Following the asset sale of our sports drink intellectual property, we will only
be manufacturing and distributing powder versions of ACCELERADE(R) and
ENDUROX(R) R(4)(TM) as well as ACCEL GEL(R). Our primary marketing focus will be
the serious endurance athlete (cyclist, runner, triathlete and swimmer) as well
as team sports. There are a number of companies that currently market products
competitive to ENDUROX(R) R(4)(TM) and ACCELERADE(R). The major companies
include Cytosport, PowerBar, EAS, and Clif Bar. Increased competitive activity
from such companies could make it more difficult for us to establish market
share since such companies have greater financial and other resources available
to them and possess far more extensive manufacturing, distribution and marketing
capabilities than we.
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The weight loss market, in which SATIETRIM(R) will compete, is a very
competitive market place. Weight loss products tend to fall into four categories
including: herbal supplements, meal replacement products (e.g., Slim Fast), food
plans (e.g., Weight Watchers) and prescription products (e.g., Xenical). Today,
weight loss products are manufactured by dietary supplement manufacturers,
pharmaceutical manufacturers, diet food companies, and over-the-counter drug
companies. Intense competitive activity in this market could make it difficult
for us to establish market share, as most of the companies that have products in
this category have greater financial, marketing, sales, manufacturing, and
distribution resources than we have.
We believe that long-term success in the marketplace for any of our products
will be dependent on the proprietary nature of our formulas as well as such
factors as distribution and marketing capabilities.
SUPPLIERS OF RAW MATERIALS
We do not have manufacturing facilities and have no present intention to
manufacture any products ourselves. We fulfill product needs through
relationships with independent manufacturers. We generally do not have long-term
contracts with any of these manufacturers. Competitors that do their own
manufacturing may have an advantage over us with respect to pricing,
availability of product, and in other areas because of their control of the
manufacturing process.
On January 28, 2005, we entered into an Exclusive Custom Manufacturing Agreement
with an affiliate of our investor, Hormel Health Labs. This agreement provides
for the exclusive manufacturing and processing of our powered sports drinks at
fixed prices. The initial term of the agreement is one year, and was extended in
August 2005 to two years.
Generally, our contract manufacturers obtain raw materials necessary for the
manufacture of our products from numerous sources. We generally do not have
contracts with suppliers of materials required for the production of our
products. We obtain ciwujia for our ENDUROX EXCEL(R) caplet line of products
from suppliers in the Peoples Republic of China. At the present time, we obtain
all of our needs from one supplier in the People's Republic of China, but
believe that we could switch to a number of alternative suppliers without
significant effect. We have not entered into any long-term supply agreements
with this supplier. In addition, all other raw materials used in our existing
products are available from multiple sources.
There is no assurance that suppliers will provide the raw materials needed by us
in the quantities requested or at a price we are willing to pay. Because we do
not control the source of these raw materials, we are also subject to delays
caused by interruption in production of materials based on conditions outside of
our control.
DEPENDENCE ON MAJOR CUSTOMERS
GNC and Performance, Inc. accounted for approximately 30% and 20%, respectively,
of net sales in fiscal 2005 and 0% and 0%, respectively, of net accounts
receivable at December 31, 2005. Deferred revenues for consigned inventory at
GNC were $369,068 as of December 31, 2005. The loss of these customers, a
significant reduction in purchase volume by these customers, or the financial
difficulty of such customers, for any reason, could significantly reduce our
revenues. We have no agreement with or commitment from either of these customers
with respect to future purchases.
PATENTS AND TRADEMARKS
The following describes the patents and trademarks we have obtained related to
our sports nutrition products and our weight loss technology. On February 22,
2006, we sold the patents and trademarks related to our ACCELERADE(R) and
ENDUROX(R) line of sports nutrition products to Mott's subject to an exclusive
license back to us to continue to market the powder, gel and pill form of these
products
We received a use patent, United States Patent No. 5,585,101 in December 1996
covering the use of ciwujia, the principal active herb in ENDUROX(R) and ENDUROX
EXCEL(R) caplets, entitled Method to Improve Performance During Exercise Using
the Ciwujia Plant. This patent expires in December 2013.
We received a composition of matter patent, United States Patent No. 6,051,236,
in April 2000 entitled Composition for Optimizing Muscle Performance During
Exercise. This patent expires in April 2017.
We received a composition of matter patent, United States Patent No. 6,207,638,
in March 2001 entitled Nutritional Intervention Composition for Enhancing and
Extending Satiety. This patent expires in March 2018.
21
We received a use patent, United States Patent No. 6,429,190, in August 2002
entitled Method For Extending The Satiety Of Food By Adding A Nutritional
Composition Designed To Stimulate Cholecystokinin (CCK). This patent expires in
August 2019.
We received a composition of matter patent, United States Patent No. 6,436,899,
in August 2002 entitled Nutritional Intervention Composition for Enhancing and
Extending Satiety. This patent expires in August 2019.
We received a composition of matter patent, United States Patent No. 6,468,962,
in October 2002 entitled Nutritional Intervention Composition for Enhancing and
Extending Satiety. This patent expires in October 2019.
We received a composition of matter patent, United States Patent No. 6,558,690,
in May 2003 entitled Nutritional Intervention Composition for Improving Efficacy
of a Lipase Inhibitor. This patent expires in May 2020.
We received a composition of matter patent, United States Patent No. 6,716,815,
in April 2004 entitled Nutritional Intervention Composition for Enhancing and
Extending Satiety. This patent expires in April 2021.
We received a composition of matter patent, United States Patent No. 6,838,431,
in January 2005 entitled Nutritional Intervention Composition Containing
Protease Inhibitor Extending Post Meal Satiety. This patent expires in January
2022.
We received a composition of matter patent, United States Patent No. 6,989,171,
in January 2006 entitled Sports Drink Composition For Enhancing Glucose Uptake
and Extending Endurance During Physical Exercise. This patent expires in January
2023.
We also have several patents pending on our technology. To the extent these are
improvements on our existing sports drink patents, Mott's will own these
patents, but we will have an exclusive license to use them in powder, gel and
pill products.
The patent holder for all patents is our CEO and President, Dr. Robert Portman.
Our policy is to have all patents assigned to us upon filing. Patent numbers
6,051,236 and 6,989,171 above have been assigned to Mott's. To the extent we do
not have patents on our products, there can be no assurance that another company
will not replicate one or more of our products, nor is there any assurance that
patents that are obtained will provide meaningful protection or significant
competitive advantages over competing products. For example, our use patent on
ciwujia would not prevent the sale of a product containing that herb with a
claim or for a use that was not covered by our patent.
We have federal trademark registrations for ENDUROX(R), ENDUROX EXCEL(R),
ENDUROX PROHEART(R), ENDUROX(R) R(4)(TM), SATIETROL(R), SATIETROL COMPLETE(R),
ACCELERADE(R), ACCEL GEL(R), COUNTDOWN(R), and MUSCLEADE(R) among others. We
also have filed our trademarks in most Western European countries, Canada,
Mexico and Japan. Our policy is to pursue registrations for all of the
trademarks associated with our key products, and to protect our legal rights
concerning the use of our trademarks. We rely on common law trademark rights to
protect our unregistered trademarks.
GOVERNMENTAL REGULATION
We have determined that all of our existing and proposed products, as described
above, are nutritional or dietary supplements as defined under federal statutes
and regulations of the FDA. Neither nutritional supplements nor dietary
supplements require FDA or other governmental approval prior to their marketing
in the United States. No governmental agency or other third party makes a
determination as to whether our products qualify as nutritional supplements,
dietary supplements, or neither. We make this determination based on the
ingredients contained in the products and the claims made for the products. The
processing, formulation, packaging, labeling and advertising of such products,
however, are subject to regulation by one or more federal agencies including the
FDA, the Federal Trade Commission, the Consumer Products Safety Commission, the
Department of Agriculture and the Environmental Protection Agency. Our
activities also are subject to regulation by various agencies of the states and
localities in which our products are sold.
We market products that are covered under two types of FDA regulations,
Nutritional Supplements and Dietary Supplements. Nutritional Supplements contain
food and GRAS (Generally Regarded as Safe) ingredients and do not require FDA
approval or notification. Such products must follow labeling guidelines outlined
by the FDA.
Dietary Supplements is a classification of products resulting from the enactment
of the Dietary Supplement Health and Education Act of 1994 in October 1994,
which amended and modified the application of certain provisions of the Federal
Food, Drug and Cosmetics Act as they relate to dietary supplements, and required
the FDA to promulgate regulations consistent with this act.
The Dietary Supplement Health and Education Act defines a dietary supplement to
include:
o any product intended to supplement the diet that bears or
contains a vitamin, mineral, herb or other botanical, an amino
acid, a substance to supplement the diet by increasing the total
dietary intake, or any concentrate, constituent, extract, or
combination of any such ingredient, provided that such product is
either intended for ingestion in tablet, capsule, powder,
softgel, gelcap, or liquid droplet form;
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o or, if not intended to be ingested in such form, is not
represented for use as a conventional food or as a sole item of a
meal or the diet; and
o is labeled as a dietary supplement.
The practical effect of such an expansive definition is to ensure that the new
protections and requirements of this act will apply to a wide class of products.
Under the Dietary Supplement Health and Education Act, companies that
manufacture and distribute dietary supplements are allowed to make any of the
following four types of statements with regard to nutritional support on
labeling without FDA approval:
o a statement that claims a benefit related to a classical nutrient
deficiency disease and discloses the prevalence of such disease
in the United States;
o a statement that describes the role of a nutrient or dietary
ingredient intended to affect structure or function in humans;
o a statement that characterizes the documented mechanism by which
a nutrient or dietary ingredient acts to maintain or function; or
o a statement that "describes general well-being" from consumption
of a nutrient or dietary ingredient.
In addition to making sure that a statement meets one of these four criteria, a
manufacturer of the dietary supplement must have substantiation that such
statement is truthful and not misleading, must not claim to diagnose, mitigate,
treat, cure, or prevent a specific disease or class of diseases, and must
contain the following disclaimer, prominently displayed in boldface type: "This
statement has not been evaluated by the Food and Drug Administration. This
product is not intended to diagnose, treat, cure, or prevent any disease."
On February 6, 2000, the FDA issued new guidelines concerning statements made
for dietary supplements. These new regulations have important implications for
the marketing of weight loss products such as SATIETROL(R). Previously the
regulations made it clear that a product that made a claim for obesity must be
treated as a drug. Under the new regulations, the FDA makes a distinction
between obesity and overweight. Overweight is no longer considered a disease but
rather a natural life process. Overweight is considered a condition that affects
the structure and function of the body. As now defined, dietary supplements can
make a claim for ordinary weight loss rather than as a treatment for obesity.
Furthermore, these regulations also permit the use of appetite suppressant as a
structure/function claim under the Dietary Supplement Health and Education Act.
The issuance of these regulations will give us greater latitude in the types of
claims we can make about SATIETROL(R) as long as such claims are substantiated
by the necessary studies.
EXPENDITURES FOR RESEARCH AND DEVELOPMENT
Our research and development expenditures in the past two fiscal years,
exclusive of market research and marketing related expenditures, were as
follows: 2005 - $195,000; 2004 - $145,000. The primary reason for the increase
was due to our aggressive research and development plan put in place as we
continue to seek out additional patents and claims for our products. We
anticipate that research and development expenses will increase as we conduct
additional clinical trials on all of our products.
COMPLIANCE WITH ENVIRONMENTAL LAWS
We are not aware of any administrative or other costs that we incur which are
directly related to compliance with environmental laws, and we have not
experienced any other significant effect from the impact of environmental laws.
EMPLOYEES
At the present time, we have eleven full time employees and one part time
employee. Of these, two employees are executive, six are in sales and marketing,
and four are in accounting, operations and administration. We employ a number of
consultants who devote limited portions of their time to our business. None of
our employees is represented by a union, and we believe that our employee
relations are good.
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PROPERTIES
In July 2003, we moved our headquarters from Woodbridge, New Jersey to larger
facilities located in Matawan, New Jersey. At that time, we entered into a
four-year (48-month) lease for approximately 5,500 square feet at a price of
$22.50 per square foot, including utilities, for an annual rent expense of
$123,750 for the first thirty-three months. During the last fifteen months of
the lease, the rent increases to $25.50 per square foot, including utilities,
for an aggregate annual rent expense of $140,250.
We do not intend to develop our own manufacturing capabilities, since management
believes that the availability of manufacturing services from third parties on a
contract basis is more than adequate to meet our needs in the foreseeable
future.
We not own any real property nor do we have any real estate investments.
LEGAL PROCEEDINGS
We have learned that a complaint was filed against us in the Circuit Court of
the 18th Judicial Circuit, Dupage Counts, Illinois by Paket Corporation, a
former supplier. The complaint seeks approximately $173,000 for breach of
contract. Although the complaint was filed at the end of December 2005, we were
not served with the complaint until April 18, 2006. We deny any liability and
have engaged counsel that has filed suit on March 10, 2006 against Paket
Corporation in Federal Court in Illinois for breach of contract by Paket. On
April 11,2006, we received Paket's answer and counterclaim for $173,000.
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MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
This discussion presents management's analysis of our results of operations and
financial condition as of and for each of the years in the two-year period ended
December 31, 2005 and 2004, respectively. The discussion should be read in
conjunction with our financial statements and the notes related thereto which
appear elsewhere in this prospectus and "Risk Factors" beginning on page 6 of
this prospectus.
INTRODUCTION
We were incorporated in April 1995 to discover, develop and commercialize
nutritional products that are patentable and substantiated by well-controlled
clinical trials conducted at leading university research centers. Our principal
areas of focus include sports performance, weight loss, and management of Type
II diabetes. We introduced our first product, ENDUROX (R), in March 1996. We
extended our exercise performance products with the introduction of ENDUROX(R)
R(4)(TM) Recovery Drink in March 1999, ACCELERADE(R) Sports Drink in May 2001,
and ACCEL GEL(R) in February 2004. These products are based on our patented
technology that involves the combination of carbohydrate and protein in a
specific ratio. A number of studies, both funded by our company and also
conducted independently, demonstrate that this technology can extend endurance,
decrease post-exercise muscle damage, speed recovery and improve rehydration.
In April 2000, we introduced our first product for weight loss that was based
upon a novel mode of action - the stimulation of one of the body's principal
satiety peptides, cholecystokinin (CCK). This technology was launched under the
brand name SATIETROL(R). In June 2001, we licensed this product to GSK and
discontinued promotion of our brand. In September 2002, the license was returned
to us and we initiated a program to improve both the efficacy and form
versatility of the technology. We anticipate launching a new ready-to-drink
beverage based on the enhanced technology under the brand name SATIETRIM(R) in
2006.
In February 2006, we entered into an asset sale with Mott's, a division of
Cadbury Schweppes, as described more fully in "Business - Business Development
and Recent Developments" above. As part of the agreement, we will continue to
sell the powder, gel and pill forms of ACCELERADE(R), ENDUROX(R) R(4)(TM) and
ACCEL GEL(R), both in the United States and in those countries where we are
presently doing business.
RESULTS OF OPERATIONS - YEARS ENDED DECEMBER 31, 2005 AND 2004
We generated a net loss applicable to common stockholders of ($652,410) or
($0.06) per share for the year ended December 31, 2005 compared to net loss
applicable to common stockholders of ($2,521,096) or ($0.25) per share for the
year ended December 31, 2004. The decrease in net loss is primarily attributed
to the write-off of inventory and patents associated with our NUTRIENT TIMING
SYSTEM line of products in 2004, as discussed more fully in "Business - Business
of the Issuer - Activation of Muscle Growth, Energy, and Transport Pathways -
Exercise Performance" above, as well as a tax benefit as a result of a reduction
in the valuation allowance associated with deferred tax assets in 2005 of
$1,503,410.
Revenues for the year ended December 31, 2005 were $5,444,558 compared to
$6,807,271 for the same period in 2004. The decrease in revenues in 2005 as
compared to 2004 was due primarily to sales of the NUTRIENT TIMING SYSTEM suite
of products in 2004 that was discontinued in 2005.
Our gross profit margin on product sales (before the inventory write-off)
decreased to 37.4% in 2005 from 47.1% in 2004. The decrease in gross profit
margin in 2005 compared to 2004 is primarily due to promotional expenses paid to
promote our products that are deducted from revenues and also lower gross profit
margins on newer products. From time to time, we may incur additional
promotional expenses in connection with the sale of our products. We anticipate
that these promotional expenses will result in higher unit volumes of sales of
these products.
Our selling, general, and administrative expenses, which we sometimes refer to
as S, G &A, decreased $898,821 to $3,721,567 for the year ended December 31,
2005 from $4,620,388 for the year ended December 31, 2004. S, G, & A expenses
decreased due primarily to decreases in advertising and marketing expenses
associated with the discontinued NTS suite of products including the reduction
of personnel. We anticipate S, G, & A expenses will decrease in 2006 as a result
of a change in our sales and marketing model.
Research and development expenses increased $50,281 to $195,242 for the year
ended December 31, 2005 from $144,961 for the year ended December 31, 2004. The
primary reason for the increase in research and development expenses is due to
our aggressive research and development plan put in place as we continue to seek
out additional patents and claims for our products. We anticipate research and
development expenses will increase as we conduct additional clinical trials on
all of our products.
25
Interest expense increased $6,399 to $102,134 for the year ended December 31,
2005 versus interest expense of $95,735 for the year ended December 31, 2004.
Interest expense is incurred in connection with our accounts receivable funding
from USA Funding described in the "Liquidity and Capital Resources" section
below as well as in connection with our convertible notes payable as detailed in
the "Liquidity and Capital Resources" section below. The increase in interest
expense was due primarily to an increase in the prime rate as well as the
interest on the convertible notes payable placed in 2005.
The loss on patent impairment of $137,138 for the year ended December 31, 2004
was due to the write-off of patents associated with our NTS line of products
which have been discontinued by GNC as noted in the "Business - Business of the
Issuer - Activation of Muscle Growth, Energy, and Transport Pathways - Exercise
Performance" section above.
LIQUIDITY AND CAPITAL RESOURCES
Our cash and liquidity position significantly improved with the sale on February
22, 2006 of our sports drink patents and trademarks to Mott's for $4,000,000
cash plus future potential royalties. We used a portion of the cash proceeds of
this transaction to repay $277,067 owed under our accounts receivable facility,
to repay the $500,000 convertible note with interest held by Hormel, and
approximately $611,981 owed to our exclusive contract manufacturer, an affiliate
of Hormel. Prior to this transaction, we had experienced significant liquidity
problems. There can be no assurance that we will not experience cash and
liquidity problems again in the future.
At December 31, 2005, our current assets exceeded our current liabilities by
$987,133 with a ratio of current assets to current liabilities of approximately
1.48 to 1. At December 31, 2005, cash on hand was $138,487, an increase of
$112,655 from December 31, 2004, primarily as the result of the investment by
Hormel (discussed in detail below), the placement of a convertible note with
Hormel (discussed in detail below), as well as a decrease of $242,745 in
accounts receivable, a decrease in inventory of $450,285, a decrease in accounts
payable and accrued expenses of $33,136, a decrease in notes payable of
$243,837, and an decrease in deferred revenue of $6,932 from December 31, 2005.
Accounts receivable decreased due to low late fourth quarter sales in 2005 and
inventory decreased due primarily to more efficient turns of inventory.
Notes payable (other than the long-term convertible note discussed below)
decreased $243,837 to $129,944 at December 31, 2005 primarily as a result of the
decreased use of our accounts receivable funding from USA Funding due to low
late fourth quarter sales in 2005. During the second quarter of 2003, we secured
a $750,000 asset-based credit facility from USA Funding of Dallas, TX. This
facility was for one year commencing on June 1, 2003. This credit facility was
subsequently increased to $1,000,000 and renewed for 2 years commencing June 1,
2004. This credit facility bore interest at a rate of prime plus 1.75% as well
as a 0.75% discount rate on all advances. At December 31, 2005, we had
approximately $ -0- of availability under this credit facility. On February 22,
2006, with the proceeds of the sale of our sports drink assets to Mott's, we
repaid this facility in full and terminated it.
As of December 31, 2005, we had outstanding 90,909 shares of our Series A
Preferred Stock outstanding. In the event of our liquidation, sale of
substantially all of our assets, and certain mergers and consolidations
involving us, the holders of the Series A Preferred Stock are entitled to be
paid an amount equal to the greater of: (i) the original purchase price for the
Series A Preferred Stock ($11 per share) plus accrued dividends, if any, or (ii)
the amount they would have received as holders of the number of shares of common
stock into which the Series A Preferred Stock is then convertible. We refer to
this amount as the "Series A Liquidation Amount" in this prospectus. In the
event of the sale of substantially all of our assets and certain mergers and
consolidations involving us, if we do not effect a dissolution under the General
Corporation Law of the State of Delaware within 60 days after such event, then
the holders of a majority of the shares of the Series A Preferred Stock then
outstanding will have the right to require the redemption of such shares at a
price per share equal to the Series A Liquidation Amount. There are no sinking
fund provisions applicable to the Series A Preferred Stock. Cumulative annual
dividends will accrue at the rate of $.022 on each share of Series A Preferred
Stock outstanding. We are not required to pay accrued dividends except in
connection with liquidation, merger or sale of PacificHealth and certain other
events. However, no dividends may be paid on common stock unless all accrued
dividends on the Series A Preferred Stock have been paid. The holders of the
Series A Preferred Stock are also entitled to participate in any dividends paid
to the holders of common stock on an as-converted basis. The holders of
outstanding shares of Series A Preferred Stock shall be entitled to cast the
number of votes equal to the number of whole shares of our common stock into
which the shares of Series A Preferred Stock held by such holder are convertible
as of the record date for determining stockholders entitled to vote on such
matter. Subject to certain adjustments, each share of the Series A Preferred
Stock is convertible at the option of the holder into ten shares of common
stock. The number of shares of common stock issuable upon conversion of the
Series A Preferred Stock will increase, pursuant to a weighted average formula
in the event that we issue common stock at a price below $1.10 per share, with
certain exceptions.
On August 24, 2005, we entered into another Securities Purchase Agreement with
Hormel. Pursuant to this agreement, Hormel loaned us the principal amount of
$500,000 in exchange for our Secured Convertible Promissory Note, which amount
would accrue interest at a rate of 8% per annum. The outstanding principal
balance under the convertible note and any accrued but unpaid interest thereon
was due and payable on August 24, 2007 to the extent that Hormel had not
exercised certain conversion rights under the convertible noote. In the event we
defaulted, interest on the outstanding principal balance would accrue at the
rate of 10% per annum. The convertible note was secured by a subordinated lien
26
on and security interest in our assets pursuant to the terms of a Security
Agreement between us and Hormel dated August 24, 2005. As additional
consideration for the loan, Hormel had the right at Hormel's option to convert
the outstanding principal amount and accrued and unpaid interest of the
convertible note into shares of our common stock, at a price per share equal to
the product of (x) the weighted average closing price of our common stock for
the five trading days preceding the notice of conversion of the note and (y)
$0.85. Hormel agreed that it would not convert the note if such conversion would
cause Hormel, together with its affiliates, to beneficially own more than 9.9%
of our shares of common stock then outstanding. However, Hormel could waive this
limitation by providing written notice of such waiver to us with the waiver to
be effective seventy-five days after receipt. On February 22, 2006, we repaid
the principal and accrued interest of this note in full with the proceeds of the
sale of assets to Mott's.
We have no material commitments for capital expenditures.
IMPACT OF INFLATION
We expect to be able to pass inflationary increases for raw materials and other
costs on to our customers through price increases, as required, and do not
expect inflation to be a significant factor in our business. However, our
operating history is very limited, and this expectation is based more on
observations of our competitors' historic operations than our own experience.
SEASONALITY
Sports nutrition products tend to be seasonal, especially in the colder
climates. Lower sales are typically realized during the first and fourth fiscal
quarters and higher sales are typically realized during the second and third
fiscal quarters. We also plan our advertising and promotional campaigns for the
ENDUROX(R) R(4)(R) and ACCELERADE(R) products around these seasonal demands.
Weight loss products also have seasonality with greater sales seen in the first
and second fiscal quarters following consumers' New Year's resolutions to lose
weight and their desire to lose weight in anticipation of the summer. Similarly,
advertising and promotional expenditures for SATIETROL(R) will be designed to
take advantage of this seasonality. We believe that the impact of new product
introductions and marketing expenses associated with the introduction of new
products will have a far greater impact on our operations than industry and
product seasonality.
OFF-BALANCE SHEET ARRANGEMENTS
There are no off-balance sheet arrangements between us and any other entity that
have, or are reasonably likely to have, a current or future effect on our
financial condition, revenues or expenses, results of operations, liquidity,
capital expenditures, or capital resources that is material to investors.
IMPACT OF RECENTLY ISSUED FINANCIAL ACCOUNTING STANDARDS
In December 2004, the Financial Accounting Standards Board, also referred to as
the FASB, issued Statement 123 (Revision 2004), "Share-Based Payment," and is
effective for reporting periods beginning after December 15, 2005. The new
statement requires all share-based payments to employees to be recognized in the
financial statements based on their fair values. We currently account for our
share-based payments to employees under the intrinsic value method of accounting
set forth in Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees." Additionally, we comply with the stock-based employer
compensation disclosure requirements of SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure, an amendment of FASB
Statement No. 123." We do not anticipate that adoption of this standard will
have a material impact on its financial position, results of operations, or its
cash flows.
In November 2004, the FASB issued FAS 151 "Inventory Costs, an amendment of ARB
No. 43, Chapter 4." This Statement amends the guidance in ARB No. 43, Chapter 4,
"Inventory Pricing," to clarify the accounting for abnormal amounts of idle
facility expense, freight, handling costs, and wasted material (spoilage). This
Statement is effective for inventory costs incurred during fiscal years
beginning after June 15, 2005. We do not anticipate that adoption of this
standard will have a material impact on its financial position, results of
operations, or its cash flows.
In December 2004, the FASB issued FAS 153 "Exchanges of Non-monetary Assets, an
amendment of APB Opinion No. 29." This Statement is the result of a broader
effort by the FASB to improve the comparability of cross-border financial
reporting by working with the International Accounting Standards Board (IASB)
toward development of a single set of high-quality accounting standards. As part
of that effort, the FASB and the IASB identified opportunities to improve
financial reporting by eliminating certain narrow differences between their
existing accounting standards. The accounting for non- monetary exchanges was
identified as an area in which the U.S. standard could be improved by
eliminating certain differences between the measurement guidance in Opinion 29
and that in IAS 16, Property, Plant and Equipment, and IAS 38, Intangible
Assets. This Statement is effective for non-monetary exchanges occurring in
fiscal periods beginning after June 15, 2005. We do not anticipate that adoption
of this standard will have a material impact on its financial position, results
of operations, or its cash flows.
27
In May 2005, the FASB issued Statement of Financial Accounting Standards No.
154, "Accounting Changes and Error Corrections - a replacement of APB No. 20 and
FASB Statement No. 3" ("SFAS 154"). SFAS 154 replaces APB No. 20, "Accounting
Changes" and FASB Statement No. 3, "Reporting Accounting Changes in Interim
Financial Statements" and changes the requirements for the accounting for and
reporting of a change in accounting principles. SFAS 154 is effective for
accounting changes and corrections of errors made in fiscal years beginning
after December 15, 2005. We do not anticipate that adoption of SFAS 154 will
have a material impact on our financial position, results of operations or our
cash flows.
CRITICAL ACCOUNTING POLICIES
Our financial statements have been prepared in accordance with accounting
principles generally accepted in the United States of America. Certain
accounting policies have a significant impact on amounts reported in financial
statements. A summary of those significant accounting policies can be found in
Note A to our financial statements. We have not adopted any significant new
accounting policies during the fiscal year ended December 31, 2005.
In preparing financial statements in conformity with generally accepted
accounting principles in the United States of America, we are required 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 revenues and expenses for the reporting period
covered thereby. Actual results could differ from those estimates.
Among such estimates made by management in the preparation of our financial
statements are the determinations of the allowance for doubtful accounts,
inventory valuations, and revenue recognition as it relates to customer returns.
The allowance for doubtful accounts is determined by assessing the realizability
of accounts receivable by taking into consideration the value of past due
accounts and collectability based on credit worthiness of such customers. We
assesses the realizability of inventories by reviewing inventory to determine
the value of items that are slow moving, lack marketability, and by analysis of
the shelf life of products. Estimates are made for sales returns based on
historical experience with actual returns. Starting in 2004, certain of our
products were subject to minimum sales thresholds by a significant retail
customer. These sales thresholds are based on quantities sold- through at the
retail level. We record revenue with respect to these products at the time the
goods are sold-through to the end user as reported to us by the customer. We
analyze retail sell-through data provided by the customer and our expectations
of future customer sell-through trends. Based upon this information, we
determine if any reserves for returns are necessary. Our financial statements
have been prepared in accordance with accounting principles generally accepted
in the United States of America. Certain accounting policies have a significant
impact on amounts reported in financial statements. A summary of those
significant accounting policies can be found in Note A to our financial
statements.
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
Set forth below is information concerning our executive officers, directors and
key employees, including their ages, as of April 24, 2006:
Name Age Position with PacificHealth
Robert Portman, Ph.D. 61 President, Chief Executive Officer,
Chief Scientific Officer and Chairman of
the Board of Directors
Stephen P. Kuchen 45 Chief Financial Officer, Chief Operating
Officer, Treasurer, Secretary, and Director
David I. Portman 65 Director
Michael Cahr 66 Director*, #
Gary Jamison 40 Director*
*Member of Audit Committee
#Member of Compensation Committee
Three former directors resigned during 2005: Gary Paxton (November 11, due to
his retirement from Hormel), Joseph Harris (April 11) and Gregory Horn (March
3). In addition, David Mastroianni, who was our President and CEO, and a
director, at the beginning of 2005, resigned from all of those positions during
2005.
28
DR. ROBERT PORTMAN, age 61, has served as our President and Chief Executive
Officer since June 2005 and our Chairman of the Board of Directors and Chief
Scientific Officer since September 2004. From our inception to September 2004,
Dr. Portman served as our President, Chief Executive Officer, and Chairman of
the Board of Directors. Dr. Portman has a Ph.D. in Biochemistry and worked as a
senior scientist at Schering Laboratories before co-founding M.E.D.
Communications in 1974. In 1987, Dr. Portman started a consumer agency and, in
1993, he merged both agencies to form C&M Advertising. C&M Advertising, with
billings in excess of $100 million Dr. Portman is coauthor of two books,
Nutrient Timing and The Performance Zone. He has authored hundreds of articles
on the role of nutrition in improving sports performance. He is a frequent guest
on TV and radio and has been a keynote speaker at national coaches meetings on
how nutritional intervention during and after exercise can improve athletic
performance and speed muscle recovery. As Chief Scientific Officer of
PacificHealth Laboratories, he holds 12 patents for nutritional inventions to
improve sports performance as well as to control appetite and help in the
management of Type II diabetes.
STEPHEN P. KUCHEN, age 45, has served as our Chief Financial Officer, Chief
Operating Officer, Treasurer, Secretary and a Director, since September 2004.
Prior to that, Mr. Kuchen served as our Vice President - Finance, Chief
Financial Officer, Treasurer, Assistant Secretary and a Director, since June
2000. Mr. Kuchen initially joined us in February of 2000 as Controller. Prior to
joining us, Mr. Kuchen was employed from 1996 to 1999 as the Controller of Able
Laboratories, a public company located in South Plainfield, New Jersey that
manufactures and sells generic pharmaceuticals. Prior to his employment by Able
Laboratories, Mr. Kuchen was the Controller of Jerhel Plastics, a privately
owned manufacturer of women's compact cases from 1993 to 1996. Mr. Kuchen is a
graduate of Seton Hall University in South Orange, NJ, and is a Certified
Management Accountant.
DAVID I. PORTMAN, age 65, has served as a Director from our inception. Mr.
Portman has a BS in Pharmacy and an MBA. He worked as a sales representative and
marketing manager for Eli Lilly, Beecham-Massengill, Winthrop Laboratories and
Sandoz Pharmaceuticals before co-founding M.E.D. Communications in 1974. In
1988, Mr. Portman sold his interest in M.E.D. Communications to Robert Portman,
and became President of TRIAD Development, a real estate company that has
numerous commercial and rental properties in New Jersey, a position that he
still holds. Mr. Portman served as a director of First Montauk Securities Corp.
from 1993 through December 31, 2002.
MICHAEL CAHR, age 66, was appointed to the Board of Directors in April 2002.
Since April 1999, Mr. Cahr has served as President of Saxony Consultants, a
company that provides financial and marketing expertise to organizations in the
United States and abroad. Mr. Cahr was Chairman of Allscripts, Inc., the leading
developer of hand-held devices that provide physicians with real-time access to
health, drug and other critical information from September 1997 through March
1999 and President, CEO and Chairman from June 1994 to September 1997. Prior to
Allscripts, Mr. Cahr was Venture Group Manager for Allstate Venture Capital
where he oversaw investments in technology, healthcare services, biotech and
medical services from October 1987 to June 1994. Mr. Cahr serves as a director
of Lifecell Corporation, a Branchburg, New Jersey-based, publicly traded tissue
engineering company where he has been a board member since 1991. Mr. Cahr is
also a director of Mpower Communications Corp., a publicly traded AMEX company
specializing in providing data and voice services to businesses. Mr. Cahr
received his undergraduate degree in Economics from Colgate University and his
M.B.A. from Fairleigh Dickinson University.
GARY JAMISON, age 40, was named as a Director in December 2005. Mr. Jamison is
currently controller for the Specialty Foods Group of Hormel Foods Corporation
("HFC"), a publicly traded company. Mr. Jamison has been involved with the
integration of Diamond Crystal Brands after its acquisition by HFC and has
worked as part of a team to complete the acquisitions of Century Foods
International, Mark-Lynn Foods and InterNutra. Mr. Jamison started with HFC in
June of 1988 and has held various jobs within HFC in cost accounting, audit,
marketing and management in addition to his current position. Mr. Jamison
graduated from Concordia College in Moorhead, Minnesota with a B.A. in
Accounting.
All directors hold office until the next annual meeting of stockholders and
until their successors have been elected and qualified. Officers serve at the
discretion of the Board of Directors.
Under the Investors' Rights Agreement dated January 28, 2005, by and between
Hormel, and us, as long as at least 50% of the original shares of the Series A
Preferred Stock remain outstanding, Hormel has a right to designate a nominee to
our Board of Directors, provided that such nominee would be considered an
independent director under the Exchange Act. Currently Mr. Jamison is that
nominee.
SCIENTIFIC ADVISORY BOARDS
We have established a Scientific Advisory Board to provide us with on-going
advice and counsel regarding research direction, product development, analysis
of data, and general counseling. As the need arises, we consult with individual
members of this board on a non-scheduled basis.
29
FAMILY RELATIONSHIPS
Robert Portman and David Portman are brothers. There are no other family
relationships among our directors, executive officers or persons nominated or
chosen to become our directors or executive officers.
INVOLVEMENT IN CERTAIN LEGAL PROCEEDINGS
No director, person nominated to become a director, executive officer, promoter
or control person has been involved in any legal proceeding during the past five
years that is required to be disclosed pursuant to Item 401(d) of Regulation
S-B.
30
EXECUTIVE COMPENSATION
SUMMARY OF CASH AND OTHER COMPENSATION
The table below sets forth information concerning compensation paid to Dr.
Robert Portman, David Mastroianni, Stephen Kuchen, and Bruce Bollinger in 2005,
2004, and 2003. None of our executive officers other than Dr. Portman, Mr.
Mastroianni, Mr. Kuchen, and Mr. Bollinger received compensation of $100,000 or
more in fiscal 2005, 2004, and 2003. Dr. Portman served as President and Chief
Executive Officer prior to September 1, 2004 and subsequent to May 2005. In the
interim, Mr. Mastroianni served as President and CEO.
We refer to such persons in this prospectus as our "Named Executive Officers":
(1) Less than 10% of annual salary and bonus.
(2) Mr. Mastroianni left us in May 2005. This amount includes severance pay of
$68,750 paid pursuant to a severance agreement with Mr. Mastroianni.
(3) Mr. Mastroianni joined us in September 2004.
(4) Mr. Bollinger left us in June 2004 and this amount includes severance pay.
OPTION/SAR GRANTS TABLE IN THE LAST FISCAL YEAR
The following table sets forth certain information regarding options granted to
our Named Executive Officers in fiscal 2005:
31
OPTION/SAR GRANTS IN FISCAL-YEAR 2005
(INDIVIDUAL GRANTS)
--------------------------------------- -------------------- -------------------- ----------------- ------------------
Number of Percent Of Total
Securities Options/SARs
Underlying Granted to Exercise Or
Options/SARs Employees In Base Price
Name Granted (#) Fiscal Year ($/Share) Expiration Date
(a) (b) (c) (d) (e)
--------------------------------------- -------------------- -------------------- ----------------- ------------------
Dr. Robert Portman - 0 - - 0 - NA NA
--------------------------------------- -------------------- -------------------- ----------------- ------------------
David Mastroianni - 0 - - 0 - NA NA
--------------------------------------- -------------------- -------------------- ----------------- ------------------
Stephen Kuchen - 0 - - 0 - NA NA
--------------------------------------- -------------------- -------------------- ----------------- ------------------
The following table sets forth information with respect to the number of
unexercised options and the value of unexercised "in-the-money" options held by
Dr. Robert Portman and Stephen Kuchen at December 31, 2005.
AGGREGATED OPTION/SAR EXERCISES IN FISCAL-YEAR 2005
AND OPTION/SAR VALUES AT 12/31/05
------------------------------ ------------ ----------- ------------------------------- ------------------------------
Number of Securities $ Value of Unexercised
Underlying Unexercised In-the-Money Options/SARs
Shares Options/SARs At 12/31/05 At 12/31/05
Acquired Value Exercisable/ Exercisable/
On Exercise Realized Unexercisable Unexercisable
Name (#) ($) (#) ($)
(a) (b) (c) (d) (e)
------------------------------ ------------ ----------- ------------------------------- ------------------------------
Exercisable Unexercisable Exercisable Unexercisable
------------------------------ ------------ ----------- -------------- ---------------- -------------- ---------------
Dr. Robert Portman -0- -0- 1,285,000 150,000 $ -0- $ -0-
------------------------------ ------------ ----------- -------------- ---------------- -------------- ---------------
Stephen Kuchen -0- -0- 105,000 60,000 $ -0- $ -0-
------------------------------ ------------ ----------- -------------- ---------------- -------------- ---------------
For the purpose of computing the value of "in-the-money" options at December 31,
2005, in the above table, the fair market value of our common stock at such date
is deemed to be $0.30 per share, the closing sale price of our common stock on
such date as reported by the OTC Bulletin Board.
LONG TERM INCENTIVE PLANS
We have no long-term incentive plans for our executive officers.
DIRECTORS' COMPENSATION IN FISCAL-YEAR 2005
For the year ended December 31, 2005, we did not compensate any of our
independent directors for their service on the Board of Directors.
EMPLOYMENT AGREEMENTS AND CHANGE IN CONTROL PROVISIONS
Dr. Portman is employed by us under an Employment Extension Agreement. Under the
Employment Extension Agreement, Dr. Portman receives a salary of $275,000 per
year. The Employment Extension Agreement provided, however, that Dr. Portman be
compensated at the rate of $225,000 per year until our financial condition
significantly improved, at which time the accrued difference would be paid. Upon
the closing of the sale of assets to Mott's, Dr. Portman received $50,000
pursuant to this provision. In addition, Dr. Portman is entitled to an annual
bonus not to exceed 100% of his base salary, the eligibility for and amount of
which shall be based upon attainment of milestones by us and/or Dr. Portman to
be agreed upon by Dr. Portman and our Compensation Committee. No bonus has been
paid for 2005. Dr. Portman received options to purchase up to 450,000 shares of
our common stock under our 2000 Stock Option Plan priced at $0.65 per share (the
prevailing market price of our common stock at September 1, 2004). One-third of
the options vested on September 1, 2004, and one-third vested on September 1,
2005. The remaining one-third vests on September 1, 2006, provided that Dr.
Portman is employed by us at such dates. To the extent not previously vested,
the options also will vest if Dr. Portman's employment is terminated by us
without cause or by Dr. Portman with cause. The term on the Employment Extension
Agreement will terminate on December 31, 2006 unless terminated earlier by
either Dr. Portman or us. Dr. Portman has the right to terminate this agreement
without cause on thirty days prior written notice, or with cause (as defined in
the Employment Extension Agreement). We have the right to terminate the
32
Employment Extension Agreement for cause (as defined in the Employment Extension
Agreement). In addition, if Dr. Portman's employment is terminated for any
reason whatsoever (except by us with cause), Dr. Portman will be entitled to
receive a lump sum payment of an amount equal to the base salary which would
have been paid during the period beginning on the date of termination of
employment and ending on the earlier of (1) the scheduled termination date or
(2) the first anniversary date of the termination date. Upon Dr. Portman's
termination for any reason, including his voluntary termination, Dr. Portman
will not be bound by any non-competition agreement unless we continue to pay his
salary, in which case he will be subject to a one-year non-competition
agreement.
In the event of a Change in Control, as defined below, Dr. Portman is entitled
to be paid, as additional compensation, a lump sum equal to his annual base
salary in effect immediately prior to the Change in Control, payable at closing
or completion of the Change in Control, and at such time all of his unvested
options will vest. A "Change in Control" means any Sale of the Company, as
defined below, or the acquisition of beneficial ownership, by any stockholder or
group of stockholders, not including stockholders who are our officers or
directors on the date of the Employment Extension Agreement or any affiliate of
such officer or director, of shares of the our capital stock entitled to cast at
least 50% of all votes which may be cast in the election of the our directors.
"Sale of the Company" means (1) any merger or consolidation involving
PacificHealth if the stockholders of PacificHealth prior to the merger hold less
than 50% of the shares of the combined entity after the merger, or (2) transfer
or sale of all or substantially all of the assets of PacificHealth.
Under our arrangement with Mr. Kuchen, in the event of a sale, merger or change
in control of PacificHealth, Mr. Kuchen will receive one-half of his annual
salary and all of his options would become immediately vested. If Mr. Kuchen
were subsequently terminated, Mr. Kuchen would receive one-half of his annual
salary as severance.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
During the last two fiscal years, we have not entered into any material
transactions or series of transactions which, in the aggregate, would be
considered material in which any officer, director or beneficial owner of 5% or
more of any class of our capital stock of had a direct or indirect material
interest, nor are any such transactions presently proposed, except as follows:
(a) On January 12, 2005, six of our directors loaned us an aggregate
amount of $60,000, which amount was intended to be a bridge loan pending
financing. This amount was repaid with the proceeds of the sale of preferred
stock described below. All of our directors participated in this loan except Mr.
David Portman.
(b) On January 28, 2005, we entered into a Series A Preferred Stock
Purchase Agreement and related agreements with Hormel Health Labs, LLC pursuant
to which we issued and sold 90,909 shares of Series A Preferred Stock for an
aggregate purchase price of $1,000,000 or $11.00 per share. The terms of
conversion and the preferences relating to the Series A Preferred Stock are
described above under " Management's Discussion and Analysis of Financial
Condition and Results of Operations - Liquidity and Capital Resources," above.
The shares Series A Preferred Stock issued to Hormel are convertible into an
aggregate 909,091 shares of our common stock, subject to adjustment. In
connection with the Series A Stock Purchase Agreement, we entered into an
Investors' Rights Agreement with Hormel on the same date. Under the Investors'
Rights Agreement, we agreed, upon request by the holders of the Series A
Preferred Stock, and subject to customary terms and conditions, to file a
registration statement with the SEC registering for resale the shares of common
stock issuable upon conversion of the Series A Preferred Stock. Under the
Investors' Rights Agreement, we also agreed to include the common stock issuable
upon conversion of the Series A Preferred Stock in any other registration
statement we may file with the SEC. The Investors' Rights Agreement prohibits us
from granting registration rights superior to those under the Investors' Rights
Agreement. Under the Investors' Rights Agreement, the holders of the Series A
Preferred Stock also are granted a right to participate on a pro rata basis in
future sales of equity securities (or securities exercisable for or convertible
into equity securities). As long as at least 50% of the original shares of the
Series A Preferred Stock remain outstanding, the holders have the right to
designate an individual to be nominated to our Board of Directors, provided that
such designee would be considered an independent director under the Exchange
Act. Also in connection with this transaction, we entered into a Right of First
Refusal and Co-Sale Agreement with Hormel and Dr. Robert Portman, the Chairman
of our Board of Directors and Chief Executive Officer, on January 28, 2005.
Under this agreement, we and Hormel have the right of first refusal to purchase
shares of our common stock, which are held by Dr. Portman and which he wishes to
sell, at the price and terms offered by a third party. In addition, if the right
of first refusal is not exercised in connection with any sale by Dr. Portman,
Hormel will have the right to require a portion of its shares to be included
with Dr. Portman's sale to a third party. Certain sales by Dr. Portman will be
exempt from these restrictions, including public sales by Dr. Portman pursuant
to Rule 144 of the Securities Act.
(c) On January 28, 2005, we entered into an Exclusive Custom
Manufacturing Agreement with an affiliate of Hormel. This agreement provides for
the exclusive manufacturing and processing of our powered sports drinks at fixed
prices. The initial term of this agreement was one year, and was extended in
August 2005 to two years.
33
(d) On August 24, 2005, we entered into a Securities Purchase Agreement
with Hormel. Pursuant to this agreement, Hormel loaned us the principal amount
of $500,000 in exchange for a secured convertible promissory note, which amount
accrued interest at a rate of 8% per annum. The outstanding principal balance
under the note and any accrued but unpaid interest thereon was due and payable
on August 24, 2007 to the extent that Hormel had not exercised certain
conversion rights under this note. On February 22, 2006, we repaid the principal
and accrued interest on this note in full.
34
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
As of April 20, 2006, we had 10,975,259 shares of common stock and 90,909 shares
of our Series A Preferred Stock (909,091 equivalent common stock shares)
outstanding. The following table sets forth information concerning the present
ownership of our common stock by our directors, executive officers and each
person known to us to be the beneficial owner of more than five percent of the
outstanding shares of our common stock.
COMMON STOCK (2) COMMON STOCK (2)
Amount Beneficially Owned Percentage of Class
------------------------- -------------------
NAME AND ADDRESS (1)
Robert Portman (3) 2,861,051 24.4%
Chairman of the Board and Chief
Scientific Officer
Stephen P. Kuchen (4) 106,044 1.0%
Vice President, Chief Financial
Officer and a Director
David I. Portman (5) 391,428 3.5%
Secretary and a Director
Michael Cahr (6) 115,000 1.0%
Director
Executive Officers and Directors as a 3,473,523 29.0%
group (4 persons)
Matthew Smith (7) 1,081,644 9.5%
241 Central Park West
New York, NY 10024
Hormel Health Labs, LLC (8) 909,091 7.6%
1 Hormel Place
Austin, MN 55912
* Less than one percent
(1) Except as otherwise indicated, the address of each person named in the
above table is c/o PacificHealth Laboratories, Inc., 100 Matawan Road,
Suite 420, Matawan, NJ 07747.
(2) Shares of common stock which is issuable upon the exercise of a stock
option which is presently exercisable or which becomes exercisable
within sixty days is considered outstanding for the purpose of
computing the percentage ownership (x) of persons holding such options,
and (y) of officers and directors as a group with respect to all
options held by officers and directors.
(3) Includes 300,000 shares issuable upon the exercise of options granted
under our 2000 Incentive Stock Option Plan ("2000 Plan"); 300,000
shares issuable upon the exercise of options granted under his 2004
Employment Contract Amendment not under any Incentive Stock plan; and
160,428 shares issuable upon the exercise of warrants issued pursuant
to a 2003 Private Placement. Does not include 200,000 shares of common
stock owned by Jennifer Portman, Dr. Portman's wife, individually and
as Trustee for his and her minor children, as to which Dr. Portman
disclaims beneficial ownership.
(4) Includes 20,000 shares issuable upon the exercise of options granted
under our 1995 Plan; 60,000 shares issuable upon the exercise of
options granted not covered under any Plan; and 5,348 shares issuable
upon the exercise of warrants issued pursuant to a 2003 Private
Placement.
35
(5) Includes 17,500 shares issuable upon the exercise of options granted
under our 1995 Plan; 15,000 shares issuable upon the exercise of
options granted under our 2000 Plan; and 53,476 shares issuable upon
the exercise of warrants granted pursuant to a 2003 Private Placement.
(6) Includes 27,500 shares issuable upon the exercise of options granted
under our 1995 Plan and 50,000 shares issuable upon the exercise of
options granted under our 2000 Plan.
(7) Includes 318,048 shares issuable upon the exercise of warrants granted
pursuant to a 2003 Private Placement and 127,500 shares issuable upon
the exercise of warrants granted pursuant to consulting services
pursuant to a 2003 Private Placement.
(8) Consists of 90,909 shares of Series A Preferred Stock (representing
100% of the issued and outstanding preferred stock) convertible into
909,091 shares of common stock. The holder of outstanding shares of
Series A Preferred Stock is entitled to vote on an as-converted basis
on any matter presented to the holders of our common stock for a vote.
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The following table sets forth information, as of April 20, 2006, regarding our
existing compensation plans and individual compensation arrangements pursuant to
which our equity securities are authorized for issuance to employees or
non-employees (such as directors, consultants and advisors) in exchange for
consideration in the form of services:
------------------------------- ----------------------------- ----------------------------- -----------------------------
Number of securities
remaining available for
Number of securities to be future issuance under
Plan Category issued upon exercise of Weighted-average exercise equity compensation plans
outstanding options, price of outstanding (excluding securities
warrants and rights options, warrants and rights reflected in column (a))
------------------------------- ----------------------------- ----------------------------- -----------------------------
(a) (b) (c)
------------------------------- ----------------------------- ----------------------------- -----------------------------
Equity compensation plans 988,500 $1.69 621,875
approved by security holders
------------------------------- ----------------------------- ----------------------------- -----------------------------
Equity compensation plans not
approved by security holders - 0 - N/A N/A
------------------------------- ----------------------------- ----------------------------- -----------------------------
Total 988,500 $1.69 621,875
------------------------------- ----------------------------- ----------------------------- -----------------------------
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DESCRIPTION OF SECURITIES
We are authorized to issue up to 50,000,000 shares of common stock, par value
$0.0025 per share, and 1,000,000 shares of preferred stock, no par value. As of
the date of this prospectus, there are 10,975,259 shares of common stock and
90,909 shares of preferred stock, designated as Series A Preferred Stock,
outstanding. We also have outstanding options and warrants to purchase an
aggregate of 2,370,644 additional shares of common stock, in addition to the
1,668,917 shares issuable upon exercise of warrants that may be resold under
this prospectus. The options and warrants do not confer upon holders any voting,
dividend or other rights as stockholders of PacificHealth.
The following is a summary of the material terms of our common stock and our
preferred stock. This summary does not purport to be complete or to contain all
the information that may be important to you and is qualified in its entirety by
reference to our certificate of incorporation, as amended, and bylaws, as
amended. We encourage you to read the provisions of these documents to the
extent they relate to your individual investment strategy. Our certificate of
incorporation, as amended, and bylaws, as amended, are filed as exhibits to our
Registration Statement on Form SB-2 (Registration No.333-36379) filed on
September 25, 1997. An amendment to our certificate of incorporation increasing
the authorized number of shares of common stock is filed as an exhibit to our
annual report on Form 10-KSB for the year ended December 31, 2002. The
Certificate of Designations relating to our Series A Preferred Stock is filed as
Exhibit 3.1 to our Current Report on Form 8-K filed with the Securities and
Exchange Commission on January 28, 2005. The Certificate of Designations
relating to our Series B Preferred Stock is filed as Exhibit 3.1 to our Current
Report on Form 8-K filed with the Securities and Exchange Commission on May 4,
2005. See the section of this prospectus entitled "Where You Can Find More
Information."
COMMON STOCK
Subject to preferences that may be applicable to any preferred stock outstanding
at the time, the holders of outstanding shares of common stock are entitled to
receive dividends out of assets legally available therefore at such time and in
such amounts as our Board of Directors may, from time to time, determine in its
sole discretion. Holders of common stock are also entitled to one vote for each
share of common stock held of record on all matters submitted to a vote of
shareholders. The common stock is not entitled to preemptive rights and is not
subject to redemption. Upon our liquidation, dissolution or winding up the
assets legally available for distribution to shareholders are distributable
ratably among the holders of the common stock and of any participating preferred
stock outstanding at that time after payment of the liquidation preferences, if
any, on all outstanding preferred stock and payment of creditors' claims. Each
outstanding share of common stock is fully paid and non-assessable.
PREFERRED STOCK
Our certificate of incorporation authorizes the issuance of preferred stock with
such designations, rights and preferences as may be determined from time to time
by our Board of Directors. Accordingly, our Board of Directors is empowered,
without shareholder approval, to issue preferred stock with dividend,
liquidation, conversion, voting or other rights that could adversely affect the
voting power or other rights of the holders of the common stock. As of the date
of this prospectus, we have 90,909 shares of preferred stock, designated as
Series A Preferred Stock, outstanding. As of the date of this prospectus, we
have 45,455 shares of preferred stock designated as Series B Preferred Stock,
but there are no shares of Series B Preferred Stock currently outstanding.
Issuance of additional series of preferred stock could be utilized, under
certain circumstances, as a method of discouraging, delaying or preventing a
change in control of PacificHealth.
Series A Preferred Stock
Each holder of outstanding shares of Series A Preferred Stock is entitled to
vote on an as-converted basis on any matter presented to the holders of our
common stock for a vote. Except as provided by law or except as provided in the
following sentence, holders of outstanding shares of Series A Preferred Stock
will vote together with the holders of our common stock and the holders, if any,
of the Series B Preferred Stock, as a single class. At any time when at least
45,455 shares of Series A Preferred Stock (subject to appropriate adjustment in
the event of any dividend, stock split, combination or other similar
recapitalization affecting such shares) are outstanding, the consent of the
holders of at least 66% of the outstanding shares of the Series A Preferred
Stock is required for us to take certain actions, including:
o liquidating or dissolving;
o merging or consolidating, or selling substantially all of our
assets, unless the transaction would result in a certain rate of
return for the holders of Series A Preferred Stock;
o amending our certificate of incorporation or bylaws so as to
adversely affect the holders of Series A Preferred Stock;
37
o creating a class or series of stock senior to or on par with the
Series A Preferred Stock;
o paying cash dividends on the common stock; or
o incurring certain types of debt in excess of $750,000.
Subject to certain adjustments, each share of Series A Preferred Stock is
convertible at the option of the holder into ten shares of our common stock. The
number of shares of common stock issuable upon conversion of each share of
Series A Preferred Stock will increase, pursuant to a weighted-average formula,
in the event that we issue common stock at a price below $1.10 per share, with
certain exceptions.
In the event of our liquidation, sale of substantially all of our assets and
certain mergers and consolidations involving us, the holders of our Series A
Preferred Stock are entitled to be paid an amount equal to the greater of:
o the original purchase price for each share of Series A Preferred
Stock plus accrued but unpaid dividends, if any; or
o the amount such holders would have received as holders of the
number of shares of common stock into which their shares of
Series A Preferred Stock are then convertible.
The holders of our Series A Preferred Stock are entitled to receive cumulative
annual dividends that accrue at the rate of $.022 per outstanding share of
Series A Preferred Stock. We are not required to pay accrued dividends except in
connection with our liquidation, merger or sale and certain other events. We may
pay no dividends on common stock unless we have paid all accrued but unpaid
dividends, if any, on the Series A Preferred Stock. The holders of our Series A
Preferred Stock also are entitled to participate in any dividends paid to the
holders of our common stock on an as-converted basis.
Series B Preferred Stock
On April 28, 2005, we filed a certificate of designations creating the Series B
Preferred Stock in contemplation of proposed financing transactions. As of the
date of this prospectus, we do not have a binding agreement as to any such
financing and have not issued any shares of Series B Preferred Stock to date.
Any holders of the Series B Preferred Stock will be entitled to vote on an
as-converted basis with the holders of the common stock and the Series A
Preferred Stock together as a single class on all matters submitted for a vote
of the holders of common stock. In certain instances, the consent of the holders
of at least 66% of the outstanding shares of Series B Preferred Stock will be
required for us to take certain actions, including:
o liquidating, dissolving, merging or consolidating or selling all
or substantially all of our assets, unless the transaction would
result in a certain rate of return for the holders of Series B
Preferred Stock;
o amending our certificate of incorporation or bylaws in a manner
adverse to the holders of the Series B Preferred Stock;
o creating an additional class or series of stock senior to or on
par with the Series B Preferred Stock;
o purchasing, redeeming or paying cash dividends on common stock;
or
o incurring certain types of debt in excess of $750,000.
Subject to certain adjustments, each share of Series B Preferred Stock will be
convertible at the option of the holder into ten shares of common stock. The
number of shares of common stock issuable upon conversion of the Series B
Preferred Stock will increase, pursuant to a weighted-average formula, in the
event we issue common stock at a price below $1.10 per share, with certain
exceptions.
In the event of our liquidation, sale of all or substantially all of our assets,
and certain mergers and consolidations involving us, the holders of the Series B
Preferred Stock will be entitled to be paid an amount equal to the greater of:
o The original purchase price for the Series B Preferred Stock plus
accrued but unpaid dividends, if any, or
38
o The amount they would have received as holders of the number of
shares of common stock into which their shares of Series B
Preferred Stock are then convertible.
Cumulative annual dividends will accrue at the rate of $.022 on each share of
Series B Preferred Stock outstanding. We are not required to pay accrued
dividends except in connection with liquidation, dissolution, merger,
consolidation or sale all or substantially all of our assets and certain other
events. We cannot pay cash dividends on common stock unless all accrued but
unpaid dividends, if any, on Series B Preferred Stock have been paid. The
holders of Series B Preferred Stock also will be entitled to participate in any
dividends paid to the holders of common stock on an as-converted basis.
WARRANTS
The following is a brief summary of the warrants held by the Selling
Stockholders. This summary does not purport to be complete and is qualified in
all respects by reference to the actual text of the warrants. The form of the
warrants held by the Selling Stockholders is filed as Exhibit 4.6 to our
Registration Statement on Form SB-2 filed with the Securities and Exchange
Commission on September 29, 2003.
Exercise Price and Terms
Each warrant entitles the registered holder thereof to purchase one share of
common stock, at any time during the five-year period commencing on the original
issue date, at an exercise price equal to $.6325. The holder of any warrant may
exercise such warrant by surrendering the certificate representing the warrant
to us, with the subscription form thereon properly completed and executed,
together with payment of the exercise price. The warrants may be exercised at
any time in whole or in part at the applicable exercise price until the
expiration of the warrants. No fractional shares will be issued upon the
exercise of the warrants.
Redemption
Beginning one year after the initial closing of the private placement pursuant
to which we issued the warrants, we may redeem any or all outstanding and
unexercised warrants at a price of $.05 per warrant share upon 30 days notice if
both (a) during the 30 consecutive trading days ending on the date prior to the
giving of the notice the market price for at least 20 of such days is in excess
of 200% of the warrant exercise price, and (b) the average daily trading volume
during the 30 consecutive trading day period is in excess of 30,000 shares per
day.
Adjustments
The exercise price and the number of shares of common stock purchasable upon the
exercise of the warrants are subject to adjustment, upon the occurrence of
certain events, including stock dividends, stock splits, combinations or
reclassifications of the common stock. Additionally, an adjustment will be made
in the case of a reclassification or exchange of common stock, consolidation or
merger of us with or into another corporation, sale of all or substantially all
of our assets or our dissolution, in order to enable warrantholders to acquire
the kind and number of shares of stock or other securities or property
receivable in such event by a holder of the number of shares of common stock
that might have been purchased upon the exercise of the warrant.
Transfer, Exchange and Exercise
Subject to applicable securities law, the warrants may be presented to us for
transfer, exchange or exercise at any time on or prior to their expiration date,
at which time the warrants become wholly void and of no value.
Warrantholders Not Shareholders
The warrants do not confer upon holders any voting, dividend or other rights as
our shareholders.
CERTAIN PROVISIONS OF OUR CERTIFICATE OF INCORPORATION AND BYLAWS AND DELAWARE
ANTI-TAKEOVER LAW
Certificate of Incorporation and Bylaws
Certain provisions of our certificate of incorporation and bylaws could make it
more difficult to acquire us by means of a tender offer, a proxy contest, or
otherwise, and the removal of incumbent officers and directors. These provisions
are expected to discourage certain types of coercive takeover practices and
inadequate takeover bids and to encourage persons seeking to acquire control of
our company to first negotiate with us. We believe that the benefits of
increased protection of our potential ability to negotiate with the proponent of
an unfriendly or unsolicited proposal to acquire or restructure us outweighs the
disadvantages of discouraging such proposals, including proposals that are
priced above the then current market value of our common stock, because, among
other things, negotiation of such proposals could result in an improvement of
their terms.
39
Issuance of Preferred Stock
As noted above, our Board of Directors, without shareholder approval, has the
authority under our certificate of incorporation to issue preferred stock with
rights superior to the rights of the holders of common stock. As a result,
preferred stock could be issued quickly and easily, could adversely affect the
rights of holders of common stock and could be issued with terms calculated to
delay or prevent a change in control of us or make removal of management more
difficult.
Number and Terms of Directors
Pursuant to our bylaws, our Board of Directors has the authority to determine
the number of directors that will constitute our Board of Directors and the
terms of office of directors. The power of the Board of Directors to increase
the number of directors to a maximum of nine and to determine directors' terms
of office could make it more difficult for shareholders to replace a majority of
the Board of Directors, may discourage a third party from making a tender offer
or otherwise attempting to gain control of us and may maintain the incumbency of
the Board of Directors.
Advance Notice of Nominations and Shareholder Proposals
Our bylaws generally require at least 60 but no more than 90 days' advance
notice by a shareholder of a proposal or director nomination that such
shareholder desires to present at any annual meeting or special meeting of
shareholders, which would prevent a shareholder from making a proposal or a
director nomination at a shareholder meeting without our having advance notice
of the proposal or director nomination. In the event that we give less than 70
days' notice or prior public disclosure of the date of any meeting of
shareholders, a shareholder must provide notice of a proposal or director
nomination to us no later than ten days following the day on which the notice of
such meeting was mailed or public disclosure of the date of such meeting was
made. These provisions could make a change in control more difficult by
providing the incumbent directors with more time to prepare an opposition to a
proposed change in control.
Special Meetings of Our Shareholders May Be Called Only by the Board of
Directors, the Chairman, the President or the Holders of a Majority of the
Outstanding Shares of Common Stock
Our bylaws only permit the Board of Directors, the Chairman of the Board of
Directors, the President or the holders of a majority of the outstanding shares
of common stock entitled to vote at such meeting to call a special meeting of
shareholders. This provision may prevent a shareholder with less than a majority
interest from calling a special meeting unless such shareholder first obtains
adequate support from a sufficient number of other shareholders.
Amendment of Our Bylaws
Our certificate of incorporation and our bylaws authorize the Board of Directors
to alter, amend or repeal the bylaws or adopt new bylaws by the affirmative vote
of a majority of the directors present at any regular or special meeting of the
Board of Directors at which a quorum is present. Our bylaws permit shareholders
to alter, amend or repeal the bylaws or adopt new bylaws by the affirmative vote
of the holders of two-thirds of the shares of our common stock of entitled to
vote at any regular or special meeting of shareholders, provided that notice of
such alteration, amendment, repeal or adoption of new bylaws is stated in the
notice of any such special meeting. These provisions would prevent a shareholder
with less than a two-thirds interest from altering, amending or repealing any
bylaw or adopting any new bylaw unless such shareholder had first obtained
adequate support from a sufficient number of other shareholders, but would
permit a majority of the directors to take such action without approval of
shareholders.
No Cumulative Voting in the Election of Directors
Our shareholders are not permitted to cumulate their votes in the election of
directors. As a result, shareholders owning a majority of our common stock may
elect all of the directors.
The Delaware General Corporation Law
We are not subject to Section 203 of the Delaware General Corporation Law. This
provision generally prohibits a Delaware corporation from engaging in any
business combination with any interested shareholder for a period of three years
following the date the shareholder became an interested shareholder, unless
o prior to such date, the board of directors of the corporation
approves either the business combination or the transaction that
resulted in the shareholder becoming an interested shareholder,
40
o upon consummation of the transaction that resulted in the
shareholder becoming an interested shareholder, the interested
shareholder owned at least 85% of the voting stock of the
corporation outstanding at the time the transaction commenced,
excluding for purposes of determining the number of shares
outstanding those shares owned by persons who are directors and
officers and by employee stock plans in which employee
participants do not have the right to determine confidentially
whether shares held subject to the plan will be tendered in a
tender or exchange offer, or
o on or subsequent to such date, the business combination is
approved by the board of directors and authorized at an annual or
special meeting of shareholders and not by written consent, by
the affirmative vote of at least 66 2/3% of the outstanding
voting stock that is not owned by the interested shareholder.
Section 203 defines a business combination to include:
o any merger or consolidation involving the corporation and the
interested shareholder,
o any sale, transfer, pledge or other disposition of 10% or more of
the assets of the corporation involving the interested
shareholder,
o subject to certain exceptions, any transaction that results in
the issuance or transfer by the corporation of any stock of the
corporation to the interested shareholder,
o any transaction involving the corporation that has the effect of
increasing the proportionate share of the stock of any class or
series of the corporation beneficially owned by the interested
shareholder, or
o the receipt by the interested shareholder of the benefit of any
loans, advances, guarantees, pledges or other financial benefits
provided by or through the corporation.
In general, Section 203 defines an interested shareholder as any entity or
person beneficially owning 15% or more of the outstanding voting stock of the
corporation and any entity or person affiliated with or controlling or
controlled by such entity or person.
DISCLOSURE OF COMMISSION POSITION ON INDEMNIFICATION FOR SECURITIES ACT
LIABILITIES
Section 145 of the Delaware General Corporation Law, as amended, authorizes us
to indemnify any director or officer under certain prescribed circumstances and
subject to certain limitations against certain costs and expenses, including
attorneys' fees actually and reasonably incurred in connection with any action,
suit or proceeding, whether civil, criminal, administrative or investigative, to
which such person is a party by reason of being a director or officer of us if
it is determined that such person acted in accordance with the applicable
standard of conduct. Article NINTH of our certificate of incorporation, as
amended, provides for the indemnification of directors and officers to the full
extent permitted by Delaware law.
We may also purchase and maintain insurance for the benefit of any director or
officer which may cover claims for which we could not indemnify such person.
Insofar as indemnification for liabilities arising under the Securities Act may
be permitted to our directors, officers and controlling persons pursuant to the
foregoing provisions, or otherwise, we have been advised that in the opinion of
the Securities and Exchange Commission such indemnification is against public
policy as expressed in the Securities Act and is, therefore, unenforceable.
41
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE
On June 17, 2005, Eisner, LLP resigned as our auditor. Effective June 28, 2005,
we engaged Weiser, LLP to serve as the independent public accountants to audit
our financial statements for the fiscal year ending December 31, 2005.
Eisner's reports on our financial statements for the fiscal year ended December
31, 2004 did not contain an adverse opinion or a disclaimer of opinion, and were
not modified as to uncertainty, audit scope or accounting principles, except
that Eisner's report on our financial statements for the fiscal year ended
December 31, 2004 did contain an explanatory paragraph regarding its substantial
doubt as to our ability to continue as a going concern, and the lack of any
adjustments to the financial statements that might result from that
circumstance.
During our past two fiscal years, we had no disagreements with Eisner on any
matter of accounting principles or practices, financial statement disclosure, or
auditing scope or procedure, which, if not resolved to Eisner's satisfaction,
would have caused Eisner to make reference to the subject matter of the
disagreement in connection with its report. During our past two fiscal years,
Eisner did not advise us of any of the matters specified in Item 304(a)(1)(B) of
Regulation S-B.
During our past two fiscal years, we had no disagreements with Weiser on any
matter of accounting principles or practices, financial statement disclosure, or
auditing scope or procedure, which, if not resolved to Weiser's satisfaction,
would have caused Weiser to make reference to the subject matter of the
disagreement in connection with its report. During our past two fiscal years,
Weiser did not advise us of any of the matters specified in Item 304(a)(1)(B) of
Regulation S-B.
The appointment of Weiser as independent public accountants replacing Eisner was
approved by our Board of Directors and the Audit Committee of our Board of
Directors.
LEGAL MATTERS
The validity of the shares of common stock offered hereby will be passed upon
for us by Eckert Seamans Cherin & Mellott, LLC, 1515 Market Street, Ninth Floor,
Philadelphia, Pennsylvania 19102-1909.
EXPERTS
The financial statements for the fiscal year ended December 31, 2005 included in
this prospectus, and incorporated by reference in the registration statement,
have been audited by Weiser, LLP, independent auditors, as stated in their
report appearing with the financial statements and incorporated by reference in
this registration statement. These financial statements are included in reliance
upon the reports of Weiser, LLP given upon their authority as experts in
accounting and auditing.
The financial statements for the fiscal year ended December 31, 2004 included in
this prospectus, and incorporated by reference in the registration statement,
have been audited by Eisner, LLP, independent auditors, as stated in their
report appearing with the financial statements and incorporated by reference in
this registration statement. These financial statements are included in reliance
upon the reports of Eisner, LLP given upon their authority as experts in
accounting and auditing.
WHERE YOU CAN FIND MORE INFORMATION
We file reports, proxy statements and other information with the Securities and
Exchange Commission. Copies of our reports, proxy statements and other
information may be inspected and copied at the public reference facility
maintained by the Securities and Exchange Commission at the Headquarters Office,
100 F Street, N.E., Room 1580, Washington, DC 20549. Copies of these materials
also can be obtained by mail at prescribed rates from the Public Reference
Section of the Securities and Exchange Commission, Headquarters Office, 100 F
Street, N.E., Room 1580, Washington, DC 20549 or by calling the Securities and
Exchange Commission at (202) 942-8090. The Securities and Exchange Commission
maintains a web site that contains reports, proxy statements and other
information regarding us. The address of the Securities and Exchange Commission
web site is http://www.sec.gov.
In addition, we maintain a web site that contains information regarding us,
including copies of reports, proxy statements and other information we file with
the Securities and Exchange Commission. The address of our web site is
www.pacifichealthlabs.com. Our web site, and the information contained on that
site, or connected to that site, are not incorporated and do not constitute a
part of this prospectus.
We have filed a registration statement on Form SB-2/A with the Securities and
Exchange Commission for the common stock offered by the Selling Stockholders
under this prospectus. This prospectus does not include all of the information
contained in the registration statement. You should refer to the registration
statement and its exhibits for additional information that is not contained in
this prospectus. Whenever we make reference in this prospectus to any of our
contracts, agreements or other documents, you should refer to the exhibits
attached to, or incorporated by reference into, the registration statement for
copies of the actual contract, agreement or other document.
42
PACIFICHEALTH LABORATORIES, INC.
INDEX TO FINANCIAL STATEMENTS
Description Page
----------- ----
Report of independent registered public accounting firm F-2
Report of independent registered public accounting firm F-3
Balance sheets as of December 31, 2005 and 2004 F-4
Statements of operations for the years ended December 31, 2005 and 2004 F-5
Statements of changes in stockholders' equity for the years ended December 31, 2005 and 2004 F-6
Statements of cash flows for the years ended December 31, 2005 and 2004 F-7
Notes to financial statements F-8
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and
Stockholders of PacificHealth Laboratories, Inc.
We have audited the accompanying balance sheet of PacificHealth Laboratories,
Inc. as of December 31, 2005 and the related statements of operations, changes
in stockholders' equity and cash flows for the year then ended. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of PacificHealth Laboratories,
Inc. as of December 31, 2005, and the results of its operations and its cash
flows for the year then ended in conformity with accounting principles generally
accepted in the United States of America.
Weiser LLP
New York, New York
March 17, 2006
F-2
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders
PacificHealth Laboratories, Inc.
We have audited the accompanying balance sheets of PacificHealth Laboratories,
Inc. as of December 31, 2004 and 2003, and the related statements of operations,
changes in stockholders' equity and cash flows for each of the two years in the
period ended December 31, 2004. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of PacificHealth Laboratories,
Inc. as of December 31, 2004 and 2003, and the results of its operations and its
cash flows for each of the two years in the period ended December 31, 2004, in
conformity with U.S. generally accepted accounting principles.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note A to the
financial statements the Company has incurred significant recurring operating
losses and significant negative cash flows from operations. The Company has an
accumulated deficit of $15,557,096 as of December 31, 2004. The Company also has
a limited ability to borrow additional funds under its line of credit and is
dependent on the completion of a financing in order to continue operations.
These factors raise substantial doubt about the Company's ability to continue as
a going concern. Management's plans in regard to these matters are also
described in Note A. The financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
Eisner LLP
New York, New York
February 18, 2005
With respect to Notes B[7]
March 9, 2005
F-3
PACIFICHEALTH LABORATORIES, INC.
BALANCE SHEETS
DECEMBER 31,
-------------------------------
2005 2004
------------- -------------
ASSETS
Current assets:
Cash and cash equivalents $ 138,487 $ 25,832
Accounts receivable, net of allowances of $19,000 and $7,000, respectively 187,835 430,580
Inventories (including consigned inventory of $162,000 and $191,000, respectively) 1,309,779 1,760,064
Prepaid expenses 119,002 215,091
Deferred tax asset 1,278,000 -
------------- -------------
Total current assets 3,033,103 2,431,567
Property and equipment, net 65,357 111,273
Deposits 20,393 34,396
------------- -------------
$ 3,118,853 $ 2,577,236
============= =============
TOTAL ASSETS
LIABILITIES
Current liabilities:
Notes payable $ 129,944 $ 373,781
Accounts payable and accrued expenses 1,546,958 1,580,094
Deferred revenue 369,068 376,000
------------- -------------
2,045,970 2,329,875
------------- -------------
Long-term liabilities:
Convertible notes payable - subordinated 500,000 -
-------------
Commitments (Note I)
STOCKHOLDERS' EQUITY
Preferred stock:
Series A, convertible, no par value; 90,909 shares authorized, issued and
outstanding at December 31, 2005
(liquidation value $1,018,334) 966,387 -
Series B, convertible, no par value; 45,455 shares authorized,
0 shares issued and outstanding at December 31, 2005 - -
Common stock, $0.0025 par value, authorized 50,000,000 shares; issued and
outstanding 10,267,045 shares at December 31, 2005 and
10,237,045 shares at December 31, 2004 25,667 25,592
Additional paid-in capital 15,790,335 15,778,865
Accumulated deficit (16,209,506) (15,557,096)
------------- -------------
572,883 247,361
------------- -------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 3,118,853 $ 2,577,236
============= =============
See notes to financial statements
F-4
PACIFICHEALTH LABORATORIES, INC.
STATEMENTS OF OPERATIONS
YEARS ENDED
DECEMBER 31,
-------------------------------
2005 2004
------------- -------------
Revenue:
Net product sales $ 5,444,558 $ 6,807,271
------------- -------------
Cost of goods sold:
Product sales 3,409,664 3,599,289
Write-down of inventory (see Note C) 93,255 678,933
------------- -------------
3,502,919 4,278,222
------------- -------------
1,941,639 2,529,049
------------- -------------
Gross profit
Operating expenses:
Selling, general and administrative 3,721,567 4,620,388
Research and development 195,242 144,961
Depreciation 64,638 50,951
Patent impairment - 137,138
------------- -------------
3,981,447 4,953,438
------------- -------------
Loss before other income (expense) and income taxes (2,039,808) (2,424,389)
------------- -------------
Other income (expense):
4,456 7,814
Interest income
Interest expense (102,134) (95,735)
------------- -------------
(97,678) (87,921)
------------- -------------
Loss before income taxes (2,137,486) (2,512,310)
Provision (benefit) for income taxes (1,503,410) 8,786
------------- -------------
Net loss (634,076) (2,521,096)
Less preferred dividends (18,334) -
------------- -------------
$ (652,410) $ (2,521,096)
============= =============
NET LOSS APPLICABLE TO COMMON STOCKHOLDERS
NET LOSS PER COMMON SHARE - BASIC AND DILUTED $(0.06) $(0.25)
============= =============
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic and diluted 10,242,141 10,234,068
============= =============
See notes to financial statements
F-5
PACIFICHEALTH LABORATORIES, INC.
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
PREFERRED STOCK COMMON STOCK ADDITIONAL
------------------------ ------------------------- PAID IN
SHARES AMOUNT SHARES AMOUNT CAPITAL
---------- ---------- ---------- ---------- --------------
BALANCE, JANUARY 1, 2004 10,188,545 $ 25,471 $ 15,788,068
Fair value of stock options issued to non-employees 19,679
Issuance costs related to 2003 private placement (32,000)
Stock issued in asset acquisition 48,500 121 3,118
Net loss
---------- ---------- --------------
BALANCE, DECEMBER 31, 2004 10,237,045 $ 25,592 $ 15,778,865
Fair value of stock options issued to non-employees 4,945
Fair value of stock issued to non-employees 30,000 75 6,525
Preferred stock issued 90,909 $1,000,000
Issuance costs related to preferred stock issuance (51,947)
Accrued dividends on preferred stock 18,334
Net loss
---------- ---------- ---------- ---------- --------------
BALANCE, DECEMBER 31, 2005 90,909 $ 966,387 10,267,045 $ 25,667 $ 15,790,335
========== ========== ========== ========== ==============
ACCUMULATED
DEFICIT TOTAL
--------------- ------------
BALANCE, JANUARY 1, 2004 $ (13,036,000) $ 2,777,539
Fair value of stock options issued to non-employees 19,679
Issuance costs related to 2003 private placement (32,000)
Stock issued in asset acquisition 3,239
Net loss (2,521,096) (2,521,096)
--------------- ------------
BALANCE, DECEMBER 31, 2004 $ (15,557,096) $ 247,361
Fair value of stock options issued to non-employees 4,945
Fair value of stock issued to non-employees 6,600
Preferred stock issued 1,000,000
Issuance costs related to preferred stock issuance (51,947)
Accrued dividends on preferred stock (18,334) -
Net loss (634,076) (634,076)
--------------- ------------
BALANCE, DECEMBER 31, 2005 $ (16,209,506) $ 572,883
=============== ============
See notes to financial statements
F-6
PACIFICHEALTH LABORATORIES, INC.
STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31,
-----------------------------
2005 2004
----------- ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (634,076) $ (2,521,096)
Adjustments to reconcile net loss to net cash used in operating activities:
Deferred tax benefit (1,278,000) -
Depreciation 64,638 50,951
Allowance for doubtful accounts 12,000 7,000
Amortization of pending patent - 15,236
Equity instrument-based consulting expense 11,545 19,679
Write-off of inventory 93,255 678,933
Write-off of patent pending - 137,138
Changes in:
Accounts receivable 230,745 231,720
Prepaid expenses 96,089 (23,232)
Inventories 357,030 (1,700,935)
Deposits 14,003 (17,385)
Accounts payable and accrued expenses (33,136) 1,203,402
Advance payments from customers (6,932) 376,000
----------- ------------
Net cash used in operating activities (1,072,839) (1,542,589)
----------- ------------
CASH FLOWS FROM INVESTING ACTIVITY:
Purchase of property and equipment (18,722) (101,918)
----------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of preferred stock 1,000,000 -
Fees in connection with issuance of preferred stock (51,947) -
Issuance of common stock - 36,635
Fees in connection with 2003 private placement - (68,635)
Proceeds from issuance of convertible notes payable 500,000 -
Proceeds of note payable 5,235,927 6,602,172
Repayment of note payable (5,479,764) (6,698,535)
----------- ------------
Net cash provided by (used in) financing activities 1,204,216 (128,363)
----------- ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 112,655 (1,772,870)
Cash and cash equivalents at beginning of year 25,832 1,798,702
----------- ------------
CASH AND CASH EQUIVALENTS AT END OF YEAR $ 138,487 $ 25,832
=========== ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest $ 85,468 $ 95,735
Cash paid for income taxes $ 2,115 $ 8,786
Accrued dividends on preferred stock $ 18,334 $ -
Noncash investing activity:
Stock-based consideration for acquisition of Strong Research, Inc. $ - $ 3,239
See notes to financial statements
F-7
PACIFICHEALTH LABORATORIES, INC.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2005 AND 2004
NOTE A - BASIS OF PRESENTATION
The accompanying financial statements have been prepared assuming that
PacificHealth Laboratories, Inc. (the "Company") will continue as a going
concern. The Company has incurred significant recurring operating losses
and significant negative cash flows from operations. The Company has an
accumulated deficit of $16,209,506 as of December 31, 2005. On February
22, 2006, the Company entered into a transaction to sell certain
intangible assets more fully described in Note O - Subsequent Events.
NOTE B - THE COMPANY AND SIGNIFICANT ACCOUNTING POLICIES
[1] THE COMPANY:
The Company was incorporated in April 1995 to discover, develop, and
commercialize nutritional products that are patentable and substantiated
by well-controlled clinical trials conducted at leading university
research centers. The Company's principal areas of focus include sports
performance, weight loss, and management of type II diabetes. The Company
utilizes third-party contractors to manufacture all products.
On February 22, 2006, the Company sold the trademarks, technology, and
patents for its brands, Accelerade(R) and Endurox(R) R4 (R) to Mott's LLP
("Mott's"). Such patents were held by the Company's CEO, Robert Portman,
and assigned to the Company when such patents were issued. Under the terms
of the agreement, the Company received a $4 million upfront payment and
will receive a royalty based on future sales for a defined period.
Additionally, the Company was granted an exclusive royalty-free license to
use the intellectual property and trademarks for the continued
manufacture, distribution and marketing of Accelerade and Endurox R4
brands in powder and gel forms. (See Note O - Subsequent Events).
[2] CASH AND CASH EQUIVALENTS:
The Company considers all highly liquid investments with a maturity of
three months or less at the date of purchase to be cash equivalents.
[3] ALLOWANCE FOR DOUBTFUL ACCOUNTS:
Accounts receivable consist of trade receivables recorded at original
invoice amount, less an estimated allowance for uncollectible accounts.
Trade credit is generally extended on a short-term basis; thus trade
receivables do not bear interest. Trade receivables are periodically
evaluated for collectibility by considering a number of factors including
the length of time an invoice is past due, the customers' credit
worthiness and historical bad debt experience. Changes in the estimated
collectibility of trade receivables are recorded in the results of
operations for the period in which the estimate is revised. Trade
receivables that are deemed uncollectible are offset against the allowance
for uncollectible accounts. The Company generally does not require
collateral for trade receivables.
[4] INVENTORIES:
Inventories are recorded at the lower of cost or market using the
first-in, first-out ("FIFO") method. The Company determines its reserve
for obsolete inventory by considering a number of factors, including
product shelf life, marketability, and obsolescence.
[5] PROPERTY AND EQUIPMENT:
Property and equipment are stated at cost and are depreciated using the
straight-line method over their estimated useful lives ranging from 2 to 5
years.
F-8
[6] EARNINGS (LOSS) PER SHARE:
Basic earnings (loss) per common share is computed by dividing net income
(loss) applicable to common shareholders by the weighted average number of
common shares outstanding during the year. Diluted earnings per share
gives effect to all dilutive potential common shares outstanding during
the year. The dilutive effect of the outstanding stock warrants and
options is computed using the treasury stock method. For the years ended
December 31, 2005 and 2004, diluted loss per share did not include the
effect of 2,125,500 and 3,049,875 options outstanding and 2,271,275 and
2,293,275 warrants outstanding, respectively, for such years as their
effect would be anti-dilutive. In addition, shares for convertible
preferred stock (909,091) and convertible notes payable (1,960,784) are
not included in weighted average number of common shares as their effect
would be anti-dilutive.
[7] REVENUE RECOGNITION:
Sales are recognized when all of the following criteria are met: (1)
persuasive evidence that an arrangement exists; (2) delivery has occurred
or services have been rendered; (3) the seller's price to the buyer is
fixed and determinable; and, (4) collectibility is reasonably assured.
Sales are recorded net of incentives paid to customers.
In December 2003, the Company entered into a purchasing agreement with a
significant customer for its strength training products whereby all unsold
product is subject to a right of return provision if certain minimum
levels of retail sales in a 12-month period of time from the date of
initial sale are not achieved. In March 2005, its major customer informed
the Company that they would discontinue carrying the Company's strength
training products. The Company and the customer agreed to a significant
discount program in the second quarter of 2005 to transfer these products
to the customer with no further recourse to the Company. Given the ongoing
significant business relationship between the Company and the customer,
the Company discounted product to the customer even though it was not
contractually obligated to so.
In April 2004, the Company entered into a purchasing agreement with the
same significant customer for all other products sold to this customer
whereby all unsold product is subject to return provisions identical or
similar to the one disclosed above. Through December 31, 2004, in addition
to the four criteria described above, the Company recognized revenue
related to these products after analyzing retail sell-through data
provided by the customer and the Company's expectation of future customer
sell-through trends. A new agreement was signed in April 2005 that
increased minimum levels of retail sell-through requirements. Since
January 1, 2005, the Company recognizes revenue when its major customer
sells through its products to the consumer. This change was made due to
the inability to accurately estimate future returns from this customer as
the Company has previously agreed to accept returns/discounts of product
from this customer that it was not contractually obligated to do so as
well as because the Company entered into a new purchasing agreement with
this customer that increased certain sell-through minimums. As of December
31, 2005 and 2004, shipments to this customer amounting to $369,068 and
$376,000, respectively, have been reflected as deferred revenue in the
Company's balance sheet.
In the second quarter of 2005, we entered into an agreement with our major
customer to resolve the status of certain products previously sold to this
customer amounting to $597,781 and previously recorded as deferred
revenue. In connection with this settlement, the customer agreed to accept
$257,957 of inventory as final product purchases from us with no future
obligations on behalf of the Company. As a result, $257,957 previously
recorded as deferred was taken into revenue in 2005. In addition as of
December 31, 2005, the Company has paid back $179,334 to this customer.
The balance of $179,335, which is included in accounts payable and accrued
expenses in the accompanying balance sheet, is to be repaid to the
customer in equal monthly installments through June 2006.
[8] RESEARCH AND DEVELOPMENT:
Costs of research and development activities are expensed as incurred.
[9] ADVERTISING COSTS:
Advertising costs are expressed as incurred. During 2005 and 2004, the
Company recorded advertising expense of $603,376 and $1,045,361,
respectively.
[10] STOCK-BASED COMPENSATION:
The Company accounts for stock-based employee compensation under
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock
Issued to Employees", and related interpretations. The Company has adopted
the disclosure-only provisions of Statement of Financial Accounting
Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation", and
F-9
SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure". The Company's stock option plans are described in Note J. The
following table illustrates the effect on net loss and net loss per share
if the fair value-based method had been applied to all awards.
YEARS ENDED DECEMBER 31,
-----------------------------
2005 2004
----------- -------------
Reported net loss applicable to common stockholders $ (652,410) $ (2,521,096)
Stock-based employee compensation determined under
the fair value-based method (143,113) (419,739)
----------- -------------
Pro forma net loss $ (795,523) $ (2,940,835)
=========== =============
Basic and diluted net loss per share:
As reported $(0.06) $(0.25)
====== ======
Pro forma $(0.08) $(0.29)
====== ======
The fair value of each option grant on the date of grant is estimated
using the Black-Scholes option-pricing model with a volatility ranging
from 100% to 103% for 2005 and from 107% to 114% for 2004, expected life
of options of 5 years, risk-free interest rate of approximately 3% in 2005
and 2004 and a dividend yield of 0%. The weighted average fair values of
options granted during the years ended December 31, 2005 and 2004 were
$0.19 and $0.53, respectively.
In 2005, the Company issued 25,500 options and warrants to purchase the
Company's common stock to consultants having a fair value of $4,945 using
the Black-Scholes model. In addition, the Company issued 30,000 shares of
common stock at a fair value at the date of the transaction valued at
$6,600 for consultative services.
[11] SEGMENT INFORMATION:
The Company operates in one business segment: the design, development and
marketing of dietary and nutritional supplements that enhance health and
well-being.
[12] INCOME TAXES:
The Company recognizes deferred tax liabilities and assets for the
expected future tax consequences of events that have been included in the
financial statements or tax returns. Under this method, deferred tax
liabilities and assets are determined on the basis of the differences
between the tax basis of assets and liabilities and their respective
financial reporting amounts ("temporary differences") at enacted tax rates
in effect for the years in which the differences are expected to reverse.
Any resulting deferred tax asset is reduced, if necessary, by a valuation
allowance for any tax benefits that are not expected to be realized.
[13] IMPAIRMENT OF LONG-LIVED ASSETS:
Long-lived assets, to be held and used, are reviewed for impairment
whenever events or changes in circumstances indicate that the related
carrying amounts may not be recoverable using expected future undiscounted
cash flows. When required, impairment losses on assets to be held and used
are recognized based on the excess of the assets' carrying amount over
their fair values as determined by selling prices for similar assets or
application of other appropriate valuation techniques. Long-lived assets
to be disposed of are reported at the lower of their carrying amounts or
fair values less disposal costs. In the fourth quarter of 2004, the
Company recorded an impairment charge of approximately $137,000 to
write-down the value of patents associated with certain of the Company's
products (see Note E - Other Asset).
[14] COMPREHENSIVE INCOME:
Other than net loss, the Company does not have any comprehensive income
items at December 31, 2005 and 2004.
[15] RECENT ACCOUNTING PRONOUNCEMENTS:
In December 2004, the FASB issued FAS Statement 123 (Revision 2004),
"Share-Based Payment," and is effective for reporting periods beginning
after December 15, 2005. The new statement requires all share-based
payments to employees to be recognized in the financial statements based
F-10
on their fair values. The Company currently accounts for its share-based
payments to employees under the intrinsic value method of accounting set
forth in Accounting Principles Board Opinion No. 25, `Accounting for Stock
Issued to Employees." Additionally, the Company complies with the
stock-based employer compensation disclosure requirements of SFAS No. 148,
"Accounting for Stock-Based Compensation - Transition and Disclosure, an
amendment of FASB Statement No. 123." The Company does not anticipate that
adoption of this standard will have a material impact on its financial
position, results of operations or its cash flows.
In December 2004, the FASB issued FAS 153 "Exchanges of Non-monetary
Assets, an amendment of APB Opinion No. 29." This Statement is the result
of a broader effort by the FASB to improve the comparability of
cross-border financial reporting by working with the International
Accounting Standards Board (IASB) toward development of a single set of
high-quality accounting standards. As part of that effort, the FASB and
the IASB identified opportunities to improve financial reporting by
eliminating certain narrow differences between their existing accounting
standards. The accounting for non-monetary exchanges was identified as an
area in which the U.S. standard could be improved by eliminating certain
differences between the measurement guidance in Opinion 29 and that in IAS
16, Property, Plant and Equipment, and IAS 38, Intangible Assets. This
Statement is effective for non-monetary exchanges occurring in fiscal
periods beginning after June 15, 2005. The Company does not anticipate
that adoption of this standard will have a material impact on its
financial position, results of operations or its cash flows.
In November 2004, the FASB issued FAS 151 "Inventory Costs, an amendment
of ARB No. 43, Chapter 4." This Statement amends the guidance in ARB No.
43, Chapter 4, "Inventory Pricing," to clarify the accounting for abnormal
amounts of idle facility expense, freight, handling costs, and wasted
material (spoilage). This Statement is effective for inventory costs
incurred during fiscal years beginning after June 15, 2005. The Company
does not anticipate that adoption of this standard will have a material
impact on its financial position, results of operations or its cash flows.
In May 2005, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 154, "Accounting Changes and Error
Corrections - a replacement of APB No. 20 and FASB Statement No. 3" ("SFAS
154"). SFAS 154 replaces APB No. 20, "Accounting Changes" and FASB
Statement No. 3, "Reporting Accounting Changes in Interim Financial
Statements" and changes the requirements for the accounting for and
reporting of a change in accounting principles. SFAS 154 is effective for
accounting changes and corrections of errors made in fiscal years
beginning after December 15, 2005. The Company does not anticipate that
adoption of this standard will have a material impact on its financial
position, results of operations or its cash flows.
[16] USE OF ESTIMATES:
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make certain estimates and assumptions that affect the
reported amounts of assets, liabilities and disclosure of contingent
assets and liabilities at the date of the financial statements and the
reported amount of revenue and expenses during the reporting period.
Actual results may differ from these estimates. The significant estimates
and assumptions made by the Company are in the area of revenue
recognition, inventory obsolescence, allowance for doubtful accounts, and
valuation allowances for deferred tax assets.
NOTE C - INVENTORIES
Inventories, which are held at third-party warehouses and on consignment with
customers, consist of the following and include obsolescence reserves on
$723,972 at December 31, 2005 and $742,970 at December 31, 2004 which are netted
against finished goods at third party warehouse:
2005 2004
----------- -----------
Raw materials (at contract manufacturer) $ 102,587 $ 104,745
Work in process (at contract manufacturer) 8,847 70,020
Packaging supplies (at third party warehouse) 46,880 70,015
Finished goods (at third party warehouse) 989,814 1,324,284
Finished goods (on consignment) 161,651 191,000
----------- -----------
$ 1,309,779 $ 1,760,064
=========== ===========
F-11
NOTE D - PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
2005 2004
--------- ---------
Furniture and equipment $ 388,414 $ 374,693
Molds and dies 120,826 115,825
--------- ---------
509,240 490,518
Less accumulated depreciation 443,883 379,245
--------- ---------
$ 65,357 $ 111,273
========= =========
Depreciation expense aggregated $64,638 and $50,951 for the years ended December
31, 2005 and 2004, respectively.
NOTE E - OTHER ASSET
In December 2003, the Company acquired all of the outstanding shares of Strong
Research, Inc. ("Strong"), a research-based educational sports nutrition
company, owned by one of the Company's former directors. In connection with this
transaction, the Company issued 150,000 common shares valued at $112,500 at the
date of the transaction. The Company ascribed the entire value to a pending
patent. Such patent was being amortized over an estimated useful life of three
years. Strong is a development stage company and had not commenced planned
principal operations; the acquisition was accounted for as an acquisition of
assets and not a business combination. In addition, the Company settled certain
liabilities of Strong and issued 52,000 common shares in January 2004. The
Company has recorded this additional cost of approximately $42,000 as of
December 31, 2003. As of December 31, 2004, the Company determined to write off
the unamortized value of the patent acquired in the acquisition in the amount of
$137,138 due to the discontinuance by the exclusive customer for the products
covered by this patent (see Note B[13]).
Further, the Company is contingently obligated to issue an additional 150,000
common shares to the seller if certain products developed as a result of the
acquisition reach $4 million in revenue for any twelve consecutive months. The
issuance of such shares will result in an increase to the purchase price of
assets acquired based upon the fair value of such shares at the date the
milestone is achieved. At December 31, 2005, sales associated with this product
line have not achieved the revenue milestones and, as such, no shares are
required to be issued to the seller.
NOTE F - NOTES PAYABLE
Included in notes payable at December 31, 2005 and 2004 is $74,000 and $267,000
pursuant to the Company's asset based credit facility. During the second quarter
of 2003, the Company secured a $750,000 asset-based credit facility. This
facility was for one year commencing on June 1, 2003 and was collateralized by
substantially all of the assets of the Company. This credit facility was
increased to $1,000,000 and was renewed for 2 years commencing June 1, 2004. The
amount of available credit was based on the value of the Company's eligible
receivables from time to time. Eligible receivables included those receivables
that had payment terms equal to or less than 45 days or had been outstanding for
less than 90 days. This credit facility bore interest at a rate of prime plus
1.75% as well as a 0.75% discount rate on all advances. The receivables were
financed with recourse. At December 31, 2005, the Company had $ - 0 -
availability under this facility. On February 22, 2006, with the proceeds of the
sale of our sports drink assets to Mott's, we repaid this facility in full and
terminated it (see Note O - Subsequent Events).
In addition, the Company has notes payable as follows:
2005 2004
-------- --------
Installment note payable to insurance finance company
due in monthly installments of $8,235, including
interest at 5.57% through January 2006 $ 8,197 $ -
Installment note payable to insurance finance company
due in monthly installments of $4,913, including
interest at 6.50% through September 2006 47,698 -
Installment note payable to insurance finance company
due in monthly installments of $8,128, including
interest at 3.84% through February 2005 - 16,256
Installment note payable to insurance finance company
due in monthly installments of $11,505, including
interest at 4.55% through September 2005 - 90,073
F-12
NOTE G - CONVERTIBLE NOTES PAYABLE
On August 24, 2005, the Company entered into a Securities Purchase Agreement
(the "Purchase Agreement") with Hormel. Pursuant to the Purchase Agreement,
Hormel loaned the Company the principal amount of $500,000 in exchange for a
Secured Convertible Promissory Note, which amount would accrue interest at a
rate of 8% per annum (the "Note"). The outstanding principal balance under the
Note and any accrued but unpaid interest thereon was due and payable on August
24, 2007 to the extent that Hormel had not exercised certain conversion rights
under the Note. In the event we defaulted, interest on the outstanding principal
balance would accrue at the rate of 10% per annum. The Note was collateralized
by a subordinated lien on and security interest on the Company's assets pursuant
to the terms of a Security Agreement between the Company and Hormel dated August
24, 2005. As additional consideration for the loan, Hormel had the right at
Hormel's option to convert the outstanding principal amount and accrued and
unpaid interest of the Note into shares of the common stock of the Company (the
"Common Stock"), at a price per share equal to the product of (x) the weighted
average closing price of the Common Stock for the five trading days preceding
the notice of conversion of the Note and (y) $0.85. Hormel agreed that it would
not convert the Note if such conversion would cause Hormel, together with its
affiliates, to beneficially own, on an as-converted basis, more than 9.9% of the
shares of Common Stock then outstanding. However, Hormel had the ability to
waive this limitation by providing written notice of such waiver to the Company
with the waiver to be effective seventy-five days after receipt. On February 22,
2006, the Company repaid the principal and accrued interest of this Note in
full. (See Note O - Subsequent Events.)
NOTE H - STOCKHOLDERS' EQUITY
The total number of shares of all classes of stock which the Company has
authority to issue is 51,000,000 shares, consisting of (a) fifty million
(50,000,000) shares of common stock, par value $.0025 per share, and (b) one
million (1,000,000) shares of preferred stock, par value $.01 per share. The
preferred stock may be issued in one or more series, and may have such voting
powers, full or limited, or no voting powers, and such designations and
preferences as shall be stated in the resolution or resolutions providing for
the issue thereof adopted by the Board of Directors of the Company, from time to
time. As of December 31, 2005, only 136,364 preferred shares have been
designated.
As of December 31, 2005, 90,909 shares of our Series A Preferred Stock were
outstanding. In the event of liquidation, sale of substantially all of its
assets, and certain mergers and consolidations, the holders of the Series A
Preferred Stock are entitled to be paid an amount equal to the greater of: (i)
the original purchase price for the Series A Preferred Stock ($11 per share)
plus accrued dividends, if any, or (ii) the amount they would have received as
holders of the number of shares of common stock into which the Series A
Preferred Stock is then convertible (the "Series A Liquidation Amount"). In the
event of the sale of substantially all of its assets and certain mergers and
consolidations, if the Company does not effect a dissolution under the General
Corporation Law of the State of Delaware within 60 days after such event, then
the holders of a majority of the shares of the Series A Preferred Stock then
outstanding will have the right to require the redemption of such shares at a
price per share equal to the Series A Liquidation Amount. There are no sinking
fund provisions applicable to the Series A Preferred Stock. Cumulative annual
dividends will accrue at the rate of $.022 on each share of Series A Preferred
Stock outstanding. The Company is not required to pay accrued dividends except
in connection with liquidation, merger or sale, and certain other events.
However, no dividends may be paid on common stock unless all accrued dividends
on the Series A Preferred Stock have been paid. The holders of the Series A
Preferred Stock are also entitled to participate in any dividends paid to the
holders of common stock on an as-converted basis. The holders of outstanding
shares of Series A Preferred Stock shall be entitled to cast the number of votes
equal to the number of whole shares of Common Stock into which the shares of
Series A Preferred Stock held by such holder are convertible as of the record
date for determining stockholders entitled to vote on such matter. Subject to
certain adjustments, each share of the Series A Preferred Stock is convertible
at the option of the holder into ten shares of common stock. The number of
shares of common stock issuable upon conversion of the Series A Preferred Stock
will increase, pursuant to a weighted average formula in the event that we issue
common stock at a price below $1.10 per share, with certain exceptions.
On April 28, 2005, the Company filed a Certificate of Designations (the
"Certificate") creating the Series B Preferred Stock with the Secretary of the
State of the State of Delaware. The Certificate was effective as of the date
filed. Under the Certificate, 45,455 shares of authorized but unissued preferred
stock were designated as Series B Preferred Stock. The Company filed the
Certificate in contemplation of proposed financing transactions, but does not
have a binding agreement as to any financing. The Company has not issued any
F-13
shares of Series B Preferred Stock to date. Cumulative annual dividends will
accrue at the rate of $.022 on each share of Series B Preferred Stock
outstanding. The Company will not be required to pay accrued dividends except in
connection with liquidation, dissolution, merger, consolidation or sale all or
substantially all of the assets of the Company and certain other events.
However, no cash dividends may be paid on common stock unless all accrued but
unpaid dividends, if any, on Series B Preferred Stock have been paid. The
holders of Series B Preferred Stock will also be entitled to participate in any
dividends paid to the holders of common stock on an as-converted basis. In the
event of a liquidation of the Company, sale of all or substantially all of its
assets, and certain mergers and consolidations involving the Company, the
holders of the Series B Preferred Stock will be entitled to be paid an amount
equal to the greater of: (i) the original purchase price for the Series B
Preferred Stock plus accrued but unpaid dividends, if any, or (ii) the amount
they would have received as holders of the number of shares of common stock into
which their shares of Series B Preferred Stock then convertible. Subject to
certain adjustments, each share of Series B Preferred Stock will be convertible
at the option of the holder into ten shares of common stock. The number of
shares of common stock issuable upon conversion of the Series B Preferred Stock
will increase, pursuant to a weighted average formula set forth in the
Certificate, in the event the Company issues common stock at a price below $1.10
per share, with certain exceptions. The holders of the Series B Preferred Stock
will be entitled to vote on an as-converted basis with the holders of the common
stock and the Series A Preferred Stock together as a single class on all matters
submitted for a vote of the holders of common stock. The Certificate also
provides that in certain instances, the consent of the holders of at least 66%
of the outstanding shares of Series B Preferred Stock will be required for the
Company to take certain actions including: (i) liquidate, dissolve, merge or
consolidate the Company or sell all or substantially all of its assets, unless
the transaction would result in a certain rate of return for the holders of
Series B Preferred Stock; (ii) amend the Company's Certificate of Incorporation
or Bylaws in a manner adverse to the Series B Preferred Stock; (iii) create an
additional class or series of stock senior to or on par with the Series B
Preferred Stock; (iv) purchase, redeem or pay cash dividends on common stock; or
(v) incur certain types of debt in excess of $750,000.
NOTE I - COMMITMENTS
[1] EMPLOYMENT AGREEMENT:
The Company entered into an employment extension agreement on September 1,
2004, with the CEO of the Company that provides for minimum annual
compensation of $275,000 and expires on December 31, 2006. As of December
31, 2005, $50,000 of this annual compensation was accrued and the Company
expects to pay this amount in 2006. In the event of a change in control,
as defined in the employment agreement, the CEO shall be paid, as
additional compensation, a lump sum equal to his annual base salary in
effect immediately prior to the change in control. If the CEO is
terminated without cause, as defined in the employment agreement, the
Company shall pay the CEO, at the time of termination, an amount equal to
the base salary which would have been paid during a period beginning on
the date of termination of employment and ending on the later of the
scheduled termination date, as defined in the employment agreement, or the
first anniversary of the termination date.
[2] LEASE:
Effective July 1, 2003, the Company entered into a new lease agreement for
office space which expires June 2007. The lease provides for the rental of
5,500 square feet.
The future minimum lease payments due under the leases are as follows:
Rent expense amounted to $129,965 and $130,268 in 2005 and 2004,
respectively.
NOTE J - STOCK OPTION PLANS AND WARRANTS
The Company has two stock option plans (the "Plans") under which 1,555,500
shares of common stock are reserved for issuance under the Plans. In 1995, the
Company established an incentive stock option plan (the "Plan") in which options
to purchase the common stock of the Company may be awarded to employees. In
2000, the Company established another stock option plan to increase the number
of options under the Plans.
F-14
Stock options may be granted as either incentive stock options intended to
qualify under Section 422 of the Internal Revenue Code of 1986, as amended (the
"Code"), or as options not qualified under Section 422 of the Code. All options
are issued with an exercise price at or above 100% of the fair market value of
the common stock on the date of grant. Incentive stock option plan awards of
restricted stock are intended to qualify as deductible performance-based
compensation under Section 162(m) of the Code. Incentive stock option awards of
unrestricted stock are not designed to be deductible by the Company under
Section 162(m). The Board of Directors determines the option price (not to be
less than fair market value for incentive options) at the date of grant. The
options have a maximum term of 5 years and outstanding options expire at various
times through August 2010. Vesting ranges from immediate to over five years.
Stock option transactions for employees during 2005 and 2004 were as follows:
WEIGHTED
EXERCISE AVERAGE
PRICE PER EXERCISE PRICE
OPTION VESTED COMMON PER SHARE
SHARES SHARES SHARE OUTSTANDING
--------- --------- -------------- --------------
1,977,700 1,642,784 $0.313 - $4.34 $1.58
Balance, January 1, 2004
Granted/vested during the year 1,277,000 580,916 $0.65 - $1.11 $0.67
Expired during the year (422,200) (422,200) $0.98 - $3.80 $1.82
--------- ---------
2,832,500 1,801,500 $0.313 - $4.34 $1.20
Balance, December 31, 2004
Granted/vested during the year - 395,500 $0.65 - $2.79 $1.25
Expired during the year (862,500) (450,000) $0.65 - $3.77 $1.33
--------- ---------
1,970,000 1,747,000 $0.313 - $4.34 $1.11
========= =========
BALANCE, DECEMBER 31, 2005
Information with respect to employee stock options outstanding and employee
stock options exercisable at December 31, 2005 is as follows:
WEIGHTED
AVERAGE WEIGHTED WEIGHTED
REMAINING AVERAGE AVERAGE
RANGE OF NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE
EXERCISE PRICES OUTSTANDING LIFE (IN YEARS) PRICE EXERCISABLE PRICE
--------------- ----------- --------------- -------- ----------- --------
$0.31 - $2.00 1,577,000 1.92 $0.64 1,354,000 $0.64
$2.01 - $4.00 383,000 1.75 $2.94 383,000 $2.94
$4.01 - $4.34 10,000 0.81 $4.34 10,000 $4.34
----------- -----------
1,970,000 1.88 $1.11 1,747,000 $1.34
=========== ===========
In addition to options granted to employees under the Plans, the Company issued
stock and stock options pursuant to contractual agreements to non-employees.
Stock and stock options granted under these agreements are expenses when the
related service or product is provided. The Company recognized an expense of
$11,545 and $19,679 for such stock and stock options issued in 2005 and 2004,
respectively.
F-15
Stock option transactions for non-employees during 2005 and 2004 were as
follows:
WEIGHTED
EXERCISE AVERAGE
PRICE PER EXERCISE PRICE
OPTION VESTED COMMON PER SHARE
SHARES SHARES SHARE OUTSTANDING
------ ------ --------- --------------
Balance, January 1, 2004 266,375 266,375 $0.31 - $6.30 $1.57
Granted/vested during the year 11,000 11,000 $0.83 - $0.90 $0.84
Expired during the year (60,000) (60,000) $1.25 - $2.25 $1.68
------- -------
Balance, December 31, 2004 217,375 217,375 $0.31 - $6.30 $2.01
Granted/vested during the year 25,500 25,500 $0.20 - $0.28 $0.26
Expired during the year (87,375) (87,375) $1.06 - $3.50 $2.29
------- -------
155,500 155,500 $0.20 - $6.30 $1.57
BALANCE, DECEMBER 31, 2005 ======= =======
Information with respect to non-employee stock options outstanding and
non-employee stock options exercisable at December 31, 2005 is as follows:
WEIGHTED
NUMBER AVERAGE WEIGHTED
OUTSTANDING REMAINING AVERAGE
RANGE OF AND CONTRACTUAL EXERCISE
EXERCISE PRICES EXERCISABLE LIFE (IN YEARS) PRICE
--------------- ----------- --------------- --------
$0.20 - $2.00 125,500 1.33 $0.84
$2.01 - $4.00 3,500 0.43 $2.86
$4.01 - $6.30 26,500 1.13 $4.85
-------
155,500 1.65 $1.57
=======
Stock warrant transactions during 2005 and 2004 were as follows:
EXERCISE WEIGHTED
PRICE AVERAGE
PER EXERCISE PRICE
COMMON PER
WARRANTS SHARE COMMON SHARE
-------- -------- --------------
2,238,275 $0.63 - $3.44 $0.71
Balance, January 1, 2004
Issued during the year 155,000 $0.63 - $0.88 $0.68
Expired during the year (100,000) $0.88 $0.88
---------
2,293,275 $0.63 - $3.44 $0.70
Balance, December 31, 2004
Issued during the year
Expired during the year (22,000) $3.44 $3.44
---------
BALANCE, DECEMBER 31, 2005 2,271,275 $0.63 - $0.88 $0.67
=========
F-16
NOTE K - INCOME TAXES
The difference between the statutory federal income tax rate on the Company's
pre-tax loss and the Company's effective income tax rate is summarized as
follows:
2005 2004
----------------------- --------------------
AMOUNT PERCENT AMOUNT PERCENT
------ ------- ------ -------
U.S. federal income tax provision
(benefit) at federal statutory rate $ (748,120) 35% $ (879,308) 35%
Effect of state taxes, net of
federal benefit (128,249) 6% (150,739) 6%
Change in valuation allowance (597,000) 28% 940,000 (37)%
Other (30,041) 1% 90,047 (4)%
----------- -- ---------- --
$(1,503,410) 70% $ 0 0%
=========== == ========== ==
At December 31, 2005, the Company has approximately $15,850,000 in federal and
$4,250,000 in state net operating loss carryovers that can be used to offset
future taxable income. The net operating loss carryforwards begin to expire in
the year 2015 through the year 2025.
The components of the Company's deferred tax assets are as follows:
At December 31, 2005, the Company has recorded a net deferred tax asset in the
amount of $1,278,000 attributable to management's evaluation of circumstances
associated with the future utilization of its net operating losses. Management
has determined that it is more likely than not that a portion of its net
operating losses will be utilized to reduce 2006 taxable income primarily
related to taxable income associated with the sale to Mott's of the patents,
trademarks, web sites and other intellectual property related to the Company's
Accelerade and Endurox sports nutrition product lines. (See Note O - Subsequent
Events.)
During 2005, the Company sold $2,939,596 of its New Jersey net operating losses.
The amount received from this sale was approximately $225,000.
F-17
NOTE L - MAJOR CUSTOMERS AND CONCENTRATIONS OF CREDIT RISKS
[1] CONCENTRATIONS OF CREDIT RISK:
Financial instruments, which potentially subject the Company to
concentrations of credit risk, consist primarily of cash, cash
equivalents and trade accounts receivable.
The Company has concentrated its credit risk for cash by maintaining
substantially all of its depository accounts in a single financial
institution. Accounts at the institution are insured by the Federal
Deposit Insurance Corporation up to $100,000. Uninsured balances
aggregated approximately $64,000 at December 31, 2005 that exceeded the
Federal Deposit Insurance Corporation ("FDIC") limit. The financial
institution has a strong credit rating, and management believes that
credit risk relating to these deposits is minimal.
The Company does not require collateral on its trade accounts receivable.
Historically, the Company has not suffered significant losses with
respect to trade accounts receivable.
[2] FAIR VALUE OF FINANCIAL INSTRUMENTS:
Cash, cash equivalents, accounts receivable, accounts payable and notes
payable approximate their fair values due to the short maturity of these
instruments.
[3] MAJOR CUSTOMERS:
For the years ended December 31, the Company had revenue from two
customers that accounted for approximately 30% and 20% in 2005 and 33%
and 17% in 2004, of net revenue. Accounts receivable outstanding related
to these customers at December 31, 2005 and 2004 were $0 and $99,843,
respectively. Deferred revenue from one of these customers was $369,069
as of December 31, 2005 and $376,000 as of December 31, 2004. Such
amounts are included in the accompanying balance sheet. The loss of these
customers, a significant reduction in purchase volume by these customers,
or the financial difficulty of such customers, for any reason, could
significantly reduce our revenues. We have no agreement with or
commitment from either of these customers with respect to future
purchases.
NOTE M - SEGMENT AND RELATED INFORMATION
At 2005 and 2004, the Company has one reportable segment:
Dietary and nutritional supplements.
The following table presents revenues by region:
2005 2004
United States $ 5,005,765 $ 6,417,951
Canada 201,359 175,012
Other 237,434 214,308
------------ -----------
Total $ 5,444,558 $ 6,807,271
============ ===========
Product sales for the years ended December 31, 2005 and 2004 are net of credits
of $499,202 and $299,006, respectively, for marketing promotions and returns of
certain products. These credits primarily relate to the sports performance
product line.
F-18
NOTE N - RELATED PARTY TRANSACTIONS
In connection with the Hormel preferred stock agreement, the Company entered
into an Exclusive Manufacturing Agreement with a subsidiary of Hormel. The
initial term of the agreement was for one year commencing on January 28, 2005
and was extended until January 28, 2007 as part of the convertible note
transaction. The Company purchased approximately $1,194,000 of finished goods
during the year 2005 from this Hormel subsidiary. At December 31, 2005, the
Company owed this Hormel subsidiary approximately $645,000 that has been
included on the balance sheet in accounts payable and accrued expenses.
NOTE O - SUBSEQUENT EVENTS
[1] ASSET SALE:
On February 22, 2006, the Company, pursuant to an Asset Purchase Agreement
of the same date, sold to Mott's the patents, trademarks, web sites and
other intellectual property related to the Company's Accelerade and
Endurox sports nutrition product lines. Simultaneously, the Company and
Mott's entered into a License Agreement giving the Company the exclusive,
royalty-free right to continue to sell these products in powder, gel and
pill form. Consequently, the Company will continue to market its current
sports nutrition products in the same manner as prior to the sale of the
intellectual property assets. The Company's CEO is required to provide
consulting services to Mott's on an as-needed basis not to exceed 130
hours per year.
Under the Asset Purchase Agreement, the Company received $4,000,000 at
closing and, if Mott's launches a product using the purchased assets, the
Company will receive royalty payments for a finite period following such
launch, subject to an annual limitation on the amount of the royalty.
There are no minimum royalties and there is no specific time by which
Mott's must launch a product, but the Company will have the option to
repurchase the assets if a product is not launched within a time specified
in the Asset Purchase Agreement.
The Company used a portion of the cash proceeds of this transaction to
repay $277,067 owed under our accounts receivable facility, to repay the
$500,000 Convertible Note with interest held by Hormel, and approximately
$611,981 owed to our exclusive contract manufacturer, an affiliate of
Hormel.
[2] COMMON STOCK:
Between January 1, 2006 and March 30, 2006, the Company has issued an
additional 573,276 shares of its common stock as a result of the exercise
of options and warrants, resulting in proceeds of approximately $191,634.
F-19
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 145 of the Delaware General Corporation Law, as amended, authorizes us
to indemnify any director or officer under certain prescribed circumstances and
subject to certain limitations against certain costs and expenses, including
attorneys' fees actually and reasonably incurred in connection with any action,
suit or proceeding, whether civil, criminal, administrative or investigative, to
which such person is a party by reason of being a director or officer of us if
it is determined that such person acted in accordance with the applicable
standard of conduct. Article NINTH of our certificate of incorporation, as
amended, provides for the indemnification of directors and officers to the full
extent permitted by Delaware law.
Our certificate of incorporation, as amended, contains a provision permitted by
Delaware law that eliminates the personal liability of our directors for
monetary damages for breach or alleged breach of their fiduciary duty of care
that arises under state law. Although this does not change the directors' duty
of care, it limits legal remedies that are available for breach of that duty to
equitable remedies, such as an injunction or rescission. This provision of our
certificate of incorporation has no effect on directors' liability for: (1)
breach of the directors' duty of loyalty; (2) acts or omissions not in good
faith or involving intentional misconduct or known violations of law; and (3)
approval of any transactions from which the directors derive an improper
personal benefit.
Our amended and restated bylaws contains a provision that provides for the
indemnification of any individual who was, is, or is threatened to be made a
party, by reason of the fact that the individual is a director or officer of
ours or serves in a similar role, to any pending or completed action, suit or
proceeding, whether civil, criminal, administrative or investigative. Pursuant
to this provision, the individual is indemnified against all expenses, liability
and loss actually and reasonably incurred to the extent such individual is not
otherwise indemnified and to the extent such indemnification is permitted by
law.
Insofar as indemnification for liabilities arising under the Securities Act may
be allowed to our directors, officers and controlling persons under the forgoing
provisions, or otherwise, we have been advised that in the opinion of the
Securities and Exchange Commission such indemnification is against public policy
as expressed in the Securities Act and is, therefore, unenforceable.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION*
The following table sets forth all estimated costs and expenses expected to be
incurred by us in connection with the issuance and distribution of the
securities being registered. We are paying all expenses and fees customarily
paid by an issuer in connection with the registration of these securities. The
Selling Stockholders will bear all brokerage or underwriting discounts or
commissions paid to broker-dealers in connection with the sale of these
securities.
Securities and Exchange Commission Registration Fee $ 344
Blue sky Fees and Expenses $ 5,000
Printing and Shipping Expenses $ 4,000
Legal fees and Expenses $22,500
Accounting Fees and Expenses $15,000
Transfer and Miscellaneous Expenses $ 1,000
-------
Total $47,844
=======
* All expenses are estimated except the Securities and Exchange Commission
filing fee.
II-1
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES
We sold the following securities in the past three years in transactions not
registered under the Securities Act:
o In August and September 2003, we sold 3,208,556 shares of common stock,
together with warrants exercisable for 1,604,228 shares of common stock
to accredited investors in a private placement transaction. The shares
and warrants were sold in units of two shares and one warrant. Each
warrant is exercisable for one share of common stock. Investors paid
$0.935 for each unit, which price represented a 15% discount from the
market price of two shares, calculated over a ten day period as of the
initial closing. We raised gross proceeds of $575,000 in this
transaction. The issuance of these securities was exempt from
registration under the Securities Act pursuant to Section 4(2) thereof
and/or Regulation D promulgated thereunder.
o On January 28, 2005, we issued and sold 90,909 shares of our Series A
Preferred Stock to Hormel Health Labs, LLC, for an aggregate purchase
price of $1,000,000, or $11.00 per share. Subject to certain
adjustments, each share of Series A Preferred Stock is convertible at
the option of the holder into ten shares of our common stock. The number
of shares of common stock issuable upon conversion of each share of
Series A Preferred Stock will increase, pursuant to a weighted-average
formula, in the event that we issue common stock at a price below $1.10
per share, with certain exceptions. We are paying all expenses and fees
customarily paid by an issuer in connection with the registration of
these securities. The Selling Stockholders will bear all brokerage or
underwriting discounts or commissions paid to broker-dealers in
connection with the sale of these securities undertook this transaction
in reliance upon Rule 506 of Regulation D and Section 8(b)(4)(D) of the
Securities Act.
II-2
ITEM 27. EXHIBITS
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT(1)
------- -------------------------
3(i)(a) Certificate of Incorporation of PacificHealth
Laboratories, Inc. and all amendments thereto
(incorporated by reference to Exhibit 3.1 to
PacificHealth Laboratories, Inc.'s Registration
Statement on Form SB-2 (Registration No. 333-36379)
filed on September 25, 1997)
3(i)(b) Certificate of Amendment of Certificate of
Incorporation of PacificHealth Laboratories, Inc.
(incorporated by reference to Exhibit 3.3 to
PacificHealth Laboratories, Inc.'s Annual Report on
Form 10-KSB filed on March 31, 2003)
3(ii) Amended and Restated Bylaws of PacificHealth
Laboratories, Inc. (incorporated by reference to
Exhibit 3.2.1 to PacificHealth Laboratories, Inc.'s
Amendment No. 3 to Registration Statement on Form
SB-2/A filed on December 17, 1997)
4.1 Specimen Common Stock Certificate (incorporated by
reference to Exhibit 4.1 to PacificHealth Laboratories,
Inc.'s Amendment No. 3 to Registration Statement on
Form SB-2/A filed on December 17, 1997)
4.2.1 Form of Securities Purchase Agreement entered into
among PacificHealth Laboratories, Inc. and Certain of
the Selling Stockholders dated August 26, 2003
(incorporated by reference to Exhibit 4.4 to
PacificHealth Laboratories, Inc.'s Registration
Statement on Form SB-2 filed on September 29, 2003)
4.2.2 Form of Registration Rights Agreement entered into
among PacificHealth Laboratories, Inc. and Certain of
the Selling Stockholders dated August 26, 2003
(incorporated by reference to Exhibit 4.5 to
PacificHealth Laboratories, Inc.'s Registration
Statement on Form SB-2 filed on September 29, 2003)
4.2.3 Form of Warrant issued to Certain of the Selling
Stockholders in connection with Exhibit 4.2.1 on
August 26, 2003 (incorporated by reference to Exhibit
4.6 to PacificHealth Laboratories, Inc.'s Registration
Statement on Form SB-2 filed on September 29, 2003)
4.3 Stock Purchase Agreement dated June 1, 2001, by and
between PacificHealth Laboratories, Inc. and Glaxo
Wellcome International B.V. (incorporated by reference
to Exhibit 4.1 to PacificHealth Laboratories, Inc.'s
Current Report on Form 8-K filed on June 14, 2001)
4.4.1 Series A Preferred Stock Purchase Agreement dated
January 28, 2005, by and between PacificHealth
Laboratories, Inc. and Hormel Health Labs, LLC
(incorporated by reference to Exhibit 4.3 to
PacificHealth Laboratories, Inc.'s Annual Report on
Form 10-KSB filed on April 15, 2005)
4.4.2 Investors' Rights Agreement dated January 28, 2005, by
and between PacificHealth Laboratories, Inc. and
Hormel Health Labs, LLC (incorporated by reference to
Exhibit 4.4 to PacificHealth Laboratories, Inc.'s
Annual Report on Form 10-KSB filed on April 15, 2005)
4.4.3 Right of First Refusal and Co-Sale Agreement dated
January 28, 2005, by and between PacificHealth
Laboratories, Inc., Robert Portman and Hormel Health
Labs, LLC (incorporated by reference to Exhibit 4.5 to
PacificHealth Laboratories, Inc.'s Annual Report on
Form 10-KSB filed on April 15, 2005)
5 Opinion of Eckert Seamans Cherin & Mellott, LLC (including
consent)
10.1 Incentive Stock Option Plan of 1995 (incorporated by
reference to Exhibit 10.1 to PacificHealth Laboratories,
Inc.'s Registration Statement on Form SB-2 (Registration No.
333-36379) filed on September 25, 1997)
II-3
10.2 Strategic Alliance Agreement between PacificHealth
Laboratories, Inc. and the Institute of Nutrition and Food
Hygiene (incorporated by reference to Exhibit 10.3 to
PacificHealth Laboratories, Inc.'s Registration Statement on
Form SB-2 (Registration No. 333-36379) filed on
September 25, 1997)
10.3 Exclusive Licensing Agreement between PacificHealth
Laboratories, Inc. and the Institute of Nutrition and Food
Hygiene (incorporated by reference to Exhibit 10.4 to
PacificHealth Laboratories, Inc.'s Registration Statement on
Form SB-2 (Registration No. 333-36379) filed on
September 25, 1997)
10.4 Shareholders Agreement (incorporated by reference to
Exhibit 10.5 to PacificHealth Laboratories, Inc.'s
Registration Statement on Form SB-2 (Registration No.
333-36379) filed on September 25, 1997)
10.5 2000 Incentive Stock Option Plan (incorporated by
reference to Exhibit A to PacificHealth Laboratories,
Inc.'s Definitive Proxy Statement on Schedule 14A
filed on July 11, 2000)
10.6 Employment Extension Agreement between PacificHealth
Laboratories, Inc. and Robert Portman effective
January 1, 2004, executed February 28, 2006 (filed herewith)
10.7 Exclusive Custom Manufacturing Agreement dated
January 28, 2005, by and between PacificHealth Laboratories,
Inc. and an affiliate of Hormel Health Labs, LLC (redacted,
subject to a request for confidential treatment)
(incorporated by reference to Exhibit 10.7 to PacificHealth
Laboratories, Inc.'s Annual report on Form 10-KSB filed on
April 15, 2005)
10.8 Asset Purchase Agreement dated February 22, 2006, by
and between PacificHealth Laboratories, Inc. and
Mott's LLP (redacted, subject to request for
confidential treatment) (incorporated by reference to
Exhibit 10.8 to PacificHealth Laboratories, Inc.'s
Annual report on Form 10-KSB filed on March 31, 2006)
10.9 License Agreement dated February 22, 2006, by and
between PacificHealth Laboratories, Inc. and Mott's
LLP (redacted, subject to request for confidential
treatment) (incorporated by reference to Exhibit 10.9
to PacificHealth Laboratories, Inc.'s Annual report on
Form 10-KSB filed on March 31, 2006)
10.10 Consulting, License and Noncompetition Agreement dated
February 22, 2006, by and between PacificHealth
Laboratories, Inc., Mott's LLP and Robert Portman
(redacted, subject to request for confidential
treatment) (incorporated by reference to Exhibit 10.10
to PacificHealth Laboratories, Inc.'s Annual report on
Form 10-KSB filed on March 31, 2006)
23.1 Consent of Weiser, LLP
23.2 Consent of Eisner, LLP
23.3 Consent of Eckert Seamans Cherin & Mellott, LLC
(included in Exhibit 5)
24 Power of Attorney (included on Signature Page)
(1) In the case of incorporation by reference to documents filed by the
Registrant under the Exchange Act, the Registrant's file number under the
Exchange Act is 000-23495.
II-4
ITEM 28. UNDERTAKINGS
The undersigned registrant hereby undertakes that it will:
(1) File, during any period in which it offers or sells securities, a
post-effective amendment to this Registration Statement to:
(i) Include any prospectus required by Section 10(a)(3) of the
Securities Act;
(ii) Reflect in the prospectus any facts or events which,
individually or together, represent a fundamental change in the
information in the Registration Statement; and
(iii) Include any additional or changed material information on the
plan of distribution.
(2) For determining liability under the Securities Act, treat each
post-effective amendment as a new registration statement of the
securities offered, and the offering of the securities at that time to
be the initial bona fide offering.
(3) File a post-effective amendment to remove from registration any of the
securities that remain unsold at the end of the offering.
Insofar as indemnification for liabilities arising under the Securities Act may
be allowed to the directors, officers and controlling persons of the undersigned
statement under the forgoing provisions, or otherwise, the undersigned
registrant has been advised that in the opinion of the Securities and Exchange
Commission such indemnification is against public policy as expressed in the
Securities Act and is, therefore, unenforceable.
In the event that a claim for indemnification against such liabilities (other
than payment by the undersigned registrant of expenses incurred or paid by a
director, officer or controlling person of the registrant in the successful
defense of any action, suit or proceeding) is asserted by such director, officer
or controlling person in connection with the securities being registered, the
undersigned registrant will, unless in the opinion of counsel the matter has
been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
II-5
SIGNATURES
In accordance with the requirements of the Securities Act of 1933, the
registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements for filing on Form SB-2/A and authorized this Amendment No.
1 to this Registration Statement to be signed on its behalf by the undersigned,
in the City of Matawan, State of New Jersey, on April 20, 2006.
PACIFICHEALTH LABORATORIES, INC.
By: /s/ Robert Portman
----------------------------------
Name: Robert Portman
Title: President and Chief Executive Officer,
Principal Executive Officer
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Stephen B. Kuchen and each of them, his true and lawful
attorneys-in-fact and agents, with full power of substitution and resubstitution
for such person and in his name, place and stead, in any and all capacities, to
sign any and all amendments to this registration statement, and to file the same
with all exhibits thereto and other documents in connection therewith, with the
Securities and Exchange Commission, granting unto said attorneys-in-fact and
agents, and each of them, full power and authority to do and perform each and
every act and thing requisite or necessary to be done in and about the premises,
as fully and to all intents and purposes as he might or could do in person,
hereby ratifying and conforming all that said attorneys-in-fact and agents, and
any of them, or their substitutes, may lawfully do or cause to be done by virtue
hereof.
Pursuant to the requirements of the Securities Act of 1933, this Registration
Statement has been signed by the following persons in the capacities and on the
dates indicated.
Name Title Date
---- ----- ----
/s/ Robert Portman President, Chief Executive Officer April 20, 2006
-------------------------- Chief Scientific and Chairman of the Board
Robert Portman of Directors (Principal Executive Officer)
/s/ Stephen P. Kuchen Chief Financial Officer, Chief Operating April 20, 2006
-------------------------- Officer, Treasurer, Secretary and Director
Stephen P. Kuchen (Principal Financial Accounting Officer)
/s/ David I. Portman Director April 20, 2006
--------------------------
David I. Portman
/s/ Michael Cahr Director April 20, 2006
--------------------------
Michael Cahr
/s/ Gary Jamison Director April 20, 2006
--------------------------
Gary Jamison
II-6
EXHIBIT 5
[Letterhead of Eckert Seamans Cherin & Mellott, LLC]
April 20, 2006
PacificHealth Laboratories, Inc.
100 Matawan Road
Suite 420
Matawan, New Jersey 07747-3913
Re: PacificHealth Laboratories, Inc. - Registration Statement on Form SB-2
Ladies and Gentlemen:
We have acted as counsel to PacificHealth Laboratories, Inc., a Delaware
corporation (the "Company"), in connection with the registration under the
Securities Act of 1933, as amended, of 3,681,913 Shares of the common stock,
$0.0025 par value per share, of the Company pursuant to the Company's
registration statement on Form SB-2 filed with the Securities and Exchange
Commission on the date hereof (the "Registration Statement") for resale on
behalf of the certain Selling Stockholders named therein. The shares subject to
the Registration Statement consist of outstanding shares (the "Issued Shares")
and shares issuable by the Company upon the exercise of outstanding warrants
(the "Warrant Shares") that were issued by the Company in the private placement
that occurred in August and September 2003.
In rendering the opinions expressed below, we have examined and relied upon
originals or copies, certified or otherwise identified to our satisfaction, of
such corporate records, documents, agreements and other instruments relating to
the Company, certificates of officers and representatives of the Company, and
certificates of public officials and other documents, and have made such
investigation of law, and have discussed with representatives of the Company and
such other persons such questions of fact, as we have deemed necessary or
appropriate as a basis for rendering the opinions expressed below. In connection
with our examination, we have assumed the legal capacity of all natural persons,
the genuineness of all signatures, the authenticity of all documents submitted
to us as originals, the conformity with the originals (and the authenticity of
such originals) of all documents submitted to us as copies and the accuracy and
completeness of all documents submitted to us.
On the basis of the foregoing, and subject to the qualifications and limitations
stated herein, it is our opinion that:
1. The Company had the corporate authority to issue the Issued Shares and
has corporate authority to issue the Warrant Shares in the manner and
under the terms set forth in the Registration Statement.
2. The Issued Shares being registered for resale by the Selling
Stockholders under the Registration Statement have been duly authorized
and validly issued and are fully paid and non-assessable.
3. The Warrant Shares being registered for resale by the Selling
Stockholders under the Registration Statement have been duly
authorized, and, when issued in accordance with the terms of the
warrants and receipt by the Company of the consideration required, will
be validly issued, fully paid and non-assessable.
The foregoing opinions are limited solely to the federal laws of the United
States of America and the Delaware General Corporation Law. We have not
considered and express no opinion on the laws of any other jurisdiction.
We hereby consent to the filing of this opinion as Exhibit 5 to the Registration
Statement, to its use as part of the Registration Statement, and to the use of
our name under the caption "Legal Matters" in the prospectus constituting a part
of the Registration Statement. In giving such consent, we do not admit that we
are acting within the category of persons whose consent is required under
Section 7 of the Securities Act of 1933, as amended, or the rules and
regulations of the Securities and Exchange Commission thereunder.
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We hereby consent to the use in this Registration Statement on Form SB-2 (File
No. 333-109197) of our report dated March 17, 2006, relating to our audit of the
financial statements of PacificHealth Laboratories, Inc. We also consent to the
reference to our Firm under the caption "Experts" in such registration
statement.
Weiser LLP
New York, New York
April 24, 2006
EXHIBIT 23.2
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
We consent to the reference to our firm under the caption "Experts" in
the Registration Statement (Form SB-2 No. 333-109197) and related prospectus of
PacificHealth Laboratories, Inc. for the registration of 4,967,687 shares of its
common stock and the incorporation by reference therein of our report dated
February 18, 2005 (March 9, 2005 with respect to note B[7]) relating to our
audit of the financial statements of PacificHealth Laboratories, Inc. as of
December 31, 2004 and for the year then ended included in its Annual Report on
Form 10-KSB for the year ended December 31, 2005, filed with the Securities and
Exchange Commission.
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