EDEN BIOSCIENCE CORP - 10-Q - 20041108 - NOTES_TO_FINANCIAL_STATEMENT
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS
1. Organization and Summary of
Significant Accounting Policies
Organization and Business
Eden
Bioscience Corporation (“Eden Bioscience” or the “Company”) was incorporated in
the State of Washington on July 18, 1994. Eden Bioscience is a plant health
technology company focused on developing, manufacturing and marketing
innovative natural protein-based products for agriculture. The Company began
selling its initial product, Messenger
®
, in August 2000.
The
Company is subject to a number of risks including, among others: dependence on a limited number of products
and the development and commercialization of those products, which may not be
successful; the need to develop adequate sales and marketing capabilities to
commercialize the Company’s products; reliance on independent distributors and
retailers to sell the Company’s products; risks and uncertainties associated
with conducting operations internationally; competition from other companies
with greater financial, technical and marketing resources; and other risks
associated with commercializing a new technology.
Basis of Presentation
The
accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with U.S. generally accepted accounting principles for
interim financial information and pursuant to the instructions to Form 10-Q.
Accordingly, they do not include all of the information and notes required by
U.S. generally accepted accounting principles for complete financial statements.
The balance sheet at December 31, 2003 has been derived from the audited
financial statements at that date but does not include all of the information
and notes required by U.S. generally accepted accounting principles for
complete financial statements. These financial statements and notes should be
read in conjunction with the financial statements and notes for the year ended
December 31, 2003 included in the Company’s Annual Report on Form 10-K, which
was filed with the Securities and Exchange Commission on March 26, 2004.
In
the opinion of management, the unaudited condensed consolidated financial
statements include all adjustments, consisting only of normal recurring
adjustments, necessary to state fairly the financial information set forth therein.
Results of operations for the three months and nine months ended September 30,
2004 are not necessarily indicative of the results expected for the full fiscal
year or for any future period.
Liquidity
The
Company’s operating expenditures have been significant since its inception. The
Company currently anticipates that its operating expenses will significantly
exceed net product sales and that net losses and working capital requirements
will consume a material amount of its cash resources. If net product sales do
not significantly increase in the near term, the Company will have to further
reduce its operating expenses or cease operations. The Company’s future capital
requirements will depend on the success of its operations. Management of the
Company believes that the balance of its cash and cash equivalents at September
30, 2004 will be sufficient to meet its anticipated cash needs for net losses,
working capital and capital expenditures for more than the next 12 months,
although there can be no assurance in that regard.
In
the future, the Company may require additional funds to support its working
capital requirements or for other purposes and may seek to raise such
additional funds through public or private equity financing or through other
sources, such as credit facilities. The Company may be unable to obtain
adequate or favorable financing at that time or at all. The sale of additional
equity securities could result in dilution to the Company’s shareholders.
Estimates Used in Financial Statement
Preparation
The
preparation of financial statements in conformity with U.S. generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and the disclosure
of contingent assets and liabilities at the date of the financial statements
and the reported amounts of revenues and expenses during the reporting period.
Examples include depreciable lives of property and equipment; expense accruals;
and provisions for sales allowances, warranty claims, inventory valuation,
asset impairments, losses on facility subleases and bad debts. Such estimates
and assumptions are based on historical experience, where applicable, and other
assumptions. Estimates and assumptions are reviewed periodically and the
effects of revisions are reflected in the consolidated financial statements in
the period they are determined to be necessary. Actual results could differ
from these estimates.
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EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Property and Equipment
Equipment
and leasehold improvements are stated at historical cost. Improvements and
replacements are capitalized. Maintenance and repairs are expensed when
incurred. The provision for depreciation and amortization is determined using
straight-line, units-of-production and accelerated methods, which allocate
costs over their estimated useful lives of two to 20 years. Equipment leased
under capital leases is depreciated over the shorter of its estimated useful
life or lease term, which is five years. Leasehold improvements are amortized
over the shorter of their estimated useful lives or lease term, which range
between two to ten years.
On
January 1, 2003, the Company adopted Statement of Financial Accounting
Standards (“SFAS”) No. 143, “Accounting for Asset Retirement Obligations,”
which provides the accounting requirements for retirement obligations associated
with tangible long-lived assets. This statement requires companies to record
the fair value of a liability for an asset retirement obligation in the period
in which it is incurred.
Revenue
The
Company recognizes revenue from product sales, net of sales allowances, when
product is delivered to its distributors or customers and all significant
obligations of the Company have been satisfied, unless acceptance provisions or
other contingencies or arrangements exist. If acceptance provisions or other
contingencies or arrangements exist, revenue, sales allowances and cost of good
sold are deferred and recognized later if such acceptance provisions or other
contingencies or arrangements are satisfied. As part of the analysis of whether
all significant obligations of the Company have been satisfied or situations
where acceptance provisions or other contingencies or arrangements exist, the
Company considers the following elements, among others: sales terms and arrangements, including
customer payment terms , historical experience and current incentive programs.
Distributors and customers do not have price protection or product-return
rights.
Sales
allowances represent allowances granted to independent distributors for sales
and marketing support, product warehousing and delivery and information
exchange and are estimated based on the terms of the distribution agreements or
other arrangements currently in place. Sales allowances are accrued when the
related product sales are recognized or when services are provided and are paid
in accordance with the terms of the then-current distributor program agreements
or other arrangements. Distributor program agreements expire annually,
generally on December 31. Prior to 2003, sales allowances were paid when the
distributors sold the product and reported the sales data to the Company,
generally on a quarterly basis. Sales allowances related to 2003 sales will be
paid upon submission by distributors of annual sales data. In January 2004, the
Company changed its distributor program to provide for sales allowances based
on marketing support and the total amount of products purchased during the
year. Marketing support and volume rebates are paid throughout the year as
distributors qualify to receive them.
Gross
product sales and sales allowances are as follows:
Three Months Ended September 30,
Nine Months Ended September 30,
2004
2003
2004
2003
Gross product sales
$
427,120
$
105,409
$
907,342
$
1,435,295
Sales allowances
(58,737
)
(2,876
)
(130,858
)
(63,539
)
Elimination of previously
recorded
sales allowance liabilities
-
-
95,237
126,301
Product
sales, net of sales allowances
$
368,383
$
102,533
$
871,721
$
1,498,057
Net
product sales for the nine months ended September 30, 2004 and 2003 include the
reduction by $95,237 and $126,301, respectively, of sales allowance liabilities
recognized in prior quarters that will not be paid because of changes in
distributor programs implemented in 2003 and actual amounts earned by
distributors being less than amounts previously estimated.
- 6 -
EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
In
February 2004, the Company received approval to sell Messenger in Spain. The
Company initiated marketing activities in March, but the approval was not
received in time to meet initial sales activity. In order to ensure that an
adequate supply of Messenger was quickly disbursed in the new distribution
channel and to limit the amount of working capital required by new distributors
at this early stage of introduction, the Company granted flexible and/or
extended payment terms to distributors in this new market. Because of this
combination of factors, revenues from product deliveries are deferred and
recognized when payment is received. The Company recognized net revenue of
$226,000 and $316,000 from these deliveries when payment was received in the
quarter and nine months ended September 30, 2004, respectively. Gross revenues
of $159,000 and cost of goods sold of $73,000 were deferred at September 30, 2004
and will be recognized when payment is received.
The
Company provides an allowance for warranty claims based on historical
experience and expectations. Shipping and handling costs related to product
sales that are paid by the Company are included in cost of goods sold.
Sales Incentives
The
Company sometimes offers sales incentives, often in the form of free product,
to distributors and other customers. Costs associated with such incentives are
recognized as costs of sales in the later of the period in which (a) the
associated revenue is recognized by the Company or (b) the sales incentive is
offered to the customer.
In
September 2003, with the cooperation of its retailers, the Company instituted a
“buy one, get one free” promotion at the grower level that ran through the end
of 2003. Near the end of 2003, the Company announced a reduction of
approximately 50% in the price of Messenger and determined that Messenger® STS,
an improved formulation of Messenger introduced in January 2004, would sell for
approximately the same price as Messenger. At the same time, the Company
announced to distributors that it planned to send them additional products at
no charge in order to reduce the average cost of their existing inventories of
Messenger. In the first nine months of 2004, the Company delivered
approximately 400,000 ounces of Messenger STS and it estimates that
approximately 74,000 ounces of products remain to be given to distributors.
This has substantially increased channel inventory and negatively affected the
Company’s sales. The Company does not expect distributors that hold significant
inventories of its products to place additional orders until their current
inventories are reduced.
Stock Compensation
The
Company has elected to apply the disclosure-only provisions of SFAS No. 123,
“Accounting for Stock-Based Compensation,” as amended by SFAS No. 148,
“Accounting for Stock-Based Compensation – Transition and Disclosure, an
Amendment of SFAS No. 123.” Accordingly, the Company accounts for stock-based
compensation using the intrinsic value method prescribed in Accounting
Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,”
and related interpretations. The following table illustrates the effect on net
loss and loss per share as if the Company had applied the fair value
recognition provisions of SFAS No. 123 to stock-based compensation.
Three Months Ended September 30,
Nine Months Ended September 30,
2004
2003
2004
2003
Net loss, as reported
$
(1,937,799
)
$
(2,533,519
)
$
(6,279,779
)
$
(8,718,879
)
Deduct: Total stock-based
employee
compensation expense under fair
value based method
(225,264
)
(367,265
)
(625,390
)
(1,288,122
)
Pro forma net loss
$
(2,163,063
)
$
(2,900,784
)
$
(6,905,169
)
$
(10,007,001
)
Loss per share:
Basic
and diluted – as reported
$
(0.08
)
$
(0.10
)
$
(0.26
)
$
(0.36
)
Basic
and diluted – pro forma
$
(0.09
)
$
(0.12
)
$
(0.28
)
$
(0.41
)
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EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Comprehensive Loss
The
following table summarizes the Company’s comprehensive loss for the three
months and nine months ended September 30, 2004 and 2003:
Three Months Ended September 30,
Nine Months Ended September 30,
2004
2003
2004
2003
Net loss
$
(1,937,799
)
$
(2,533,519
)
$
(6,279,779
)
$
(8,718,879
)
Cumulative translation
adjustment
4,387
(1,895
)
13,628
(5,882
)
Total
comprehensive loss
$
(1,933,412
)
$
(2,535,414
)
$
(6,266,151
)
$
(8,724,761
)
Net Loss Per Share
Basic
net loss per share is calculated as the net loss divided by the weighted
average number of common shares outstanding during the period. Diluted net loss
per share is calculated as the net loss divided by the sum of the weighted
average number of common shares outstanding during the period plus the
additional common shares that would have been issued had all dilutive warrants
and options been exercised, less shares that would be repurchased with the
proceeds from such exercises using the treasury stock method. The effect of
including outstanding options and warrants is antidilutive for all periods
presented. Therefore, options and warrants have been excluded from the
calculation of diluted net loss per share and consist of the following:
As of
September 30,
2004
2003
Options to purchase common
stock
2,476,751
2,463,201
Warrants to purchase
common stock
200,000
232,217
Reclassifications
Certain
reclassifications have been made in the condensed consolidated financial
statements of prior periods to conform to classifications used in the current
periods.
2. Stock Options and Warrants
The
following table summarizes stock option activity since December 31, 2003:
Number of
Options
Balance at December 31,
2003
2,548,941
Options
granted
150,000
Options
cancelled
(222,190
)
Balance at September 30,
2004
2,476,751
As
of September 30, 2004, the Company had warrants outstanding to purchase 200,000
shares of its common stock at $15.00 per share. The warrants are currently
exercisable and expire in August 2005. No warrants to purchase shares of the
Company’s common stock were issued during the nine-month period ended September 30, 2004.
3.
Inventory
Inventory,
at average cost, consists of the following:
September 30,
2004
December 31,
2003
Raw materials
$
624,562
$
855,883
Bulk manufactured goods
and work in process
1,916,641
348,965
Finished goods
825,190
852,970
Total inventory
$
3,366,393
$
2,057,818
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EDEN BIOSCIENCE CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
4. Property and Equipment
Property
and equipment, at cost, consists of the following:
September 30,
2004
December 31,
2003
Equipment
$
12,762,833
$
12,790,658
Equipment under capital leases
66,645
102,374
Leasehold improvements
11,578,034
11,578,034
Total
property and equipment
24,407,512
24,471,066
Less accumulated
depreciation and amortization
(9,680,749
)
(8,165,462
)
Net
property and equipment
$
14,726,763
$
16,305,604
The
Company recorded depreciation and amortization of $528,288 and $495,966 for the
three months ended September 30, 2004 and 2003, respectively, and $1,573,425
and $1,656,035 for the nine months ended September 30, 2004 and 2003,
respectively.
The
Company periodically reviews the carrying values of our property and equipment
to determine whether such assets have been impaired. An impairment loss must be
recorded pursuant to SFAS No. 144, “Accounting for the Impairment or Disposal
of Long-Lived Assets,” when the undiscounted net cash flows to be realized from
the use of such assets are less than their carrying value. The determination of
undiscounted net cash flows requires the Company to make many estimates,
projections and assumptions, including the lives of the assets, future sales
and expense levels, additional capital investments or expenditures necessary to
maintain the assets, industry market trends and general and industry economic
conditions. Based upon the analysis of net cash flows expected to be realized
from the remaining investments in property and equipment, no impairment loss
was recorded in any of the periods presented. The critical estimates in the
analysis are the Company’s ability to significantly increase sales over the
next five years while controlling operating expenses at current levels over the
next four years. If net product sales do not significantly increase in the near
term or if expenses significantly increase over the current level, a
significant impairment loss may need to be recorded. Another critical
assumption is that the Company will continue its current facility leases. If
the Company does not continue its leases, it may incur a significant impairment
loss on leasehold improvements and equipment at these facilities and other
significant losses. Changes in the factors above or other factors could result
in significantly different estimates and a significant impairment charge.
5. Accrued Liabilities
Accrued
liabilities consist of the following:
September 30,
2004
December 31,
2003
Compensation and benefits
$
300,534
$
311,246
Research and development
field trials
287,115
303,586
Facility costs
278,505
283,630
Warranty
228,021
228,021
Patents
118,772
82,447
Deferred revenue, net of
deferred cost of goods sold
102,342
6,223
Sales allowances
75,507
160,217
Sales incentives
62,843
180,692
Other
49,406
12,890
Total
accrued liabilities
$
1,503,045
$
1,568,952
6. Warranty Liability
The
warranty accrual percentage, which has ranged between zero and five percent, is
reviewed periodically and adjusted as necessary, based on historical
experience, the results of product quality testing and future expectations.
There were no changes to the Company’s warranty liability during the nine
months ended September 30, 2004.
7. Leases
In
April 2003, the Company subleased approximately 7,300 square feet of office
space to another company under a five year sublease agreement. The subtenant
was not in compliance with the sublease agreement at September 30, 2004 and the
agreement was terminated in October 2004. As a result, the Company recorded an
additional loss of $202,007 at September 30, 2004 based upon an estimate of the
time needed to re-sublease the space and expected future rents to be collected.
- 9 -
EDEN BIOSCIENCE CORPORATION AND
SUBSIDIARIES
NOTES TO
UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
8. Major
Customers
Net
product sales to the following distributors accounted for more than ten percent
of net revenues for the periods indicated:
Three Months Ended September 30,
Nine Months Ended September 30,
2004
2003
2004
2003
Customer A
$
114,600
$
-
$
136,100
$
-
Customer B
66,500
-
**
-
Customer C
61,600
53,800
138,400
363,200
Customer D
41,700
-
110,100
-
Customer E
-
-
**
182,400
Customer F
-
-
-
167,600
Customer G
-
20,500
-
**
** Less than ten percent.
9. Asset
Retirement Obligation
As
of January 1, 2003, the Company adopted SFAS No. 143, “Accounting for Asset
Retirement Obligations,” by recording an asset and liability in the amount of
$129,093 related to asset retirement obligations the Company has at the
expiration or earlier termination of its manufacturing facility lease. The
lease expires on December 31, 2006, at which time the Company may extend the
lease for three additional years. The Company has not restricted any assets for
purposes of settling this asset retirement obligation. As of January 1, 2003,
the Company also recorded a $63,508 charge for the cumulative effect of
adopting SFAS No. 143, which consists of cumulative accretion of $34,821 and
depreciation of $28,687 related to periods prior to January 1, 2003. Following
is a reconciliation of the beginning and ending aggregate carrying value of the
asset retirement obligation liability, which is included in other long-term
liabilities:
Balance
at December 31, 2003
$
185,070
Accretion
expense for the nine months ended September 30, 2004
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