolescence..................................... 40,000 55,000 40,000 55,000
ADDITIONS- DEDUCTIONS-
BALANCE, CHARGED TO WRITE-OFFS BALANCE,
BEGINNING COSTS AND CHARGED TO END OF
OF 1997 EXPENSE RESERVES 1997
---------- ------------ ----------- ----------
Allowances against Receivables--
Spoils, Returns, Adjustments and Bad Debts.................. $ 924,285 $ 109,608 $ 701,016 $ 332,877
Receivable from Related Party............................... 350,000 -- 350,000 --
Inventory Reserves--
Spoils and Obsolescence..................................... 55,000 55,000 55,000 55,000
52
SIGNATURES
Pursuant to the requirements of Section 13 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, in the city of San Francisco, State
of California, on the 26th day of March, 1998.
MONTEREY PASTA COMPANY
By: /s/ R. LANCE HEWITT
-----------------------------------
R. Lance Hewitt
President and Chief Executive
Officer
By: /s/ STEPHEN L. BRINKMAN
-----------------------------------
Stephen L. Brinkman
Chief Financial Officer
As of March 26, 1998, no Proxy statements or Annual reports have yet been
furnished to security holders. The Company expects to provide its annual report
to security holders by the end of April 1998, and will furnish copies of such
report to the Commission at that time.
53
SIGNATURES
Pursuant to the requirements of Section 13 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, in the city of San Francisco, State
of California, on the 26th day of March, 1998.
MONTEREY PASTA COMPANY
By: /s/ R. LANCE HEWITT
-----------------------------------
R. Lance Hewitt
President and Chief Executive
Officer
By: /s/ STEPHEN L. BRINKMAN
-----------------------------------
Stephen L. Brinkman
Chief Financial Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons in the capacities
indicated and on the date indicated.
NAME TITLE DATE
- ------------------------------------------------------ -------------------------------------- -----------------
/s/ CHARLES B. BONNER Director March 26, 1998
- -------------------------------------------
Charles B. Bonner
/s/ DANIEL J. GALLERY Director
- -------------------------------------------
Daniel J. Gallery
/s/ FLOYD R. HILL Director
- -------------------------------------------
Floyd R. Hill
/s/ GERARD P. MELIA Director
- -------------------------------------------
Gerard P. Melia
/s/ R. LANCE HEWITT President, Chief Executive Officer and
- ------------------------------------------- Director
R. Lance Hewitt
/s/ VAN TUNSTALL Director
- -------------------------------------------
Van Tunstall
/s/ JAMES WONG Director
- -------------------------------------------
James Wong
54
INDEX TO EXHIBITS
NUMBER EXHIBIT TITLE
- --------- -------------------------------------------------------------------------------------------------------
2.1 Agreement and Plan of Merger dated August 7, 1996 by and between Monterey Pasta Company, a California
corporation and Monterey Pasta Company, a Delaware corporation (incorporated by reference from Exhibit
A to the Company's Proxy Statement for the Special Meeting of Shareholders held on August 1, 1996,
filed with the Securities and Exchange Commission on June 27, 1996)
3.1 Certificate of Incorporation dated August 1, 1996 (incorporated by reference from Exhibit B to the
Company's Proxy Statement for the Special Meeting of Shareholders held on August 1, 1996, filed with
the Securities and Exchange Commission on June 27, 1996)
3.2 Certificate of Designations of Series A Convertible Preferred Stock (incorporated by reference from
Annex I to the Subscription Agreement dated July 31, 1996, filed as Exhibit 4.1 to the Company's Annual
Report on Form 10-K on April 14, 1997 ("1996 Form 10-K")
3.3 Certificate of Designations of Series B Convertible Preferred Stock (incorporated by reference from
Annex I to the Subscription Agreement dated August 9, 1996, filed as Exhibit 4.3 to the Company's
Annual Report on Form 10-K on April 14, 1997 ("1996 Form 10-K")
3.4 Bylaws of the Company (incorporated by reference from Exhibit C to the Company's Proxy Statement for
the Special Meeting of Shareholders held on August 1, 1996, filed with the Securities and Exchange
Commission on June 27, 1996)
3.5 Certificate of Designations of Series A-1 Convertible Preferred Stock (incorporated by reference from
Exhibits with corresponding numbers filed with the Company's Annual Report on Form 10-K/A on April 29,
1997, "1996 Form 10K/A")
3.6 Certificate of Designations of Series B-1 Convertible Preferred Stock (incorporated by reference from
Exhibits with corresponding numbers filed with the Company's 1996 Form 10-K/A)
4.1 Subscription Agreement, dated as of July 31, 1996 (incorporated by reference from Exhibits with
corresponding numbers filed with the Company's Registration Statement on Form S-3 on August 23, 1996)
4.2 Registration Rights Agreement, dated as of July 31, 1996 (incorporated by reference from Exhibits with
corresponding numbers filed with the Company's Registration Statement on Form S-3 on August 23, 1996)
4.3 Subscription Agreement, dated August 9, 1996 (incorporated by reference from Exhibits with
corresponding numbers filed with the Company's Registration Statement on Form S-3 on August 23, 1996)
4.4 Registration Rights Agreement, dated as of August 9, 1996 (incorporated by reference from Exhibits with
corresponding numbers filed with the Company's Registration Statement on Form S-3 on August 23, 1996)
4.5 Form of Warrant for purchase of the Company's Common Stock, dated as of July 1, 1996 (incorporated by
reference from Exhibits with corresponding numbers filed with the Company's Registration Statement on
Form S-3 on August 23, 1996)
4.6 Form of Registration Rights Agreement dated April 1996, among the Company, Spelman & Co., Inc. and
investor (incorporated by reference from Exhibits with corresponding numbers filed with the Company's
Quarterly Report on Form 10-Q on June 21, 1996)
55
NUMBER EXHIBIT TITLE
- --------- -------------------------------------------------------------------------------------------------------
4.7 Shareholder Rights Agreement dated as of May 15, 1996 between the Company and Corporate Stock Transfer,
as rights agent (incorporated by reference from Item 2 of Form 8-A filed with the Securities and
Exchange Commission on May 28, 1996)
4.8 Form of Subscription Agreement dated April 1996, among the Company, Spelman & Co., Inc. and investor
(incorporated by reference from Exhibits with corresponding numbers filed with the Company's 1996 Form
10-K/A)
4.9 Amendment to Registration Rights Agreement dated as of April 20, 1997 among the Company, Spelman & Co.,
Inc. and investor, amending the Registration Rights Agreement entered into as of April 1996
(incorporated by reference from Exhibits with corresponding numbers filed with the Company's 1996 Form
10-K/A)
4.10 Series A Convertible Preferred Stock Exchange Agreement dated as of March 10, 1997 by and between the
Company and GFL Performance Fund Limited ( incorporated by reference from Exhibits with corresponding
numbers filed with the Company's 1996 Form 10-K/A)
4.11 Series B Convertible Preferred Stock Exchange Agreement dated as of April 2, 1997 by and between the
Company and Pangaea Fund Limited (incorporated by reference from Exhibits with corresponding numbers
filed with the Company's 1996 Form 10-K/A)
4.12 Registration Rights Agreement dated as of December 31, 1996 among the Company, Sentra Securities
Corporation and Investor (incorporated by reference from Exhibits with corresponding numbers filed with
the Company's 1996 Form 10-K/A)
4.13 Form of Warrant ( "Sentra Warrant") for purchase of Company's Commons Stock dated March 1997 issued in
connection with the Company's March 1997 Private Placement (incorporated by reference for Exhibits with
corresponding numbers filed with the Company's Pre-Effective Amendment No. 1 to the Registration
Statement on Form S-3 on May 6, 1997)
4.14* Stock Purchase Agreement between the Company and Kenneth A. Steel, Jr. dated April 29, 1997
(incorporated by reference from Exhibits with corresponding numbers filed with the Company's
Pre-Effective Amendment No. 1 to the Registration Statement on Form S-3 May 6, 1997)
5.1 Opinion and Consent of Gray Cary Ware & Freidenrich, a Professional Corporation (incorporated by
reference from Exhibits with corresponding numbers filed with the Company's Pre-Effective Amendment No.
1 to the Registration Statement on Form S-3 on May 6, 1997)
10.1(*) Second Amended and Restated 1993 Stock Option Plan (as amended on August 1, 1996) (incorporated by
reference to the Company's Annual Report on Form 10-K filed April 14, 1997)
10.2(*) 1995 Employee Stock Purchase Plan (incorporated by reference from Exhibit 10.15 to the Company's 1994
Form 10-K)
10.3 Blackhawk Plaza Lease of the Company (incorporated by reference from Exhibit 10.2 to the Company's
Registration Statement No. 33-69590-LA on Form SB-2 (the (SB-2)
10.4 353 Sacramento Street Office Lease dated as of December 27, 1995 with John Hancock Mutual Life
Insurance Company, together with letter agreement dated March 20, 1996 regarding basement storage
(incorporated by reference to the Company's Annual Report on Form 10-K filed April 1, 1996 (the "1995
Form 10-K")
10.5 Monterey County Production Facility Lease of the Company, as amended (incorporated by reference from
Exhibit 10.03 to the SB-2)
56
NUMBER EXHIBIT TITLE
- --------- -------------------------------------------------------------------------------------------------------
10.6 Amendment No. 1 dated February 1, 1995 and Amendment No. 2 dated March 1, 1995 to Monterey County
Production Facility Lease of the Company (incorporated by reference from Exhibits with corresponding
numbers filed with the 1995 Form 10-K)
10.8 Loan and Security Agreement dated December 8, 1995 with Coast Business Credit, a Division of Southern
Pacific Thrift and Loan Association, and Schedule thereto (incorporated by reference from Exhibits with
corresponding numbers filed with the 1995 Form 10-K)
10.9 Equipment Collateral Security Agreement dated December 8, 1995 with Coast Business Credit (incorporated
by reference from Exhibits with corresponding numbers filed with the 1995 Form 10-K)
10.10 Secured Promissory Note dated December 8, 1995 in the original principal amount of $500,000 in favor of
Coast Business Credit (incorporated by reference from Exhibits with corresponding numbers filed with
the 1995 Form 10-K)
10.11 Secured Promissory Note dated December 8, 1995 in the original principal amount of $750,000 in favor of
Coast Business Credit (incorporated by reference from Exhibits with corresponding numbers filed with
the 1995 Form 10-K)
10.12 Investment Agreement dated July 12, 1995 with the Seychelles Fund, Ltd. (incorporated by reference from
Exhibits with corresponding numbers filed with the 1995 Form 10-K)
10.13 Master Lease dated August 1, 1995 with Sentry Financial Corporation (incorporated by reference from
Exhibits with corresponding numbers filed with the 1995 Form 10-K)
10.14 Letter Agreement dated July 26, 1995 between Monterey Pasta Development Company and California Pasta
Company (incorporated by reference from Exhibit 10.21 to the Company's Quarterly Report on Form 10-Q
for the quarter ended October 2, 1995 ("Q3 10-Q"))
10.15 Asset Purchase Agreement dated July 26, 1995 between Upscale Food Outlets, Inc. and California Pasta
Company (incorporated by reference from Exhibit 10.22 to the Company's Q3 10-Q)
10.16 Franchise Termination Agreement and Release dated March 8, 1996 among the Company, Upscale Food
Outlets, Inc., Monterey Pasta Development Company, The Lance H. Mortensen Unitrust dated December 3,
1994, and LBJ Restaurants, LLC (incorporated by reference from Exhibits with corresponding numbers
filed with the 1995 Form 10-K)
10.17 Acquisition Agreement between the Company and Upscale Food Outlets, Inc. (incorporated by reference
from Exhibit 10.05 to the SB-2)
10.18* Employment Agreement with Lance H. Mortensen (incorporated by reference from Exhibit 10.06 to the
Company's Q3 10-Q)
10.19* Employment Agreement with Mr. Norman E. Dean (incorporated by reference from Exhibit 10.20 to the SB-2)
10.20* Consulting Agreement dated May 25, 1995 with Daniel J. Gallery (incorporated by reference from Exhibit
10.18 to the Company's Quarterly Report 10-O for the quarter ended July 2, 1995 ("Q2 10-Q")
10.21* Consulting Agreement dated May 25, 1995 with Anthony W. Giannini (incorporated by reference from
Exhibits with corresponding numbers filed with the 1995 Form 10-K)
10.22* Employment Agreement with Mr. David J. Massara (incorporated by reference from Exhibit 10.18 to the
Company's 1994 Form 10-K)
57
NUMBER EXHIBIT TITLE
- --------- -------------------------------------------------------------------------------------------------------
10.23 Trademark Registration--MONTEREY PASTA COMPANY, under Registration No. 1,664,278, registered on
November 12, 1991 with the U.S. Patent and trademark Office (incorporated by reference from Exhibit
10.09 to the SB-2)
10.24 Trademark Registration--MONTEREY PASTA COMPANY, under Registration No. 1,943,602, registered on
December 26, 1995 with the U.S. Patent and trademark Office (incorporated by reference from Exhibits
with corresponding numbers filed with the 1995 Form 10-K)
10.25 Trademark Registration--MONTEREY PASTA COMPANY and Design, under Registration No. 1,945,131, registered
on January 2, 1996 with the U.S. Patent and trademark Office (incorporated by reference from Exhibits
with corresponding numbers filed with the 1995 Form 10-K)
10.26 Trademark Registration--MONTEREY PASTA COMPANY and Design, under Registration No. 1,951,624, registered
on January 23, 1996 with the U.S. Patent and Trademark Office (incorporated by reference from Exhibits
with corresponding numbers filed with the 1995 Form 10-K)
10.27 Trademark Registration--MONTEREY PASTA COMPANY and Design, under Registration No. 1,953,489, registered
on January 30, 1996 with the U.S. Patent and Trademark Office (incorporated by reference from Exhibits
with corresponding numbers filed with the 1995 Form 10-K)
10.28 Subscription Agreement dated as of June 21, 1995 with GFL Advantage Fund Limited (incorporated by
reference from Exhibit 10.19 to the Company's Q2 10-Q)
10.29 Registration Rights Agreement dated as of June 15, 1995 with GFL Advantage Fund Limited, as amended on
October 13 and 19, 1995, respectively (incorporated by reference from Exhibit 10.2 to the Company's Q2
10-Q, and Exhibits 10.6 and 10.7 to the Company's S-3 Registration Statement No. 33-96684, filed on
December 12, 1995 ("1995 S-3")
10.30 Joint Escrow Instructions dated as of October 1995 (incorporated by reference from Exhibit 10.5 to the
Company's 1995 S-3)
10.31 Note Purchase Agreement dated as of October 19, 1995 with GFL Advantage Fund Limited (incorporated by
reference from Exhibit 10.3 to the Company's 1995 S-3)
10.32 Convertible Note dated as of October 25, 1995, executed by the Company in favor of GFL Advantage Fund
Limited (incorporated by reference from Exhibits with corresponding numbers filed with the 1995 Form
10-K)
10.33 Trademark Purchase (Burns) (incorporated by reference from Exhibit 10.12 of the SB-2)
10.34 Purchase of Stock and Exhibits (Burns-Mortensen-Hill) (incorporated by reference from Exhibit 10.13 of
the SB-2)
10.35 Non-Recourse Promissory Note (Hill-Mortensen) (incorporated by reference from Exhibit 10.15 of the
SB-2)
10.36 Asset Purchase Agreement dated March 1, 1994 between Upscale Food Outlets, Inc., Lucca's Pasta Bar,
Inc., Timothy John Morris and Marian Kathryn Morris (incorporated by reference from Exhibit 10.16 to
the Company's 1993 Form 10-K)
10.38 Asset Purchase Agreement dated March 1, 1994 between Upscale Food Outlets, Inc., Lucca's Pasta Bar,
Inc., Timothy John Morris and Marian Kathryn Morris (incorporated by reference from Exhibit 10.16 to
the Company's 1993 Form 10-K)
58
NUMBER EXHIBIT TITLE
- --------- -------------------------------------------------------------------------------------------------------
10.39 Franchise Termination Agreement and Release dated as of March 27, 1996, among the Company, Upscale Food
Outlets, Inc., Monterey Pasta Development Company, California Pasta Company, and James G. Schlicher
(incorporated by reference from Exhibits with corresponding numbers filed with the Company's Quarterly
Report on Form 10-Q on June 21, 1996)
10.40 Stock Purchase Agreement dated April 1, 1996 between Upscale Acquisitions, Inc. and the Company
(incorporated by reference from Exhibits with corresponding numbers filed with the Company's Quarterly
Report on Form 10-Q on June 21, 1996)
10.41 Placement Agent Agreement dated April 12, 1996 between Company and Spelman & Co., Inc. (incorporated by
reference from Exhibits with corresponding numbers filed with the Company's Quarterly Report on Form
10-Q on June 21, 1996)
10.44* The Company's 401(k) Plan, established to be effective as of January 1, 1996, adopted by the Board of
Directors on June 7, 1996 (incorporated by reference from Exhibit 10.24 to the Company's Quarterly
Report on Form 10-Q on June 21, 1996)
10.45* Directed Employee Benefit Trust Agreement dated June 17, 1996 between the Company and The Charles
Schwab Trust Company, as Trustee of the Company's 401(k) Plan (incorporated by reference from Exhibit
10.24 to the Company's Quarterly Report on Form 10-Q on June 21, 1996)
10.46* Employment Agreement dated February 12, 1996 with Mr. Robert J. Otto (incorporated by reference from
Exhibit 10.24 to the Company's Quarterly Report on Form 10-Q on June 21, 1996)
10.47 Security and Loan Agreement (Accounts Receivable and/or Inventory) dated July 24, 1997 between the
Company and Imperial Bank (incorporated by reference from Exhibit 10.47 of 1997 S-3)
10.48 Agreement Regarding Employment, Trade Secrets, Inventions, and Competition dated May 26, 1997 with Mr.
R. Lance Hewitt (incorporated by reference from Exhibit 10.48 of 1997 S-3)
10.49 Employment Agreement dated August 25, 1997 with Mr. Stephen L. Brinkman
10.50 First Amendment to Security and Loan Agreement dated July 24, 1997 between the Company and Imperial
Bank
16.1 Letter from Deloitte & Touche LLP dated October 31, 1996 (incorporated by reference to the Company's
Report on Form 8-K/A filed November 8, 1996)
21.1 Subsidiaries of the Company (incorporated by reference to the Company's 1996 Form 10-K)
23.1 Consent of BDO Seidman, LLP on Form 10-K
23.2 Consent of Deloitte and Touche, LLP on Form 10-K
27.1 Financial Data Schedule
- ------------------------
* Management contract or compensatory plan or arrangement covering executive
officers or directors of Monterey Pasta Company and its subsidiary, Upscale
Food Outlets, Inc.
59