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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED: SEPTEMBER 30, 2004
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______ TO ______
COMMISSION FILE 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 November 12, 2004, 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
Commissions..............................................................................................5
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations...............10
OVERVIEW................................................................................................11
Commissions.............................................................................................12
RESULTS OF OPERATIONS...................................................................................13
Three months ended September 30, 2004 compared with the three months ended September 30, 2003...........13
Nine months ended September 30, 2004 compared with the nine months ended September 30, 2003.............15
Liquidity and Capital Resources.........................................................................16
Cash Flows..............................................................................................17
Item 3. Quantitative and Qualitative Disclosures About Market Risk..........................................17
Item 4. Controls and Procedures.............................................................................18
PART II -- OTHER INFORMATION.....................................................................................18
Item 1. Legal Proceedings...................................................................................18
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.........................................19
Item 3. Defaults Upon Senior Securities.....................................................................19
Item 4. Submission of Matters to a Vote of Security Holders.................................................19
Item 5. Other Information...................................................................................19
Item 6. Exhibits............................................................................................20
Signatures..................................................................................................21
CERTIFICATION PURSUANT TO SECTION 302 (a) OF THE SARBANES-OXLEY ACT OF 2002......................................22
Certification pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of
the Sarbanes-oxley act of 2002 ................................................................................23
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2004 2003
----------- -----------
(Unaudited)
ASSETS
Current assets
Receivables $ 261,702 $ 284,648
Current portion of inventories 1,887,000 1,900,000
Prepaid expenses 211,248 565,450
----------- -----------
Total current assets 2,359,950 2,750,098
----------- -----------
Long-term inventories, net of current portion 2,445,008 2,816,471
Property and equipment, net of accumulated depreciation 1,602,212 2,460,237
Property and equipment idle, net 770,131 916,355
Other assets 191,784 240,851
----------- -----------
TOTAL ASSETS $ 7,369,085 $ 9,184,012
----------- -----------
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Bank overdraft $ 570,965 $ 481,496
Accounts payable 2,344,188 685,146
Commissions payable 710,827 878,258
Accrued payroll and related liabilities 250,534 296,506
Other accrued expenses 1,278,995 1,287,659
Current portion of long-term debt 2,008,840 2,074,229
Related party payable 1,053,724 746,747
----------- -----------
Total current liabilities 8,218,073 6,450,040
----------- -----------
Long-term liabilities
Long-term debt, net of current portion 324,164 507,855
----------- -----------
TOTAL LIABILITIES 8,542,237 6,957,895
----------- -----------
Stockholders' equity
Series A convertible preferred stock - no par value; 4,175,000 shares
authorized; none issued and outstanding in 2004 and 2003 -- --
Series B convertible preferred stock - no par value; 800,000 shares
authorized; none issued and outstanding in 2004 and 2003 -- --
Undesignated preferred stock - no par value; 1,825,000 shares
authorized; none issued and outstanding in 2004 and 2003 -- --
Common stock - $.01 par value; in 2004 and 2003, 50,000,000 shares
authorized, 13,974,087 shares issued and outstanding 139,741 139,741
Additional paid-in capital 2,891,224 2,891,224
Accumulated deficit (4,204,117) (804,849)
----------- -----------
TOTAL STOCKHOLDERS' EQUITY (1,173,152) 2,226,116
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 7,369,085 $ 9,184,012
----------- -----------
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,
-------------------------------- --------------------------------
2004 2003 2004 2003
------------ ------------ ------------ ------------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
REVENUE $ 14,809,351 $ 17,052,013 $ 4,681,546 $ 5,451,089
COST OF SALES 4,181,155 5,375,804 1,312,164 1,747,377
------------ ------------ ------------ ------------
GROSS PROFIT 10,628,196 11,676,209 3,369,382 3,703,712
COMMISSIONS 6,201,017 7,216,020 1,977,788 2,320,163
------------ ------------ ------------ ------------
GROSS PROFIT AFTER COMMISSIONS 4,427,179 4,460,189 1,391,594 1,383,549
SHIPPING AND HANDLING EXPENSES 1,055,336 1,107,091 325,571 360,080
SELLING EXPENSES 2,667,371 3,135,426 843,646 952,429
RESEARCH AND DEVELOPMENT 115,708 150,664 41,377 44,940
GENERAL AND ADMINISTRATIVE 3,718,391 1,720,329 1,378,922 608,170
ASSET WRITE-DOWN -- 2,728,632 2,200,000
------------ ------------ ------------ ------------
OPERATING LOSS (3,129,627) (4,381,953) (1,197,922) (2,782,070)
OTHER INCOME (EXPENSE) (40,521) 106,235 (5,147) (27,152)
INTEREST EXPENSE 229,120 384,332 66,303 108,295
------------ ------------ ------------ ------------
NET LOSS $ (3,399,268) $ (4,660,050) $ (1,269,372) $ (2,917,517)
------------ ------------ ------------ ------------
BASIC AND DILUTED LOSS PER SHARE $ (0.23) $ (0.33) $ (0.09) $ (0.21)
------------ ------------ ------------ ------------
WEIGHTED AVERAGE NUMBER OF COMMON
SHARES OUTSTANDING
USED TO CALCULATE BASIC AND
DILUTED LOSS PER SHARE 14,587,881 13,953,573 14,587,881 13,947,826
------------ ------------ ------------ ------------
See accompanying notes to consolidated financial statements.
2
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Nine Months Ended
September 30,
---------------------------------
2004 2003
-------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $(3,399,268) $(4,660,050)
Adjustments to reconcile net loss to cash
provided by operating activities:
Depreciation and amortization 1,059,577 780,083
Impairment of fixed assets and intangibles -- 2,728,632
(Gain) / Loss on sale (13,928) 90,593
Changes in assets and liabilities:
Receivables 22,946 129,007
Inventories 384,463 931,530
Prepaid expenses 354,202 193,992
Other assets 49,067 193,707
Accounts payable 1,659,042 181,813
Commissions payable (167,431) (58,321)
Accrued payroll and payroll related liabilities (45,972) (18,149)
Other accrued expenses (8,664) (214,194)
----------- -----------
Net cash provided by (used in) operating activities (105,966) 277,925
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property and equipment (111,534) (112,700)
Proceeds from disposals of equipment 70,134 203,688
----------- -----------
Net cash Provided by (used in) investing activities (41,400) 90,988
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Bank overdraft 89,469 134,654
Payments on line of credit -- (126,600)
Net payments on long-term debt (249,080) (652,750)
Net increase in related party rent payable 306,977 275,783
----------- -----------
Net cash provided by (used in) financing activities 147,366 (368,913)
----------- -----------
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 $ 210,895 $ 341,904
----------- -----------
NON-CASH FLOW 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
----------- -----------
See accompanying notes to consolidated financial statements.
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
marketing 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
for the year ended December 31, 2003.
GOING CONCERN
We have experienced recurring net losses, have negative cash flow from
continuing operations and have negative working capital at September 30, 2004.
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, 2003, our independent registered 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.
BASIS OF CONSOLIDATION
Our accompanying consolidated financial statements include our accounts and our
subsidiary, NAC. We have eliminated intercompany transactions and balances on
consolidation.
4
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
NOTE 1 - SUMMARY OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
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. We disclose 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.
COMMISSIONS
In November 2001, the Emerging Issues Task Force ("EITF") issued EITF Issue No.
01-09, "Accounting for Consideration Given by a Vendor to a Customer or a
Reseller of the Vendor's Products," which addresses the accounting for
consideration given by a vendor to a customer or a reseller of the vendor's
products. In April 2001, the EITF reached a consensus on EITF Issue No. 00-25,
"Vendor Income Statement Characterization of Consideration Paid to a Reseller of
the Vendor's Products," which provides guidance on the 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 and based on their personal sales volumes and the
sales of distributors they have recruited into our network. Accordingly, we
classify these expenses as a cost and not 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 nine months
ended September 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. We also identified a building that was no longer
being utilized in its original design and determined that a write-down of $2.2
million was required to restate the building at its estimated fair value.
RECLASSIFICATIONS
We have reclassified certain prior period amounts to conform to the current
period presentation.
5
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
NOTE 2 - INVENTORIES
Inventories consist of the following:
September 30, December 31,
2004 2003
----------- -----------
Work in progress $ 4,479,959 $ 6,857,108
Finished goods 470,438 418,999
Sales aids 11,674 5,904
----------- -----------
4,962,071 7,282,011
Less reserve for potentially unsaleable inventories (630,063) (2,565,540))
----------- -----------
4,332,008 4,716,471
Less current portion (1,887,000) (1,900,000))
----------- -----------
$ 2,445,008 $ 2,816,471
----------- -----------
Certain of our inventory items are marketable only to the agricultural market.
Sales in this market have been less than anticipated and management has
recognized that an impairment of inventory exists. We had a reserve for
inventory impairment of $630,063 as of September 30, 2004.
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 14,587,881 and 13,953,573
shares for the nine months ended September 30, 2004 and 2003, 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 - 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 agreed to not
declare a default until June 30, 2003, when the entire principal would be due.
La Jolla Loans has extended the forbearance period to June 30, 2004 and then to
June 30, 2005. We paid annual loan renewal fees in 2003 and 2004 in the amount
of $75,000 and $98,000 respectively. Interest of $18,225 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 $18,225. The outstanding
principal balance at September 30, 2004 was $1,562,164 and is reported on the
balance sheet in the current portion of long-term debt. The Company is in
compliance with all loan covenants as of September 30, 2004.
The company has an agreement with Oregon Freeze Dry, Inc. as a result of the
settlement of a lawsuit. That agreement requires the payment of $50,000 per
month until the agreed upon principal amount of $1,855,917 has been paid. The
agreement does not require interest be paid on the note. The company has imputed
interest at 11.1% in order to calculate the note balance on our financial
records. The balance owing to Oregon Freeze Dry, Inc. at September 30,2004 was
$770,979. Of that balance $324,164 is classified as long-term. Oregon Freeze
Dry, Inc. has agreed to a temporary reduction in monthly payments and we are
incompliance with the agreement based on that modification of terms.
6
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
NOTE 5 - CONTINGENCIES
MICROCYSTIS
As a result of certain conditions, Microcystis, a toxic alga, 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
On or about May 31, 2002, Daryl J. Kollman, one of our shareholders, 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 C. Carpenter (our
President and CEO). Mr. Kollman and Ms. Carpenter are former husband and wife;
they were divorced in May 2002. 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. The Company believes that, as of September 30, 2004, it owes
Mr. Kollman $472,915 in unpaid rent which amount is included in our balance
sheet in related party payable. In September 2004, the Court referred this
matter to a special master to perform an accounting of amounts owed. The special
master is presently evaluating this matter. We expect that this case will result
in a judgment against the Company of no less than $472,915. We cannot predict
the amount of any further loss, if any, which could result from this lawsuit,
but we expect that the final outcome of this case will have a material adverse
effect on our financial condition.
On or about June 6, 2002, Mr. Kollman filed a lawsuit in the name of Klamath
Cold Storage, Inc. ("KCS"), a company owned by Mr. Kollman and Ms. Carpentner,
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 had not paid approximately $1,050,000 in rent as of the
filing date. We have voluntarily vacated all of the KCS property. We contend
that we have paid all rents owing and intend to vigorously defend this lawsuit.
In September 2004, the Court referred this matter to a special master to perform
an accounting of amounts allegedly owed. The special master is presently
evaluating this matter. We cannot predict the amount of loss, if any, which
could result from this lawsuit, but an unfavorable outcome could have a material
adverse effect on our financial condition.
Prior to initiating the two lawsuits referenced above, and on or about February
19, 2002, Mr. Kollman filed two separate Notices of Claim of Lien upon Chattels
against us, one of our subsidiaries (The New Algae Company), and Ms. Carpenter
in Klamath County, Oregon (the "Notices"). The Notices purport to assert a lien
on certain of our personal property for allegedly unpaid rents to Mr. Kollman
and KCS. These rents are the same rents at issue in the two lawsuits discussed
immediately above. We intend to vigorously defend against these liens. We cannot
predict the amount of loss, if any, which could result from these liens, but an
unfavorable outcome could have a material adverse impact upon our financial
condition, cash flow, or results of operations.
On October 7, 2002, Daryl J. Kollman filed an additional lawsuit against us, two
of our directors (Ms. Carpenter and Donald P. Hateley, our Chairman), and
several other defendants who were subsequently dismissed from the action. The
lawsuit was filed in the Circuit Court for the State of Oregon for Klamath
County (Case No. 02-03774CV). The complaint asserted direct claims against us,
Ms. Carpenter and Mr. Hateley. The complaint also asserted several derivative
claims, brought on behalf of the Company, against only Ms. Carpenter and Mr.
Hateley. On August 23, 2004, a jury rendered a verdict against the defendants in
an aggregate amount that is subject to interpretation, but was for no less than
$175 million. The verdict consisted of direct claims of $5.5 million against us
and $61.3 million against Ms. Carpenter. Don Hateley was included as secondarily
liable on one direct claim for $40 million. The jury also issued a verdict of
approximately $105.5 million in derivative claims in favor of the Company and
against Ms. Carpenter and Mr. Hateley.
7
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
On or about September 27, 2004, the defendants filed various motions to set
aside the verdict. As a result of these motions, the Court dismissed the claim
asserted directly against us in this action, all derivative claims, and all but
one direct claim asserted against Ms. Carpenter and Mr. Hateley. On November 4,
2004, and as a result of the Court's ruling, a final judgment was entered
against Ms. Carpenter and Mr. Hateley, in favor of Mr. Kollman, in the amount of
$40 million. We, Ms. Carpenter and Mr. Hateley have since appealed this judgment
to the Oregon Court of Appeals. Those appeals are pending.
Our two directors may have the right to seek indemnity from us for some or all
of the judgment entered against them in this case. The tenth article of the
Company's Certificate of Incorporation requires the corporation to indemnify
directors to the fullest extent permitted by law. Our Director and Officer's
insurance carrier has denied coverage for this claim. The directors have not
asserted indemnity claims against the Company for the $40 million judgment
imposed by the trial court. An unfavorable outcome on these potential indemnity
claims would have a material adverse effect on our financial condition.
The Company is also involved in various legal matters arising in the normal
course of business. In the opinion of management, the Company's liability, if
any, arising from legal proceedings related to these matters is not expected to
have a material effect on the consolidated financial statements of the Company.
LIEN ON COMPANY STOCK
Stock owned by two of our shareholders, Marta C. Carpenter and Daryl J. Kollman,
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 Ms. Carpenter and Mr. Kollman. Ms. Carpenter and Mr. Kollman retain
voting power over the stock held in trust. Ms. Carpenter and Mr. Kollman 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 Ms.
Carpenter or Mr. Kollman 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 Ms. Carpenter and Mr. Kollman's tax liabilities.
RELATED PARTY TRANSACTIONS
We lease approximately 100,000 square feet of office, processing, freezer and
storage space directly from Marta C. Carpenter and Daryl J. Kollman, two of our
principal shareholders. Most of these leases are year-to-year, although we do
rent some space on a month-to-month basis and one lease will expire in 2005. We
believe that the space we lease from Ms. Carpenter and Mr. Kollman and the rent
we pay to them is at or below fair market values. Rental expense accrued for
rent to Ms. Carpenter and Mr. Kollman during the first nine months of 2004 was
$403,921. We owe Ms. Carpenter and Mr. Kollman $1,053,724 in accrued rental
payments reflected on our balance sheet as a related party payable as of
September 30, 2004.
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 first nine months of 2004, an
additional liability was recognized under the agreement in the amount of $77,889
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. We have
accrued and will continue to accrue additional penalties until the shares are
registered or the agreement is otherwise cancelled. The accrued liability at
September 30, 2004 was $160,426 and 1,046,051 shares and 4,379,243 warrants are
issuable to Mr. Kazi.
8
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
Additionally, we were to register the shares originally sold to Mr. Kazi for
resale within 120 days of the sale in 1999. At the time of registration of the
shares another calculation is to be done and additional penalty shares will
become due to Mr. Kazi if the fair value of the stock's market price decreases
below a prescribed level of $1.425 per share. Due to the currently depressed
market value of our stock, the number of shares that would be due to Mr. Kazi if
we were to file a registration statement could be as much as several hundred
million shares, including the potential exercise of warrants. Mr. Kazi has
requested that shares be issued to him in exchange for cancellation of the
current agreement. The total number of shares to be issued to him has not been
determined. In anticipation of an agreement to cancel our current obligation to
register Mr. Kazi's stock, the board has passed a resolution authorizing the
issuing of 36,025,913 shares to Mr. Kazi to be held in trust pending the final
resolution and calculation of shares to be issued to Mr. Kazi.
9
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS
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,
which 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;
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, 2003.
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.
10
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
Management has introduced many new products and several new advertising
campaigns for the purpose of increasing revenues and reversing the trend of net
losses in current and prior years. Although management believes that it has made
progress on these issues affecting our ability to continue as a going concern,
we continue to experience many difficult challenges including recurring net
losses, negative cash flow from operations, negative revenue trends and have
negative working capital at September 30, 2004. These conditions give rise to
substantial doubt about our 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 obtain or 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, 2004 compared to the same period in 2003. 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.
OVERVIEW
We are a natural and nutritional products company. We develop and distribute a
wide range of products made with Aphanizomenon flos-aquae (trade name Super Blue
Green(R)) Algae ("SBGA") and other nutrients and ingredients through a
multilevel network of independent Business Associates ("Business Associates").
We currently offer over 60 products that are intended to appeal to
health-conscious consumers. We divide our products into three major product
lines including nutritional supplements and foods, skin and hair care products,
and animal and plant care.
We harvest SBGA and manufacture several of our products at our modern production
facilities in Klamath Falls, Oregon. We market our products through independent
Business Associates located in all fifty states, the District of Columbia, Guam,
Puerto Rico, American Samoa, the Virgin Islands, Federated States of Micronesia,
Marshall Islands, Northern Mariana Islands, Palau and Canada. We encourage our
Business Associates to recruit interested people as new Business Associates for
our products. We place these recruits beneath the recruiting Business Associates
in the "network" and we refer to them as the associates' "downlines" or
"networks." Business Associates earn commissions on sales by their organizations
as well as on the sales they generate directly. We assist Business Associates in
establishing their own businesses and provide support programs such as a
comprehensive, information-packed website (www.celltech.com), audio and
videotapes for training, a national Training tour, Regional Sales Meetings,
seminars and an annual convention called the August Celebration.
Our loss per share was $0.23 for the nine months ended September 30, 2004
compared to a net loss of $0.33 per share for the same period in 2003. We
primarily relate the net loss for the nine months ended September 30, 2004 of
$3,399,268 to a decrease in revenue without corresponding decreases in
administrative costs and selling expenses. Legal fees have been much higher in
2004. Some of the increase in legal fees was offset by a decrease in negative
valuation allowances in regards to assets held for sale during 2004 compared to
2003.
11
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
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 plant, are subject to variation due to environmental conditions. The volumes
of annual harvests vary 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 record impairment losses on long-lived assets used in operations when events
and circumstances indicate that the assets might be impaired and the
undiscounted cash flows we estimate to generate by those assets are less than
the carrying amount of those items. We base our cash flow estimates on
historical results adjusted to reflect our best estimate of future market and
operating conditions. We reduce the net carrying value of assets not recoverable
to fair value. Our estimates of fair value represent our best estimate based on
industry trends and reference to market rates and transactions. During the first
nine months of 2003 we recorded impairment expenses for various assets
designated as held for sale in the amount of $528,632 and for a building in the
amount of $2.2 million. We have not recorded any impairment expense in 2004.
COMMISSIONS
In November 2001, the Emerging Issues Task Force ("EITF") issued EITF Issue No.
01-09, "Accounting for Consideration Given by a Vendor to a Customer or a
Reseller of the Vendor's Products," which addresses the accounting for
consideration given by a vendor to a customer or a reseller of the vendor's
products. In April 2001, the EITF reached a consensus on EITF Issue No. 00-25,
"Vendor Income Statement Characterization of Consideration Paid to a Reseller of
the Vendor's Products," which provides guidance on the 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 and based on their personal sales volumes and the
sales of distributors they have recruited into our network. Accordingly, we
classify these expenses as a cost and not a reduction of revenue.
12
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
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 Three Months Ended
September 30, September 30,
--------------------- ---------------------
2004 2003 2004 2003
------ ------ ------ ------
REVENUE 100.0% 100.0% 100.0% 100.0%
COST OF SALES 28.2 31.5 28.0 32.1
------ ------ ------ ------
GROSS PROFIT 71.8 68.5 72.0 67.9
COMMISSIONS 41.9 42.3 42.3 42.6
------ ------ ------ ------
GROSS PROFIT AFTER COMMISSIONS 29.9 26.2 29.7 25.4
SHIPPING AND HANDLING EXPENSES 7.1 6.5 7.0 6.6
SELLING EXPENSES 18.0 18.4 18.0 17.5
RESEARCH AND DEVELOPMENT 0.8 0.9 0.9 0.8
GENERAL AND ADMINISTRATIVE 25.1 10.1 29.5 11.2
ASSET WRITE-DOWN -- 16.0 -- 40.4
------ ------ ------ ------
OPERATING LOSS (21.1) (25.7) (25.6) (51.0)
OTHER INCOME (EXPENSE) (0.3) 0.6 (0.1) (0.5)
INTEREST EXPENSE 1.6 2.3 1.4 2.0
------ ------ ------ ------
NET LOSS (23.0) (27.3) (27.1) (53.5)
------ ------ ------ ------
THREE MONTHS ENDED SEPTEMBER 30, 2004 COMPARED WITH THE THREE MONTHS ENDED
SEPTEMBER 30, 2003
Net sales for the three months ended September 30, 2004 were $4,681,546, a
decrease of $769,543 or 14.1% from net sales of $5,451,089 for the three months
ended September 30, 2003. We directly relate the decrease in sales to an 13.6%
decrease in orders for the same period. The average number of distributors for
the three months ended September 30, 2004 decreased to an average of 31,195,
which was 10.8% lower than the average of 34,978 distributors for the three
months ended September 30, 2003. We make sales of our food supplement 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 72.0% of net sales during the three
months ended September 30, 2004 from 67.9% of net sales during the same period
in 2003. This increase was due to decreases in period costs due to our
continuing cost cutting efforts.
Gross profit after commissions represents gross profit less commission expense.
Commission expense for the three months ended September 30, 2004 and 2003 was
$1,977,788 and $2,320,163, respectively, a decrease of $342,375 or 14.8%. We are
a multi-level marketing organization. Business Associates make up our sales
force. Business Associates buy algae products for their own consumption and they
actively recruit other Business Associates into our network. Business Associates
are paid commissions based upon their personal sales volumes and the sales of
Business Associates beneath them in their network. Commission expense as a
percentage of sales was 42.3% and 42.6% during the three months ended September
30, 2004 and 2003, respectively.
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CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
Operating expenses include shipping and handling expenses, selling expenses,
research and development expenses and general and administrative expenses. In
total, operating expenses decreased $1,576,103 or 37.8% to $2,589,516 for the
three months ended September 30, 2004 from $4,165,619 for the three months ended
September 30, 2003. We discuss the components of operating expenses discussed
below.
o Shipping and handling expenses decreased $34,509 or 9.6%, to
$325,571 in 2004 from $360,080 in 2003. The decrease was due to a
decrease in payroll expenses in 2004 of $10,000 and decreases in
various other expenses due to the decrease in the number of orders.
Shipping and handling expenses as a percent of net sales increased
to 7.0% for the three months ended September 30, 2004 from 6.6% for
the three months ended September 30, 2003. The increase is primarily
due to the decrease in sales being greater than the decrease in
costs associated with the shipping process.
o Selling expenses includes order operator and Business Associates
services, marketing and promotion expenses. Selling expenses
decreased $108,783 or 11.4% between 2004 and 2003 to $843,646 from
$952,429. This decrease was primarily due to decreases in consulting
fees of $75,000 and decreases in various other smaller expenses.
o Research and development expenses decreased $3,563 or 7.9% to
$41,377 during the three months ended September 30, 2004 from
$44,940 during the same period in 2003, which constituted 0.9% and
0.8% of net sales, respectively.
o General and administrative expenses increased by $770,752, or 127%,
between 2004 and 2003 to $1,378,922 from $608,170. For the three
months ended September 30, 2004, general and administrative expenses
averaged 29.5% of sales while they were 11.2% of sales for the three
months ended September 30, 2003. The increase between 2004 and 2003
is primarily attributable to the additional legal fees incurred in
2004 of $723,000.
o There were no asset write-down expenses incurred during the three
months ended September 30, 2004 compared to $2.2 million for the
three months ended September 30, 2003. The write-down expense in
2003 related to a building that was reduced to fair value.
Other income increased by $22,005 to a net expense of $5,147 for the three
months ended September 30, 2004 from a net expense of $27,152 for the three
months ended September 30, 2003.
Net interest expense decreased to $66,303 for the three months ended September
30, 2004 from $108,295 for the three months ended September 30, 2003. This
decrease was due primarily to reduced principal balances to La Jolla Loan and to
Oregon Freeze Dry. Net interest expense represented 1.4% and 2.0% of sales for
each of the three months ended September 30, 2004 and 2003, respectively.
Net loss improved $1,648,145 resulting in a loss of $1,269,372 for the three
months ended September 30, 2004 compared to a net loss of $2,917,517 for the
comparable period in 2003. As a percentage of net sales, the net loss was 27.1%
of revenue during the three months ended September 30, 2004 and 53.5% of revenue
for the comparable period in 2003. The smaller net loss was due primarily to not
having any asset impairment charges in 2004. Partially offsetting the smaller
net loss was increased legal expense.
14
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
NINE MONTHS ENDED SEPTEMBER 30, 2004 COMPARED WITH THE NINE MONTHS ENDED
SEPTEMBER 30, 2003
Net sales for the nine months ended September 30, 2004 were $14,809,351, a
decrease of $2,242,662 or 13.2% from net sales of $17,052,013 for the nine
months ended September 30, 2003. We directly relate the decrease in sales to an
11.1% decrease in our customer base during the same period. The number of
Business Associates for the month ended September 30, 2004 was 30,733 compared
to 34,568 for the month ended September 30, 2003. Average order size remained
constant at about $124. We make sales of our food supplement products through a
multi-level marketing network of Business Associates.
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 71.8% of net sales during the nine
months ended September 30, 2004 from 68.5% of net sales during the same period
in 2003. This increase was due in part to a price increase late in the first
half of 2003 and to ongoing cost reduction efforts by the company.
Gross profit after commissions represents gross profit less commission expense.
Commission expense for the nine months ended September 30, 2004 and 2003 was
$6,201,017 and $7,216,020, respectively, a decrease of $1,015,003 or 14.1%. We
are a multi-level marketing organization. Business Associates make up our sales
force. Business Associates buy algae products for their own consumption and they
actively recruit other Business Associates into our network. Business Associates
are paid commissions based upon their personal sales volumes and the sales of
Business Associates beneath them in their network. Commission expense as a
percentage of sales was 41.9% and 42.3% during the nine months ended September
30, 2004 and 2003, respectively.
Operating expenses include shipping and handling expenses, selling expenses,
research and development expenses, general and administrative expenses and asset
write-down expense. In total, operating expenses decreased $1,285,336 or 14.5%
to $7,556,806 for the nine months ended September 30, 2004 from $8,842,142 for
the nine months ended September 30, 2003. We discuss the components of operating
expenses discussed below.
o Shipping and handling expenses decreased $51,755 or 4.7%, to
$1,055,336 in 2004 from $1,107,091 in 2003. The decrease was due to
a decrease in sales volume during 2004. Shipping and handling
expenses as a percent of net sales increased to 7.1% for the nine
months ended September 30, 2004 from 6.5% for the nine months ended
September 30, 2003.
o Selling expenses includes order operator and distributor services
expenses, marketing and promotion expenses. Selling expenses
decreased $468,055 or 14.9% between 2004 and 2003 to $2,667,371 from
$3,135,426. This decrease was primarily due to decreases in
advertising and promotional expenses of $232,000, payroll expense of
$48,000, depreciation expense of $68,000, and credit card processing
fees of $56,000. Selling expenses as a percent of net sales were
18.0% for the nine months ended September 30, 2004 and 18.4% of
sales for the nine months ended September 30, 2003.
o Research and development expenses decreased 23.2% to $115,708 during
the nine months ended September 30, 2004 from $150,664 during the
same period in 2003, which constituted 0.8% and 0.9% of net sales,
respectively. The decrease in expense relates to a decrease in
laboratory supplies expense and depreciation expense.
o General and administrative expenses increased by $1,998,062 or 116%
between 2004 and 2003 to $3,718,391 from $1,720,329. For the nine
months ended September 30, 2004, general and administrative expenses
averaged 25.1% of sales while they were 10.1% of sales for the nine
months ended September 30, 2003. The increase between 2004 and 2003
is primarily attributable to an increase in legal fees of $1.5
million and increased amortization of leasehold improvements of
$540,000.
o Asset write-down expense of $2,728,632 for the nine months ended
September 30, 2003 was not recurring for the nine months ended
September 30, 2004.
15
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
Other income and expense decreased by $146,756 to a net expense of $40,521 for
the nine months ended September 30, 2004 from net other income of $106,235 for
the nine months ended September 30, 2003. The decrease was due primarily to the
settlement with The Nature Conservancy litigation resulting in a one-time
recognition of income of $161,000 during 2003.
Net interest expense decreased to $229,120 for the nine months ended September
30, 2004 from $384,332 for the nine months ended September 30, 2003. This
decrease was due primarily to decreases in principal debt owing in 2004 and due
to additional interest charges recorded during 2003 in connection with the
settlement of the Oregon Freeze Dry litigation and the resulting note payable.
Net Interest expense represented 1.6% and 2.3% of sales for each of the nine
months ended September 30, 2004 and 2003, respectively.
Net income increased by $1,260,782 resulting in a loss of $3,399,268 for the
nine months ended September 30, 2004 from a net loss of $4,660,050 for the
comparable period in 2003. As a percentage of net sales, net income increased by
4.3% for the nine months ended September 30, 2004 resulting in a net loss of
23.0% of revenue from a net loss of 27.3% of revenue for the comparable period
in 2003. The increase in net income was due to the non-recurrence of write-down
expense in the amount of $2.7 million partially being offset by net sales
decreasing by 12.7%, litigation costs increasing by $1.5 million, and
amortization expense increasing by $540,000 for leasehold improvements that
either have been abandoned or that are scheduled to be abandoned.
LIQUIDITY AND CAPITAL RESOURCES
We had net losses of $5,651,029, $3,497,387 and $5,015,350 for the years ended
December 31, 2003, 2002 and 2001, respectively, and had a working capital
deficit of $3,699,942 and $4,282,898 at December 31, 2003 and 2002,
respectively. As a result, our independent registered 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.
Our working capital deficit at September 30, 2004 increased to $5,858,123, which
represents a reduction in working capital of $2,252,741 from a working capital
deficit of $3,699,942 as of December 31, 2003. At September 30, 2004, we had a
bank overdraft of $570,965 versus a bank overdraft of $481,496 as of December
31, 2003.
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 and then again to
June 30, 2005 by payment of annual renewal fees. Interest of $18,225 at an
effective rate of 14% is payable monthly along with additional monthly impound
payments for insurance and property taxes of approximately $47,000. 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 $18,225. The outstanding principal balance at September 30, 2004
was $1,562,164.
Our existing capital resources are likely to not be adequate to fund our
operations for an extended period of time. 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.
16
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
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 used for operating activities for the nine months ended September
30, 2004 amounted to $105,966 compared to cash flows provided by operations of
$277,925 for the nine months ended September 30, 2003. The decrease in cash
flows generated by operations is primarily due to decreased revenues and
increased expenses related primarily to shareholder litigation during the nine
months ended September 30, 2004.
Cash flows used in investing activities for the nine months ended September 30,
2004 were $41,400 representing a decrease of $132,388 from net cash provided by
investing activities of $90,988 for the nine months ended September 30, 2003.
The primary reason for the higher cash flow from investing in 2003 was the
auction of equipment held during the third quarter.
Net cash flows provided by financing activities was $147,366 for the nine months
ended September 30, 2004 versus net cash used for financing activities of
$368,913 during 2003. This change between years is principally due to the use of
proceeds from the auction in 2003 to reduce the principle balance of the loan
due to La Jolla Loans. During 2004, the increase in related party debt was
greater in amount than the decrease in long-term debt.
OFF-BALANCE SHEET ARRANGEMENTS
As of September 30, 2004 we had no off-balance sheet arrangements.
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.
Marta C. Carpenter and Daryl Kollman 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 Ms. Carpenter and Mr. Kollman's payment of their federal income tax
liabilities for various specified years. Ms. Carpenter and Mr. Kollman will sell
their shares as needed and allowed by federal and state securities laws to make
quarterly payments to the Internal Revenue Service. Ms. Carpenter and Mr.
Kollman retain all voting rights incident to their shares while a trust holds
the shares. The Internal Revenue Service may seize Ms. Carpenter and Mr.
Kollman's shares from the trust if Ms. Carpenter and Mr. Kollman 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 Ms.
Carpenter and Mr. Kollman's tax liabilities as allowed by applicable law.
17
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures
The term "disclosures controls and procedures" refers to the controls and
procedures of a company that are designed to ensure that information
required to be disclosed by a company in the reports that it files under
Rules 13a - 14 of the Securities and Exchange Act of 1934 (the "Exchange
Act") is recorded, processed, summarized and reported within the required
time periods. As of September 30, 2004 we carried out an evaluation under
the supervision and with participation of our Principal Executive Officer
and Principal Financial Officer of the effectiveness of our disclosure
controls and procedures. Based on that evaluation, our Principal Executive
Officer and Principal Financial Officer has concluded that, as of
September 30, 2004, such controls and procedures were effective in
ensuring that required information will be disclosed on a timely basis in
our periodic reports filed under the Exchange Act.
(b) Changes in internal controls
There were no significant changes to our internal controls or in other
factors that could significantly affect these controls subsequent to the
date of such evaluation, and there were no corrective actions required
with regard to significant deficiencies and weaknesses.
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On or about May 31, 2002, Daryl J. Kollman, one of our shareholders, 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 C. Carpenter (our
President and CEO). Mr. Kollman and Ms. Carpenter are former husband and wife;
they were divorced in May 2002. 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. The Company believes that, as of September 30, 2004, it owes
Mr. Kollman $472,915 in unpaid rent which amount is included in our balance
sheet in related party payable. In September 2004, the Court referred this
matter to a special master to perform an accounting of amounts owed. The special
master is presently evaluating this matter. We expect that this case will result
in a judgment against the Company of no less than $472,915. We cannot predict
the amount of any further loss, if any, which could result from this lawsuit,
but we expect that the final outcome of this case will have a material adverse
effect on our financial condition.
On or about June 6, 2002, Mr. Kollman filed a lawsuit in the name of Klamath
Cold Storage, Inc. ("KCS"), a company owned by Mr. Kollman and Ms. Carpenter, 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 had not paid approximately $1,050,000 in rent as of the
filing date. We have voluntarily vacated all of the KCS property. We contend
that we have paid all rents owing and intend to vigorously defend this lawsuit.
In September 2004, the Court referred this matter to a special master to perform
an accounting of amounts allegedly owed. The special master is presently
evaluating this matter. We cannot predict the amount of loss, if any, which
could result from this lawsuit, but an unfavorable outcome could have a material
adverse effect on our financial condition.
Prior to initiating the two lawsuits referenced above, and on or about February
19, 2002, Mr. Kollman filed two separate Notices of Claim of Lien upon Chattels
against us, one of our subsidiaries (The New Algae Company), and Ms. Carpenter
in Klamath County, Oregon (the "Notices"). The Notices purport to assert a lien
on certain of our personal property for allegedly unpaid rents to Mr. Kollman
and KCS. These rents are the same rents at issue in the two lawsuits discussed
immediately above. We intend to vigorously defend against these liens. We cannot
predict the amount of loss, if any, which could result from these liens, but an
unfavorable outcome could have a material adverse impact upon our financial
condition, cash flow, or results of operations.
18
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
On October 7, 2002, Daryl J. Kollman filed an additional lawsuit against us, two
of our directors (Ms. Carpenter and Donald P. Hateley, our Chairman), and
several other defendants who were subsequently dismissed from the action. The
lawsuit was filed in the Circuit Court for the State of Oregon for Klamath
County (Case No. 02-03774CV). The complaint asserted direct claims against us,
Ms. Carpenter and Mr. Hateley. The complaint also asserted several derivative
claims, brought on behalf of the Company, against only Ms. Carpenter and Mr.
Hateley. On August 23, 2004, a jury rendered a verdict against the defendants in
an aggregate amount that is subject to interpretation, but was for no less than
$175 million. The verdict consisted of direct claims of $5.5 million against us
and $61.3 million against Ms. Carpenter. Don Hateley was included as secondarily
liable on one direct claim for $40 million. The jury also issued a verdict of
approximately $105.5 million in derivative claims in favor of the Company and
against Ms. Carpenter and Mr. Hateley. On or about September 27, 2004, the
defendants filed various motions to set aside the verdict. As a result of these
motions, the Court dismissed the claim asserted directly against us in this
action, all derivative claims, and all but one direct claim asserted against Ms.
Carpenter and Mr. Hateley. On November 4, 2004, and as a result of the Court's
ruling, a final judgment was entered against Ms. Carpenter and Mr. Hateley, in
favor of Mr. Kollman, in the amount of $40 million. We, Ms. Carpenter and Mr.
Hateley have since appealed this judgment to the Oregon Court of Appeals. Those
appeals are pending.
Our two directors may have the right to seek indemnity from us for some or all
of the judgment entered against them in this case. The tenth article of the
Company's Certificate of Incorporation requires the corporation to indemnify
directors to the fullest extent permitted by law. Our Director and Officer's
insurance carrier has denied coverage for this claim. The directors have not
asserted indemnity claims against the Company for the $40 million judgment
imposed by the trial court. An unfavorable outcome on these potential indemnity
claims would have a material adverse effect on our financial condition.
The Company is also involved in various legal matters arising in the normal
course of business. In the opinion of management, the Company's liability, if
any, arising from legal proceedings related to these matters is not expected to
have a material effect on the consolidated financial statements of the Company.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
19
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
ITEM 6. EXHIBITS
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.
31.1 Certification of chief executive officer and chief accounting
officer pursuant to item 601(b)(31) of regulation S-K, as adopted
pursuant to section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certificate of Marta C. Carpenter pursuant to 18 U.S.C Section
1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002.
This exhibit shall not be deemed "filed" for purposes of section 18 of the
Securities Exchange Act of 1934 or otherwise subject to the liabilities of that
section, nor shall it be deemed incorporated by reference in any filing under
the securities Act of 1933 or the Securities Act of 1934, whether before or
after the date hereof and irrespective of any general incorporation language in
any filings.
20
CELL TECH INTERNATIONAL INCORPORATED
AND SUBSIDIARIES
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, 2004 /s/ Marta C. Carpenter
----------------------
Marta C. Carpenter
President and Chief Executive Officer
(Duly Authorized Officer and Principal
Executive Officer and Principal Financial
and Accounting Officer)
21