UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: September 30, 2003
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______ to ______
Commission File No. 0-21015
CELL TECH INTERNATIONAL INCORPORATED
(Exact Name of Registrant as Specified in its Charter)
Delaware 22-3345046
(State or other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
565 Century Court
KLAMATH FALLS, OREGON 97601
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, including area code: (541) 882-5406
Securities Registered Pursuant to Section 12(b) of the Act: None
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, Par Value $0.01 per Share
(Title of each class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes [ ] No [X]
As of October 31, 2003, the number of shares outstanding of the registrant's
sole class of common stock, par value $0.01 per share was 13,974,087.
TABLE OF CONTENTS
PART I - FINANCIAL INFORMATION....................................................................................1
ITEM 1. FINANCIAL STATEMENTS................................................................................1
Consolidated Balance Sheets..............................................................................1
Consolidated Statements of Operations....................................................................2
Consolidated Statements of Cash Flows....................................................................3
Notes to Consolidated Financial Statements...............................................................4
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS................9
Overview................................................................................................11
Results of Operations...................................................................................12
Three Months Ended September 30, 2003 Compared With The Three Months Ended September 30, 2002...........12
Nine Months Ended September 30, 2003 Compared With The Nine Months Ended September 30, 2002.............14
Liquidity and Capital Resources.........................................................................16
Cash Flows..............................................................................................16
Recent Financial Accounting Standards Board Statements..................................................17
Special Note Regarding Forward-Looking Statements.......................................................17
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK..........................................18
ITEM 4. CONTROLS AND PROCEDURES.............................................................................18
PART II -- OTHER INFORMATION.....................................................................................19
ITEM 1. LEGAL PROCEEDINGS...................................................................................19
ITEM 2. CHANGES IN SECURITIES...............................................................................20
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.....................................................................20
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.................................................20
ITEM 5. OTHER INFORMATION...................................................................................21
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K....................................................................21
SIGNATURES..................................................................................................22
CERTIFICATION PURSUANT TO SECTION 302 (A) OF THE SARBANES-OXLEY ACT OF 2002......................................23
CERTIFICATION PURSUANT TO SECTION 302(A) OF THE SARBANES-OXLEY ACT OF 2002.......................................24
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF2002.....................................................................25
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002....................................................................26
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2003 2002
------------ ------------
(Unaudited)
ASSETS
CURRENT ASSETS
Receivables $ 703,850 $ 372,011
Current portion of inventories 2,300,000 2,300,000
Prepaid expenses 414,075 586,662
----------- -----------
3,417,925 3,258,673
LONG-TERM INVENTORIES, net of current portion 2,892,768 3,824,298
PROPERTY AND EQUIPMENT, net of accumulated depreciation 3,859,517 6,801,389
PROPERTY AND EQUIPMENT IDLE, net 153,322 1,382,570
OTHER ASSETS 351,712 546,846
----------- -----------
Total assets $10,675,244 $15,813,776
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Bank overdraft $ 602,662 $ 468,008
Accounts payable 776,142 594,329
Commissions payable 911,994 970,315
Sales taxes payable 68,079 69,797
Accrued payroll and related liabilities 272,991 291,140
Other accrued expenses 1,010,017 1,848,070
Current portion of long-term debt 2,471,474 2,872,145
Related party payable 703,550 427,767
----------- -----------
Total current liabilities 6,816,909 7,541,571
----------- -----------
LONG-TERM LIABILITIES
Long-term debt, net of current portion (Note 5) 641,240 1,019,920
----------- -----------
Total liabilities 7,458,149 8,561,491
----------- -----------
COMMITMENTS AND CONTINGENCIES (Note 6)
STOCKHOLDERS' EQUITY
Series A convertible preferred stock - no par value; 4,175,000 shares
authorized; none issued and outstanding in 2003 and 2002 - -
Series B convertible preferred stock - no par value; 800,000 shares
authorized; none issued and outstanding in 2003 and 2002 - -
Undesignated preferred stock - no par value; 1,825,000 shares
authorized; none issued and outstanding in 2003 and 2002 - -
Common stock - $.01 par value; in 2003 and 2002, 50,000,000 shares
authorized, 13,974,087 and 10,640,895 shares issued and outstanding 139,741 106,409
Additional paid-in capital 2,891,224 2,299,696
Retained earnings 186,130 4,846,180
----------- -----------
Total stockholders' equity 3,217,095 7,252,285
----------- -----------
Total liabilities and stockholders' equity $10,675,244 $15,813,776
=========== ===========
See accompanying notes to consolidated financial statements.
1
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
For the Nine Months Ended For the Three Months Ended
September 30, September 30,
---------------------------- ----------------------------
2003 2002 2003 2002
------------ ------------ ------------ ------------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
REVENUE $ 17,052,013 $ 20,311,470 $ 5,451,089 $ 6,450,651
COST OF SALES 5,375,804 8,712,277 1,747,377 4,744,537
------------ ------------ ------------ ------------
GROSS PROFIT 11,676,209 11,599,193 3,703,712 1,706,114
COMMISSIONS 7,216,020 9,326,815 2,320,163 2,819,479
------------ ------------ ------------ ------------
GROSS PROFIT AFTER COMMISSIONS 4,460,189 2,272,378 1,383,549 (1,113,365)
SHIPPING AND HANDLING EXPENSES 1,107,091 1,141,638 360,080 399,614
SELLING EXPENSES 3,135,426 2,794,344 952,429 979,929
RESEARCH AND DEVELOPMENT 150,664 131,601 44,940 49,458
GENERAL AND ADMINISTRATIVE 1,720,329 1,027,835 608,170 417,784
ASSET IMPAIRMENT CHARGE 2,728,632 - 2,200,000 -
------------ ------------ ------------ ------------
OPERATING LOSS (4,381,953) (2,823,039) (2,782,070) (2,960,149)
OTHER INCOME (EXPENSE) 106,235 162,878 (27,152) 42,693
INTEREST EXPENSE (384,332) (149,543) (108,295) (53,808)
------------ ------------ ------------ ------------
NET LOSS $ (4,660,050) $ (2,809,704) $ (2,917,517) $ (2,971,264)
============ ============ ============ ============
BASIC AND DILUTED LOSS
PER SHARE $ (0.33) $ (0.22) $ (0.21) $ (0.23)
============ ============ ============ ============
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING
USED TO CALCULATE BASIC AND
DILUTED LOSS PER SHARE 13,953,573 12,645,653 13,947,826 12,959,649
============ ============ ============ ============
2
See accompanying notes to consolidated financial statements.
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine Months Ended
September 30,
--------------------------
2003 2002
----------- -----------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $(4,660,050) $(2,809,704)
Adjustments to reconcile net loss to cash
provided by operating activities:
Depreciation and amortization 780,083 844,224
Reserve for potentially unsaleable inventories - 3,100,000
Impairment of fixed assets and intangibles 2,728,632 -
Loss on sale of fixed assets 90,593 3,381
Changes in assets and liabilities:
Receivables 129,007 59,926
Inventories 931,530 432,643
Prepaid expenses 193,992 87,672
Other assets 193,707 (301,845)
Accounts payable 181,813 49,652
Commissions payable (58,321) (233,009)
Sales tax payable (1,718) (10,399)
Accrued payroll and payroll related liabilities (18,149) 96,301
Other accrued expenses (213,194) (197,670)
----------- -----------
Net cash provided by operating activities 277,925 1,121,172
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment (112,700) (193,868)
Proceeds from disposals of equipment 203,688 700
Additions to construction in progress - (167,066)
----------- -----------
Net cash provided by investing activities 90,988 (360,234)
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Bank overdraft 134,654 (662,097)
Payments on line of credit (126,600)
Payments on long-term debt (652,750) (1,847,195)
Proceeds from debt financing - 2,100,000
Net proceeds (repayments of) related party debt 275,783 (351,646)
----------- -----------
Net cash used for financing activities (368,913) (760,938)
----------- -----------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS - -
CASH AND CASH EQUIVALENTS, beginning of year - -
----------- -----------
CASH AND CASH EQUIVALENTS, end of period $ - $ -
=========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest $ 341,904 $ 128,583
=========== ===========
NON-CASH TRANSACTIONS
Accrued liability for penalty shares was settled during the quarter ended
June 30,2003 by issuing 3,333,192
shares of common stock valued at $624,860 $ 624,860 $ -
Receivables from the auction sale of fixed assets
reported in Receivables and Prepaid expenses at
September 30, 2003 of $460,846 and $21,404 respectively 482,250
=========== ===========
3
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
BUSINESS
Cell Tech International Incorporated ("Cell Tech" or "we" "us" "our") and The
New Algae Company, Inc. ("NAC"), collectively the "Company," are engaged in
producing and marketing food supplement and personal care products made with
blue-green algae harvested from Klamath Lake, Oregon. We use a multi-level
distributor network throughout the United States, the District of Columbia,
Guam, Puerto Rico, American Samoa, the Virgin Islands and Canada to distribute
our products.
PRESENTATION OF INTERIM INFORMATION
The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
of America for interim financial information and with the instructions to Form
10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of
the information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of our management,
the accompanying unaudited consolidated financial statements contain all
adjustments, consisting of normal recurring adjustments, considered necessary
for a fair statement of our financial information as of and for the periods
presented. The consolidated results of operations of any interim period are not
necessarily indicative of the consolidated results of operations we expect for
the fiscal year. For further information, refer to the consolidated financial
statements and accompanying footnotes included in our annual report on Form 10-K
and 10-K/A for the year ended December 31, 2002.
GOING CONCERN
During 2002, we were able to obtain new financing that allowed us to repay the
borrowings under the former line of credit. As of September 30, 2003, we are in
compliance with the loan covenants under the new loan agreement. Additionally,
management has introduced several new products and advertising campaigns in
order to increase revenues and reverse the trend of net losses in the first nine
months of 2003 and prior years. Although management believes that it has made
progress during the first nine months of 2003 on issues affecting our ability to
continue as a going concern, we have experienced recurring net losses and have
negative working capital at September 30, 2003. These conditions give rise to
substantial doubt about our ability to continue as a going concern. In their
report on our financial statements for the year ended December 31, 2002, our
independent certified public accountants included an explanatory paragraph
expressing substantial doubt about the company's ability to continue as a going
concern.
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and the satisfaction of
liabilities in the normal course of business. The financial statements do not
include any adjustments relating to the recoverability and classification of
recorded asset amounts or the amounts and classification of liabilities that
might be necessary should we be unable to continue as a going concern. Our
continuation as a going concern is dependent upon our ability to generate
sufficient cash flows to meet our obligations on a timely basis.
We are continuing our efforts to raise both debt and equity financing. However,
there can be no assurance that we will be able to service additional financing,
or that if such financing were available, whether the terms or conditions would
be acceptable to us.
4
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
NOTE 1 - SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
BASIS OF CONSOLIDATION
Our accompanying consolidated financial statements include our accounts and our
subsidiary, NAC. We have eliminated Intercompany transactions and balances on
consolidation.
USE OF ESTIMATES
The preparation of the financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect amounts reported in the
financial statements and accompanying notes. Actual results could differ
materially from those estimates.
REVENUE RECOGNITION
We recognize revenue from the sale of our products upon shipment, at which time
title passes. We estimate an allowance for sales returns based on historical
experience with product returns.
ACCOUNTING FOR STOCK OPTIONS
We have adopted the intrinsic value method of accounting for employee stock
options as permitted by Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-based Compensation" (SFAS No. 123) and as amended by SFAS
No. 148. It discloses the pro forma effect on loss and loss per share as if we
had applied the fair value based method. For equity instruments, including stock
options issued to non-employees, the fair value of the equity instruments or the
fair value of the consideration received, whichever is more readily
determinable, is used to determine the value of services or goods received and
the corresponding charge to operations.
We have not disclosed the effect on loss and loss per share as if we had applied
the fair value recognition provision of SFAS No. 123 to stock-based employee
compensation because it is not significantly different from the historical
results.
SALES INCENTIVES
The Emerging Issues Task Force ("EITF") has issued EITF Issue No. 01-09,
"Accounting for Consideration Given by a Vendor to a Customer or a Reseller of
the Vendor's Products" and EITF Issue No. 00-25, "Vendor Income Statement
Characterization of Consideration Paid to a Reseller of the Vendor's Products,"
which provide guidance on accounting for and income statement classification of
consideration from a vendor to a reseller in connection with the reseller's
purchase of the vendor's products or to promote sales of the vendor's products.
We pay commissions to our distributors as compensation for sales and marketing
activities as evidenced by downline growth and sales volume and accordingly
classify these expenses as a cost, rather than as a reduction of revenue.
IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS
Statement of Financial Accounting Standards No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Asset," ("SFAS No. 144"), gives guidance
for impaired assets or long-lived assets to be disposed of and supercedes SFAS
No. 121. We account for the impairment of long-lived assets to be held and used,
when indications of impairment are present, by evaluating the carrying value in
relation to the operating performance and future undiscounted cash flows of the
underlying business. We report long-lived assets held for disposal at the lower
of their carrying value or fair value less costs to sell.
During the three months ended June 30, 2003, we identified certain assets for
sale by auction and recorded an additional impairment of $528,632 in order to
value the assets at their net realizable value. Subsequently, on September 23,
2003 we held an auction at which most of the identified equipment was sold at
near its recorded value. The Company continues to actively market the remaining
idle equipment.
5
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
NOTE 1 - SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Subsequent to the three months ended September 30, 2003, we determined that a
building that had previously been used for harvest processing would no longer
being utilized to the extent previously determined. We have determined that the
asset is impaired and accordingly, we have recorded an impairment charge of $2.2
million and have written the asset down to its estimated fair value.
RECLASSIFICATIONS
We have reclassified certain prior period amounts to conform to the current
period presentation.
NOTE 2 - INVENTORIES
Inventories consist of the following:
September 30, December 31,
(unaudited)
2003 2002
------------ ------------
Work in progress $ 7,669,503 $ 9,520,527
Finished goods 475,841 588,586
Sales aids 16,762 15,185
------------ ------------
8,162,106 10,124,298
Less reserve for potentially unsaleable inventories (2,969,338) (4,000,000)
------------ ------------
5,192,768 6,124,298
Less current portion (2,300,000) (2,300,000)
------------ ------------
$ 2,892,768 $ 3,824,298
============ ============
Certain of our inventory is marketable only to the agricultural market. Sales in
this market have been less than anticipated and management has recognized that
an impairment of inventory may exist. We have established reserves of $2,969,338
and $4,000,000 at September 30, 2003 and December 31, 2002, respectively.
NOTE 3 -- EARNINGS PER SHARE COMPUTATION
The computations of the weighted-average common shares used in the computation
of basic and diluted net loss per share is based on 13,953,573 and 12,645,653
shares for the nine months ended September 30, 2003 and 2002, respectively and
13,947,826 and 12,959,649 for the three months ended September 30, 2003 and
2002, respectively. Potential dilutive securities were not included in the EPS
calculation since their effect would be antidilutive. Potential dilutive
securities consisted of outstanding stock options and convertible preferred
stock and common stock purchase warrants.
NOTE 4 - RECENT ACCOUNTING PRONOUNCEMENTS
In May 2003, FASB issued Statement of Financial Accounting Standards No. 150,
"Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity" ("SFAS 150"). SFAS 150 clarifies the accounting for
certain financial instruments with characteristics of both liabilities and
equity, and requires that those instruments be classified as liabilities in the
balance sheets. Previously, many of those financial instruments were classified
as equity. SFAS 150 is effective for financial instruments entered into or
modified after May 31, 2003 and is otherwise effective at the beginning of the
first interim period beginning after June 15, 2003. The adoption of SFAS No. 150
did not have a material impact on its results of operations and financial
condition.
6
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
In January 2003, FASB issued Financial Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"). FIN 46 clarifies the application of
Accounting Research Bulletin No. 51, "Consolidated Financial Statements" to
those entities defined as "Variable Interest Entities" (more commonly referred
to as special purpose entities) in which equity investors do not have the
characteristics of a "controlling financial interest" or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. FIN 46 applies immediately to
all Variable Interest Entities created after January 31, 2003 and by the
beginning of the first interim or annual reporting period commencing after June
15, 2003 for Variable Interest Entities created prior to February 1, 2003. On
October 9, 2003, the FASB issued FASB Staff Position 46-6 ("FSP 46-6") deferring
the effective date for applying the provisions of FIN 46 for public entities
with variable interests in entities created before February 1, 2003, until the
end of the first interim or annual period ending after December 15, 2003. The
Company has no variable interests in entities.
NOTE 5 - LONG-TERM DEBT
In September 2002, La Jolla Loans, Inc. ("La Jolla Loans") purchased and took an
assignment of our financing facility with Coast Business Credit. At the same
time, we entered into a Forbearance and Extension Agreement with La Jolla Loans.
Under the terms of the forbearance agreement, La Jolla Loans would not declare a
default until June 30, 2003, when the entire principal would be due. La Jolla
Loans extended the forbearance period to June 30, 2004 by our payment of a
$75,000 renewal fee. Interest of $23,023 at an effective rate of 14% is payable
monthly along with additional monthly impound payments of approximately $65,000.
La Jolla Loans will defer the difference between the minimum interest payment of
$45,000 under the agreement with Coast Business Credit and the $24,500 minimum
interest payments under the forbearance agreement for the forbearance period. If
we fully perform under the terms and conditions of the forbearance agreement and
no default occurs during the forbearance period, La Jolla Loans will release us
from any obligation to pay that portion of the minimum monthly interest payments
in excess of $23,023. The outstanding principal balance at September 30, 2003
was $1,973,400. The Company is in compliance with all loan covenants as of
September 30, 2003.
NOTE 6 - CONTINGENCIES
MICROCYSTIS
As a result of certain conditions, Microcystis, a toxic algae, occasionally
blooms in Klamath Lake at the same time Aphanizomenon flos-aquae algae is
harvested. We regularly test the algae we harvest for possible contamination.
Algae that does not meet our standards is not used in products for human or
animal consumption.
In 1997, the Oregon Department of Agriculture issued an administrative rule that
created a standard of 1 microgram per gram (1 ppm) of Microcystis in products
for human consumption that contain Aphanizomenon flos-aquae algae. The Oregon
Department of Agriculture has raised no questions about our products under this
rule.
In some years, the presence of Microcystis may reduce the quantity of
Aphanizomenon flos-aquae algae that we can harvest.
LITIGATION
In October of 2001, Teachers for Truth in Advertising filed an action in the
Superior Court of Tulare County, California alleging that we, erroneously sued
as Cell Tech Products, Inc., engaged in unfair business practices and misleading
advertising. In January 2003, the Superior Court of Tulare County issued a
tentative decision stating that Teachers for Truth in Advertising was entitled
to an injunction prohibiting us from making deceptive representations in its
advertising or literature disseminated in California and ordering us to refund
the purchase price paid by California customers for our algae products from the
date four years prior to the filing of the action through the trial date in
November of 2002. In response to the tentative decision, our counsel filed a
Request for Statement of Decision on January 23, 2003. On February 20, 2003, the
Superior Court issued its Final Decision, which essentially affirms the
tentative decision, which judgment was entered in April 2003. Plaintiff has
submitted a proposed judgment to the court consistent with the Tentative and
7
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
Final Decisions. The parties mediated this matter on May 9, 2003 before a
retired Orange County, California Superior Court judge and agreed to submit a
proposed confidential settlement to the Superior Court within 60 days, which
they have done. The confidential settlement provides for making partial refunds
to certain of our California customers. The Superior Court approved the
confidential settlement and vacated the judgment on August 25, 2003. We do not
believe that the proposed refund to California customers will be in an amount
that would have a material adverse impact on our business and financial
position.
NOTE 6 - CONTINGENCIES (CONTINUED)
On February 19, 2002, Daryl Kollman filed two separate Notices of Claim of Lien
upon Chattels against us, NAC and Marta Carpenter and others, in Klamath County,
Oregon. Mr. Kollman alleges, among other things, that we owe him approximately
$705,693 in past due rent. Mr. Kollman also claims that we owe Klamath Cold
Storage, Inc. ("KCS"), a company owned by Mr. Kollman and Marta Carpenter,
approximately $717,900 in past due rent. Mr. Kollman asserts that we are not
entitled to remove our personal property from the real property owned by him,
Marta Carpenter and KCS and seeks to subject our to foreclosure proceedings. We
intend to vigorously defend against these liens. We cannot predict the amount of
loss, if any, that could result from these liens, but do not believe that an
unfavorable outcome would have a material adverse impact upon our financial
condition, cash flow, or results of operations.
On or about May 31, 2002, Daryl Kollman filed an action in the Circuit Court of
Klamath County (Case No. 02-01956CV) seeking to evict us from certain real
property owned by him and Marta Carpenter. Mr. Kollman later added a claim for
allegedly unpaid rent exceeding $558,000. On or about October 31, 2002, the
Court dismissed Mr. Kollman's eviction claim. Mr. Kollman's claim for unpaid
rent is currently pending. We cannot predict the amount of loss, if any, that
could result from this lawsuit but an unfavorable outcome could have a material
adverse effect on our financial condition.
On June 6, 2002, Daryl Kollman filed a lawsuit in the name of KCS in the Circuit
Court for the State of Oregon for Klamath County (Case No. 02-02040CV) to evict
us from property owned by KCS. In this lawsuit, Mr. Kollman also alleges that we
have not paid approximately $1,050,000 in rent. We have voluntarily vacated all
of the KCS property we do not need to support our current operations. We contend
that we have paid all rents owing and intend to vigorously defend this lawsuit.
We cannot predict the amount of loss, if any, that could result from this
lawsuit but an unfavorable outcome could have a material adverse effect on our
financial condition.
On October 7, 2002, Daryl Kollman, one of our principal shareholders, filed a
lawsuit against us, certain of our officers, directors and counsel in the
Circuit Court for the State of Oregon for Klamath County (Case No. 02-03774CV).
The complaint makes a number of individual and derivative claims. Mr. Kollman
makes two claims against us. First, Mr. Kollman alleges that we breached an
agreement to register our stock for public sale and seeks damages of an amount
he must prove at trial, but not less than $9,282,000. Second, Mr. Kollman claims
that we conspired with Marta C. Carpenter (formerly known as Marta C. Kollman),
a principal stockholder and our President, Chief Executive Officer and one of
our directors; Donald P. Hateley, our Chairman of the Board of Directors; and
others to prevent the registration of Mr. Kollman's stock and to cause other
financial injury to him. As a result, Mr. Kollman seeks no less than $32,931,976
against the defendants. Mr. Kollman also seeks millions of dollars in damages on
his own behalf and on behalf of us against Marta Carpenter, Mr. Hateley and
others based on a variety of legal theories. We intend to vigorously defend the
direct claims asserted in this lawsuit, and we have filed a motion to disqualify
Mr. Kollman as a proper plaintiff for the derivative claims, which motion is
currently pending. We cannot predict the amount of loss, if any, which could
result from this lawsuit and an unfavorable outcome could have a material
adverse impact upon our financial condition, cash flow, or results of
operations.
8
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
NOTE 6 - CONTINGENCIES (CONTINUED)
LIEN ON COMPANY STOCK
Our stock owned by Daryl Kollman and Marta C. Carpenter is subject to a tax lien
filed by the Internal Revenue Service. A trust holds the stock and the IRS will
release it upon satisfaction of federal income taxes owed by Mr. Kollman and Ms.
Carpenter. Mr. Kollman and Ms. Carpenter retain voting power over the stock held
in trust. Mr. Kollman and Ms. Carpenter have agreed to sell their shares as
needed, and as allowed by federal securities laws, to make quarterly payments to
the Internal Revenue Service. Should Mr. Kollman or Ms. Carpenter fail to make
such payments in a timely manner, the Internal Revenue Service may seize the
shares from the trust. The Internal Revenue Service would thereafter sell or
judicially foreclose on some or all of the shares to satisfy Mr. Kollman and Ms.
Carpenter's tax liabilities. The IRS has subordinated its lien in favor of our
lender for receivable loans, advances and inventory loans, term loans, and
equipment acquisition loans.
COVENANTS RELATED TO THE PRIVATE PLACEMENT TO ZUBAIR KAZI
In connection with the sale of common shares to a private investor, Zubair Kazi,
in 1999, we agreed to issue common stock and warrants to purchase common stock
to Mr. Kazi if the consolidated stockholders' equity was less than $20,000,000
at December 31, 1999. As a result, penalty shares have accrued and we issued
3,333,192 shares of common stock to Mr. Kazi during the second quarter of 2003
and we converted the associated accrued liability of $624,860 to equity.
Warrants to purchase an additional 3,333,192 shares of common stock were also
due to Mr. Kazi on March 31, 2003. During the third quarter of 2003, an
additional liability was recognized under the agreement in the amount of $26,586
related to the issuance of these shares and warrants, based on the fair value of
the securities and has been accounted for in the financial statements.
Additionally, we were to register the shares originally sold to Mr. Kazi for
resale within 120 days of the sale. We have accrued and will continue to accrue
additional penalties until the shares are registered. The additional expense for
the three months ended September 30, 2003 was $26,586 and 288,979 shares and
288,979 warrants are issuable to Mr. Kazi. We are also obligated to issue
additional securities to Mr. Kazi upon the effective date of our next
registration statement.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Quarterly Report on Form 10-Q contains "forward-looking statements" within
the meaning of the Private Securities Litigation Reform Act of 1995. The Act
provides a safe harbor for forward-looking statements to encourage companies to
provide prospective information about themselves so long as they identify these
statements as forward-looking and provide meaningful cautionary statements
identifying important factors that could cause actual results to differ from the
projected results. All statements, other than statements of historical fact,
that we make in this Quarterly Report on Form 10-Q are forward-looking. The
words "anticipates," "believes," "expects," "intends," "will continue,"
"estimates," "plans," "projects," the negative of these terms and similar
expressions are intended to identify forward-looking statements. However, the
absence of these words does not mean the statement is not forward-looking.
Our forward-looking statements are subject to certain risks, trends, and
uncertainties that are difficult to predict and could cause actual results to
vary materially from anticipated results. In particular, statements regarding
market acceptance of our marketing and merchandising concepts, changes in market
conditions, demand for and market acceptance of new and existing products,
availability and development of raw materials and new products, increased
competition, failure to attain satisfactory outside financing and adverse
weather conditions at Upper Klamath Lake are forward-looking.
The following factors, among others, could cause actual results to differ from
those indicated in the forward-looking statements:
o management's plans, objectives and budgets for its future operations
and future economic performance;
o capital budget and future capital requirements;
o meeting future capital needs;
9
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
o realization of any deferred tax assets;
o the level of future expenditures;
o impact of recent accounting pronouncements;
o the outcome of regulatory and litigation matters; and
o the assumptions described in this report underlying such
forward-looking statements. Actual results and developments may
materially differ from those expressed in or implied by such
statements due to a number of factors, including:
o those described in the context of such forward-looking statements;
o future product development and manufacturing costs;
o changes in our incentive plans;
o timely development and acceptance of new products;
o the markets of our domestic and international operations;
o the impact of competitive products and pricing;
o the political, social and economic climate in which we conduct
operations; and
o the risk factors described in other documents and reports filed with
the Securities and Exchange Commission, including our Annual Report
on Form 10-K and Form 10-K/A for the year ended December 31, 2002.
The accompanying financial statements have been prepared on a going concern
basis, which contemplates the realization of assets and the satisfaction of
liabilities in the normal course of business. The financial statements do not
include any adjustments relating to the recoverability and classification of
recorded asset amounts or the amounts and classification of liabilities that
might be necessary should we be unable to continue as a going concern. Our
continuation as a going concern is dependent upon our ability to generate
sufficient cash flows to meet our obligations on a timely basis.
During 2002, we were able to obtain new financing that allowed us to repay the
borrowings under the former line of credit. As of September 30, 2003, we are in
compliance with the loan covenants under the new loan agreement. Additionally,
management has introduced several new products and advertising campaigns in
order to increase revenues and reverse the trend of net losses in the first nine
months of 2003 and prior years. Although management believes that it has made
progress during the first nine months of 2003 on issues affecting our ability to
continue as a going concern, we have experienced recurring net losses and have
negative working capital at September 30, 2003. These conditions give rise to
substantial doubt about our ability to continue as a going concern. In their
report on our financial statements for the year ended December 31, 2002, our
independent certified public accountants included an explanatory paragraph
expressing substantial doubt about the company's ability to continue as a going
concern.
We are continuing our efforts to raise both debt and equity financing. However,
there can be no assurance that we will be able to service additional financing,
or that if such financing were available, whether the terms or conditions would
be acceptable to us.
Although we believe the expectations reflected in the forward-looking statements
are reasonable, we cannot guarantee future results, performance or achievement.
We undertake no obligation to revise or publicly release the results of any
revisions to these forward-looking statements. If we do update or correct one or
more forward-looking statements, investors and others should not conclude that
we will make additional updates or corrections to other forward-looking
statements.
We intend the following discussion to assist in the understanding of our
financial position and our results of operations for the three and nine months
ended September 30, 2003 compared to the same period in 2002. You should refer
to the Consolidated Financial Statements and related Notes in conjunction with
this discussion. Unless stated otherwise, all financial information presented
below, throughout this report and in the Consolidated Financial Statements and
related Notes includes Cell Tech and NAC on a consolidated basis.
10
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
OVERVIEW
We develop and distribute products made with Aphanizomenon flos-aquae (trade
name Super Blue Green(R) Algae, "SBGA") through a network of independent
distributors. We currently offer 40 different products intended to appeal to
health-conscious consumers. We divide our products into six product lines: Daily
Health Maintenance, Digestive Health, Defensive Health, Powdered Drinks and
Snacks, Animal and Plant Food and Personal Care.
We harvest SBGA and manufacture some of our products at our production
facilities in Klamath Falls, Oregon. We are a multi-level marketing
organization. Independent distributors make up our sales force. We market our
products through our distributors in all 50 states, the District of Columbia,
Guam, Puerto Rico, American Samoa, the Virgin Islands and Canada. We encourage
our distributors to recruit new distributors into our network. We place
recruited distributors beneath the recruiting distributor in our network of
distributors. We pay our distributors commissions based on their personal sales
and the sales of distributors beneath them. We assist distributors in
establishing their own businesses and provide them with support programs such as
audio and videotapes for training, seminars and an annual convention at our
headquarters. We have approximately 35,608 active distributors as of September
30, 2003 compared to approximately 43,393 active distributors as of September
30, 2002. Active distributors are those who have purchased products in the last
six months.
Our loss per share was $0.33 for the nine months ended September 30, 2003
compared to a net loss of $0.22 per share for the same period in 2002. We
primarily relate the net loss for the nine months ended September 30, 2003 of
$4,660,050 to a decrease in revenue without corresponding decreases in
administrative costs and selling expenses. Additionally, the asset impairment
charge of $2,728,632 contributed to the loss.
CRITICAL ACCOUNTING POLICIES
INVENTORY VALUATION
We have a significant investment in algae inventory. Our sole source of
blue-green algae is Klamath Lake. Algae grow naturally in Klamath Lake and like
any plants are subject to variation due to environmental conditions. The volume
of annual harvests varies depending on weather and precipitation conditions. As
a result, we carry additional supplies of inventory to sustain operations
through low yield harvest years. In addition, we regularly review the amount of
blue-green algae on hand and evaluate the likelihood that we will be able to
realize the value of our inventory. If we determine that we will not realize all
or a portion of our inventory value, adjustments are made to the carrying value
through a valuation allowance. The decision to write down a portion of the
carrying value of inventory could have a significant adverse effect on our
operating results.
IMPAIRMENT OR DISPOSAL OF LONG-LIVED ASSETS
We utilize significant amounts of equipment in our operations to harvest and
process blue-green algae from Klamath Lake. During 2001, we developed an
alternative method of harvesting algae from Klamath Lake that yields raw algae
at a lower total cost for the quantity harvested than the previous harvest
method at the A Canal site. As a result, we have taken out of service certain
equipment previously used to harvest algae from the canal site. We have
written-off equipment taken out of service that we cannot remove from the canal
site and has no other use. We had an auction in September 2003 where most of the
remaining idle equipment was sold. We continue to review our property and
equipment offered for sale and if we cannot realize any portion of the carrying
value, we make adjustments to reduce the carrying value to its fair value. Due
to the nature of auction sales, we anticipated the potential decrease in value
by writing off an additional $528,632 in equipment values during the second
quarter of 2003. Subsequent to the three months ended September 30, 2003, we
determined that a building that had been used for harvest processing would no
longer be utilized to the extent previously determined. We have determined that
the asset is impaired and accordingly, we have recorded an impairment charge of
$2.2 million in the third quarter 2003 and have written the asset down to its
estimated fair value. We also regularly review property and equipment used in
our operation and test for impairment if conditions indicate we may not recover
the carrying value of the property and equipment. If we determine that we will
not recover the carrying value and that assets are impaired, we adjust the
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CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
carrying value through a valuation allowance. The decision to write down a
portion of the carrying value of property and equipment used in our operations
or offered for sale could have a significant adverse effect on our operating
results.
SALES INCENTIVES
The Emerging Issues Task Force ("EITF") has issued EITF Issue No. 01-09,
"Accounting for Consideration Given by a Vendor to a Customer or a Reseller of
the Vendor's Products" and EITF Issue No. 00-25, "Vendor Income Statement
Characterization of Consideration Paid to a Reseller of the Vendor's Products,"
which provide guidance on accounting for and income statement classification of
consideration from a vendor to a reseller in connection with the reseller's
purchase of the vendor's products or to promote sales of the vendor's products.
We pay commissions to our distributors as compensation for sales and marketing
activities as evidenced by downline growth and sales volume and accordingly
classify these expenses as a cost, rather than as a reduction of revenue.
RESULTS OF OPERATIONS
The following table summarizes our unaudited operating results as a percentage
of net sales for each of the periods indicated.
Nine Months Ended September 30, Three Months Ended September 30,
2003 2002 2003 2002
--------------- --------------- --------------- ----------------
REVENUE 100.0% 100.0% 100.0% 100.0%
COST OF SALES 31.5 42.9 32.1 73.6
--------------- --------------- --------------- ----------------
GROSS PROFIT 68.5 57.1 67.9 26.4
COMMISSIONS 42.3 45.9 42.6 43.7
--------------- --------------- --------------- ----------------
GROSS PROFIT AFTER COMMISSIONS 26.2 11.2 25.4 (17.3)
SHIPPING AND HANDLING EXPENSES 6.5 5.6 6.6 6.2
SELLING EXPENSES 18.4 13.8 17.5 15.2
RESEARCH AND DEVELOPMENT 0.9 0.6 0.8 0.8
GENERAL AND ADMINISTRATIVE 10.1 5.1 11.2 6.5
ASSET IMPAIRMENT 16.0 - 40.4 -
--------------- --------------- --------------- ----------------
OPERATING LOSS (25.7) (13.9) (51.0) (45.9)
OTHER INCOME 0.6 0.8 (0.5) 0.6
INTEREST EXPENSE 2.3 0.7 2.0 0.8
--------------- --------------- --------------- ----------------
NET LOSS BEFORE TAXES (27.3) (13.8) (53.5) (46.1)
INCOME TAX BENEFIT - - - -
--------------- --------------- --------------- ----------------
NET LOSS (27.3) (13.8) (53.5) (46.1)
=============== =============== =============== ================
THREE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED WITH THE THREE MONTHS ENDED
SEPTEMBER 30, 2002
Net sales for the three months ended September 30, 2003 were $5,451,089, a
decrease of $999,562, or 15.5% from net sales of $6,450,651 for the three months
ended September 30, 2002. We directly relate the decrease in sales to a 22.1%
decrease in orders for the same period. Average order size increased to $126
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CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
from $118 over the same period. The average number of distributors for the three
months ended September 30, 2003 decreased to 34,978, which was 18.0% lower than
the average of 42,635 distributors for the three months ended September 30,
2002. We make sales of our products through a multi-level marketing network of
distributors, so we positively link sales with the number of distributors.
Gross profit represents net sales less the cost of goods sold, which includes
the cost of harvesting blue-green algae from Klamath Lake, the cost of other
materials, direct labor expenses, an allocation of overhead costs, amortization,
and depreciation. Gross profit increased to 67.9% of net sales during the three
months ended September 30, 2003 from 26.4% of net sales during the three months
ended September 30, 2002. This increase was due primarily to a non-recurring
write-down of inventory values of $3,100,000 during the third quarter of 2002.
Gross profit after commissions represents gross profit less commission expense.
Commission expense for the three months ended September 30, 2003 and 2002 were
$2,320,163 and $2,819,479, respectively, a decrease of $499,316 or 17.7%. We are
a multi-level marketing organization. Distributors make up our sales force.
Distributors buy algae products for their own consumption and they actively
recruit other distributors into our network. Distributors are paid commissions
based upon their personal sales volumes and the sales of distributors beneath
them in their network. Commission expense as a percentage of sales during the
three months ended September 30, 2003 and 2002 were 42.6% and 43.7%,
respectively. The decrease in the expense as a percentage of sales is due
primarily to several minor changes in the commission plan during the first half
of 2003.
Operating expenses include shipping and handling expenses, selling expenses,
research and development expenses, general and administrative expenses and
impairment expense. In total, operating expenses increased $2,318,834 or 126% to
$4,165,619 for the three months ended September 30, 2003 from $1,846,785 for the
three months ended September 30, 2002. We discuss the components of operating
expenses for the three months ended September 30, 2003 and 2002 below.
o Shipping and handling expenses decreased $39,534 or 9.9%, to $360,080
in 2003 from $399,614 in 2002. The decrease was due to a decrease in
freight expense of $50,800 in 2003. Shipping and handling expenses as
a percent of net sales increased to 6.6% for the three months ended
September 30, 2003 from 6.2% for the three months ended September 30,
2002.
o Selling expenses includes order operator and distributor services
expenses, marketing and promotion expenses, and the expenses of the
Office of the President and CEO. Selling expenses decreased $27,500
between 2003 and 2002 to $952,429 from $979,929. This decrease was
primarily due to a decrease in the credit card merchant fees of
$28,000, which was a result of a decrease in number of orders and
revenue. Selling expenses as a percent of net sales were 17.5% for the
three months ended September 30, 2003 and 15.2% of sales for the three
months ended September 30, 2002. The increase in selling expenses as a
percentage of sales increased because of the fixed nature of certain
expenses coupled with the decrease in revenue.
o Research and development expenses decreased to $44,940 during the
three months ended September 30, 2003 from $49,458 during the same
period in 2002, which constituted 0.8% and 0.8% of net sales,
respectively.
o General and administrative expenses increased by $190,386, or 45.6%,
between 2003 and 2002 to $608,170 from $417,784. For the three months
ended September 30, 2003, general and administrative expenses averaged
11.2% of sales while they were 6.5% of sales for the three months
ended September 30, 2002. The increase between 2003 and 2002 is
primarily attributable to an increase in legal fees and costs of
$142,000, and an increase in loss on sale of fixed assets.
o Asset impairment charge expense increased to $2,200,000 for the three
months ended September 30, 2003 from no related expense in the three
months ended September 30, 2002. This is the result of the write down
of the canal harvest site building in 2003.
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CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
Other income (expense) decreased by $69,845 to a net expense of $27,152 for the
three months ended September 30, 2003 from income of $42,693 for the three
months ended September 30, 2002 due primarily to a decrease in management fees
charged to Klamath Cold Storage, Inc. of $58,000 after it ceased active
operations.
Net interest expense increased to $108,295 for the three months ended September
30, 2003 from $53,808 for the three months ended September 30, 2002. This
increase was due primarily to interest charges recorded in connection with the
settlement of vendor litigation and the resulting note payable. Net interest
expense represented 2.0% and 0.8% of sales for each of the three months ended
September 30, 2003 and 2002, respectively.
Net loss decreased by $53,747 resulting in a loss of $2,917,517 for the three
months ended September 30, 2003 from net loss of $2,971,264 for the comparable
period in 2002. As a percentage of net sales, net loss increased to a net loss
of 51.0% of revenue from a net loss of 46.1% of revenue for the comparable
period in 2002. The decrease in net loss was due primarily to the $3,100,000
charge to income in the third quarter of 2002 for inventory valuation that did
not recur in 2003 that was offset by lower sales revenue in 2003, increases in
certain operating expenses, and an asset impairment charge of $2,200,000.
NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED WITH THE NINE MONTHS ENDED
SEPTEMBER 30, 2002
Net sales for the nine months ended September 30, 2003 were $17,052,013, a
decrease of $3,259,457 or 16.0% from net sales of $20,311,470 for the nine
months ended September 30, 2002. We directly relate the decrease in sales to an
19.9% decrease in orders for the same period. Average order size increased to
$124 from $120 over the same period. The average number of distributors for the
nine months ended September 30, 2003 decreased to an average of 36,304, which
was 18% lower than the average of 44,528 distributors for the nine months ended
September 30, 2002. We make sales of our products through a multi-level
marketing network of distributors, so we positively link sales with the number
of distributors.
Gross profit represents net sales less the cost of goods sold, which includes
the cost of harvesting blue-green algae from Klamath Lake, the cost of other
materials, direct labor expenses, an allocation of overhead costs, amortization,
and depreciation. Gross profit increased to 68.5% of net sales during the nine
months ended September 30, 2003 from 57.1% of net sales during the nine months
ended September 30, 2002. This increase was due primarily to the additional
inventory valuation reserve of $3,100,000 recorded in the third quarter of 2002
that was not recurring in 2003. Additionally, continuing production and
maintenance costs against a lower sales volume and our agreement with a vendor,
which requires the payment of additional fees for use by us of another vendor to
dry algae, resulted in a noninventoriable expense during the period of $238,260.
Gross profit after commissions represents gross profit less commission expense.
Commission expense for the nine months ended September 30, 2003 and 2002 were
$7,216,020 and $9,326,815, respectively, a decrease of $2,110,795 or 22.6%. We
are a multi-level marketing organization. Distributors make up our sales force.
Distributors buy algae products for their own use or consumption and they
actively recruit other distributors into our network. Distributors are paid
commissions based upon their personal sales volumes and the sales of
distributors beneath them in their network. Commission expense as a percentage
of sales during the nine months ended September 30, 2003 and 2002 were 42.3% and
45.9%, respectively. The decrease in the expense as a percentage of sales is due
primarily to the implementation of revisions to the commission system in June of
2002 and continued revisions in 2003.
Operating expenses include shipping and handling expenses, selling expenses,
research and development expenses and general and administrative expenses. In
total, operating expenses increased $3,746,724 or 74% to $8,842,142 for the nine
months ended September 30, 2003 from $5,095,418 for the nine months ended
September 30, 2002. We discuss the components of operating expenses for the nine
months ended September 30, 2003 and 2002 below.
o Shipping and handling expenses decreased $34,547 or 3.0%, to
$1,107,091 in 2003 from $1,141,638 in 2002. The decrease was due to a
decrease in direct freight expense associated with reduced shipping
14
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
activity of $60,200 in 2003 partially offset by increases in payroll
expenses of $13,100. Shipping and handling expenses as a percent of
net sales increased to 6.5% for the nine months ended September 30,
2003 from 5.6% for the nine months ended September 30, 2002.
o Selling expenses includes order operator and distributor services
expenses, marketing and promotion expenses, and the expenses of the
Office of the President and CEO. Selling expenses increased $341,082
between 2003 and 2002 to $3,135,426 from $2,794,344. This increase was
primarily due to an increase in insurance for product liability of
$118,500, an increase in promotional expenses of $228,100, and an
increase in payroll expense of $35,100. We partially offset these
increases by a decrease in the credit card merchant fees of $82,200.
Selling expenses as a percent of net sales were 18.4% for the nine
months ended September 30, 2003 and 13.8% of sales for the nine months
ended September 30, 2002. The increase in selling expenses as a
percentage of sales increased because of the fixed nature of certain
expenses coupled with the decrease in revenue.
o Research and development expenses increased 14.5% to $150,664 during
the nine months ended September 30, 2003 from $131,601 during the same
period in 2002, which constituted 0.9% and 0.6% of net sales,
respectively. The increase related to an increase in payroll cost and
laboratory testing.
o General and administrative expenses increased by $692,494 between 2003
and 2002 to $1,720,329 from $1,027,835. For the nine months ended
September 30, 2003, general and administrative expenses averaged 10.1%
of sales while they were 5.1% of sales for the nine months ended
September 30, 2002. The increase between 2003 and 2002 is primarily
attributable to an increase in legal fees and costs of $497,000,
increase in payroll costs of $59,000, increase in other professional
fees of $41,000 and increase in loss on sale of assets of $83,000.
o Asset impairment charge expense increased to $2,728,632 for the nine
months ended September 30, 2003 from no related expense in the nine
months ended September 30, 2002. During the first nine months of 2003
we wrote down $528,632 of equipment and $2,200,000 for buildings. The
additional loss of value for the equipment we held for sale was due to
the decision to sell the equipment at auction rather than wait for
opportunity to sell the equipment on the open market. The building was
written down to estimated fair market value after it was determined
that it no longer could be used for its original purpose.
Other income (expense) decreased by $56,643 to $106,235 for the nine months
ended September 30, 2003 from $162,878 for the nine months ended September 30,
2002. This was due primarily to decreases in management fees charged to Klamath
Cold Storage, Inc. of $80,000 after it ceased active operations and the
termination of a vendor service agreement that resulted in income of $77,000 in
2002 that was not recurring in 2003. These decreases to other income were
partially offset by an increase in miscellaneous income of $38,000 and decreases
in miscellaneous expenses of $63,000.
Net interest expense increased to $384,332 for the nine months ended September
30, 2003 from $149,543 for the nine months ended September 30, 2002. This
increase was due primarily to interest charges recorded in connection with the
settlement of the Oregon Freeze Dry litigation and the resulting note payable.
Net Interest expense represented 2.3% and 0.7% of sales for each of the nine
months ended September 30, 2003 and 2002, respectively.
The net loss increased by $1,850,346 resulting in a loss of $4,660,050 for the
nine months ended September 30, 2003 from a net loss of $2,809,704 for the
comparable period in 2002. As a percentage of net sales, net loss increased by
10.9% for the nine months ended September 30, 2003 resulting in a net loss of
27.3% of revenue from net loss of 13.8% of revenue for the comparable period in
2002. The dollar increase was due to net sales decreasing by 16.0% and by the
increase in operating costs of 74%, mainly as a result of asset impairment
charges.
15
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
LIQUIDITY AND CAPITAL RESOURCES
We had net losses of $3,497,387, $5,015,350 and $2,783,939 for the years ended
December 31, 2002, 2001 and 2000, respectively and had a working capital deficit
of $4,282,898 and $6,437,186 at December 31, 2002 and 2001, respectively. As a
result, our independent certified public accountants have included in our annual
report an explanatory paragraph in their report covering those periods, which
expresses substantial doubt about our ability to continue as a going concern.
Working capital deficit at September 30, 2003 amounted to $3,398,984, which
represents an increase in working capital of $883,914 from a working capital
deficit of $4,282,898 as of December 31, 2002. At September 30, 2003, we had a
bank overdraft of $602,662 versus a bank overdraft of $468,008 as of December
31, 2002.
In September 2002, La Jolla Loans, Inc. ("La Jolla Loans") purchased and took an
assignment of our financing facility with Coast Business Credit. At the same
time, we entered into a Forbearance and Extension Agreement with La Jolla Loans.
Under the terms of the forbearance agreement, La Jolla Loans agreed not to
declare a default until June 30, 2003, when the entire principal is due. La
Jolla Loans extended the forbearance period to June 30, 2004 by our payment of a
$75,000 renewal fee. Interest of $23,023 at an effective rate of 14% is payable
monthly along with additional monthly impound payments of approximately $65,000.
La Jolla Loans will defer the difference between the minimum interest payment of
$45,000 under the agreement with Coast Business Credit and the $24,500 minimum
interest payments under the forbearance agreement for the forbearance period. If
we fully perform under the terms and conditions of the forbearance agreement and
no default occurs during the forbearance period, La Jolla Loans will release us
from any obligation to pay that portion of the minimum monthly interest payments
in excess of $23,023. The outstanding principal balance at September 30, 2003
was $1,973,400. We were in compliance with all loan covenants as of September
30, 2003.
We believe that our existing capital resources and bank borrowings are adequate
to fund our operations for at least the next 12 months. We have no present
commitments or agreements with respect to any acquisitions or purchases of
manufacturing facilities or new technologies. Any future changes in our
operations could utilize our available capital resources faster than
anticipated. Our capital requirements depend on numerous factors, including:
o the introduction of new products;
o change in the number of distributors and the retention of our current
distributor base; and
o research and development efforts.
If existing capital resources are insufficient to meet our capital requirements,
we will be required to raise additional funds, which we cannot assure will be
available on favorable terms, if at all, or reduce costs which could impair our
ability to conduct ongoing business operations.
CASH FLOWS
Net cash flows provided by operating activities for the nine months ended
September 30, 2003 amounted to $277,925 compared to cash flows provided by
operations of $1,121,172 for the nine months ended September 30, 2002. The
decrease in cash flows generated by operations is primarily due to the increase
in the net loss after accounting for non-cash items as compared to the prior
year. This increase was partially offset by the net decrease in current assets
largely as a result of the utilization of inventory during the first nine months
of 2003. We did not harvest any alga during 2003 until after the third quarter
of operations.
Cash flows provided by investing activities for the nine months ended September
30, 2003 was $90,988, representing an increase of $451,222 from net cash used
for investing activities of $360,234 for the nine months ended September 30,
2002. This was due to a decrease in equipment purchases and an increase in the
cash proceeds from the sale of unused equipment during the nine months ended
September 30, 2003.
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CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
Net cash flows used for financing activities was $368,913 for the nine months
ended September 30, 2003 versus net cash used for financing activities of
$760,938 during the nine months ended September 30, 2002. This change is
principally due to net repayments of long-term debt of $779,350 partially offset
by increases in the bank overdraft and related party debt. The decrease in
long-term debt was due primarily to payments to a vendor and to the settlement
with The Nature Conservancy.
RECENT FINANCIAL ACCOUNTING STANDARDS BOARD STATEMENTS
In May 2003, FASB issued Statement of Financial Accounting Standards No. 150,
"Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity" ("SFAS 150"). SFAS 150 clarifies the accounting for
certain financial instruments with characteristics of both liabilities and
equity, and requires that those instruments be classified as liabilities in the
balance sheets. Previously, many of those financial instruments were classified
as equity. SFAS 150 is effective for financial instruments entered into or
modified after May 31, 2003 and is otherwise effective at the beginning of the
first interim period beginning after June 15, 2003. The adoption of SFAS No. 150
did not have a material impact on its results of operations and financial
condition.
In January 2003, FASB issued Financial Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"). FIN 46 clarifies the application of
Accounting Research Bulletin No. 51, "Consolidated Financial Statements" to
those entities defined as "Variable Interest Entities" (more commonly referred
to as special purpose entities) in which equity investors do not have the
characteristics of a "controlling financial interest" or do not have sufficient
equity at risk for the entity to finance its activities without additional
subordinated financial support from other parties. FIN 46 applies immediately to
all Variable Interest Entities created after January 31, 2003 and by the
beginning of the first interim or annual reporting period commencing after June
15, 2003 for Variable Interest Entities created prior to February 1, 2003. On
October 9, 2003, the FASB issued FASB Staff Position 46-6 ("FSP 46-6") deferring
the effective date for applying the provisions of FIN 46 for public entities
with variable interests in entities created before February 1, 2003, until the
end of the first interim or annual period ending after December 15, 2003. The
Company has not identified any variable interests in entities.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Some of our statements under "Legal Proceedings," "Management's Discussion and
Analysis of Financial Condition and Results of Operations," "Quantitative and
Qualitative Disclosures about Market Risk," "Other Information," the Notes to
Consolidated Financial Statements and elsewhere in this report constitute
"forward-looking statements" within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These
statements are subject to certain events, risks and uncertainties that may be
outside our control. Some of these forward-looking statements include statements
of:
o management's plans, objectives and budgets for its future operations
and future economic performance;
o capital budget and future capital requirements;
o meeting future capital needs;
o realization of any deferred tax assets;
o the level of future expenditures;
o impact of recent accounting pronouncements;
o the outcome of regulatory and litigation matters; and
o the assumptions described in this report underlying such
forward-looking statements. Actual results and developments may
materially differ from those expressed in or implied by such
statements due to a number of factors, including:
o those described in the context of such forward-looking statements;
o future product development and manufacturing costs;
o changes in our incentive plans;
o timely development and acceptance of new products;
o the markets of our domestic and international operations;
o the impact of competitive products and pricing;
o the political, social and economic climate in which we conduct
operations; and
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CELL TECH INTERNATIONAL INCORPORATED
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o the risk factors described in other documents and reports filed with
the Securities and Exchange Commission.
In some cases, forward-looking statements are identified by terminology such as
"may," "will," "should," "could," "would," "expects," "plans," "intends,"
"anticipates," "believes," "estimates," "approximates," "predicts," "potential"
or "continue" or the negative of such terms and other comparable terminology.
Although we believe that the expectations reflected in these forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Moreover, neither we nor anyone else
assumes responsibility for the accuracy and completeness of such statements and
is under no duty to update any of the forward-looking statements after the date
of this report.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We have not entered into any transactions using derivative financial instruments
or derivative commodity instruments and believe that our exposure to market risk
associated with other financial instruments is not material.
Our primary market risks include fluctuations in interest rates. Our management
believes that fluctuation in interest rates in the near term would not
materially affect our consolidated operating results, financial position or cash
flows as we have limited risks related to interest rate fluctuations.
Daryl Kollman and Marta C. Carpenter have sole voting and investment power with
respect to their shares. The Internal Revenue Service has a security interest in
all of their shares pursuant to a Notice of Determination dated June 18, 1999,
under the terms of which a trust holds the shares and the trust will release the
shares upon Mr. Kollman and Ms. Carpenter's payment of their federal income tax
liabilities for various specified years. Mr. Kollman and Ms. Carpenter will sell
their shares as needed and allowed by federal and state securities laws to make
quarterly payments to the Internal Revenue Service. Mr. Kollman and Ms.
Carpenter retain all voting rights incident to their shares while a trust holds
the shares. The Internal Revenue Service may seize Mr. Kollman and Ms.
Carpenter's shares from the trust if Mr. Kollman and Ms. Carpenter fail to
timely cure a default upon their commitments to the Internal Revenue Service
under the Notice of Determination. The Internal Revenue Service would thereafter
proceed to sell or judicially foreclose some or all of the shares for payment of
Mr. Kollman and Ms. Carpenter's tax liabilities as allowed by applicable law.
ITEM 4. CONTROLS AND PROCEDURES
(a) As of September 30, 2003, our Chief Executive Officer, or "CEO," and Chief
Financial Officer, or "CFO," performed an evaluation of the effectiveness and
the operation of our disclosure controls and procedures as defined in Rules
13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934, as amended
(the "Exchange Act"). Based on that evaluation, the CEO and CFO concluded that
our disclosure controls and procedures were effective as of September 30, 2003.
(b) There have been no changes in our internal control over financial reporting
identified in connection with the evaluation required by paragraph (d) Rule
13a-15 or 15d-15 under the Exchange Act that occurred during the quarter ended
September 30, 2003 that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
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PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In October of 2001, Teachers for Truth in Advertising filed an action in the
Superior Court of Tulare County, California alleging that we, erroneously sued
as Cell Tech Products, Inc., engaged in unfair business practices and misleading
advertising. In January 2003, the Superior Court of Tulare County issued a
tentative decision stating that Teachers for Truth in Advertising was entitled
to an injunction prohibiting us from making deceptive representations in its
advertising or literature disseminated in California and ordering us to refund
the purchase price paid by California customers for our algae products from the
date four years prior to the filing of the action through the trial date in
November of 2002. In response to the tentative decision, our counsel filed a
Request for Statement of Decision on January 23, 2003. On February 20, 2003, the
Superior Court issued its final decision, which essentially affirms the
tentative decision, which judgment was entered in April 2003. Plaintiff has
submitted a proposed judgment to the court consistent with the tentative and
final Decisions. The parties mediated this matter on May 9, 2003 before a
retired Orange County, California Superior Court judge and agreed to submit a
proposed confidential settlement to the Superior Court within 60 days, which
they have done. The confidential settlement provides for making partial refunds
to certain of our California customers. The Superior Court approved the
confidential settlement and vacated the judgment on August 25, 2003. We do not
believe that the proposed refund to California customers will be in an amount
that would have a material adverse impact on our business and financial
position.
On February 19, 2002, Daryl Kollman filed two separate Notices of Claim of Lien
upon Chattels against, NAC, Marta Carpenter, others and us, in Klamath County,
Oregon. Mr. Kollman alleges, among other things, that we owe him approximately
$705,693 in past due rent. Mr. Kollman also claims that we owe Klamath Cold
Storage, Inc. ("KCS"), a company owned by Mr. Kollman and Ms. Carpenter,
approximately $717,900 in past due rent. Mr. Kollman asserts that we are not
entitled to remove our personal property from the real property owned by him,
Ms. Carpenter and KCS and seeks to subject our property to foreclosure
proceedings. We intend to vigorously defend against these liens. We cannot
predict the amount of loss, if any, that could result from these liens, but do
not believe that an unfavorable outcome would have a material adverse impact
upon our financial condition, cash flow, or results of operations.
On or about May 31, 2002, Daryl Kollman filed an action in the Circuit Court of
Klamath County (Case No. 02-01956CV) seeking to evict us from certain real
property owned by him and Marta Carpenter. Mr. Kollman later added a claim for
allegedly unpaid rent exceeding $558,000. On or about October 31, 2002, the
Court dismissed Mr. Kollman's eviction claim. Mr. Kollman's claim for unpaid
rent is currently pending. We cannot predict the amount of loss, if any, that
could result from this lawsuit but an unfavorable outcome could have a material
adverse effect on our financial condition.
On June 6, 2002, Daryl Kollman filed a lawsuit in the name of KCS in the Circuit
Court for the State of Oregon for Klamath County (Case No. 02-02040CV) to evict
us from property owned by KCS. In this lawsuit, Mr. Kollman also alleges that we
have not paid approximately $1,050,000 in rent. We have voluntarily vacated all
of the KCS property, as we do not need it to support our current operations. We
contend that we have paid all rents owing and intend to vigorously defend this
lawsuit. We cannot predict the amount of loss, if any, that could result from
this lawsuit but an unfavorable outcome could have a material adverse effect on
our financial condition.
On October 7, 2002, Daryl Kollman, one of our principal stockholders, filed a
lawsuit against us, certain of our officers, directors, and counsel in the
Circuit Court for the State of Oregon for Klamath County (Case No. 02-03774CV).
The complaint makes a number of individual and derivative claims. Mr. Kollman
makes two claims against us. First, Mr. Kollman alleges that we breached an
agreement to register our stock for public sale and seeks damages of an amount
he has to prove at trial, but not less than $9,282,000. Second, Mr. Kollman
claims that we conspired with Marta C. Carpenter (formerly known as Marta C.
Kollman), a principal stockholder and our President, Chief Executive Officer and
one of our directors; Donald P. Hateley, our Chairman of the Board of Directors;
and others to prevent the registration of Mr. Kollman's stock and to cause other
financial injury to him. As a result, Mr. Kollman seeks no less than $32,931,976
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CELL TECH INTERNATIONAL INCORPORATED
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against the defendants. Mr. Kollman also seeks millions of dollars in damages on
his own behalf and on behalf of us against Ms. Carpenter, Mr. Hateley and others
based on a variety of legal theories. We intend to vigorously defend the direct
claims asserted in this lawsuit and we have filed a motion to disqualify Mr.
Kollman as a proper plaintiff for the derivative claims, which motion is
currently pending. We cannot predict the amount of loss, if any, which could
result from this lawsuit, and an unfavorable outcome could have a material
adverse impact upon our financial condition, cash flow, or results of
operations.
ITEM 2. CHANGES IN SECURITIES
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At our Annual Meeting of Stockholders on July 25, 2003, we submitted
and, by vote, our stockholders approved the following actions:
(1) Election of five directors;
(2) Ratification of the Board's selection of BDO Seidman LLP as our
independent certified public accountants; and
(3) Approval of our 2000 Stock Incentive Plan.
A total of 8,899,875 shares (approximately 63%) of the issued and
outstanding shares of the Company were represented by proxy or in person at the
meeting. Our stockholders voted these shares on the matters described above as
follows:
1. For the directors as follows:
NAME NUMBER
OF SHARES NUMBER OF SHARES
FOR ABSTAINING/WITHHELD
----------------------------------------- ---------------- ------------------------
Donald P. Hateley, Esq., CPA 8,886,575 3,300
Marta C. Carpenter 8,886,564 3,311
Justin Straus 8,886,575 3,300
Christopher J. Blaxland, D.V.M. 8,886,575 3,300
Donald M. Anderson, Ph.D. 8,886,575 3,300
2. For the ratification of the Board's selection of BDO Seidman LLP as our
independent certified public accountants as follows:
NUMBER OF
SHARES NUMBER OF SHARES NUMBER OF SHARES
FOR AGAINST ABSTAINING/WITHHELD
------------------ -------------------- -----------------------
8,886,485 3,390 0
3. For the ratification of the Board's approval of our 2000 Stock Incentive Plan
as follows:
NUMBER OF
NUMBER OF SHARES SHARES NUMBER OF SHARES
FOR AGAINST ABSTAINING/WITHHELD
-------------------- ------------------- ------------------------
8,884,116 5,575 184
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ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits required by Item 601 of Regulation S-K
Exhibit Number Description
- -------------- -----------
3.1 Certificate of Incorporation, as amended, incorporated by reference to the
Registration Statement on Form SB-2 dated June 21, 1996.
3.2 Certificate of Amendment of Certificate of Incorporation, incorporated by
reference to the Current Report on Form 8-K dated November 19, 1999.
3.3 Certificate of Designations, Preferences and Rights of Series B Convertible
Preferred Stock incorporated by reference to the Current Report on Form 8-K
dated August 2, 1999.
3.4 Amended and Restated Bylaws incorporated by reference to the Registration
Statement on Form SB-2 dated June 21, 1996.
(31) Certifications pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
(31.1) Certification pursuant to Item 601(b)(31) of Regulation S-K, as
adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002,
of the Chief Executive Officer of Cell Tech International
Incorporated*
(31.2) Certification pursuant to Item 601(b)(31) of Regulation S-K, as
adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002,
of the Chief Accounting Officer of Cell Tech International
Incorporated*
(32) Certification pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(32.1) Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, of the
Chief Executive Officer of Cell Tech International Incorporated*
(32.2) Certification pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, of the
Chief Accounting Officer of Cell Tech International Incorporated*
(b) Current Reports on Form 8-K
None.
* Filed herewith.
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SIGNATURES
Pursuant to the requirements 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.
CELL TECH INTERNATIONAL INCORPORATED
November 19, 2003 /s/ Marta C. Carpenter
-------------------------------------
Marta C. Carpenter
President and Chief Executive Officer
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