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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
|X| Quarterly report pursuant to Section 13 Or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended June 30, 2004
-------------
| | Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
--------------- ---------------
Commission file number 1-13636
Mendocino Brewing Company, Inc.
(Exact name of Registrant as Specified in its Charter)
California 68-0318293
(State or Other Jurisdiction of (IRS Employer
Incorporation or Organization) Identification No.)
1601 Airport Road, Ukiah, CA 95482
(Address of principal executive offices)
(707) 463-6610
(Registrant's Telephone Number, Including Area Code)
Not Applicable
(Former Name, Former Address and Former Fiscal Year,
if Changed Since Last Report)
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 Exchange Act)
Yes [ ] No [X ]
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: The number of shares of the issuer's
common stock outstanding as of July 31, 2004 is 11,266,874.
PART I
ITEM 1. FINANCIAL STATEMENTS.
MENDOCINO BREWING COMPANY, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS (UNAUDITED)
ASSETS
JUNE 30, DECEMBER 31,
2004 2003
CURRENT ASSETS
Cash $ 583,400 $ 554,300
Accounts receivable, net of allowance for 7,076,900 7,017,700
doubtful accounts of $49,000 and $37,800
Inventories 1,169,600 1,186,100
Prepaid expenses 412,500 555,500
----------- -----------
Total Current Assets: 9,242,400 9,313,600
----------- -----------
PROPERTY AND EQUIPMENT 13,632,400 13,874,800
----------- -----------
OTHER ASSETS
Deposits and other assets 193,300 188,600
Intangibles net of amortization 90,900 94,700
----------- -----------
Total Other Assets: 284,200 283,300
----------- -----------
Total Assets: $23,159,000 $23,471,700
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Line of credit 2,791,700 1,974,800
Note payable 576,200 576,200
Accounts payable 5,378,700 5,340,100
Accrued liabilities 823,000 1,275,100
Deferred gain 683,600 655,200
Income taxes payable 283,700 465,100
Current maturities of obligation under long-term 649,300 693,700
debt
Current maturities of obligation under capital
lease 146,700 129,000
----------- -----------
Total Current Liabilities: 11,332,900 11,109,200
NOTES TO RELATED PARTY 1,963,100 1,921,500
Long term debt, less current maturities 3,409,200 3,730,300
OBLIGATIONS UNDER CAPITAL LEASE, less current
maturities 129,500 204,100
----------- -----------
Total Liabilities: 16,834,700 16,965,100
----------- -----------
1
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Preferred stock, Series A, no par value, with
aggregate liquidation preference of
$227,600; 10,000,000 shares authorized,
227,600 shares issued and outstanding 227,600
Common stock, no par value: 30,000,000 shares 227,600
authorized, 11,266,874 shares issued and 14,648,600
outstanding 14,648,600
Accumulated comprehensive income 78,000
103,700
Accumulated deficit (8,655,600) (8,447,600)
----------- -----------
Total Stockholders' Equity 6,324,300 6,506,600
----------- -----------
Total Liabilities and Stockholders' Equity: $23,159,000 $23,471,700
=========== ===========
The accompanying notes are an integral part of these financial statements.
2
MENDOCINO BREWING COMPANY, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
June 30 June 30
2004 2003 2004 2003
---- ---- ---- ----
SALES $ 8,374,600 $ 7,285,400 $15,320,600 $13,295,300
EXCISE TAXES 187,500 172,500 330,300 312,300
----------- ----------- ----------- -----------
NET SALES 8,187,100 7,112,900 14,990,300 12,983,000
COST OF GOODS SOLD 5,372,500 4,816,900 10,007,300 8,811,500
----------- ----------- ----------- -----------
GROSS PROFIT 2,814,600 2,296,000 4,983,000 4,171,500
----------- ----------- ----------- -----------
OPERATING EXPENSES
Marketing 1,478,400 1,130,400 2,806,700 2,280,300
General and administrative 922,400 726,200 1,906,500 1,509,500
----------- ----------- ----------- -----------
2,400,800 1,856,600 4,713,200 3,789,800
----------- ----------- ----------- -----------
INCOME FROM OPERATIONS 413,800 439,400 269,800 381,700
----------- ----------- ----------- -----------
OTHER INCOME (EXPENSE)
Other income 5,100 5,700 9,100 10,600
Profit on sale of equipment 15,600 --- 14,000 ---
Interest expense (210,700) (202,400) (422,700) (407,800)
----------- ----------- ----------- -----------
(190,000) (196,700) (399,600) (397,200)
----------- ----------- ----------- -----------
INCOME (LOSS) before income taxes 223,800 242,700 (129,800) (15,500)
PROVISION FOR INCOME TAXES 57,400 80,800 78,200 112,000
----------- ----------- ----------- -----------
Net INCOME (Loss) $ 166,400 $ 161,900 $ (208,000) $ (127,500)
----------- ----------- ----------- -----------
OTHER COMPREHENSIVE INCOME /
(LOSS), net of tax
(36,400) 29,900 25,700 18,400
----------- ----------- ----------- -----------
Foreign Currency Translation Adjustment
COMPREHENSIVE Income (LOSS)
$ 130,000 $ 191,800 $ (182,300) $ (109,100)
=========== =========== =========== ===========
NET INCOME (LOSS) PER COMMON SHARE $ 0.01 $ 0.01 $( 0.02) $ (0.01)
======= ======= ======= =======
DILUTED NET INCOME (LOSS)
PER COMMON SHARE $ 0.01 $ 0.01 $ (0.02) $ (0.01)
======= ======= ======= =======
The accompanying notes are an integral part of these financial statements.
3
MENDOCINO BREWING COMPANY, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Six Months Ended June 30
2004 2003
---- ----
CASH FLOWS FROM OPERATING ACTIVITIES
Net Loss $ (208,000) $ (127,500)
Adjustments to reconcile net loss to net cash from
operating activities:
Depreciation and amortization 536,400 561,200
Allowance for doubtful accounts 49,000 ---
Profit on sale of assets (14,000) 1,900
Changes in:
Accounts receivable 16,900 280,600
Inventories 16,500 117,700
Prepaid expenses 148,100 (212,300)
Deposits and other assets (38,700) 55,700
Accounts payable (16,600) (1,149,900)
Accrued liabilities (437,300) 232,500
Income taxes payable (189,900) ---
---------- ----------
Net cash from operating activities: (137,500) (240,100)
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of property, equipment, and leasehold improvements (280,100) (239,000)
Proceeds from new distributors --- 655,200
Proceeds from sale of fixed assets 23,200 10,900
---------- ----------
Net cash from investing activities: (256,900) 427,100
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES
Net borrowing on line of credit 807,500 289,300
Borrowing on long-term debt --- 403,700
Principal repayment on long-term debt (381,500) (302,000)
Borrowings on related party debt 41,600 43,300
Payments on obligation under long term lease (56,900) (130,000)
Disbursements in excess of deposits ---- (134,300)
---------- ----------
Net cash from financing activities: 410,700 170,000
---------- ----------
EFFECT OF EXCHANGE RATE CHANGES ON CASH 12,800 7,600
---------- ----------
NET CHANGE IN CASH 29,100 364,600
---------- ----------
CASH, beginning of period 554,300 146,800
---------- ----------
CASH, end of period $ 583,400 $ 511,400
========== ==========
SUPPLEMENTAL CASH FLOW INFORMATION
Cash paid during the period for:
Interest $ 319,300 $ 364,500
Income taxes $ 100,300 $ 257,700
Non-cash investing activity
Seller Financed equipment $ 26,500 $ 28,500
The accompanying notes are an integral part of these financial statements.
4
MENDOCINO BREWING COMPANY, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 - BASIS OF PRESENTATION
As used herein, the term "the Company" and its variants is generally used to
refer to Mendocino Brewing Company, Inc. and its subsidiaries, while the term
"MBC" is used to refer to Mendocino Brewing Company, Inc. as an individual
entity standing alone.
The accompanying unaudited consolidated financial statements have been prepared
in accordance with accounting principles generally accepted in the United States
of America. For further information, refer to the consolidated financial
statements and footnotes thereto included in the Company's annual report on Form
10-KSB for the year ended December 31, 2003. In the opinion of management, all
adjustments considered necessary for a fair presentation have been included.
Operating results for the six months ended June 30, 2004, are not necessarily
indicative of the results that may be expected for the year ending December 31,
2004.
The Company's line of credit from CIT Group and its temporary loan from Savings
Bank of Mendocino (both of which are more fully described below under "Other
Loans and Credit Facilities") are scheduled to fall due on August 31 and
September 18, 2004, respectively. A failure to replace, renegotiate, or extend
either of these agreements would have a significant adverse impact on the
Company's liquidity and operations. Although management has been able to do so
in the past, there can be no assurance that the Company will have access to the
same or equivalent sources of funds in the future, either on a comparable basis
or on any other terms acceptable to the Company.
On April 4, 2004, MBC received a commitment from United Breweries of America,
Inc. ("UBA"), one of its major shareholders, to the effect that UBA would
provide MBC with such financial assistance as may be in UBA's power to prevent
or avoid any default under either the CIT Group line of credit or the temporary
loan from Savings Bank of Mendocino County when they become due. The terms of
any such assistance have not yet been determined, however.
The Company has a stock-based employee compensation plan that allows the Company
to grant options to purchase up to 1,000,000 shares of the Company's common
stock. The Company accounts for this plan under the recognition and measurement
principles of APB Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES, and
related Interpretations. No stock-based employee compensation cost is reflected
in net loss, as all options granted under these plans had an exercise price
equal to the market value of the underlying common stock on the date of grant.
The Company did not grant any options in 2003 or 2004.
NOTE 2 - LINE OF CREDIT
The CIT Group/Credit Finance, Inc. has provided the Company a $3,000,000 maximum
line of credit with an advance rate of 80% of the qualified accounts receivable
and 60% of the inventory at a current interest rate equal to the prime rate of
Chase Manhattan Bank of New York plus 4.25 % payable monthly, originally
scheduled to mature on September 23, 2002. The line of credit is secured by all
accounts receivable, general intangibles, inventory, and equipment of the
Company except for the specific equipment and fixtures of the Company leased
from FINOVA Capital Corporation, as well as by a second deed of trust on the
Company's Ukiah land improvements. $1,484,000 of the line of credit was advanced
to the Company as an initial term loan, which was repayable in sixty consecutive
monthly installments of principal, each in the amount of $24,700.
On January 17, 2003, CIT group amended the facility and extended the term of the
facility to expire on November 30, 2003. This amendment increased the maximum
credit available to $3,500,000 and provided a term loan of $750,000 consisting
of the original balance of $346,300 and a new term loan of $403,700 repayable in
30 equal consecutive monthly installments of $24,700, commencing February 1,
2003, with a final payment of $8,000. CIT group amended and extended the
facility on December 1, 2003, January 30, 2004, February 27, 2004 and May 3,
2004 in order to allow the Company time to refinance. On July 1, 2004 CIT Group
extended the term of the facility to expire
5
on August 31, 2004 and increased the term loan repayment to $10,000 per week.
Based on the Company's current level of accounts receivable and inventory, the
Company has drawn the maximum amount permitted under the line of credit. As of
June 30, 2004, the total amount outstanding on the line of credit was
approximately $1,759,300.
Nedbank Limited, a South African registered company, has provided a credit
facility of GBP 1,250,000 to UBSN Ltd. ("UBSN"), a wholly-owned subsidiary of
United Breweries International (UK) Ltd. ("UBI"), which is in turn wholly-owned
by the Company. This facility includes a revolving short-term loan, overdraft
protection, and foreign exchange services. It is available until terminated by
Nedbank, and is secured by all of the assets of UBSN. The amount outstanding on
this line of credit as of June 30, 2004 was approximately $1,303,000.
NOTE 3 - LONG TERM DEBT, NOTE PAYABLE, AND NOTES TO RELATED PARTIES
The Company has a note outstanding in the principal amount of $2,700,000 in
favor of Savings Bank of Mendocino County ("SBMC"), with interest at the
five-year treasury constant maturity index plus 4.17%, currently 7.24%. The note
requires monthly payments of principal and interest of $24,400. The note matures
in December 2012 with a balloon payment of $932,600, and is secured by real
property located in Ukiah, California.
On December 31, 2003, SBMC extended a temporary loan in the principal amount of
$576,200 to the Company in order to finance a buy-out of equipment leased
through Finova Capital Corporation. This loan, which is due for repayment on
September 18, 2004, is secured by the existing assets of the Company and the
assets released by Finova on lease termination. The current rate of interest on
the loan is 7.25%.
The Company owes the County of Mendocino $574,500, which represents overdue
taxes for the period from April of 1999 to June of 2003. Under the payment plan
executed with the County, this amount is payable in four annual installments on
or before April 10 of each year, commencing in the year 2005, along with accrued
interest calculated at 18% per year. Failure to timely pay any installment or
any current property taxes may result in the County selling the Company's Ukiah
property to satisfy this outstanding debt.
UBSN has engaged Shepherd Neame Limited ("Shepherd Neame"), a related party, to
brew Kingfisher Lager for the Company's European and Canadian markets. As
consideration for the extension of the brewing contract, Shepherd Neame advanced
a loan of GBP 600,000 to UBSN, repayable in ten annual installments of GBP
60,000, commencing in June 2003. At the time of the filing this report, GBP
600,000 was approximately equal to $1,087,600, therefore, each payment of 60,000
GBP would be approximately equal to $108,800. The loan carries an interest rate
of 5% per year.
The Company has issued unsecured convertible notes in favor of UBA in the amount
of approximately $1,515,400 as of September 30, 2003. The notes bear interest at
the prime rate plus 1.5%, subject to a maximum of 10% per annum, and each note
originally matured 18 months from the date of the particular advance. The notes
have since been extended to mature on August 31, 2005. The notes are
convertible, at UBA's option, into common stock at $1.50 per share. Interest
accrued on the notes as of June 30, 2004, is approximately $447,700. Because
these notes are subordinated to the CIT line of credit and SBMC note, the
Company does not expect to make payments on the notes within the next year. The
Company expects the maturity dates to be extended again and has shown the amount
as long-term debt.
6
NOTE 4 -- RELATED PARTY TRANSACTIONS
During 2001, MBC and its subsidiaries entered into or amended several agreements
with affiliated and related entities. Among these were a Brewing Agreement and a
Loan Agreement between UBSN and Shepherd Neame Limited; a Market Development
Agreement, a Distribution Agreement, and a Brewing License Agreement between MBC
and UBSN; a Distribution Agreement between UBI and UBSN; a Trademark Licensing
Agreement between MBC and Kingfisher of America, Inc.; and a License Agreement
between UBI and UB Limited.
Additional information about these transactions may be found in the Company's
annual report on Form 10-KSB for the year ended December 31, 2003.
The following table reflects the value of the transactions for the six months
ended June 30, 2004 and 2003 and the balances outstanding at June 30, 2004 and
2003.
- ------------------------------------------------------ -------------- --------------
2004 2003
- ------------------------------------------------------ -------------- --------------
Sales to Shepherd Neame $1,230,600 $1,186,700
- ------------------------------------------------------ -------------- --------------
Purchases from Shepherd Neame 6,374,400 5,101,700
- ------------------------------------------------------ -------------- --------------
Expense reimbursement to Shepherd Neame 593,200 462,700
- ------------------------------------------------------ -------------- --------------
Interest expenses associated with UBA convertible 41,600 43,300
notes payable
- ------------------------------------------------------ -------------- --------------
Accounts payable to Shepherd Neame 3,177,200 2,427,400
- ------------------------------------------------------ -------------- --------------
Account receivable from Shepherd Neame 633,900 544,900
- ------------------------------------------------------ -------------- --------------
NOTE 5 - NET INCOME PER COMMON AND COMMON EQUIVALENT SHARE
Basic earnings per share (EPS) is computed by dividing income available to
common stockholders by the weighted average number of common shares outstanding
during the period. Diluted EPS is computed by dividing income available to
shareholders by the weighted average number of common shares and common
equivalent shares outstanding, which include dilutive stock options and notes
payable convertible in common stock. Common equivalent shares associated with
stock options and convertible notes payable have been excluded from periods with
a net loss as the potentially dilutive shares would be antidilutive.
Three Months Ended Six Months Ended
------------------ ----------------
6/30/2004 6/30/2003 6/30/2004 6/30/2003
-----------------------------------------------------------------------
Net income (loss) $ 166,400 $ 161,900 $ (208,000) $ (127,500)
=======================================================================
Weighted average common shares outstanding
11,266,874 11,266,874 11,266,874 11,266,874
=======================================================================
Basic net income (loss) per share $ 0.01 $ 0.01 $ (0.02) $ (0.01)
=======================================================================
Diluted net income (loss) per share
Net income (loss) $ 166,400 $ 161,900 $ (208,000) $ (127,500)
Interest expense on convertible notes
payable 21,000 21,800 -- _
-----------------------------------------------------------------------
Income for the purpose of computing
diluted net income per share $ 187,400 $ 183,700 $ (208,000) $ (127,500)
=======================================================================
Weighted average common shares outstanding
11,266,874 11,266,874 11,266,874 11,266,874
Dilutive stock options -- -- -- -
Assumed conversion of convertible notes
payable -- -- -- -
-----------------------------------------------------------------------
Weighted average common shares outstanding
for the purpose of computing diluted net
income (loss) per share 11,266,874 11,266,874 11,266,874 11,266,874
=======================================================================
Diluted net income (loss) per share $ 0.01 $ 0.01 $ (0.02) $ (0.01)
7
NOTE 6 - INVENTORY
June 30, 2004 December 31, 2003
Raw Materials $ 464,400 $ 459,600
Beer-in-process 192,600 190,400
Finished Goods 493,800 510,000
Merchandise 18,800 26,100
----------- ----------
TOTAL $ 1,169,600 $1,186,100
=========== ==========
NOTE 7 - STOCKHOLDERS' EQUITY
The following table summarizes equity transactions during the six months ended
June 30, 2004.
SERIES A
PREFERRED STOCK COMMON STOCK OTHER
--------------------- -------------------------- COMPREHENSIVE ACCUMULATED TOTAL
SHARES AMOUNT SHARES AMOUNT INCOME/(LOSS) DEFICIT EQUITY
---------- --------- ------------ ------------ -------------- ------------ -------------
Balance,
December 31, 2003 227,600 $ 227,600 11,266,874 $ 14,648,600 $ 78,000 $ (8,447,600) $ 6,506,600
Net Loss (208,000) (208,000)
Currency Translation
Adjustment 25,700 25,700
Balance,
June 30, 2004 227,600 $ 227,600 11,266,874 $ 14,648,600 $ 103,700 $ (8,655,600) $ 6,324,300
========== ========= ============ ============ ============== ============ =============
8
NOTE 8. SEGMENT INFORMATION
The Company's business segments are its domestic operations (brewing and sales
in the United States), European territory (distribution operations in the United
Kingdom), and retail operations (retail sales at the Hopland Brewery in Ukiah,
California and the tasting room at Saratoga Springs, New York). A summary of
each segment is as follows:
Six months ended June 30, 2004
Domestic European Retail Corporate & Total
Operations Territory Operations Others
Sales $ 5,740,800 $ 9,488,800 $ 91,000 $ - $ 15,320,600
Operating
Profit/(Loss) 15,600 258,700 (4,500) -- 269,800
Identifiable Assets 13,394,000 7,105,000 95,100 2,564,900 23,159,000
Depreciation &
amortization 302,000 216,600 2,500 15,300 536,400
Capital Expenditures 26,500 253,600 - - 280,100
9
Six months ended June 30, 2003
Domestic European Retail Corporate & Total
Operations Territory Operations Others
Sales $ 5,423,100 $ 7,655,400 $ 216,800 $ - $ 13,295,300
Operating Profit/(Loss) 16,900 396,400 (31,600) - 381,700
Identifiable Assets 14,002,700 4,855,200 105,700 2,942,000 21,905,600
Depreciation & 375,400 177,300 2,600 5,900 561,200
amortization
Capital
Expenditures 28,500 210,500 - - 239,000
NOTE 9 - LEGAL DISPUTES
Effective March 28, 2003, the Company terminated a written distribution
agreement with the House of Daniels, Inc., dba Golden Gate Distributing Company
(GGD), in accordance with the provisions of the agreement, upon 30 days' written
notice to GGD. On April 1, 2003, GGD filed an action in Marin County Superior
Court, naming the Company and Mark Anderson (Mr. Anderson is employed by the
Company as a sales manager) as defendants. Because Mr. Anderson is an employee
of the Company, the Company may have some obligation to indemnify Mr. Anderson
for his costs and expenses in connection with these claims. GGD subsequently
sued four other non-company defendants GGD claims that the termination of the
agreement was wrongful and sued the Company and/or Mr. Anderson for breach of
contract, breach of the covenant of good faith and fair dealing, unfair business
practices, intentional interference with prospective economic advantage,
conversion, and constructive trust, and seeks compensatory and punitive damages.
The Company believes that cause was not required to terminate the agreement, but
even if cause was required, the Company believes it had sufficient cause to
terminate the agreement. The Company filed a cross-complaint against GGD
alleging breach of contract, tortious interference with prospective economic
advantage, and unfair business practices. The Company is seeking the appropriate
remedies, including compensatory and punitive damages.
During the second quarter of the year 2003, the Company received $655,200 from
the two new replacement distributors for the territories of Napa, Solano, Marin,
and Sonoma Counties. The Company has treated this receipt as deferred gain
pending disposal of the lawsuit.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion summarizes the significant factors affecting
the consolidated operating results, financial condition and liquidity/cash flows
of the Company for the six months ended June 30, 2004, compared to the six
months ended June 30, 2003 and the year ended December 31, 2003. This discussion
should be read in conjunction with the Consolidated Financial Statements and
Notes included in the company's Annual Report on Form 10-KSB for the year ended
December 31, 2003.
In this Report, the term "the Company" and its variants is generally
used to refer to Mendocino Brewing Company, Inc. and its subsidiaries, while the
term "MBC" is used to refer to Mendocino Brewing Company, Inc. as an individual
entity standing alone.
10
FORWARD LOOKING STATEMENTS
Various portions of this Quarterly Report, including but not limited to
the section captioned "Management's Discussion and Analysis of Financial
Condition and Results of Operations," contain forward-looking information. Such
information involves risks and uncertainties that are based on current
expectations, estimates and projections about the Company's business,
management's beliefs, and assumptions made by management. Words such as
"expects," "anticipates," "intends," "plans," "believes," "seeks," "estimates,"
and variations of those and similar words are intended to identify such
forward-looking information. Any forward-looking statements made by the Company
are intended to provide investors with additional information with which they
may assess the Company's future potential. All forward-looking statements are
based on assumptions about an uncertain future and are based on information
available at the date such statements are issued. Actual outcomes and results
may differ materially from what is expressed or forecasted in such
forward-looking information due to numerous factors, including but not limited
to: changes in the pricing environment for the Company's products; changes in
demand for malt beverage products in different Company markets; changes in
distributor relationships or performance, changes in customer preference for the
Company's malt beverage products; regulatory or legislative changes; the impact
of competition, changes in raw materials prices; availability of financing for
operations, changes in interest rates; changes in the company's European beer
and/or restaurant business, and other risks discussed elsewhere in this
Quarterly Report and from time to time in the Company's Securities and Exchange
Commission ("SEC") filings and reports. In addition, such statements could be
affected by general industry and market conditions and growth rates, and in
general domestic and European economic and political conditions. The Company
undertakes no obligation to update these forward-looking statements to reflect
facts, circumstances, assumptions or events that occur after the date the
forward-looking statements are made or to publicly release the results of any
revision to these forward-looking statements. Readers are cautioned not to place
undue reliance on these forward-looking statements.
CRITICAL ACCOUNTING POLICIES
In the ordinary course of business, the Company has made a number of
estimates and assumptions relating to the reporting of results of operations and
financial condition in the preparation of its financial statements in conformity
with accounting principles generally accepted in the United States of America.
Actual results could differ significantly from those estimates under different
assumptions and conditions. The Company believes that the following discussion
addresses the Company's most critical accounting policies, which are those that
are most important to the portrayal of the Company's financial condition and
results. The Company constantly re-evaluates these significant factors and makes
adjustments where facts and circumstances dictate. Historically, actual results
have not significantly deviated from those determined using the necessary
estimates inherent in the preparation of financial statements. Estimates and
assumptions include, but are not limited to, customer receivables, inventories,
assets held for sale, fixed asset lives, contingencies and litigation. The
Company has also chosen certain accounting policies when options were available,
including:
o The first-in, first-out (FIFO) method to value the majority of
the Company's inventories.
o The Company follows Accounting Principles Board Opinion No. 25
(APB 25), "Accounting for Stock Issued to Employees," in
accounting for its employee stock options using the fair value
based method.
o The Company reviews its long-lived assets for impairment
whenever events or changes in circumstances indicate that the
carrying amount of the assets may not be recoverable.
11
The Company's evaluation is based on an estimate of the future
undiscounted cash flows of the related asset or asset grouping
over the remaining life in measuring whether the assets are
recoverable. Long-lived asset are written down to their
estimated net fair value calculated using a discounted future
cash flow analysis in the event of an impairment. If
circumstances related to the Company's long-lived assets change,
the Company's valuation of the long-lived assets could
materially change.
o The Company evaluates the realizability of its deferred tax
assets quarterly by assessing the need for and amount of the
valuation allowance. This evaluation is based on an assessment
of the Company's ability to generate future U.S. taxable income.
Results of operations in recent years are considered in the
assessment. The Company records a valuation allowance for the
portion of its deferred tax assets that do not meet the
recognition criteria of SFAS No. 109, "Accounting for Income
Taxes." If circumstances related the Company's ability to
generate future U.S. taxable income change, the Company's
evaluation of its deferred tax assets could materially change.
o We accrue contingent losses when management determines it is
probable that a liability has been incurred or that an asset has
been impaired and the amount of the loss can be reasonably
determined.
These accounting policies are applied consistently for all years
presented. The Company's operating results would be affected if other
alternatives were used. Information about the impact on operating results is
included in the footnotes to the Company's consolidated financial statements.
SEGMENT INFORMATION
Prior to 2001, the Company's business operations were exclusively
located in the United States, where they were divided into two segments:
manufacturing and distribution of beer, which accounted for the majority of the
Company's gross sales; and retail sales (primarily at the Company's Hopland,
California, tavern and merchandise store) which generally accounted for less
than 5% of gross sales (by revenue). With the Company's acquisition of United
Breweries International (UK), Ltd. ("UBI") in August 2001, however, the Company
gained a new business segment, distribution of beer outside the United States,
primarily in the U.K. and Ireland, continental Europe, and Canada (the "European
Territory"). This segment accounted for 62% of the Company's gross sales during
the first six months of the year 2004 (as compared to 58% for the same period
during 2003), with the Company's United States operations, including
manufacturing and distribution of beer as well as retail sales accounting for
the remaining 38%. With expanded wholesale distribution of beer and closure of
the restaurant in Hopland, management expects that retail sales, as a percentage
of total sales, will decrease proportionally to the expected increase in the
Company's wholesale sales.
SEASONALITY
Sales of the Company's products are somewhat seasonal. Historically,
sales volumes in all geographic areas have been comparatively low during the
first quarter of the calendar year in both the US market and the Company's
European Territory. In the US, sales volumes have been stronger during the
second and third quarters and slower again during the fourth quarter, while in
the Company's European Territory the fourth quarter has generated the highest
sales volume. The volume of sales in any given area may also be affected by
local weather conditions. Because of the seasonality of the Company's business,
results for any one quarter are not necessarily indicative of the results that
may be achieved for the full fiscal year.
12
SUMMARY OF FINANCIAL RESULTS
The Company ended the first six months of 2004 with a net loss of
$208,000, as compared to a net loss of $127,500 for the same period in 2003. As
set forth more fully under "Results of Operations," below, during the six months
of the year 2004 the Company experienced an increase in gross sales of
$2,025,300, or 15.2% during the period, but this increase was offset by higher
costs of goods sold (which increased by $1,195,800, or 13.6%), marketing costs
(which increased by $526,400, or 23.1%), and general and administrative costs
(which increased by $397,000, or 26.3%), all of which contributed to the net
loss for the period.
RESULTS OF OPERATIONS
The following tables set forth, as a percentage of net sales, certain items
included in the Company's Statements of Operations. See the accompanying
Financial Statements and Notes thereto.
SIX MONTHS ENDED JUNE 30
2004 2003
STATEMENTS OF OPERATIONS DATA: % %
- -
Sales 102.20 102.41
Less Excise taxes 2.20 2.41
------- -------
NET SALES 100.00 100.00
Costs of Sales 66.76 67.87
------- -------
GROSS PROFIT 33.24 32.13
------- -------
Marketing 18.72 17.56
General and Administrative Expense 12.72 11.63
PROFIT / (LOSS) FROM OPERATIONS 1.80 2.94
Other (Income) / Expense (0.15) (0.08)
Interest Expense 2.82 3.14
------- -------
Loss before income taxes (0.87) (0.12)
Provision for income taxes 0.52 0.86
NET LOSS (1.39%) (0.98%)
======= =======
Other Comprehensive Income 0.17 0.14
======= =======
COMPREHENSIVE LOSS (1.22%) (0.84%)
======= =======
13
SIX MONTHS ENDED JUNE 30
2004 2003
BALANCE SHEET DATA: $ $
- -
Cash and Cash Equivalents 583,400 511,400
Working Capital (2,090,500) (4,652,800)
Property and Equipment 13,632,400 13,860,500
Deposits and Other Assets 284,200 380,300
Total Assets 23,159,000 22,212,000
Long-term Debt (less current maturities) 3,409,200 3,153,400
Capital Lease (less current maturities) 129,500 197,300
Total Liabilities 16,834,700 15,974,700
Accumulated Deficit (8,655,600) (8,622,000)
Stockholder's equity 6,324,300 6,237,300
THREE MONTHS ENDED JUNE 30, 2004 COMPARED TO
THREE MONTHS ENDED JUNE 30, 2003
NET SALES
Overall net sales for the second quarter of 2004 were $8,187,100, an
increase of $1,074,200, or 15.1%, compared to $7,112,900 for the second quarter
of 2003. The increase was mainly due to increased sales, increased selling
prices for the United Kingdom customers, and exchange rate fluctuations. UBSN
launched Kingfisher natural spring water in the Indian restaurant trade in
February 2004, which also contributed to increased sales during the second
quarter of the year 2004.
DOMESTIC OPERATIONS: Net sales for the second quarter of 2004 were
$3,165,000 compared to $2,989,800 for the same period in 2003, a net increase of
$175,200, or 5.86%. This increase was caused by an increase in wholesale beer
shipments of $248,000, which was partially offset by a $73,300 decrease in
retail sales because of the closure of the Hopland restaurant. The sales volume
increased to 16,883 barrels in the second quarter of 2004 from 15,730 barrels in
the second quarter of 2003, representing an increase of 1,153 barrels, or 7.33%.
Of the increase, sales of the Company's domestic brands increased by 869
barrels; sales of Kingfisher brands increased by 294 barrels, and sales of
contract brands decreased by 10 barrels.
EUROPEAN TERRITORY: Net sales for the second quarter of 2004 were
$5,022,100 (GBP 2,777,800) compared to $4,123,100 (GBP 2,548,200) during the
corresponding period of 2003, an increase of $899,000, or 21.80%. During the
second quarter of 2004, UBSN sold 16,743 barrels, compared to 15,936 barrels
during the second quarter of 2003, representing an increase of 807 barrels, or
5.1%. Exchange rate fluctuations increased the financial effect of the Company's
growth in sales in its European Territory. When measured from period to period
exclusively in Pounds Sterling (which is the basic currency of account for the
European Territory), the Company's net sales in its European Territory increased
by only 9.01%.
COST OF GOODS SOLD
Cost of goods sold as a percentage of net sales during the second
quarter of 2004 was 65.62%, as compared to 67.72% during the corresponding
period of 2003 mainly due to reduced costs in the United States.
14
DOMESTIC OPERATIONS: Cost of goods sold as a percentage of net sales in
the United States during the second quarter of 2004 was 63.55%, as compared to
68.54%, during the corresponding period of 2003, representing a decrease of
4.99% due mainly to a decrease in depreciation and retail operation costs
because of the closure of the restaurant in Hopland.
EUROPEAN TERRITORY: Cost of goods sold as a percentage of net sales in
the United Kingdom during the second quarter of 2004 was 67.4%, as compared to
67.61% during corresponding period in 2003 (in each case as calculated in U.S.
dollars, after taking into account the effects of the exchange rate
calculation), representing a marginal decrease of 0.21%.
GROSS PROFIT
As a result of the higher net sales described above, gross profit for
the second quarter of 2004 increased to $2,814,600, from $2,296,000 during the
corresponding period of 2003, representing an increase of 22.59%. As a
percentage of net sales, the gross profit during the second quarter of 2004
increased to 34.38% from that of 32.28% for the second quarter of 2003.
OPERATING EXPENSES
Operating expenses for the second quarter of the year 2004 were
$2,400,800, an increase of $544,200, or 29.31%, as compared to $1,856,600 for
the corresponding period of the year 2003. Operating expenses consist of
marketing and distribution expenses and general and administrative expenses.
MARKETING AND DISTRIBUTION EXPENSES: The Company's marketing and
distribution expenses consist of salaries and commissions, advertising costs,
product and sales promotion costs, travel expenses and related costs and
Company's tavern and tasting room expenses. Such expenses for the second quarter
of 2004 were $1,478,400, as compared to $1,130,400 for the second quarter of
2003, representing an increase of 30.79%. Increases in the Company's marketing
expenses were driven by heavier competition, particularly in the Company's
European Territory, and the Company believes that trend is likely to continue
for the next few quarters at least.
DOMESTIC OPERATIONS: Expenses for the second quarter of 2004 were
$410,800 compared to $401,600 during the corresponding period of 2003,
representing an increase of $9,200. As a percentage of net sales in the United
States, the expenses decreased to 12.98% during the second quarter of 2004,
compared to 13.43% during the corresponding period of 2003. There were increases
in salary and travel costs during the second quarter of the year 2004 compared
to the corresponding period of 2003 due to increased staffing levels, which
increases were partially offset by reductions in tavern and tasting room
expenses due to closure of the Company's Hopland restaurant.
EUROPEAN TERRITORY: Expenses for the second quarter of 2004 were
$1,067,600 compared to $728,800 during the corresponding period of 2003,
representing an increase of $338,800. As a percentage of net sales in the United
Kingdom, the expenses increased to 21.26% during the second quarter of 2004
compared to 17.68% during the corresponding period of 2003 (in each case as
calculated in U.S. dollars, after taking into account the effects of the
exchange rate calculation). The increase resulted mainly from higher staffing
levels and associated travel costs, increased advertising and promotional
expenses, and higher dispensing equipment maintenance expenses.
GENERAL AND ADMINISTRATIVE EXPENSES: The Company's general and
administrative expenses were $922,400 for the second quarter of the year 2004,
representing an increase of $196,200, or 27.02%, over $726,200 for the
corresponding period in 2003. These expenses were equal to 11.27% of net sales
for the second quarter of the year 2004, as compared to 10.21% for corresponding
period in 2003.
15
DOMESTIC OPERATIONS. Domestic general and administrative expenses were
$548,100 for the second quarter of the year 2004, representing an increase of
$160,900, or 41.56%, over $387,200 for the second quarter of the year 2003. The
increase was primarily due to increased legal expenses caused by a legal dispute
with a distributor (discussed in Part II, Item 1 of this Quarterly Report) and
higher loan and lease fees on loan extensions and refinancing efforts.
EUROPEAN TERRITORY. General and administrative expenses related to the
European Territory were $374,300 for the second quarter of the year 2004,
representing an increase of $35,300, or 10.41%, as compared to $339,000 for the
second quarter of the year 2003 (in each case as calculated in U.S. dollars,
after taking into account the effects of the exchange rate calculation). These
increases were mainly due to higher salary costs, start-up costs associated with
the distribution and sale of Kingfisher natural spring water, and increased
depreciation expenses.
OTHER EXPENSES
Other expenses for the second quarter of 2004 totaled $190,000,
representing a decrease of $6,700, or 3.4%, when compared to the second quarter
of 2003. The decrease was mainly due to higher in profits on sale of assets,
partly offset by an increase in interest expenses as a result of increased
borrowings under the lines of credit.
INCOME TAXES
The Company has a provision for income taxes of $57,400 for the second
quarter of 2004, compared to $80,800 for the second quarter of 2003. The
provision for taxes related to the estimated amount of taxes that will be
imposed by taxing authorities in the United Kingdom.
NET PROFIT
The Company's net profit for the second quarter of 2004 was $166,400, as
compared to profit of $161,900 for the second quarter of 2003. After providing
for a negative foreign currency translation adjustment of $36,400 during the
second quarter of 2004 (as compared to a positive adjustment of $29,900 for the
same period in 2003), the comprehensive profit for the second quarter of 2004
was $130,000, compared to a profit of $191,800 for the same period in 2003.
SIX MONTHS ENDED JUNE 30, 2004 COMPARED TO
SIX MONTHS ENDED JUNE 30, 2003
NET SALES
Overall net sales for the first six months of the year 2004 were
$14,990,300, an increase of $2,007,300, or 15.46%, compared to $12,983,000 for
the same period in 2003. The increase was mainly due to increased sales,
increased selling prices for the United Kingdom customers and exchange rate
fluctuations. UBSN launched Kingfisher natural spring water in the Indian
restaurant trade in February 2004, which also contributed to increased sales
during the first six months of 2004.
DOMESTIC OPERATIONS: Domestic net sales for first six months of the year
2004 were $5,501,500 compared to $5,327,600 for the same period in 2003, a net
increase of $173,900, or 3.26%. This increase was caused by increased wholesale
shipments of $229,700, which were partially offset by a $125,800 decrease in
retail sales because of the closure of the Hopland restaurant. The sales volume
increased to 29,655 barrels during the first six months of the year 2004 from
28,323 barrels in the first six months of the year 2003, representing an
increase of 1,332 barrels, or 4.7%. Of the increase, sales of the Company's
brands increased by 714 barrels; sales of Kingfisher increased by 533 barrels,
16
and sales of contract brands increased by 85 barrels.
EUROPEAN TERRITORY: Net sales for the first six months of the year 2004
were $9,488,800 (GBP 5,205,900) compared to $7,655,400 (GBP 4,752,300) during
the corresponding period of 2003, an increase of 23.95%. During the first six
months of the year 2004, UBSN sold 31,886 barrels compared to 29,561 barrels
during the first six months of the year 2003, an increase of 2,325 barrels, or
7.8%. Exchange rate fluctuations when measured in United States dollars
increased growth percentage as compared to last year and hence when the net
sales results are compared in Pounds Sterling, there is an increase of 9.54%.
COST OF GOODS SOLD
Cost of goods sold as a percentage of net sales during the first six
months of the year 2004 was 66.76%, as compared to 67.87% during the
corresponding period of 2003 mainly due to decreased cost in the United States.
DOMESTIC OPERATIONS: Cost of goods sold as a percentage of net sales in
the United States during first six months of the year 2004 was 66.77%, as
compared to 69.92%, during the corresponding period of 2003, representing a
decrease of 3.15% mainly due to a decrease in depreciation and retail operation
costs because of closure of the Hopland restaurant.
EUROPEAN TERRITORY: Cost of goods sold as a percentage of net sales in
the United Kingdom during the first six months of the year 2004 was 67.18%, as
compared to 66.9% during the corresponding period in 2003 (in each case as
calculated in U.S. dollars, after taking into account the effects of the
exchange rate calculation), representing a marginal decrease of 0.28%.
GROSS PROFIT
As a result of the higher net sales described above, gross profit for
the first six months of the year 2004 increased to $4,983,000, from $4,171,500
during the corresponding period of 2003, representing an increase of 19.45%. As
a percentage of net sales, the gross profit during the first six months of 2004
increased to 33.24% from that of 32.13% during the corresponding period in 2003.
OPERATING EXPENSES
Operating expenses for the first six months of the year 2004 were
$4,713,200, an increase of $923,400, or 24.37%, as compared to $3,789,800 for
the corresponding period of the year 2003. Operating expenses consist of
marketing and distribution expenses and general and administrative expenses.
MARKETING AND DISTRIBUTION EXPENSES: The Company's marketing and
distribution expenses consist of salaries and commissions, advertising costs,
product and sales promotion costs, travel expenses and related costs and
Company's tavern and tasting room expenses. Such expenses for the first six
months of the year 2004 were $2,806,700, as compared to $2,280,300 for the same
period in 2003, representing an increase of 23.08%. Increases in the Company's
marketing expenses were driven by heavier competition, particularly in the
Company's European Territory, and the Company believes that trend is likely to
continue for the next few quarters at least.
DOMESTIC OPERATIONS: Expenses for the first six months of the year 2004
were $811,100 compared to $802,500 during the corresponding period of 2003,
representing an increase of $8,600. As a percentage of net sales in the United
States, these expenses decreased to 14.75% during the first six months of the
year 2004, compared to 15.07% during the corresponding period of 2003. The
increased expenses included higher salary and travel costs due to increased
staffing (both in New York
17
and California) and an increase in promotional expenses; all of which were
partially offset by reductions in tavern and tasting room expenses due to
closure of the Hopland restaurant.
EUROPEAN TERRITORY: Expenses for the first six months of the year 2004
were $1,995,600 compared to $1,477,800 during the corresponding period of 2003,
representing an increase of $517,800. As a percentage of net sales in the United
Kingdom, the expenses increased to 21.03% during the first six months of the
year 2004 compared to 19.3% during the corresponding period of 2003 (in each
case as calculated in U.S. dollars, after taking into account the effects of the
exchange rate calculation). The increase is mainly on account of higher staffing
and associated travel costs, increases in advertising and promotional expenses,
higher freight on increased sales, and higher dispensing equipment maintenance
expenses.
GENERAL AND ADMINISTRATIVE EXPENSES: The Company's general and
administrative expenses were $1,906,500 for the first six months of the year
2004, representing an increase of $397,000 or 26.3%, over $1,509,500 for the
corresponding period in 2003. These expenses were equal to 12.72% of net sales
for first six months of the year 2004, as compared to 11.63% for the
corresponding period in 2003.
DOMESTIC OPERATIONS. Domestic general and administrative expenses were
$1,046,400 for the first six months of the year 2004, representing an increase
of $196,600, or 23.13%, over $849,800 for the same period in 2003. The increase
was primarily due to increased legal expenses caused by a legal dispute with a
distributor (discussed in Part II, Item 1 of this Quarterly Report) and higher
loan and lease fees on loan extensions and refinancing efforts.
EUROPEAN TERRITORY. General and administrative expenses related to the
European Territory were $860,100 for the first six months of the year 2004,
representing an increase of $200,400, or 30.38%, as compared to $659,700 for the
same period in 2003 (in each case as calculated in U.S. dollars, after taking
into account the effects of the exchange rate calculation). These increases were
mainly due higher salary costs and audit fees, increased depreciation expenses,
and start-up costs associated with the distribution and sale of Kingfisher
natural spring water.
OTHER EXPENSES
Other expenses for the first six months of the year 2004 totaled
$399,600, representing an increase of $2,400 when compared to the same period in
2003. The increase is mainly due to higher interest expenses as a result of
increased borrowings under the lines of credit, partially offset by increases in
profit on the sale of assets.
INCOME TAXES
The Company has a provision for income taxes of $78,200 for the first
six months of the year 2004, compared to $112,000 the same period in 2003. The
provision for taxes is related to the estimated amount of taxes that will be
imposed by taxing authorities in the United Kingdom.
NET LOSS
The Company's net loss for the first six months of the year 2004 was
$208,000, as compared to loss of $127,500 for the first six months of the year
2003. After providing for a positive foreign currency translation adjustment of
$25,700 during the second quarter of 2004 (as compared to a positive adjustment
of $18,400 for the same period in 2003), the comprehensive loss for the first
six months of the year 2004 was $182,300, compared to a loss of $109,100 for the
same period in 2003.
18
CAPITAL DEMANDS
The Company's Ukiah and Releta facilities are both operating at
significantly less than full capacity (as they have been for some time), placing
continuing demands upon the Company's assets and liquidity. Failure to
adequately meet those demands may have a material adverse affect on the
Company's business, financial condition, and results of operations.
The Company has yet to complete the build-out of its administrative
space and the exterior landscaping of its Ukiah facility, and does not plan to
revisit completion of the project until it has the available funds to do so. If,
in the future, the Company decides to complete the construction and landscaping,
the remaining work and the currently cost thereof are estimated to be as
follows: covering the parking lot with asphalt, approximately $30,000; building
a concrete sidewalk to one of the entrances of the brewery building,
approximately $10,000.
PROCEEDS FROM OPERATIONS INSUFFICIENT TO SUSTAIN OPERATIONS
The Company must make timely payment of its debt and lease commitments
to continue its operations. Beginning at about the time when the Ukiah brewery
commenced operations (the second quarter of 1997), proceeds from operations have
not been able to provide sufficient working capital for day to day operations.
To fund its operating deficits, the Company has relied upon lines of credit and
other credit facilities (see "Liquidity and Capital Resources," below). These
loans and lines of credit have typically been short-term in nature, which has
required the Company to obtain periodic extensions or refinancings of these
facilities. As discussed more fully below, the Company is currently seeking
extensions and/or refinancings of certain of these facilities. Although
management has had success in negotiating these credit facilities in the past,
there can be no assurance that the Company will be able to do so in the future
(either at a price the Company will be able to sustain or at any price), or that
the Company will have access to any alternative sources of funds in the future.
Failure to secure sufficient funds will have a materially adverse effect on the
Company.
LIQUIDITY AND CAPITAL RESOURCES
The Company has entered into a substantial number of loans, lines of
credit, other credit facilities, and lease agreements over the last several
years, with the result that a substantial majority of its assets are encumbered
and it is carrying a relatively large debt burden. In order to continue its
operations, the Company will have to make timely payments of its debt and lease
commitments as they fall due. Any breach of a loan or lease which actually leads
to default, or to an attempt by a creditor to exercise its rights in the
Company's tangible or intangible assets, could potentially make it impossible,
at least in the short term, for the Company to continue its operations.
In particular, MBC's line of credit from CIT Group and its temporary
loan from Savings Bank of Mendocino (both of which are more fully described
below under "Other Loans and Credit Facilities") are scheduled to fall due on
August 31 and September 18, 2004, respectively. A failure to replace,
renegotiate, or extend either of these agreements would have a significant
adverse impact on the Company's liquidity and operations. Although management
has been able to do so in the past, there can be no assurance that the Company
will have access to the same or equivalent sources of funds in the future,
either on a comparable basis or on any other terms acceptable to the Company.
On April 4, 2004, MBC received a commitment from United Breweries of
America, Inc. ("UBA"), one of its major shareholders, to the effect that UBA
would provide MBC with such financial assistance as may be in UBA's power to
prevent or avoid any default under either the CIT Group line of credit or the
temporary loan from Savings Bank of Mendocino County when they become due. The
terms of any such assistance have not yet been determined, however.
19
MASTER LINE OF CREDIT. On August 31, 1999, MBC and United Breweries of
America, Inc. ("UBA"), one of the Company's principal shareholders, entered into
a Master Line of Credit Agreement (the "Credit Agreement"). The terms of the
Credit Agreement provide the Company with a line of credit in the principal
amount of up to $1,600,000, and originally included various conversion
protection provisions. As of the date of this filing, UBA has made thirteen (13)
separate advances to the Company under the Credit Agreement, pursuant to a
series of individual eighteen (18) month promissory notes issued by the Company
to UBA (the "UBA Notes"). The aggregate outstanding principal amount of the UBA
Notes as of June 30, 2004 was $1,515,400, and the accrued but unpaid interest
thereon was equal to approximately $447,700.
The UBA Notes require the Company to make quarterly interest payments to
UBA on the first day of April, July, October, and January. To date, UBA has
permitted the Company to capitalize all accrued interest; therefore, the Company
has borrowed the maximum amount available under the facility. Upon maturity of
any UBA Note, unless UBA has given the Company prior instructions to commence
repayment of the outstanding principal balance, the outstanding principal and
accrued but unpaid interest on such Note may be converted, at the option of UBA,
into shares of the Company's common stock. If UBA does not elect to so convert
any UBA Note upon maturity, it has the option to extend the term of such UBA
Note for any period of time mutually agreed upon by UBA and the Company. During
the extended term of any UBA Note, UBA has the right to require the Company to
repay the outstanding principal balance, along with the accrued and unpaid
interest thereon, to UBA within sixty (60) days.
The outstanding principal amount of the Notes and the unpaid interest
thereon may be converted, at UBA's discretion, into shares of the Company's
unregistered Common Stock at a conversion rate of $1.50 per share. As of June
30, 2004, the outstanding principal and interest on the notes was convertible
into 1,308,723 shares of the Company's Common Stock. On December 28, 2001, the
Company and UBA entered into a Confirmation of Waiver which provides a written
confirmation that as of August 13, 2001, UBA waived its rights with regard to
all conversion rate protection as set forth in the UBA Notes.
The Company and UBA have entered into a series of agreements to extend
the term of the UBA Notes (the "Extension Agreement"). The latest of these
Extension Agreements, which was entered into as of August 14, 2004, extends the
term of the UBA Notes until August 31, 2005.
LONG TERM DEBT: MBC has obtained a $2.7 million loan from Savings Bank
of Mendocino County ("SBMC"), secured by a first priority deed of trust on the
Ukiah land, fixtures, and improvements. The loan is payable in partially
amortizing monthly installments of $24,400 including interest at the rate of
7.24%, maturing December 2012 with a balloon payment in the amount of $932,600.
The interest rate is adjusted on every five year anniversary of the agreement to
the Treasury Constant Maturity Rate plus 4.17%. The amount of the balloon
payment will vary depending on the change in interest rates over the years. In
addition to the Ukiah land and facility, this loan is secured by some of the
other assets of the Company (other than the Releta facility), including, without
limitation, most of the Company's equipment.
EQUIPMENT LEASE: From 1996 until 2003, Finova Capital Corporation
("Finova") leased new brewing equipment with an original total cost of
approximately $1.78 million to MBC, with monthly rental payments of
approximately $27,100 each. During 2003, the Company exercised its option to
purchase the equipment at a cost of approximately $576,200.
20
OTHER LOANS AND CREDIT FACILITIES.
CIT GROUP/CREDIT FINANCE LINE OF CREDIT: The CIT Group/Credit Finance,
Inc. has provided the Company a $3,000,000 maximum line of credit with an
advance rate of 80% of the qualified accounts receivable and 60% of the
inventory at a current interest rate equal to the prime rate of Chase Manhattan
Bank of New York plus 4.25 %, payable monthly, originally scheduled to mature on
September 23, 2002. The line of credit is secured by all accounts, general
intangibles, inventory, and equipment of the Company except for the specific
equipment and fixtures of the Company leased from Finova Capital Corporation, as
well as by a second deed of trust on the Company's Ukiah land improvements.
$1,484,000 of the line of credit was advanced to the Company as an initial term
loan, which was repayable in sixty consecutive monthly installments of
principal, each in the amount of $24,700.
On January 17, 2003, the term of this facility was extended to November
30, 2003. At the same time, the maximum credit available was increased to
$3,500,000, and the Company was provided a term loan of $750,000 consisting of
the original balance of $346,300 and a new term loan of $403,700 repayable in 30
equal consecutive monthly installments of $24,700, commencing February 1, 2003,
with a final payment of $8,000. CIT group amended and extended the facility on
December 1, 2003, January 30, 2004, February 27, 2004 and May 3, 2004 in order
to allow the Company time to refinance. On July 1, 2004 CIT Group further
extended the term of the facility to expire on August 31, 2004 and increased the
term loan repayment to $10,000 per week. Based on the Company's current level of
accounts receivable and inventory, the Company has drawn the maximum amount
permitted under the line of credit. As of June 30, 2004, the total amount
outstanding on the line of credit was approximately $1,759,300. Management
believes that it will be successful in refinancing this agreement, but failure
to do so would have a significant impact on the Company's liquidity and
operations.
SAVINGS BANK OF MENDOCINO TEMPORARY LOAN: On December 31, 2003, Savings
Bank of Mendocino County ("SBMC") extended a temporary loan in the principal
amount of $576,200 to the Company in order to finance the buy-out of equipment
leased through Finova Capital Corporation. This loan, which is due for repayment
on September 18, 2004, is secured by the existing assets of the Company and the
assets released by Finova on lease termination. The rate of interest on the loan
is 7%. Management believes that it will be successful in refinancing this
agreement, but failure to do so would have a significant impact on the Company's
liquidity and operations.
NEDBANK LIMITED OPTION FACILITY: Nedbank Limited, a South African
registered company ("Nedbank"), has provided UBSN with a multi-currency option
facility of 1,250,000 Pounds Sterling. This overdraft facility, which may be
terminated by Nedbank at any time (with or without default) on thirty days'
notice, is secured by all of the assets of UBSN. The amount outstanding on this
line of credit as of June 30, 2004 was approximately $1,303,000. The Company
believes that Nedbank will continue to extend this facility, although there can
be no guarantee that it will not call the outstanding balance at any time. A
number of factors, including for instance adverse changes in the Company's
financial condition, changes in Nedbank's lending policies unrelated to the
Company, or adverse economic developments generally, could cause Nedbank to
decline to do so. If Nedbank were to exercise its option to call the amount
outstanding under this facility, the Company would have to find an alternative
lender or source of funds to repay the balance owing to Nedbank. There can be no
guarantee that the Company will be able to do so within the time frame provided
under its agreements with Nedbank.
SHEPHERD NEAME LOAN: Shepherd Neame has a contract with UBSN to brew
Kingfisher Lager for the Company's European and Canadian markets. As
consideration for extending the brewing
21
contract, Shepherd Neame advanced a loan of (pound)600,000 (Pounds Sterling) to
UBSN, repayable in annual installments of (pound)60,000 (Pounds Sterling) per
year, commencing in June 2003. The loan carries a fixed interest rate of 5% per
year.
WEIGHTED AVERAGE INTEREST: The weighted average interest rates paid on
the Company's U.S. debts was 7.61% for the first six months of the year 2004 and
7.39% (including the long term capital lease of equipment by Finova Capital
Corporation Inc.) for the corresponding period in 2003. For loans primarily
associated with Company's European territory, the weighted average rate paid was
6.75% for the first six months of the year 2004 as compared to 5.80% for the
corresponding period in 2003.
KEG MANAGEMENT ARRANGEMENT: The Company entered into a keg management
agreement with MicroStar Keg Management LLC. Under this arrangement, MicroStar
provides the Company with half-barrel kegs for which the Company pays a filling
and use fee. Distributors return the kegs to MicroStar instead of the Company.
MicroStar then supplies the Company with additional kegs. The agreement has been
extended on a monthly basis since September 2002. The Company is currently
negotiating a new contract. If, on any given month, the agreement is not
extended and terminates, the Company is required to purchase a certain number of
kegs from MicroStar. The Company would probably finance the purchase through
debt or lease financing, if available. However, there can be no assurance that
the Company will be able to finance the purchase of kegs. Failure to extend the
contract or failure to purchase the necessary kegs from MicroStar on termination
of contract is likely to have a material adverse effect on the Company.
OVERDUE PROPERTY TAXES: As of June 30, 2004, the delinquent property
taxes due on the Company's Ukiah property, including penalties and interest,
totaled $669,300, representing the balance due for overdue taxes for the period
from April 1999 to June 2003. Pursuant to an agreement with Mendocino County
entered into in July of 2003, the balance of the overdue taxes will be paid in
four annual installments, due on or before April 10, 2005, 2006, 2007, and 2008,
each representing 20% or more of the original overdue balance, along with
accrued interest calculated at 18% per year. Because of the large amount of
taxes owed, and the County's ability to sell the Ukiah property to satisfy a
delinquency, failure to settle these tax dues (including payments due under the
payment plan) could have a serious adverse effect on the Company's business and
financial condition.
RESTRICTED NET ASSETS. The Company's wholly-owned subsidiary, UBI, has
undistributed earnings of approximately $2,410,600 as of June 30, 2004. Under
UBI's line of credit agreement, distributions and other payments to the Company
from its subsidiary are limited to approximately $200,000 per year.
CURRENT RATIO
The Company's ratio of current assets to current liabilities on June 30,
2004 was 0.82 to 1.0 and its ratio of total assets to total liabilities was 1.38
to 1.0. On June 30, 2003, the Company's ratio of current assets to current
liabilities was 0.63 to 1.0 and its ratio of total assets to total liabilities
was 1.39 to 1.0.
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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As of June 30, 2004, the Company did not hold derivative instruments, or
engage in hedging activities, of any material value or in any material amount,
whether for trading or for hedging purposes. The Company has some
interest-related market risk due to floating interest rate debt totaling
$5,153,900 as of June 30, 2004.
INTEREST RATE RISK
The Company had total debt as of June 30, 2004 of $8,941,800, of which
$5,153,900 was subject to variable rates of interest (either prime or LIBOR plus
1.5% or prime plus 3% or prime plus 4.25%). Its long-term debt (including
current portion) as of June 30, 2004 totaled $5,573,900, of which $3,787,800 had
fixed rates of interest and the balance of $1,786,100 were subject to variable
rates. Short term debts amounted to $3,367,800, all of which were subject to
variable rates. At current borrowing levels, an increase in prime and LIBOR
rates of 1% would result in an annual increase of $51,500 in interest expense on
the Company's variable rate loans.
FOREIGN CURRENCY RATE FLUCTUATIONS
The Company's earnings and cash flows at its subsidiaries UBI and UBSN
are subject to fluctuations due to changes in foreign currency rates. The
Company believes that changes in the foreign currency exchange rate would not
have a material adverse effect on its results of operations as the majority of
its foreign transactions are delineated in UBI's functional currency, the
British Pound.
ITEM 4. CONTROLS AND PROCEDURES
The Company's Chairman of the Board, President, and Chief Financial
Officer, have evaluated the effectiveness of the design, maintenance, and
operation of the Company's disclosure controls and procedures in effect during
the period of time covered by this report. Based on this evaluation, they
believe that the Company's disclosure controls and procedures were then
effective in providing reasonable assurance that relevant information is timely
identified and communicated, alerting them to material information required to
be disclosed in the Company's periodic reports filed with or submitted to the
SEC. Management is not aware of any material changes in the Company's internal
or other controls over financial reporting identified in connection with that
evaluation that have significantly affected, or are likely to affect, the
Company's internal controls over financial reporting.
Disclosure controls and procedures, no matter how well designed and
implemented, can provide only reasonable assurance of achieving the Company's
disclosure objectives. The likelihood of achieving such objectives is affected
by limitations inherent in such controls and procedures, including the fact that
human judgment in decision making can be faulty and that breakdowns in internal
controls can occur because of human failures such as simple errors or mistakes
or intentional circumvention of the established process.
23
PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
Effective March 28, 2003, the Company terminated a written distribution
agreement with the House of Daniels, Inc., dba Golden Gate Distributing Company
("GGDC"). On April 1, 2003, GGDC filed an action in Marin County Superior Court,
naming the Company and Mr. Mark Anderson (who is employed by the Company as a
sales manager) as defendants, and seeking compensatory and punitive damages in
an amount not stated in the complaint. GGDC's action asserts claims against the
Company and/or Mr. Anderson for breach of contract, breach of the covenant of
good faith and fair dealing, unfair business practices, intentional interference
with prospective economic advantage, conversion and constructive trust, all
arising out of the allegedly wrongful termination of the GGDC distribution
agreement.
GGDC has since filed two amended complaints, naming as additional
defendants Dr. Vijay Mallya, the Company's Chairman; United Breweries of
America, Inc., one of its principal shareholders; and the two replacement
distribution companies contracted to service the territory formerly handled by
GGDC. GGDC is now seeking to impose a constructive trust on the $655,000 that
the Company received from its new distributors, and alleging conspiracy and
conversion of those funds. The Company could be found to have an obligation to
indemnify some or all of the other defendants for their legal costs and expenses
and for all or a portion of any judgment against them in the action.
The Company disputes GGDC's allegations, and intends to vigorously
defend the action. The Company has filed a cross-complaint against GGDC,
alleging breach of contract, tortious interference with prospective economic
advantage, and unfair business practices. The Company is seeking the appropriate
remedies, including compensatory and punitive damages.
The Company is unable at this time to evaluate the likelihood of an
unfavorable outcome in this litigation, or to provide an estimate of the amount
or range of the potential loss in such an event.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS.
10.66 Extension of Loan and Security Agreement between the
Company, Releta Brewing Company LLC and The CIT
Group/Credit Finance, Inc., dated July 1, 2004
10.67 Revised Promissory Note in favor of Savings Bank of
Mendocino County, dated as of July 20, 2004
10.68 Fourth Amendment to Extension of Term of Notes Under
Master Line of Credit Agreement between Mendocino
Brewing Company, Inc. and United Breweries of America,
Inc., dated as of August 14, 2004
31.1 Certification of Chief Executive Officer pursuant to
Rule 13a-14(a)
31.2 Certification of Chief Financial Officer pursuant to
Rule 13a-14(a)
24
32.1 Certification of Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
(b) CURRENT REPORTS ON FORM 8-K
None.
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.
MENDOCINO BREWING COMPANY, INC.
Dated: August 14, 2004 By: /s/ Dr. Vijay Mallya
----------------------------------------
Dr. Vijay Mallya
Chairman of the Board and Chief
Executive Officer
Dated: August 14, 2004 By: /s/ N. Mahadevan
----------------------------------------
N. Mahadevan
Chief Financial Officer and Secretary
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EXHIBIT INDEX
NUMBER EXHIBIT TITLE PAGE
10.66 Extension of Loan and Security Agreement between the Company,
Releta Brewing Company LLC and The CIT Group/Credit Finance,
Inc., dated July 1, 2004. 27
10.67 Revised Promissory Note in favor of Savings Bank of Mendocino
County, dated as of July 20, 2004. 30
10.68 Fourth Amendment to Extension of Term of Notes Under Master Line
of Credit Agreement between Mendocino Brewing Company, Inc. and
United Breweries of America, Inc., dated as of August 14, 2004.
This Exhibit is incorporated by reference from Amendment No. 11
to Schedule 13D, which was jointly filed by United Breweries of
America, Inc. and Dr. Vijay Mallya on August 16, 2004.
31.1 Certification of Chief Executive Officer pursuant to Rule
13a-14(a) 36
31.2 Certification of Chief Financial Officer pursuant to Rule
13a-14(a 38
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 40
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 41
26