As filed with the Securities and Exchange Commission on December 29, 2006
An Exhibit List can be found on page II-11.
Registration No. 333-______
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
-----------------------------
FORM SB-2
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
-----------------------------
BRAVO! BRANDS INC.
(Name of small business issuer in its charter)
BRAVO! FOODS INTERNATIONAL CORP.
(Former Name of small business issuer)
DELAWARE 2020 62-1681831
(State or other (Primary Standard Industrial (I.R.S. Employer
Jurisdiction of Classification Code Number) Identification No.)
Incorporation or
Organization)
11300 US HIGHWAY 1
NORTH PALM BEACH, FLORIDA 33408
(561) 625-1411
(Address and telephone number of principal executive
offices and principal place of business)
ROY G. WARREN, CHIEF EXECUTIVE OFFICER
BRAVO! BRANDS INC.
11300 US HIGHWAY 1
NORTH PALM BEACH, FLORIDA 33408
(561) 625-1411
(Name, address and telephone number of agent for service)
Copies to:
MARC ROSS, ESQ.
STEPHEN FLEMING, ESQ.
SICHENZIA ROSS FRIEDMAN FERENCE LLP
1065 AVENUE OF THE AMERICAS, 21ST FLR.
NEW YORK, NEW YORK 10018
(212) 930-9700 (212) 930-9725 (FAX)
APPROXIMATE DATE OF PROPOSED SALE TO THE PUBLIC:
From time to time after this Registration Statement becomes effective.
If any securities being registered on this Form are to be offered on a delayed
or continuous basis pursuant to Rule 415 under the Securities Act of 1933, other
than securities offered only in connection with dividend or interest
reinvestment plans, check the following box: |X|
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. ________
If this Form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. _________
If this Form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. _________
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. _________
ii
CALCULATION OF REGISTRATION FEE
-------------------------------------------------------------------------------------------------------------
PROPOSED
MAXIMUM PROPOSED
OFFERING MAXIMUM
TITLE OF EACH CLASS OF AMOUNT TO BE PRICE PER AGGREGATE AMOUNT OF
SECURITIES TO BE REGISTERED REGISTERED (1) SHARE OFFERING PRICE REGISTRATION FEE
-------------------------------------------------------------------------------------------------------------
Shares of common stock 1,750,000 $0.25(2) $437,500.00 $51.49
-------------------------------------------------------------------------------------------------------------
Shares of common stock 105,468,750 $0.25(2) $26,367,187.50 $3,103.42
issuable upon conversion of
convertible notes
-------------------------------------------------------------------------------------------------------------
Shares of common stock 151,836,295 $0.25(2) $37,959,073.75 $4,467.78
issuable upon exercise of
warrants
-------------------------------------------------------------------------------------------------------------
Total 259,055,045 $7,622.69
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(1) Includes shares of our common stock, par value $0.001 per share, which may
be offered pursuant to this registration statement, which shares are currently
outstanding or issuable upon the conversion of senior convertible notes or
exercise of warrants held by the selling stockholders. In addition to the shares
set forth in the table, the amount to be registered includes an indeterminate
number of shares issuable upon exercise of the warrants as such number may be
adjusted as a result of stock splits, stock dividends and similar transactions
in accordance with Rule 416. Should a decrease in the exercise price for our
warrants or conversion price for our senior convertible notes as a result of an
issuance or sale of shares below the then current market price, result in our
having insufficient shares, we will not rely upon Rule 416, but will file a new
registration statement to cover the resale of such additional shares should that
become necessary.
(2) Estimated solely for purposes of calculating the registration fee in
accordance with Rule 457(c) under the Securities Act of 1933, using the average
of the high and low price as reported on the Over-The-Counter Bulletin Board on
December 28, 2006, which was $0.25 per share.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A),
MAY DETERMINE.
iii
PRELIMINARY PROSPECTUS SUBJECT TO COMPLETION, DATED DECEMBER 29, 2006
BRAVO! BRANDS INC.
259,055,045 SHARES OF
COMMON STOCK
This prospectus relates to the resale by the selling stockholders up to
259,055,045 shares of our common stock, including the following:
o 1,750,000 shares of our common stock;
o up to 105,468,750 shares of common stock issuable upon the
conversion of senior convertible notes at a conversion price
of $0.32;
o up to 28,295,167 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.34 per
share;
o up to 105,468,750 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.34 per
share which are exercisable by their respective holders only
if we exercise our option to redeem all or part of the
outstanding principal of our senior convertible notes. Upon
such optional redemption, the holders of these common stock
purchase warrants can exercise such common stock purchase
warrants up to an amount equal to that number of common shares
into which the principal redeemed could have been converted
absent such redemption;
o up to 2,205,881 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.34 per
share;
o up to 14,866,497 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.32 per
share; and
o up to 1,000,000 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.25 per
share.
The selling stockholders may sell common stock from time to time in the
principal market on which the stock is traded at the prevailing market price or
in negotiated transactions. The selling stockholders may be deemed underwriters
of the shares of common stock, which they are offering. We will pay the expenses
of registering these shares.
Our common stock is registered under Section 12(g) of the Securities
Exchange Act of 1934 and is listed on the Over-The-Counter Bulletin Board under
the symbol "BRVO". The last reported sales price per share of our common stock
as reported by the Over-The-Counter Bulletin Board on December 28, 2006, was
$0.28.
INVESTING IN THESE SECURITIES INVOLVES SIGNIFICANT RISKS. SEE "RISK
FACTORS" BEGINNING ON PAGE 4.
Neither the Securities and Exchange Commission nor any state securities
commission has approved or disapproved of these securities or determined if this
Prospectus is truthful or complete. Any representation to the contrary is a
criminal offense.
The date of this prospectus is _______, 2006.
The information in this Prospectus is not complete and may be changed.
This Prospectus is included in the Registration Statement that was filed by
Bravo! Brands Inc., with the Securities and Exchange Commission. The selling
stockholders may not sell these securities until the registration statement
becomes effective. This Prospectus is not an offer to sell these securities and
is not soliciting an offer to buy these securities in any state where the sale
is not permitted.
1
PROSPECTUS SUMMARY
The following summary highlights selected information contained in this
prospectus. This summary does not contain all the information you should
consider before investing in the securities. Before making an investment
decision, you should read the entire prospectus carefully, including the "risk
factors" section, the financial statements and the notes to the financial
statements.
BRAVO! BRANDS INC.
We are involved in the development and marketing of our Slammers(R) and
Bravo!(TM) trademarked brands, the obtaining of license rights from third party
holders of intellectual property rights to other trademarked brands, logos and
characters, and the granting of production and marketing rights to processor
dairies to produce branded flavored milk and generating revenue through the sale
of "kits" to these dairies outside of the United States and through wholesale
sales within the United States. The price of the "kits" consists of an invoiced
price for a fixed amount of flavor ingredients per kit used to produce the
flavored milk and a fee charged to the dairies for the production, promotion and
sales rights for the branded flavored milk. In the United States, we also
generate revenue from the unit sales of finished branded flavored milks to
retail consumer outlets.
Our new product introduction and growth expansion continue to be expensive
and we reported a net loss of $79,528,653 for the year ended December 31, 2005
and a net loss of $11,517,620 for the year ended December 31, 2004. In addition,
we had a net loss of $16,455,233 for the nine months ended September 30, 2006.
We have suffered operating losses and negative cash flows from operations since
inception and, at December 31, 2005, we had an accumulated deficit, a capital
deficit, are delinquent on certain debts and have negative working capital.
These conditions give rise to substantial doubt about our ability to continue as
a going concern.
Our principal offices are located at 11300 US Highway 1, North Palm Beach,
Florida 33408, and our telephone number is (561) 625-1411. We are a Delaware
corporation.
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The Offering
----------------------------------------------------------------------------------------------------------------------
Common stock offered by selling stockholders Up to 259,055,045 shares, assuming the exercise of warrants and
conversion of secured convertible notes being registered
herewith including:
o 1,750,000 shares of our common stock;
o up to 105,468,750 shares of common stock issuable upon the
conversion of senior convertible notes at a conversion price
of $0.32;
o up to 28,295,167 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.34 per
share;
o up to 105,468,750 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.34 per
share which are exercisable by their respective holders only
if we exercise our option to redeem all or part of the
outstanding principal of our senior convertible notes. Upon
such optional redemption, the holders of these common stock
purchase warrants can exercise such common stock purchase
warrants up to an amount equal to that number of common shares
into which the principal redeemed could have been converted
absent such redemption;
o up to 2,205,881 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.34 per
share
o up to 14,866,497 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.32 per
share; and
o up to 1,000,000 shares issuable upon the exercise of common
stock purchase warrants at an exercise price of $0.25 per
share.
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2
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Common stock to be outstanding after the offering Up to 354,265,823 shares (1)
----------------------------------------------------------------------------------------------------------------------
Use of Proceeds We will not receive any proceeds from the sale of the
common stock
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Over-The-Counter Bulletin Board Symbol BRVO
----------------------------------------------------------------------------------------------------------------------
(1) The above information regarding common stock to be outstanding after
the offering is based on 202,429,528 shares of common stock outstanding as of
December 28, 2006 and assumes the issuance of up to 153,586,295 shares of common
stock upon the exercise of common stock purchase warrants and conversion of
secured convertible notes being registered herewith. As noted above, 105,468,750
of the shares issuable upon exercise of common stock purchase warrants are only
exercisable by their respective holders only if we exercise our option to redeem
all or part of the outstanding principal of the secured convertible notes, Upon
such optional redemption, the holders of the common stock purchase warrants can
exercise such warrants up to an amount equal to that number of common shares
into which the principal redeemed could have been converted absent such
redemption. As such, the 105,468,750 shares of common stock issuable upon the
conversion of senior convertible notes at a conversion price of $0.32 and the
105,468,750 shares issuable upon the exercise of common stock purchase warrants
at an exercise price of $0.34 per share will never be outstanding concurrently.
We are registering shares of our common stock on this registration
statement that have been issued or are issuable in connection with the following
transactions:
July 2006 Financing
On July 26, 2006, we entered into a Securities Purchase Agreement with
five accredited institutional investors, for the issuance and sale of $30
million in senior convertible notes that are due in January 2010. Under the
terms of the financing, we sold $30 million in senior convertible notes, of
which $15 million (the "Initial Notes") were released upon closing and $15
million (the "Additional Notes") were released from escrow in November 2006. The
Initial Notes carry a 9% annual coupon, payable quarterly, and were initially
convertible into shares of common stock at $0.70 per share. The Additional Notes
carry a 9% annual coupon, payable quarterly, and were initially convertible into
shares of common stock at $0.70 per share and then subsequently to $0.51 per
share. In addition, the Additional Notes also provide that, from and after
October 10, 2006 through December 15, 2006, the holder may require us to redeem
at such holder's option any portion of the holder's Additional Note in cash at a
price equal to 125% of the amount redeemed (the "Holder Optional Redemption").
In the event that such holder does not exercise the Holder Optional Redemption,
the holder's right to any such optional redemptions shall terminate; provided,
however, that once a holder delivers such a request, its right to deliver a
subsequent request shall terminate.
We also issued to the investors series A warrants to purchase 13,178,571
shares of common stock initially exercisable at $0.73 per share (the "Series A
Warrants") that expire in July 2011 and series B warrants to purchase 43,392,856
shares of common stock initially exercisable at $0.73 per share (the "Series B
Warrants") that expire in July 2011. We have the option to redeem the Initial
Notes and the Amended Notes at a date earlier than maturity (the "Company
Redemption"). If we exercise the Company Redemption, the holders will have the
right to exercise the Series B Warrants and receive common shares to which these
contingent warrants are indexed. Absent our exercise of the Company Redemption
to redeem the Initial Notes and/or the Additional Notes, the holders have no
right to exercise the Series B Warrants.
Pursuant to a Registration Rights Agreement between our company and the
investors, also dated July 26, 2006, we agreed to prepare and file a
registration statement covering the resale of the shares issuable upon the
conversion of the senior convertible notes and exercise of the warrants. We
agreed to file this resale registration statement by the later to occur of (i)
August 26, 2006 and (ii) 15 days following the effectiveness of the Form SB-2
filed by our company on December 21, 2005, but in no event later than October
10, 2006. If, among other things, (a) we fail to file the resale registration
statement within the period described above, which we were unable to do, or (b)
we fail to cause the resale registration statement to be effective by the SEC
within 60 days following the date we file the resale registration statement, or
within 90 days, if there is a review of the resale registration statement by the
SEC, we will be obligated to pay to each investor, as partial relief, on the
date of such failure, an amount in cash equal to .75% of the aggregate purchase
price paid by such investor for the notes and the warrants. We will be further
obligated to pay, as partial relief, an amount in cash equal to 1.5% of the
aggregate purchase price paid by such investor for the notes and the warrants on
every thirtieth day that such failure continues (prorated for partial periods).
On August 31, 2006, we entered into Amendment Agreements with respect to
the July 26, 2006 $30 million senior convertible notes transaction described
above. Pursuant to the Amendment Agreements, the investors each agreed to
release us from the events of default that occurred under the terms of the
Initial Notes and Additional Notes as a result of our late filing of our Form
10-QSB for the quarterly period ended June 30, 2006. We agreed, in consideration
for such releases, to exchange the Additional Notes for amended and restated
notes (the "Amended and Restated Notes").
The terms of the Amended and Restated Notes differ from the terms of the
Additional Notes in certain regards. The conversion price applicable was reduced
from $0.70 to $0.51. We also granted the Holder Optional Redemption as discussed
above.
On December 29, 2006, we entered into Amendment and Exchange Agreements
(the "December Amendment") with these investors. Pursuant to the December
Amendment, each of the investors agreed to release our company from the events
of default that occurred under the terms of the Initial Notes and Additional
Notes as a result of our late filing of its Form 10-QSB for the quarterly period
ended June 30, 2006. Each of the investors waived any events of default in the
Amended and Restated Additional Notes relating to our failure to pay the Holder
Optional Redemption. Further, we agreed to capitalize the $3,750,000 redemption
premium (which represents a 25% premium on the $15,000,000 principal amount of
the Additional Notes) with respect to the investors' right to compel redemption
pursuant to the Holder Redemption. Also, in connection with the December
Amendment, the investors' right to compel redemption by exercise of the Holder
Redemption has been terminated.
In consideration for each of the investors entering into the December
Amendment, we agreed to amend and restate the terms of the Initial Notes, the
Additional Notes, the Series A Warrants and the Series B Warrants. The
conversion price of the Initial Notes and the Additional Notes has been reduced
to $0.32. The exercise price of the Series A Warrants and the Series B Warrants
was reduced to $0.34.
3
This prospectus relates to the resale of the shares of common stock to be
issued upon conversion of the senior convertible notes and exercise of common
stock purchase warrants described above.
November 2005 Financing
On November 28, 2005, we closed a funding transaction with 13 accredited
institutional investors, for the issuance and sale of common stock for a
purchase price of $20,250,000. We also issued five-year warrants for the
purchase of an additional 15,187,500 shares of common stock at an exercise price
of $0.51 per share to these investors. In addition, in July 2006, we entered
into a letter agreement with each of the accredited institutional investors
pursuant to which we issued additional five-year warrants to purchase an
aggregate of 8,809,276 shares of common stock exercisable at an exercise price
of $0.51 per share (the "Additional November 2005 Warrants") as a result of the
trigger of certain anti-dilution provisions. In December 2006, as a result of
the anti dilution provisions being triggered, the number of shares exercisable
upon exercise of the Additional November 2005 Warrants was increased to
14,318,478 and the exercise price was adjusted to $0.32. In addition, we issued
common stock purchase warrants to purchase 437,500 shares of common stock,
exercisable at a price of $0.32 per share, to two finders (the "Finders
Warrants"). This prospectus relates to the resale of the shares of common stock
underlying the Additional November 2005 Warrants and the Finders Warrants.
New Century Capital
On March 15, 2005, we entered into a consulting agreement with New Century
Capital, Inc. ("New Century") pursuant to which New Century provided us with
business and marketing development services. In consideration for providing such
services, we issued New Century 2,500,000 shares of common stock and a common
stock purchase warrant to purchase 1,000,000 shares of common stock at an
exercise price of $0.25 per share. This prospectus relates to the resale of
1,750,000 shares of common stock and 1,000,000 shares of common stock underlying
the warrants.
4
RISK FACTORS
This investment has a high degree of risk. Before you invest you should
carefully consider the risks and uncertainties described below and the other
information in this prospectus. If any of the following risks actually occur,
our business, operating results and financial condition could be harmed and the
value of our stock could go down. This means you could lose all or a part of
your investment.
RISKS RELATING TO OUR BUSINESS:
WE HAVE A HISTORY OF LOSSES WHICH MAY CONTINUE, REQUIRING US TO SEEK ADDITIONAL
SOURCES OF CAPITAL WHICH MAY NOT BE AVAILABLE, REQUIRING US TO CURTAIL OR CEASE
OPERATIONS.
Our new product introduction and growth expansion continue to be
expensive, and we reported a net loss of $79,528,653 for the year ended December
31, 2005 and a net loss of $11,517,620 for the year ended December 31, 2004. In
addition, we had a net loss of $16,455,233 for the nine months ended September
30, 2006. We cannot assure you that we can achieve or sustain profitability on a
quarterly or annual basis in the future. If revenues grow more slowly than we
anticipate, or if operating expenses exceed our expectations or cannot be
adjusted accordingly, we will continue to incur losses. We will continue to
incur losses until we are able to establish significant sales. Our possible
success is dependent upon the successful development and marketing of our
services and products, as to which there is no assurance. Any future success
that we might enjoy will depend upon many factors, including factors out of our
control or which cannot be predicted at this time. These factors may include
changes in or increased levels of competition, including the entry of additional
competitors and increased success by existing competitors, changes in general
economic conditions, increases in operating costs, including costs of supplies,
personnel, marketing and promotions, reduced margins caused by competitive
pressures and other factors. These conditions may have a materially adverse
effect upon us or may force us to reduce or curtail operations. In addition, we
will require additional funds to sustain and expand our sales and marketing
activities, particularly if a well-financed competitor emerges. While we closed
on $20,250,000 in new equity financing in November 2005, after the payment of
approximately $1.5 million in fees and expenses, we allocated approximately $1.7
million of the net proceeds for the payment of a finders fee in connection with
our execution of a Master Distribution Agreement with Coca-Cola Enterprises Inc.
and approximately $5.4 million for the redemption of approximately 30.3 million
warrants, and have allocated approximately $11.7 million for general working
expenses. In addition, in August 2006, we completed a $30.0 million convertible
note financing that is expected to fulfill our liquidity requirements through
the end of 2006. We have entered into an Amendment Agreement with the holders of
the convertible notes to amend the convertible notes in certain respects as
consideration for the holders' release of our default resulting from our delay
in the filing of our quarterly report for the period ended June 30, 2006. There
can be no assurance that these financings will be adequate for the development
and marketing of our services and products at a level that provides sufficient
profitability for sustained growth. If the present funds prove sufficient and we
are unable to generate adequate funds from operations or external sources, we
would be required to curtail or cease operations.
IF WE ARE UNABLE TO ACHIEVE AND SUSTAIN PROFITABILITY, OUR BUSINESS OPERATIONS
WILL BE HARMED AND IF WE OBTAIN ADDITIONAL FINANCING OUR THEN EXISTING
SHAREHOLDERS MAY SUFFER SUBSTANTIAL DILUTION.
Additional capital may be required to effectively support the operations
and to otherwise implement our overall business strategy. However, there can be
no assurance that financing will be available when needed on terms that are
acceptable to us. The inability to obtain additional capital will restrict our
ability to grow and may reduce our ability to continue to conduct business
operations. If we are unable to obtain additional financing, we will likely be
required to curtail our marketing and development plans and possibly cease our
operations. Any additional equity financing may involve substantial dilution to
our then existing shareholders.
OUR INDEPENDENT AUDITORS HAVE EXPRESSED SUBSTANTIAL DOUBT ABOUT OUR ABILITY TO
CONTINUE AS A GOING CONCERN, WHICH MAY HINDER OUR ABILITY TO OBTAIN FUTURE
FINANCING.
In their report dated February 9, 2006, except for Note 13 as to which the
date is September 8, 2006, our independent auditors stated that our financial
statements for the year ended December 31, 2005 were prepared assuming that we
would continue as a going concern. Our ability to continue as a going concern is
an issue raised as a result of a net loss for the year ended December 31, 2005
in the amount of $79,528,653 as well as a significant working capital deficiency
as of that date. We continue to experience net operating losses. Our ability to
continue as a going concern is subject to our ability to generate a profit
and/or obtain necessary funding from outside sources, including obtaining
additional funding from the sale of our securities, increasing sales or
obtaining loans and grants from various financial institutions where possible.
Our continued net operating losses increase the difficulty in meeting such
goals, and there can be no assurances that such methods will prove successful.
5
SINCE WE DEPEND UPON KEY PERSONNEL HAVING SIGNIFICANT BUSINESS CONTACTS IN THE
US AND INTERNATIONALLY, THE LOSS OF ONE OR MORE OF OUR MANAGEMENT TEAM MAY HAVE
A NEGATIVE EFFECT ON OUR BUSINESS.
The unexpected loss of the services of any member of the management team could
have a material adverse effect on our ability to conduct and grow both our US
and international business. We are and will be dependent on our current
management teams for the foreseeable future
o to obtain needed additional financing
o to develop and maintain critical business contacts for the
production of our branded milk products
o to develop and maintain third party licensor and brand
development contacts for the formulation of new brand
development and branded food products
WE FACE INTENSE COMPETITION IN OUR US MARKET THAT COULD NEGATIVELY IMPACT OUR
RESULTS OF OPERATIONS
Since we are smaller than our competitors in the US market and since we
have limited resources and sell our branded products at premium prices, we have
had difficulty in developing and maintaining our market share in the consumer
milk market. This difficulty could adversely affect our ability to achieve our
business goals to develop and increase the awareness of our branded products in
an effort to increase sales, while maintaining a premium price structure.
The ability of our competition to sell dairy and other food products at
prices below prices charged by us for our products may represent an obstacle to
our ability to secure a market share at revenue levels sufficient to achieve
profitability.
In our foreign business, we grant the rights to produce and sell branded
milk products to processor dairies under production agreements. Our role in
these agreements, in addition to granting the rights to produce the branded
milks as part of the sale of flavor ingredient packages to dairies, is limited
to marketing and promotion assistance and control over packaging and advertising
design issues. Such processor dairies have significant control over sales and
distribution of the branded milk products. A reduction in sales effort or
discontinuance of sales of our products by our co-producers could lead to
reduced sales.
RISKS RELATING TO CONVERTIBLE PREFERRED AND CONVERTIBLE DEBENTURE FINANCING
ARRANGEMENT:
THERE ARE A LARGE NUMBER OF SHARES UNDERLYING OUR CONVERTIBLE DEBENTURES AND
WARRANTS THAT MAY BE AVAILABLE FOR FUTURE SALE AND THE SALE OF THESE SHARES MAY
DEPRESS THE MARKET PRICE OF OUR COMMON STOCK.
As of December 28, 2006, we had 202,429,528 shares of common stock issued
and outstanding and convertible debentures outstanding that may be converted
into an estimated 7,500,000 shares of common stock at below market prices,
convertible preferred outstanding that may be converted into an estimated
31,400,000 shares of common stock at below market prices outstanding warrants to
purchase an estimated 40,100,000 shares of common stock and options to purchase
approximately 8,600,000 shares of common stock. All of the shares, including all
of the shares issuable upon conversion of the debentures and upon exercise of
our warrants, may be sold pursuant to a currently effective registration
statement or pursuant to Rule 144. The sale of these shares may adversely affect
the market price of our common stock.
THE ISSUANCE OF SHARES UPON CONVERSION OF THE CONVERTIBLE DEBENTURES AND
EXERCISE OF OUTSTANDING WARRANTS MAY CAUSE IMMEDIATE AND SUBSTANTIAL DILUTION TO
OUR EXISTING STOCKHOLDERS.
6
The issuance of shares upon conversion of the convertible debentures and
exercise of warrants may result in substantial dilution to the interests of
other stockholders since the selling stockholders may ultimately convert and
sell the full amount issuable on conversion. Although the debenture holders may
not convert their convertible debentures and/or exercise their warrants if such
conversion or exercise would cause them to own more than 9.99% of our
outstanding common stock, this restriction does not prevent the selling
stockholders from converting and/or exercising some of their holdings, selling
these shares and then converting the rest of their holdings. In this way, the
debenture holders could sell more than this limit while never holding more than
this limit.
IF WE ARE REQUIRED FOR ANY REASON TO REPAY OUR OUTSTANDING CONVERTIBLE
DEBENTURES, WE WOULD BE REQUIRED TO DEPLETE OUR WORKING CAPITAL, IF AVAILABLE,
OR RAISE ADDITIONAL FUNDS. OUR FAILURE TO REPAY THE CONVERTIBLE DEBENTURES, IF
REQUIRED, COULD RESULT IN LEGAL ACTION AGAINST US, WHICH COULD REQUIRE THE SALE
OF SUBSTANTIAL ASSETS.
In November 2003, April 2004, June 2004, October 2004, December 2004,
January 2005, April 2005, and July 2006, we entered into financing arrangements
for the sale of convertible debentures. Currently, the remaining unpaid
principal of the issued notes is $30,350,000, with approximately $131,312 in
accrued interest.
Any event of default could require the early repayment of the convertible
debentures, including a default interest rate if the default is not cured with
the specified grace period. We anticipate that the majority of the convertible
debentures, together with accrued interest, will be converted into shares of our
common stock, in accordance with the terms of the convertible debentures. If we
are required to repay the convertible debentures, we would be required to use
our working capital or raise additional funds. If we were unable to repay the
debentures when required, the debenture holders could commence legal action
against us to recover the amounts due. Any such action may require us to obtain
additional financing or curtail operations.
RISKS RELATING TO OUR COMMON STOCK:
IF WE FAIL TO REMAIN CURRENT ON OUR REPORTING REQUIREMENTS, WE COULD BE REMOVED
FROM THE OTC BULLETIN BOARD WHICH WOULD LIMIT THE ABILITY OF BROKER-DEALERS TO
SELL OUR SECURITIES AND THE ABILITY OF STOCKHOLDERS TO SELL THEIR SECURITIES IN
THE SECONDARY MARKET.
Companies trading on the OTC Bulletin Board, such as us, must be reporting
issuers under Section 12 of the Securities Exchange Act of 1934, as amended, and
must be current in their reports under Section 13, in order to maintain price
quotation privileges on the OTC Bulletin Board. If we fail to remain current on
our reporting requirements, we could be removed from the OTC Bulletin Board. As
a result, the market liquidity for our securities could be severely adversely
affected by limiting the ability of broker-dealers to sell our securities and
the ability of stockholders to sell their securities in the secondary market.
OUR COMMON STOCK IS SUBJECT TO THE "PENNY STOCK" RULES OF THE SEC AND THE
TRADING MARKET IN OUR SECURITIES IS LIMITED, WHICH MAKES TRANSACTIONS IN OUR
STOCK CUMBERSOME AND MAY REDUCE THE VALUE OF AN INVESTMENT IN OUR STOCK.
The Securities and Exchange Commission has adopted Rule 15g-9 which
establishes the definition of a "penny stock," for the purposes relevant to us,
as any equity security that has a market price of less than $5.00 per share or
with an exercise price of less than $5.00 per share, subject to certain
exceptions. For any transaction involving a penny stock, unless exempt, the
rules require:
o that a broker or dealer approve a person's account for
transactions in penny stocks; and
o the broker or dealer receive from the investor a written
agreement to the transaction, setting forth the identity and
quantity of the penny stock to be purchased.
In order to approve a person's account for transactions in penny stocks, the
broker or dealer must:
o obtain financial information and investment experience
objectives of the person; and
o make a reasonable determination that the transactions in penny
stocks are suitable for that person and the person has
sufficient knowledge and experience in financial matters to be
capable of evaluating the risks of transactions in penny
stocks.
7
The broker or dealer must also deliver, prior to any transaction in a penny
stock, a disclosure schedule prescribed by the Commission relating to the penny
stock market, which, in highlight form:
o sets forth the basis on which the broker or dealer made the
suitability determination; and
o that the broker or dealer received a signed, written agreement
from the investor prior to the transaction.
Generally, brokers may be less willing to execute transactions in securities
subject to the "penny stock" rules. This may make it more difficult for
investors to dispose of our common stock and cause a decline in the market value
of our stock.
Disclosure also has to be made about the risks of investing in penny
stocks in both public offerings and in secondary trading and about the
commissions payable to both the broker-dealer and the registered representative,
current quotations for the securities and the rights and remedies available to
an investor in cases of fraud in penny stock transactions. Finally, monthly
statements have to be sent disclosing recent price information for the penny
stock held in the account and information on the limited market in penny stocks.
8
USE OF PROCEEDS
This prospectus relates to shares of our common stock that may be offered
and sold from time to time by the selling stockholders. We will not receive any
proceeds from the sale of shares of common stock in this offering. In the event
that we receive proceeds from the exercise of the Class A, Class B Warrants and
other warrants, we will use these funds for working capital.
MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Our common stock is quoted on the OTC Bulletin Board under the symbol
"BRVO".
For the periods indicated, the following table sets forth the high and low
bid prices per share of common stock. These prices represent inter-dealer
quotations without retail markup, markdown, or commission and may not
necessarily represent actual transactions.
High Low
------------------------------------------------------ ------ -----
2004
First Quarter .17 .06
Second Quarter .34 .14
Third Quarter .27 .13
Fourth Quarter .22 .09
2005
First Quarter .18 .10
Second Quarter 1.21 .14
Third Quarter 1.43 .51
Fourth Quarter .80 .47
2006
First Quarter .74 .54
Second Quarter .81 .50
Third Quarter .62 .39
Fourth Quarter* .52 .25
----------
* Through December 28, 2006
HOLDERS
EQUITY HOLDERS AT DECEMBER 28, 2006
Common stock 202,429,528 shares 7,200 holders (approximate)
Series B preferred stock 107,440 shares 1 holder
Series H preferred stock 64,500 shares 1 holder
Series J preferred stock 200,000 shares 1 holder
Series K preferred stock 95,000 shares 1 holder
Dividends
9
We have not paid dividends on our common stock and do not anticipate
paying dividends. Management intends to retain future earnings, if any, to
finance working capital, to expand our operations and to pursue our acquisition
strategy.
The holders of common stock are entitled to receive, pro rata, such
dividends and other distributions as and when declared by our board of directors
out of the assets and funds legally available therefor. The availability of
funds is dependent upon dividends or distribution of profits from our
subsidiaries and may be subject to regulatory control and approval by the
appropriate government authorities on either a regional or national level.
We have dividends in arrearage for our convertible preferred stock in the
amount of $1,240,682 and $928,379 as of the years ended December 31, 2005 and
2004, respectively.
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The equity compensation reported in this section has been and will be
issued pursuant to individual compensation contracts and arrangements with
employees, directors, consultants, advisors, vendors, suppliers, lenders and
service providers. The equity is reported on an aggregate basis as of December
31, 2005. Our security holders have not approved the compensation contracts and
arrangements underlying the equity reported.
----------------------------------------------------------------------------------------------------------------------
Number of securities
to be issued upon Weighted average price Number of securities remaining for
exercise of options, of outstanding options, future issuance under equiyt
Compensation Plan Category warrants and rights warrants and rights compensation plans
----------------------------------------------------------------------------------------------------------------------
Directors (former) 325,000 $0.71 0 individual plans
Employees (former) 650,000 $0.87 60,000 individual plans
Directors/Management & 8,872,745 $0.245 1,475,000 2005 Stock Option
Employees Incentive Plan(1)
Consultants 510,714 $0.30 0 individual plans
----------------------------------------------------------------------------------------------------------------------
Total 10,358,459 $0.77 1,535,000
----------------------------------------------------------------------------------------------------------------------
On April 6, 2005, our Directors voted to adopt a Stock Option Incentive Plan for
the grant of option to directors, employees and consultants for the purchase of
up to 10,397,745 shares of our common stock. On May 12, 2005, the Board of
Directors accepted and adopted the determination of the Compensation Committee
to grant options for 8,922,745 shares of common stock`4 to our employees,
directors and certain consultants. The ten-year options vest over a period of
eighteen months and have exercise prices varying from $0.20 per share to $0.30
per share, with a weighted average exercise price of $0.24 per share.
10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Some of the information in this Form SB-2 contains forward-looking
statements that involve substantial risks and uncertainties. You can identify
these statements by forward-looking words such as "may," "will," "expect,"
"anticipate," "believe," "estimate" and "continue," or similar words. You should
read statements that contain these words carefully because they:
o discuss our future expectations;
o contain projections of our future results of operations or of
our financial condition; and
o state other "forward-looking" information.
We believe it is important to communicate our expectations. However, there
may be events in the future that we are not able to accurately predict or over
which we have no control. Our actual results and the timing of certain events
could differ materially from those anticipated in these forward-looking
statements as a result of certain factors, including those set forth under "Risk
Factors," "Business" and elsewhere in this prospectus. See "Risk Factors."
OVERVIEW
Our business model includes the development and marketing of our Company
owned Slammers(R) and Bravo!(TM) trademarked brands, the obtaining of license
rights from third party holders of intellectual property rights to other
trademarked brands, logos and characters and the production of our branded
flavored milk drinks through third party processors. In the United States and
the United Kingdom, we generate revenue from the unit sales of finished branded
flavored milk drinks to retail consumer outlets. We generate revenue in our
Middle East business through the sale of "kits" to these dairies. The price of
the "kits" consists of an invoiced price for a fixed amount of flavor
ingredients per kit used to produce the flavored milk and a fee charged to the
dairy processors for the production, promotion and sales rights for the branded
flavored milk.
Our business in the United Kingdom started at the end of the second
quarter of 2005. Our UK business has not been profitable owing to the
difficulties encountered in initial market penetration with new products
introduced in the last half of 2005 through the first half of 2006. In the
current period we had a negative gross margin for our UK operations. We are
examining other distribution alternatives in the UK and, while we are making
this determination, we have curtailed our production of inventory necessary to
maintain a normal supply pipeline.
We had a net loss for the nine months ended September 30, 2006 of
$16,455,233 compared with a net loss of $63,419,214 for the same period in 2005.
The magnitude of both the 2006 and 2005 net loss is the result of our recording
changes in derivative expense on the consolidated statement of operations.
RESTATEMENT DISCLOSURE
We have restated our annual report on Form 10-KSB for the year ended
December 31, 2005 and our quarterly reports on Form 10-QSB for the quarterly
periods ended March 31, 2006 and June 30, 2006. We have also restated the
quarterly and year-to-date results for September 30, 2005 in the accompanying
financial presentations for comparative purposes.
CORPORATE GOVERNANCE
The Board of Directors
Our board has positions for seven directors that are elected as Class A or
Class B directors at alternate annual meetings of our shareholders. Six of the
seven current directors of our board are independent. Our chairman and chief
executive officer are separate. The board meets regularly either in person or by
telephonic conference at least four times a year, and all directors have access
to the information necessary to enable them to discharge their duties. The
board, as a whole, and the audit committee in particular, review our financial
condition and performance on an estimated vs. actual basis and financial
projections as a regular agenda item at scheduled periodic board meetings, based
upon separate reports submitted by our Chief Executive Officer and Chief
Accounting Officer. Our shareholders elect directors after nomination by the
board, or the board appoints directors when a vacancy arises prior to an
election. This year we have adopted a nomination procedure based upon a rotating
nomination committee made up of those members of the director Class not up for
election. The board presently is examining whether this procedure, as well as
the make up of the audit and compensation committees, should be the subject of
an amendment to the by-laws.
11
Audit Committee
Our audit committee is composed of three independent directors and
functions to assist the board in overseeing our accounting and reporting
practices. Our financial information is recorded in house by our Chief
Accounting Officer's office, from which we prepare financial reports. Lazar
Levine & Felix LLP, independent registered public accountants and auditors,
audit or review these financial reports. Our Chief Accounting Officer reviews
the preliminary financial and non-financial information prepared in house with
our securities counsel and controller. The committee reviews
the preparation of our audited and unaudited periodic financial reporting and
internal control reports prepared by our Chief Accounting Officer. The committee
reviews significant changes in accounting policies and addresses issues and
recommendations presented by our internal accountants as well as our auditors.
Compensation Committee
Our compensation committee is composed of three independent directors and
reviews the compensation structure and policies concerning executive
compensation. The committee develops proposals and recommendations for executive
compensation and presents those recommendations to the full board for
consideration. The committee periodically reviews the performance of our other
members of management and the recommendations of the chief executive officer
with respect to the compensation of those individuals. Given the size of our
company, the board periodically reviews all such employment contracts. The board
must approve all compensation packages that involve the issuance of our stock or
stock options.
Nominating Committee
The nominating committee was established in the second quarter 2002 and
consists of those members of the director Class not up for election. The
committee is charged with determining those individuals who will be presented to
the shareholders for election at the next scheduled annual meeting. The full
board fills any mid term vacancies by appointment.
CRITICAL ACCOUNTING POLICIES
Estimates
This discussion and analysis of our consolidated financial condition and
results of operations are based on our consolidated financial statements, which
have been prepared in accordance with accounting principles for interim reports
that are generally accepted in the United States of America. The preparation of
financial statements in conformity with accounting principles generally accepted
in the United States of America requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Among the more significant estimates included in our financial
statements are the following:
- Estimating future bad debts on accounts receivable that are
carried at net realizable values.
- Estimating our reserve for unsalable and obsolete inventories
that are carried at lower of cost or market.
- Estimating the fair value of our financial instruments that
are required to be carried at fair value.
- Estimating the recoverability of our long-lived assets.
12
We use all available information and appropriate techniques to develop our
estimates. However, actual results could differ from our estimates.
Revenue Recognition and Accounts Receivable
Our revenues are derived from the sale of branded milk products to
customers in the United States of America, Great Britain and the Middle East.
Geographically, our revenues are dispersed 99% and 1% between the United States
of America and internationally, respectively. We currently have one customer in
the United States that provided 79% and 0% of our revenue during the nine months
ended September 30, 2006 and 2005, respectively.
Revenues are recognized pursuant to formal revenue arrangements with our
customers, at contracted prices, when our product is delivered to their premises
and collectibility is reasonably assured. We extend merchantability warranties
to our customers on our products but otherwise do not afford our customers with
rights of return. Warranty costs have historically been insignificant.
Our revenue arrangements often provide for industry-standard slotting fees
where we make cash payments to the respective customer to obtain rights to place
our products on their retail shelves for stipulated period of time. We also
engage in other promotional discount programs in order to enhance our sales
activities. We believe our participation in these arrangements is essential to
ensuring continued volume and revenue growth in the competitive marketplace.
These payments, discounts and allowances are recorded as reductions to our
reported revenue. Unamortized slotting fees are recorded in prepaid expenses.
Our accounts receivable are exposed to credit risk. During the normal
course of business, we extend unsecured credit to our customers with normal and
traditional trade terms. Typically credit terms require payments to be made by
the thirtieth day following the sale. We regularly evaluate and monitor the
creditworthiness of each customer. We provide an allowance for doubtful accounts
based on our continuing evaluation of our customers' credit risk and our overall
collection history. As of September 30, 2006 and December 31, 2005, the
allowance of doubtful accounts aggregated $447,634 and $350,000, respectively.
In addition, our accounts receivable are concentrated with one customer
who represents 39% of our accounts receivable balances at September 30, 2006.
Approximately, 6% of our accounts receivable at September 30, 2006 are due from
international customers.
Inventories
Our inventories, which consists primarily of finished goods, are stated at
the lower of cost on the first in, first-out method or market. Further, our
inventories are perishable. Accordingly, we estimate and record lower-of-cost or
market and unsalable-inventory reserves based upon a combination of our
historical experience and on a specific identification basis.
Impairment of Long-Lived Assets
Our long-lived assets consist of furniture and equipment and intangible
assets. We evaluate the carrying value and recoverability of our long-lived
assets when circumstances warrant such evaluation by applying the provisions of
Financial Accounting Standard No. 144, Accounting for the Impairment or Disposal
of Long-Lived Assets ("FAS 144"). FAS 144 requires that long-lived assets be
reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable through the
estimated undiscounted cash flows expected to result from the use and eventual
disposition of the assets. Whenever any such impairment exists, an impairment
loss will be recognized for the amount by which the carrying value exceeds the
fair value.
Financial Instruments
13
We generally do not use derivative financial instruments to hedge
exposures to cash-flow, market or foreign-currency risks. However, we frequently
enter into certain other financial instruments and contracts, such as debt
financing arrangements, redeemable preferred stock arrangements, and
freestanding warrants with features that are either (i) not afforded equity
classification, (ii) embody risks not clearly and closely related to host
contracts, or (iii) may be net-cash settled by the counterparty. As required by
FAS 133, these instruments are required to be carried as derivative liabilities,
at fair value, in our financial statements.
We estimate fair values of derivative financial instruments using various
techniques (and combinations thereof) that are considered to be consistent with
the objective measuring fair values. In selecting the appropriate technique, we
consider, among other factors, the nature of the instrument, the market risks
that it embodies and the expected means of settlement. For less complex
derivative instruments, such as freestanding warrants, we generally use the
Black Scholes option valuation technique because it embodies all of the
requisite assumptions (including trading volatility, estimated terms and risk
free rates) necessary to fair value these instruments. For complex derivative
instruments, such as embedded conversion options, we generally use the Flexible
Monte Carlo valuation technique because it embodies all of the requisite
assumptions (including credit risk, interest-rate risk and exercise/conversion
behaviors) that are necessary to fair value these more complex instruments. For
forward contracts that contingently require net-cash settlement as the principal
means of settlement, we project and discount future cash flows applying
probability-weightage to multiple possible outcomes. Estimating fair values of
derivative financial instruments requires the development of significant and
subjective estimates that may, and are likely to, change over the duration of
the instrument with related changes in internal and external market factors. In
addition, option-based techniques are highly volatile and sensitive to changes
in our trading market price which has a high-historical volatility. Since
derivative financial instruments are initially and subsequently carried at fair
values, our income will reflect the volatility in these estimate and assumption
changes.
RESULTS OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 2006 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
2005
CONSOLIDATED REVENUES
We had revenue for the nine months ended September 30, 2006 of $12,376,641, with
product costs of $10,440,374, and shipping costs of $1,154,089, resulting in a
gross margin of $782,178. Our reported revenues for the nine months ended
September 30, 2006 increased by $5,784,948, or 88%, compared to revenues of
$6,591,693 for the comparable period in 2005. This increase is the result of an
increase in market penetration and distribution, owing to the continued
implementation of our Master Distribution Agreement with Coca-Cola Enterprises
in 2006. Revenues and gross margin are net of slotting fees and promotional
discounts for the nine months ended September 30, 2006 in the amount of $491,718
compared to $330,699 for the comparable period in the prior year.
Geographically, our revenues are dispersed 99% and 1% between the United States
of America and internationally, respectively. We plan to take measures to
increase our international revenues as a percentage of our total revenues. In
addition, we currently have one customer in the United States that provided 79%
and 0% of our revenue during the nine months ended September 30, 2006 and 2005,
respectively. The loss of this customer or curtailment in business with this
customer could have a material adverse affect on our business.
CONSOLIDATED PRODUCT COSTS
We incurred product costs and shipping costs of $10,440,374 and $1,154,089,
respectively, for the nine months ended September 30, 2006. Product costs in
this period increased by $5,721,363, a 121% increase compared to $4,719,011 for
the same period in 2005. Shipping costs in this period increased $328,180, a 40%
increase compared to $825,909 for the same period in 2005. The increase in
product costs reflects an increase in revenues and the concomitant increase in
reported product costs and shipping costs associated with that increase.
CONSOLIDATED OPERATING EXPENSES
14
We incurred selling expenses of $12,874,022 for the nine months ended September
30, 2006. Our selling expenses for this period increased by $9,827,498, a 323%
increase compared to our selling expenses of $3,046,524 for the same period in
2005. The increase in selling expenses in the current period was due to the
hiring of additional sales staff and promotional charges associated with
increased revenues and our development of four new product lines. Selling
expenses also increased due to a major nationwide sales and marketing campaign
which ran during the quarter ended September 30, 2006. "Operation Milk Attack"
was aimed at educating, motivating, and building brand awareness of the Slammers
products to the CCE salesforce and to our end customers.
We incurred general and administrative expense for the nine months ended
September 30, 2006 of $7,454,344. Our general and administrative expense for
this period increased by $4,484,185, a 151% increase compared to $2,970,159 for
the same period in 2005. The increase is attributed to the building of a larger
company infrastructure, including the hiring of several new employees, which is
needed to support our current and future growth initiatives. As a percentage of
total revenue, our general and administrative expense increased from 45% in the
period ended September 30, 2005, to 60% for the current period in 2006. We plan
to reduce this expense as a percentage of revenues through revenue growth, cost
cutting efforts and the refinement of business operations.
We incurred product development expense for the nine months ended September 30,
2006 of $509,912 representing a 27% increase over product development expense
for the comparable period of the prior year. This increase resulted from the
reformulation of existing products and the development of new products under our
license agreement with General Mills.
INTEREST EXPENSE
We incurred interest expense for the nine months ended September 30, 2006 of
$1,594,860. Our interest expense decreased by $49,031, a 3% decrease compared to
$1,643,891 for the same period in 2005. The decrease was due to conversions of
debt to common stock in late 2005 that eliminated the accrual of interest
associated with that debt.
GAIN (LOSS) ON DEBT EXTINGUISHMENT
We reported a loss on debt extinguishment of $425,869 for the nine months ended
September 30, 2006, compared with a gain on debt extinguishments for the nine
months ended September 30, 2005 of $7,164. These amounts result from
modification of the terms of certain notes.
DERIVATIVE EXPENSE
Derivative expense arises from changes in the fair value of our derivative
financial instruments and, in rare instances, day-one losses when the fair value
of embedded and freestanding derivative financial instruments issued or included
in financing transactions exceed the proceeds or other basis. Derivative
financial instruments include freestanding warrants, compound embedded
derivative features that have been bifurcated from debt and preferred stock
financings. In addition, our derivative financial instruments arise from the
reclassification of other non-financing derivative and other contracts from
stockholders' equity because share settlement is not within our control while
certain variable share price indexed financing instruments are outstanding.
Our derivative income amounted to $10,958,409 for the nine months ended
September 30, 2006, compared to derivative expense of $52,518,630 for the
corresponding period of the prior year.
Changes in the fair value of compound derivatives indexed to our common stock
are significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of warrant
derivatives is significantly affected by changes in our trading stock prices.
The fair value of derivative financial instruments that are settled solely with
cash fluctuate with changes in management's weighted probability estimates
following the financing inception and are generally attributable to the
increasing probability of default events on debt and preferred stock financings.
The fair value of the warrants declined principally due to the decline in our
common stock trading price. Since these instruments are measured at fair value,
future changes in assumptions, arising from both internal factors and general
market conditions, may cause further variation in the fair value of these
instruments. Future changes in these underlying internal and external market
conditions will have a continuing effect on derivative expense associated with
our derivative financial instruments.
15
LIQUIDATED DAMAGES
During the three and nine months ended September 30, 2006, we recorded
liquidated damages expense of $225,938 and $4,784,213; none in the comparable
periods of 2005. We have entered into registration rights agreements with
certain investors that require us to file a registration statement covering
underlying indexed shares, become effective on the registration statement,
maintain effectiveness, and, in some instances, maintain the listing of the
underlying shares. Certain of these registration rights agreements require our
payment of cash penalties to the investors in the event we do not achieve the
requirements. We record estimated liquidated damages penalties as liabilities
and charges to our income when the cash penalties are probable and estimable. We
will evaluate our estimate of liquidated damages in future periods and adjust
our estimates for changes, if any, in the facts and circumstances underlying
their classification.
NET LOSS
We had a net loss for the nine months ended September 30, 2006 of $16,455,233
compared with a net loss of $63,419,214 for the same period in 2005. The
magnitude of both the 2006 and 2005 net loss is the result of our recording
changes in derivative expense on the consolidated statement of operations.
LOSS APPLICABLE TO COMMON SHAREHOLDERS
Loss applicable to common shareholders represents net loss less preferred stock
dividends and accretion of our redeemable preferred stock to redemption value
using the effective method. Diluted loss per common share reflects the assumed
conversion of all dilutive securities, such as convertible preferred stock,
convertible debt, warrants, and employee stock options.
LOSS PER COMMON SHARE
The Company's basic loss per common share for the nine months ended September
30, 2006 was $0.09, compared with a basic loss per common share for the same
period in 2005 of $0.79. Because the Company experienced net losses for all
periods presented, all potential common share conversions existing in our
financial instruments would have an antidilutive impact on earnings per share;
therefore, diluted loss per common share equals basic loss per common share for
all periods presented.
The weighted average common shares outstanding increased from 82,091,556 for the
nine months ended September 30, 2005 to 189,474,500 for the same period in 2006.
The increase is attributed primarily to conversions of our convertible debt and
preferred instruments into common shares. Potential common stock conversions
excluded from the computation of diluted earnings per share amounted to
122,567,616 and 142,611,032 for the nine month periods ending September 30, 2006
and September 30, 2005, respectively.
COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss) differs from net income (loss) for the nine months
ended September 30, 2006 and 2005 by $30,494 and ($23,649), respectively, which
represents the effects of foreign currency translation on the financial
statements of our subsidiaries denominated in foreign currencies. Our foreign
operations are currently not significant. Increases in our foreign operations
will likely increase the effects of foreign currency translation adjustments on
our financial statements.
THREE MONTHS ENDED SEPTEMBER 30, 2006 COMPARED TO THE THREE MONTHS ENDED
SEPTEMBER 30, 2005
CONSOLIDATED REVENUES
The Company had revenues for the three months ended September 30, 2006 of
$5,110,200, with product costs of $4,240,277 and shipping costs of $409,453,
resulting in a gross margin of $460,470, or 9% of sales. Our revenues for the
three months ended September 30, 2006 increased by $1,864,895, a 57% increase
compared to revenues of $3,245,305 for the three months ended September 30,
2005. The increase in revenue in the United States for the three months ended
September 30, 2006 is the result of the increased distribution of our products
through Coca-Cola Enterprises.
16
CONSOLIDATED PRODUCT COSTS
The Company incurred product costs of $4,240,277 and shipping costs of $409,453
for the three months ended September 30, 2006. Product costs for this period
increased by $1,879,393, an 80% increase compared to $2,360,884 for the three
months ended September 30, 2005. The increase in product costs and shipping
costs in the United States for the three months ended September 30, 2006 is the
result of increased revenues.
CONSOLIDATED OPERATING EXPENSES
The Company incurred selling expenses for the three months ended September 30,
2006 of $6,663,113. Selling expenses increased for the three months ended
September 30, 2006 by $5,137,169, a 337% increase compared to the selling
expenses of $1,525,944 for the three months ended September 30, 2005. The
increase in selling expenses is the result of increased sales and the "Operation
Milk Attack" campaign.
The Company incurred general and administrative expenses for the three months
ended September 30, 2006 of $4,057,823. General and administrative expenses for
the three months ended September 30, 2006 increased by $3,682,742, a 982%
increase compared to $375,081 for the same period in 2005.
INTEREST EXPENSE
The Company incurred interest expense for the three months ended September 30,
2006 of $1,163,599. Interest expense for the three months ended September 30,
2006 increased by $1,011,598, a 666% increase compared to $152,001, for the same
period in 2005. This increase was the result of interest that was accrued for
the new July 2006 convertible debt.
LIQUIDATED DAMAGES
During the three months ended September 30, 2006, we recorded liquidated damages
expense of $225,938; none in the comparable period of 2005. We have entered into
registration rights agreements with certain investors that require us to file a
registration statement covering underlying indexed shares, become effective on
the registration statement, maintain effectiveness, and, in some instances,
maintain the listing of the underlying shares. Certain of these registration
rights agreements require our payment of cash penalties to the investors in the
event we do not achieve the requirements. We record estimated liquidated damages
penalties as liabilities and charges to our income when the cash penalties are
probable and estimable. We will evaluate our estimate of liquidated damages in
future periods and adjust our estimates for changes, if any, in the facts and
circumstances underlying their classification.
NET LOSS
We had a net loss for the three months ended September 30, 2005 of $1,252,045,
compared with a net gain of $17,679,152 for the same period in 2005. The
magnitude of the 2006 and 2005 loss is the result of our recording changes in
the fair value in our derivatives.
YEAR ENDED DECEMBER 31, 2005 COMPARED TO YEAR ENDED DECEMBER 31, 2004
CONSOLIDATED REVENUES
We reported revenues for the year ended December 31, 2005 of $11,948,921, an
increase of $8,604,222, or 257%, compared to revenues of $3,344,699 in 2004.
This increase is the result of the acquisition of a significant new customer
("Coca Cola Enterprises" or "CCE") during the third fiscal quarter with sales
generation commencing in the fourth fiscal quarter. Our revenues to CCE for the
year ended December 31, 2005 comprise 34% of our total revenue. CCE will
continue to be a significant customer in the foreseeable future. Since we
commenced revenue generation with CCE in the fourth fiscal quarter, in future
periods we expect that our revenues from sales to CCE will increase as a
percentage of our total revenues.
17
Our revenues and gross margin are net of industry-standard slotting fees and
promotional discounts for the year ended December 31, 2005 in the amount of
$487,221 compared to $204,755 in 2004. We record these programs as reductions in
our revenues and we may enter into similar programs in future periods to
increase our market penetration.
Geographically, during the 2005 fiscal year, our revenues are dispersed 98% and
2% between the United States of America and internationally, respectively. While
our current international revenues have not been significant, we are taking
measures to further penetrate international markets and increase our
international revenues as a percentage of our total revenues.
CONSOLIDATED PRODUCT AND SHIPPING COSTS
We incurred product costs and shipping costs of $8,938,692 and $1,505,035,
respectively, for the year ended December 31, 2005. Product costs in 2005
increased by $6,563,887, a 276% increase compared to $2,374,805 in 2004.
Shipping costs in 2005 increased $1,006,722, or 202%, compared to $498,313 in
2004. The increase in product costs reflects an increase in revenues and the
concomitant increase in reported product and shipping costs associated with that
increase. Our overall gross margin for 2005 of 12.6% decreased slightly from our
14.0% gross margin in 2004 due to slightly higher production costs that were not
offset with reciprocal pricing increases due to competitive constraint.
CONSOLIDATED OPERATING EXPENSES
SELLING EXPENSE:
We incurred selling expense of $7,464,876 during the year ended December 31,
2005. We expense these costs, consisting largely of advertising and promotion,
as they are incurred. Our selling expense for this period increased by
$6,164,203, a 474% increase compared to our selling expenses of $1,300,673 for
the same period in 2004. The increase in selling expense in the current period
was due to higher advertising expenses as we penetrate new markets and, to a
lesser degree, the hiring of additional sales staff. In addition, in connection
with the acquisition of our new customer, CCE during 2005, we entered into a
commitment to spend an aggregate of $5,000,000 for advertising and promotion of
our products during the years ended 2005 and 2006. Thereafter, we have agreed to
spend an aggregate annual amount of 3% of our total CCE revenue for advertising
programs. Generally, since our revenue producing activities with CCE did not
commence until November of 2005, we did not incur a significant amount of
expense under this commitment. Accordingly, our selling expenses can be expected
to increase during 2006 and 2007 as we fulfill our obligations under these
important arrangements and we continue to address additional markets.
PRODUCT DEVELOPMENT EXPENSE:
We incurred product development expense for the years ended December 31, 2005 of
$636,342, representing a 209% increase over product development expense in 2004.
Additional expenditures were incurred in 2005 due to the launching of our
Slammers Starburst line of Fruit & Cream Smoothies, and to package redesign
costs associated with several of our product lines including Slim Slammers, Pro
Slammers and Breakfast Blenders.
GENERAL AND ADMINISTRATIVE EXPENSE:
Our general and administrative expense for the year ended December 31, 2005 was
$7,263,284, an increase of $4,586,223 compared to $2,677,061 in 2004. The
increase is the result of additional payroll, increased occupancy costs, office
overhead costs and travel necessary to support the increase in revenues. As a
percentage of total revenue, our general and administrative expense decreased
from 80% in 2004, to 61% for 2005. We anticipate a continued effort to reduce
these expenses as a percentage of sales through revenue growth, certain cost
cutting efforts and the refinement of business operations.
NON-RECURRING FINDERS' FEE:
We recorded a $3,000,000 one time, non-recurring finder's fee in connection with
our execution of the Master Distribution Agreement with CCE in 2005. We do not
currently anticipate incurring similar costs during 2006 or in the foreseeable
future since our business opportunity with CCE is expected to be further
developed over that period.
18
CONSOLIDATED OTHER INCOME (EXPENSE)
DERIVATIVE EXPENSE
Our derivative expense amounted to $60,823,574 for the year ended December 31
2005, compared to $6,309,933 in 2004. Derivative expense (and in some instances
income) arises from changes in the fair value of our derivative financial
instruments and, in rare instances, day-one losses when the fair value of
embedded and freestanding derivative financial instruments issued or included in
financing transactions exceed the proceeds or other basis. Derivative financial
instruments include freestanding warrants, compound embedded derivative features
that have been bifurcated from debt and preferred stock financings. In addition,
our derivative financial instruments arise from the reclassification of other
non-financing derivative and other contracts from stockholders' equity because
share settlement is not within our control while certain variable share price
indexed financing instruments are outstanding.
Our derivative loss during each of the years ended December 31, 2005 and 2004 is
significant to our consolidated financial statements. The magnitude of the
derivative loss during the year ended December 31, 2005 when compared with the
loss for the year ended December 31, 2004 reflects the following:
(a) During the year ended December 31, 2005, and specifically commencing in the
second quarter, the trading price of our common stock reached significantly high
levels relative to its trend. The trading price of our common stock
significantly affects the fair value of our derivative financial instruments. To
illustrate, our trading stock price at the end of the first quarter of 2005 was
$0.15 and then increased to $0.93 by the end of the second quarter. Our trading
stock price then declined to $0.61 and $0.59 at the end of the third and fourth
quarters, respectively. However, the higher stock price had the effect of
significantly increasing the fair value of our derivative liabilities and,
accordingly, we were required to adjust the derivatives to these higher values
with charges to our income. Also, due to the higher stock price commencing in
the second quarter, we experienced significant exercise and conversion activity
related to our derivative warrants and, to a lesser degree, with respect to the
embedded conversion options. Accordingly, our year end derivative liability
balances reflect, among other elements of our valuation assumptions, the higher
intrinsic values of the arrangements caused by the significant changes in our
stock price, which are offset by a smaller number of common shares indexed to
outstanding warrants due to the extraordinary level of exercise activity.
(b) During the year ended December 31, 2005, we entered into a $2,300,000 debt
and warrant financing arrangement, more fully discussed in Note 6(b). In
connection with our accounting for this financing we encountered the unusual
circumstance of a day-one loss related to the recognition of derivative
instruments arising from the arrangement. That means that the fair value of the
bifurcated compound derivative and warrants exceeded the proceeds that we
received from the arrangement and we were required to record a loss to record
the derivative financial instruments at fair value. The loss that we recorded
amounted to $8,663,869. We did not enter into any other financing arrangements
during the periods reported that reflected day-one losses.
Because our derivative financial instruments are carried at, and periodically
adjusted to, fair value, our income is likely to experience continuing
volatility as assumptions underlying our fair value techniques (including
internal factors and external market indicators) change. However, we are
currently evaluating contracts underlying the origination of these derivative
financial instruments to determine whether they may be modified with the
investor. There can be no assurance that we can reach an agreement to modify
these arrangements and, if we are able to execute such modifications, we would
be required to consider whether such modification(s) is significant. In
instances where modifications are considered significant, we may be required to
extinguish the original financial instrument and reestablish it at fair value.
These extinguishments, if any, would likely be accompanied with extinguishment
gains or losses that we would be required to reflect in our income.
Finally, we entered into a $30.0 million debt and warrant financing in July 2006
(see "Material Events" below) that will likely require the bifurcation of
additional derivative financial instruments. We have not yet calculated the
amounts of these derivatives, but their effects on our income, arising from fair
value changes, will be afforded the same accounting treatment as those that we
currently carry.
19
LIQUIDATED DAMAGES
During the year ended December 31, 2005, we recorded liquidated damages expense
of $303,750 (none in 2004). We have entered into registration rights agreements
with certain investors that require us to file a registration statement covering
underlying indexed shares, become effective on the registration statement,
maintain effectiveness and, in some instances, maintain the listing of the
underlying shares. Certain of these registration rights agreements require our
payment of cash penalties to the investors in the event we do not achieve the
requirements. We record estimated liquidated damages as liabilities and charges
to our income when the cash penalties are probable and estimable. We will
evaluate our estimate of liquidated damages in future periods and adjust our
estimates for changes, if any, in the facts and circumstances underlying their
calculation, pursuant to Financial Accounting Standard No. 5, Accounting for
Contingencies.
INTEREST EXPENSE
We incurred interest expense for the year ended December 31, 2005 of $1,667,294.
Our interest expense increased by $231,889, a 16% increase compared to
$1,435,405 in 2004. The increase was due to the effects of application of the
effective interest method where an effective interest amount, as calculated at
the inception of the debt is applied to the carrying value at the end of each
period. Under this method, periodic interest charges increases over the debt
term as the debt carrying value increases.
OTHER EXPENSE
Other expense consists of debt extinguishment losses and (gains). These amounts
arose from certain modifications that we made to our debt arrangements that
required our re-measurement of the carrying value to fair value because the
modification was significant. We may modify other debt arrangements as discussed
under the discussion related to our derivative financial instruments. Each
modification will require a determination whether an extinguishment occurred
and, if so, an extinguishment gain or loss may require recognition.
Subsequent to our year ended December 31, 2005, we began to incur penalties
related to a financing arrangement that required us to, among other things,
become effective on a registration statement. On November 8, 2006, we became
effective on the registration statement. As of November 8, 2006, we incurred in
excess of $2.1 million of penalties under this arrangement, and we paid these
amounts beginning in the third fiscal quarter of our year ending December 31,
2006.
CONSOLIDATED NET LOSS
We had a net loss for the year ended December 31 2005 of $79,528,653 compared
with a net loss of $11,517,620 in 2004. There were a number of factors that gave
rise to our losses in 2005 and 2004. First, we are currently expending funds in
developing our administrative and operating infrastructure and our sales
channels and, as a result, our current revenue volume has not been sufficient to
offset our operating expenses resulting in an operating loss during the years
ended December 31, 2005 and 2004. We anticipate that our operating expenses as a
percentage of our sales will decrease in future periods as our revenues increase
and our costs level. In addition, we incurred a one-time $3,000,000 fee during
the year ended December 31, 2005 related to the acquisition of our customer,
CCE. We do not currently anticipate incurring similar costs in the foreseeable
future. Finally, the overall magnitude of both the 2005 and 2004 net loss can be
attributable largely to the fair value adjustments related to our derivative
financial instruments of $60,823,574 and $6,309,933 in 2005 and 2004,
respectively. See the discussion above, about our derivative income (expense)
for additional information. Our earnings will continue to be affected by the
fair value adjustments of our derivative financial instruments until they are
disposed of through contractual modifications, conversions and exercises of our
share indexed instruments, or expiration.
CONSOLIDATED LOSS APPLICABLE TO COMMON SHAREHOLDERS
20
Loss applicable to common shareholders represents net loss as adjusted for
preferred stock dividends and accretion of our redeemable preferred stock and
our equity classified preferred stock to redemption values using the effective
method. Many of our preferred stock series have cumulative dividend features and
we will continue to reflect preferred stock dividends in our loss applicable to
common shareholders until the preferred stock is converted, if ever. In
addition, many of our redeemable preferred stock series were initially
discounted due to the allocation of financing proceeds to detachable warrants
and embedded derivative financial instruments. We use the effective method to
amortize these discounts. The use of the effective method to accrete our
discounted redeemable preferred stock to redemption values causes accretion to
increase over the redemption period as the carrying values increase.
Accordingly, accretions will increase in future periods until the preferred is
fully accreted to redemption values or converted.
CONSOLIDATED LOSS PER COMMON SHARE
The Company's basic loss per common share for the year ended December 31, 2005
was $(0.60) compared with a basic loss per common share for the same period in
2004 of $(0.31). Because the Company experienced net losses in 2005 and 2004,
all potential common share conversions existing in our financial instruments
would have an antidilutive impact on earnings per share; therefore, diluted loss
per common share equals basic loss per common share for both years.
The weighted average common shares outstanding increased from 40,229,738 for the
year ended December 31, 2004 to 135,032,836 for the year ended December 31,
2005. The increase is attributed primarily to conversions of our convertible
debt and preferred instruments into common shares. Potential common stock
conversions excluded from the computation of diluted earnings per share amounted
to 108,059,082 and 126,767,057 for the years ending December 31 2005 and 2004,
respectively.
CONSOLIDATED COMPREHENSIVE LOSS
Comprehensive loss differs from net loss for the year ended December 2005 and
2004 by ($30,759) and ($689), respectively, which represents the effects of
foreign currency translation on the financial statements of our subsidiaries
denominated in foreign currencies. Our foreign operations are currently not
significant. Increases in our foreign operations will likely increase the
effects of foreign currency translation adjustments on our financial statements.
LIQUIDITY AND CAPITAL RESOURCES
MANAGEMENT'S PLANS:
As reflected in the accompanying consolidated financial statements, we have
incurred operating losses and negative cash flow from operations and have
negative working capital of $54,652,550 as of September 30, 2006. This negative
figure is largely the effect of our recording of $37,075,023 for derivative
liabilities. In addition, we have experienced delays in filing our financial
statements and registration statements due to errors in our historical
accounting that now have been corrected. Our inability to make these filings
resulted in our recognition of penalties payable to the investors. These
penalties have ceased with our completed filings and the registration of the
common shares into which the investors' financial instruments are convertible.
Finally, our revenues are significantly concentrated with one major customer.
The loss of this customer or curtailment in business with this customer could
have a material adverse affect on our business. These conditions raise
substantial doubt about our ability to continue as a going concern.
We have been dependent upon third party financings as we execute on our business
model and plans. On July 27, 2006, we completed a $30.0 million convertible note
financing that is expected to fulfill our liquidity requirements through the end
of 2006. Of that total, $15.0 million of this financing was held in escrow,
pending the increase in our authorized shares and the effectiveness of a
registration statement filed by us in connection with a November 2005 financing.
We have satisfied the escrow release conditions and, on November 14, 2006, the
balance of the proceeds from our July 2006 sale of the $30 million of Senior
Convertible Notes was released from escrow.
21
We plan to increase our revenues, improve our gross margins, augment our
international business and, if necessary, obtain additional financing.
Ultimately, our ability to continue is dependent upon the achievement of
profitable operations. There is no assurance that further funding will be
available at acceptable terms, if at all, or that we will be able to achieve
profitability.
The accompanying financial statements do not reflect any adjustments that may
result from the outcome of this uncertainty.
INFORMATION ABOUT OUR CASH FLOWS
As of September 30, 2006, we reported that net cash used in operating activities
was $16,594,704, net cash provided by financing activities was $13,462,392 and
net cash used in investing activities was $708,044 during the nine months ended
September 30, 2006.
Compared to $3,610,995 of net cash used in operating activities in the nine
months ended September 30, 2005, our current period net cash used in operating
activities increased by $12,983,709 to $16,594,704.
Changes in accounts receivable during the nine months ended September 30, 2006
resulted in a cash increase of $2,795,948, compared to a cash decrease in
receivables of $149,281 for the same period in 2005, having a net result of an
increase of $2,945,229. The changes in inventories during the nine months ended
September 30, 2006 reflected a cash usage of $456,283, compared to a usage of
$241,173 for the same period in 2005. This was the result of our building
inventory in connection with the continued implementation of our Master
Distribution Agreement with Coca-Cola Enterprises. The changes in accounts
payable and accrued liabilities in the nine months ended September 30, 2006
contributed to a cash increase of $3,748,743, whereas the changes in accounts
payable and accrued liabilities for the period ended September 30, 2005 amounted
to an increase of $5,117,240. Cash flows generated through our operating
activities was inadequate to cover all of our cash disbursement needs in the
period ended September 30, 2006, and we had to rely on prior equity and new
convertible debt financing to cover operating expenses.
Cash used in the period ended September 30, 2006 in our investing activities was
$708,044 for license and trademark costs, and equipment purchases, compared to
$879,754 for the same period in 2005.
Net cash provided by our financing activities for the nine months ended
September 30, 2006 was $13,462,392, mainly as a result of proceeds received from
a convertible note financing amounting to $30,000,000. Net cash provided by
financing activities for the same period in 2005 was $4,954,367, for a net
increase of $8,508,025.
Going forward, our primary requirements for cash consist of the
following:
o the continued development of our business model in the United
States and on an international basis;
o promotional and logistic production support for the capacity
demands presented by our Master Distribution Agreement with
Coca-Cola Enterprises;
o general overhead expenses for personnel to support the new
business activities;
o development, launch and marketing costs for our line of new
branded flavored milk products; and
o the payment of guaranteed license royalties.
We estimate that our need for financing to meet cash requirements for operations
will continue through the first quarter of 2007, when we expect that cash
supplied by operating activities will approach the anticipated cash requirements
for operating expenses. We anticipated the need for additional financing in 2006
to reduce our liabilities, assist in marketing and to improve stockholders'
equity status, and we secured $30 million in senior convertible note financing
in July 2006.
We currently have monthly working capital needs of approximately $650,000. We
will continue to incur significant selling and other expenses in order to derive
more revenue in retail markets, through the introduction and ongoing support of
our new products and the implementation of the Master Distribution Agreement
with Coca-Cola Enterprises. Certain of these expenses, such as slotting fees and
freight charges, will be reduced as a function of unit sales costs as we expand
our sales markets and increase our revenues within established markets. Freight
charges will be reduced as we are able to ship more full truckloads of product
given the reduced per unit cost associated with full truckloads versus less than
full truckloads. Similarly, slotting fees, which are paid to warehouses or chain
stores as initial set up or shelf space fees, are essentially one-time charges
per new customer. We believe that along with the increase in our unit sales
volume, the average unit selling expenses and associated costs will decrease,
resulting in gross margins sufficient to mitigate cash needs. In addition, we
are actively seeking additional financing to support our operational needs and
to develop an expanded promotional program for our products.
22
External Sources of Liquidity
On July 27, 2006, we entered into definitive agreements to sell $30 million
senior convertible notes (the "Notes") that are due in 2010 to several
institutional and accredited investors in a private placement exempt from
registration under the Securities Act of 1933. The notes initially carry a 9%
coupon, payable quarterly, and are convertible into shares of common stock at
$0.70 per share. In 2007, the coupon may decline to LIBOR upon the Company
achieving certain financial milestones. The Notes will begin to amortize in
equal, bi-monthly payments beginning in mid-2007. We issued warrants to purchase
12,857,143 shares of common stock at $0.73 per share that expire in July 2011 to
the investors in the private placement. We will utilize this financing for,
among other things, our working capital needs. On August 31, 2006, the Company
entered into Amendment Agreements in which the investors agreed to release the
Company from events of default that occurred under the terms of the original
July 27, 2006 financing. In exchange, Amended and Restated Notes were issued in
which the conversion price on the $15,000,000 financing, which was held in
escrow, was reduced from $0.70 to $0.51. In addition, the holder could require
the Company to redeem any portion of the Amended and Restated Note in cash or
common stock at 125% from October 10, 2006 through December 31, 2006.
EFFECTS OF INFLATION
We believe that inflation has not had any material effect on our net sales and
results of operations.
23
BUSINESS
OUR COMPANY
Our company is a Delaware corporation, which was formed on April 27, 1996.
We formerly owned the majority interest in two Sino-American joint ventures in
China, known as Green Food Peregrine Children's Food Co. Ltd. and Hangzhou
Meilijian Dairy Products Co., Ltd. These two joint ventures processed milk
products for local consumption in the areas of Shanghai and Hangzhou, China,
respectively. We closed Green Food Peregrine in December 1999 and sold our
interest in Hangzhou Meilijian Dairy in December 2000.
In December 1999, we obtained Chinese government approval for the
registration of a new wholly owned subsidiary in the Wai Gao Qiao "free trade
zone" in Shanghai, China. We formed this import-export company to import, export
and distribute food products on a wholesale level in China. In addition, China
Premium (Shanghai) was our legal presence in China with respect to contractual
arrangements for the development, marketing and distribution of branded food
products. We ceased all activities of this Chinese subsidiary in April 2004,
owing to low sales volume and insufficient financial or logistic resources to
market our products profitably in mainland China.
In December 1999, we formed Bravo! Foods, Inc., a wholly owned Delaware
subsidiary, which we utilized to advance the promotion and distribution of
branded Looney Tunes(TM) products in the United States, through production
agreements with local dairy processors. At the end of 2001, we assumed this
business, and our U.S. subsidiary ceased functioning as an operating company at
that time.
On February 1, 2000, we changed our name from China Peregrine Food
Corporation to China Premium Food Corporation. . On March 16, 2001 we changed
our name to Bravo! Foods International Corp. On October 24, 2006 we changed our
name to Bravo! Brands Inc., pursuant to a resolution of our Board of Directors
and the affirmative vote of our shareholders at a special meeting of our
shareholders called for that purpose, in accordance with Delaware General
Corporation Law.
In January 2005, we formed Bravo! Brands (UK) Ltd., a United Kingdom
registered company that is wholly owned by Bravo! Brands International Ltd. We
will utilize Bravo! Brands (UK) Ltd. to advance the production, promotion and
distribution of licensed branded products in the United Kingdom through
production and sales agent agreements with local entities. Currently, we are
evaluating our distribution and product mix in the UK in order to develop and
implement a more effective business plan going forward. During this period of
re-evaluation, we have ceased production of our products in the United Kingdom.
In March 2005, we formed Bravo! Brands International Ltd., a Delaware
subsidiary that may hold license rights for our branded products on an
international basis. We may utilize Bravo! Brands International Ltd. to hold and
exploit certain license rights for branded products developed by us in
international markets through local second-tier subsidiaries such as Bravo!
Brands (UK) Ltd.
THE BUSINESS
Our business involves the development and marketing of our own Slammers(R)
and Bravo!(TM) trademarked brands, the obtaining of license rights from third
party holders of intellectual property rights to other trademarked brands, logos
and characters and, in certain international markets, the granting of production
and marketing rights to processor dairies to produce branded flavored milk
utilizing our intellectual property. In addition, we anticipate the commencement
of exporting our products to Mexico and Canada in the first quarter 2007.
In the United States and the UK, we generate revenue from the sales of
finished branded flavored milks to retail consumer outlets or distributors for
resale to retail consumer outlets. Currently, we use a single third-party
processor in the United Sates and another in the UK to produce all of our single
serve milk based beverages. We anticipate the expanded production of our
products with the addition of HP Hood, LLC as a second processor in the United
States, with production commencing in the fourth quarter 2006. We recognize
revenue in the United States at the gross amount of our invoices for the sale of
finished product to wholesale buyers or distributors. We take title to our
branded flavored milks when they are shipped by our third party processors and
recognize as revenue the gross wholesale price charged to our wholesale
customers or distributors. Our gross margin is determined by the reported
wholesale price less (i) the cost charged by our third party processor, to
produce our branded milk products and (ii) shipping costs.
24
Internationally, we generate revenue primarily through our sale to
processors of flavor ingredients utilized for our products, which are developed
and refined by us, and the grant of production rights to processors to produce
our flavored milks. The consideration paid to us under these production
contracts consists of fees charged for our grant of production rights for our
branded flavored milks plus a charge for flavor ingredients.
All of our third party licensing agreements recognize that we will use
third party production agreements for the processing of flavored milk products
and that the milk products will be produced and may be sold directly by those
processors. Our responsibilities under our third party production agreements are
to design and provide approved packaging artwork, to help determine the best
tasting flavors for the particular market and to assist in the administration,
promotion and expansion of the respective branded milk programs. Ingredients for
the flavored milks are formulated to our specifications and supplied on an
exclusive basis by either Givaudan Flavors Group or Mastertaste, both of which
are flavor development and production companies. In the United States, we are
the vendor of record for our direct wholesale business and assume the
responsibility for sales and marketing of our flavored milks.
Master Distribution Agreement - Coca-Cola Enterprises
On August 31, 2005, we entered into a ten-year Master Distribution
Agreement with Coca-Cola Enterprises Inc that we believe will significantly
expand the distribution and sales of our products. The agreement provides for
the distribution of our products in Coca-Cola Enterprises in the United States,
all U.S. possessions, Canada, Belgium, continental France, Great Britain,
Luxembourg, Monaco and the Netherlands, as well as any other geographic
territory to which, during the term of the agreement, Coca-Cola Enterprises
obtains the license to distribute beverages of The Coca-Cola Company. The
appointment of Coca-Cola Enterprises as the exclusive distributor for our
products was effective August 30, 2005, has an effective distribution date of
October 31, 2005 and an expiration date of August 15, 2015. Coca-Cola
Enterprises has the option to renew the Master Agreement for two subsequent
periods of ten additional years. Attendant to the execution of the agreements we
issued three-year warrants to Coca-Cola Enterprises for the right to purchase 30
million shares of our common stock at an exercise price of $0.36 per share.
Under the terms of the agreement, Coca-Cola Enterprises is obligated to
use all commercially reasonable efforts to solicit, procure and obtain orders
for our products and merchandise and actively promote the sale of such products
in the Territory, as defined in the agreement. The agreement establishes a
comprehensive process for the phased transition from our existing system of
distributors to Coca-Cola Enterprises, dependent upon distribution territory,
product and sales channels. Under the agreement, Coca-Cola Enterprises
implemented its distribution on a ramp-up basis, commencing , October 31, 2005.
Coca-Cola Enterprises' distribution in other Territory areas will be dependent
upon, among other things, third-party licensing considerations and compliance
with the regulatory requirements for the products in foreign countries.
We have agreed to provide the following:
o strategic direction of our products;
o maintain sales force education and support;
o actively market and advertise our products and design and
develop point of sale materials and advertising.
We are also responsible for handling:
o consumer inquiries;
o product development; and
o the manufacture and adequate supply of our products for
distribution by Coca-Cola Enterprises.
The terms of the agreement require our company to maintain the
intellectual property rights necessary for our company to produce, market and/or
distribute and for Coca-Cola Enterprises to sell our products in the Territory.
We are obligated to spend a fixed dollar amount through 2006 on national and
local advertising, including actively marketing the Slammers trademark, based on
a plan as mutually agreed each year. Beginning in 2007, the Company shall
allocate an amount per year for such activities in each country in the defined
Territory equal or greater than an agreed upon percentage of our total revenue
in such country.
25
Under the agreement, Coca-Cola Enterprises has the right of first refusal
to distribute any new products developed by our company, and the agreement
establishes a process for the potential expansion of Coca-Cola Enterprises'
distribution of the Company's products to new territories. Either party may
terminate the agreement for a material breach, insolvency or bankruptcy.
Coca-Cola Enterprises may terminate (i) for change of control by our company,
(ii) upon a material governmental regulatory enforcement action or threatened
governmental action having a material adverse consumer or sales impact on our
products and (iii) upon twelve months notice after August 15, 2006.
Third Party Intellectual Property Licenses
Marvel Enterprises, Inc. (Super Heroes(R) and Marvel Heroes(R))
On February 4, 2005, we entered into a two-year license agreement for the
utilization of Marvel Heroes characters on our flavored milks in the United
Kingdom and Ireland. We agreed to a royalty rate of 4% of net wholesale sales in
the territory against the prepayment of a guaranteed minimum royalty amount. We
have adopted the unit sales model currently used in the United States. We have
outsourced the infrastructure required for the production, promotion, marketing,
distribution and sale of our products through a production agreement with
Waterfront Corporation in the UK and through an exclusive sales agency agreement
with Drinks Brokers, Ltd. a UK registered company responsible for the launch and
growth of several major beverage brands in the licensed territory. Currently, we
are evaluating our distribution and product mix in the UK in order to develop
and implement a more effective business plan going forward. During this period
of re-evaluation, we have ceased production of our Marvel co-branded products in
the United Kingdom.
In March 2005, we entered into a new one-year license agreement with
Marvel Enterprises, Inc. to use its Super Heroes(R) properties to promote our
branded milk products in the United States, Canada and Mexico. Under the terms
of the license agreement, we agreed to a royalty rate of 5% of net wholesale
sales in the United States, 4% for school lunch channels and 2.5% for school hot
lunch programs. We also agreed to a 11% royalty on the amount invoiced to dairy
processors for production in Canada and Mexico. We have not renewed this license
agreement owing to the failure of our Marvel co-branded products to achieve
expected market penetration.
On February 4, 2005, we entered into an eighteen month license agreement
for the utilization of Marvel Heroes characters on our flavored milks in the
Middle East in conjunction with our execution of third party production
agreements the manufacture and sale of our products Saudi Arabia and Oman. We
agreed to a 11% royalty on the amount invoiced to third party dairy processors
for "kits" in the territory against the prepayment of a guaranteed minimum
royalty amount. We have not renewed this license agreement owing to the failure
of our Marvel co-branded products to achieve expected market penetration.
Chattanooga Bakery, Inc.( Moon Pie(R) )
In October 2003, we commenced a two-year license agreement with MD
Enterprises, Inc. on behalf of Chattanooga Bakery. Under the terms of the
license agreement, we have the exclusive right to manufacture, distribute,
market and sell Moon Pie(R) flavored milk products in the United States. We
agreed to a variable royalty rate of 3% to 2% of net wholesale sales, depending
upon volume. This license has been extended verbally.
Masterfoods USA (Starburst(R), Milky Way(R), 3 Musketeers(R))
On September 21, 2004, we entered into a licensing agreement with
Masterfoods USA, a division of Mars, Incorporated, for the use of Masterfood's
Milky Way(R), Starburst(R) and 3 Musketeers(R) trademarks in connection with the
manufacture, marketing and sale of single serve flavored milk drinks in the
United States, its Possessions and Territories, and US Military installations
worldwide. The license limits the relationship of the parties to separate
independent entities. The initial term of the license agreement expires December
31, 2007. We have agreed to pay a royalty based upon the total net sales value
of the licensed products sold and advance payments of certain agreed upon
guaranteed royalties. Ownership of the licensed marks and the specific milk
flavors to be utilized with the marks remains with Masterfoods. We have a right
of first refusal for other milk beverage products utilizing the Masterfoods
marks within the licensed territory. This license has amended to include
additional Masterfoods brands and to extend the term to December 31, 2012.
26
In March 2006, we signed two new seven year licensing agreements for
Canada and Mexico with Masterfoods, effective January 1, 2006. The licensing
agreement for Canada covers single servings of the Mars(R) Brand flavored milk
drink, Starburst(R) brand flavored milk drink and the 3 Musketeers(R) brand
flavored milk. In Mexico the licensing agreement is for single serve Milky
Way(R) brand flavored milk, Starburst(R) brand flavored milk Drink and the 3
Musketeers(R) Brand Flavored Milk. These licensing agreements cover most trade
channels including grocery, food service, Club Stores as well as schools with
children over the age of 13, colleges and universities, vending machines,
amusement parks and movie theaters.
Diabetes Research Institute
In June 2005, we extended our licensing agreement with Diabetes Research
Institute to June 30, 2007. We agreed to a variable royalty rate of 0.25% of net
sales. We use this intellectual property, which consists of a logo plus design
on the labels of our Slim Slammers(TM) product line.
In House Intellectual Property
In addition to our third-party licenses, we have developed and sell
flavored milks bearing trademarks developed by us, including "Slammers(R)" "Pro
Slammers(TM)", "Slim Slammers(R)" and "Breakfast Blenders(TM)"..
Production Contracts/Administration
Our operations in the United States, the Middle East, Mexico and Canada
are run directly by Bravo!Brands Inc. Our United Kingdom business is managed
through our wholly owned subsidiary Bravo! Brands International Ltd., which is a
UK registered company.
United States
Since 2003, our milk products have been produced by Jasper Products,
located in Joplin, Missouri. In addition to the production of our products,
Jasper has provided the infra-structure necessary for our invoicing, shipping
and collection activities. We anticipate that we will assume direct
responsibility for these activities in house in the fourth quarter 2006. We will
expand production of our products with the addition of HP Hood, LLC as a second
processor, with production commencing in the fourth quarter 2006
United Kingdom
In February 2005, we executed an exclusive sales agency agreement with
Drinks Brokers, Ltd., a division of Tactical Sales Resources Limited for sales
of our product lines in the United Kingdom. Pursuant to terms of the agreement,
Bravo! appointed Drinks Brokers as its Sales Agent in the United Kingdom for the
marketing, promotion, distribution and sale of Bravo!'s Slammers(R) Marvel
Heroes line of flavored milk, as well as other product lines that Bravo! may
introduce to the UK in the near future.
Drinks Brokers utilizes its established networks to manage all matters
relating to the sale and effective distribution of Bravo!'s products within the
United Kingdom, including the solicitation of sales from customers in applicable
market segments, marketing, advertising and promotion of Bravo!'s products,
distribution, and merchandising.
Our products are processed in the United Kingdom by Waterfront Corporation
Limited, on a third party co-pack basis. We generate revenue in the United
Kingdom from the unit sales of finished branded flavored milks to retail
consumer outlets. Currently, we use a single third-party processor in the United
Kingdom to produce all of our single serve milk based beverages. We recognize
revenue in the United Kingdom at the gross amount of our invoices for the sale
of finished product to wholesale buyers. We take title to our branded flavored
milks when they are shipped by our third party processor and recognize as
revenue the gross wholesale price charged to our wholesale customers. Our gross
margin is determined by the reported wholesale price less the cost charged by
Waterfront Corporation Limited.
27
Middle East
In September 2005, we entered into a third party production agreement with
Oman National Dairy Products Co. Ltd., a Middle East dairy processor,
headquartered in Ruwi, Oman. Oman Dairy produces Slammers (R) branded flavored
milks, including the Marvel line, for distribution in Oman and Saudi Arabia. We
generate revenue in the Middle East by the sale of flavor ingredients and
production rights for our branded products. We are not responsible for
production, marketing, promotion or distribution of the product in the Middle
East.
Products
In September of 2000, we commenced our United States business using third
party dairy processors for the production and sale of fresh branded flavored
milk in single serve plastic bottles. Our flavored milk products had a limited
shelf life of, generally, 21 days.
In early 2002, we developed branded extended shelf life and aseptic,
bacteria free, long life flavored milk products. The extended shelf life product
was sold in 11.5oz single serve plastic bottles and had to be refrigerated. The
shelf life of this product is 90 days. In addition, we developed a line of
aseptic packaged milks that do not require refrigeration and have a shelf life
of 8 months. This product was packaged in an 11.2oz Tetra Pak Prisma(TM) sterile
paper container. Both of these products were introduced to the public in the
second and third quarters of 2002.
Commencing in May 2002, we developed a new branded fortified flavored milk
product under the "Slammers(R) Fortified Reduced Fat Milk" brand name. We use
our Slammers(R) brand in conjunction with our licensed third party trademarks.
Slammers(R) is made from reduced fat milk and is fortified with essential
vitamins. The introduction of this new product and the phase out of our
"regular" branded milks occurred in the fourth quarter of 2002. Our Slammers(R)
flavored milks were sold in the United States in single serve extended shelf
life plastic bottles, as well as the long life aseptic Tetra Pak Prisma(TM)
package.
In November 2002, we introduced Slim Slammers(R) Fortified Milk, a low
calorie version of our Slammers (R)Fortified Reduced Fat Milk. Slim Slammers(R)
Fortified Milk has no added sugar and is sweetened with sucralose, a natural
sweetener made from sugar. Slim Slammers(R) Fortified Milk is made from 1
percent fat milk, is fortified with 11 essential vitamins and is available in
the same flavors as our Slammers(R) brand. We reintroduced this product in the
United States with a new package and formulation during 2004.
In 2004, we announced our product development and brand strategy for seven
new, separate and distinct single serve product lines: Ultimate Slammers(TM),
Slim Slammers(R), Moon Pie Slammers(R), Pro-Slammers(TM), Starburst(R)
Slammers(R), 3 Musketeers(R) Slammers(R) and Milky Way(R) Slammers(R). These
product lines are all fortified and positioned to appeal directly to profiled
demographic segments, including teens and pre teens for Ultimate Slammers(TM),
Starburst(R) Slammers(R) and Milky Way(R) Slammers(R), teens and sports
enthusiasts for Pro-Slammers(TM), young to old for Moon Pie(R) Slammers(R) and
health conscious adults for Slim Slammers(R) and 3 Musketeers(R) Slammers(R).
We launched four brands in 2004, beginning with Ultimate Slammers(R) in
April and achieved national distribution of Ultimate Slammers(R) through both
retail grocers and convenience stores by mid- summer. Roughly 10,000 retail
supermarket stores carried this brand nationwide in 2004. This was followed by
our June launch of Slim Slammers(R) and Moon Pie (R)Slammers(R) and the July
release of our Pro-Slammers(TM) line.
In January 2005, we launched our Slammers(R) Starburst line of Fruit &
Cream Smoothies utilizing a "shelf stable" re-sealable plastic bottle for milk
products that does not require refrigeration. Until that launch, all single
serve flavored milk in plastic bottles required refrigeration for storage,
distribution and shelf placement. The tactical advantage of distributing milk
products ambient enables us to side-step a major entry barrier in our immediate
consumption strategy. Refrigerated milk is relegated to dairy
direct-store-delivery systems that are controlled by either regional dairy
processors or larger national dairy holding companies. Shelf stable re-sealable
plastic bottles allow us to use a more traditional distribution network that
accommodates the non-refrigerated beverages. Also, milk products packaged in
shelf stable re-sealable plastic bottles have significantly longer shelf life
for storage, allowing us to ship in full truckloads resulting in decreased
freight costs. We currently are converting all of our products to "shelf stable"
re-sealable plastic bottles.
28
In the first quarter 2005, we launched our Slammers(R) MilkyWay and 3
Musketeers lines utilizing a "shelf stable" re-sealable plastic bottle for milk
products that does not require refrigeration, under the Masterfoods License.
During this period, we also introduced Breakfasts Blenders(TM), which is a meal
replacement milk beverage developed for the "on the go" consumer.
Industry Trends
The flavored milk industry has grown from approximately $750 million in
1995 to $2.5 billion in 2004. The single serve portion of this category is
difficult to measure, since approximately 2/3 of the sales in the single serve
milk industry are sold in immediate consumption channels or other channels that
do not report scan-data. For example, Wal-Mart has become the largest retailer
in the USA for milk, selling an estimated 15% of total milk sales. Wal-Mart does
not report sales for the industry data resources embodied in A.C. Neilson or IRI
analyses. Similarly, most convenience stores and "up-and-down-the-street"
retailers in the immediate consumption sales channels do not report either, and
neither do vending and schools.
We have analyzed the industry using reports available from milk and
beverage industry sources. These include the total, segmented and rate of growth
sales that are reported, the immediate consumption sales rates for all
consumables compared to retail grocery buying patterns and opinions of experts
in the milk industry as to the relative size of reported versus non-reported
sales. Based upon these reports and analysis, we believe the current size of the
single serve flavored milk industry (packaging 16 oz. or smaller) is
approximately $1.5 billion domestically. The industry grew at annual rates of
between 5 and 15 percent during the last five years but was virtually flat in
the last two years while it digested the remarkable 10-year growth rates. We
believe that this space is positioned for growth now and will continue to be in
the immediate consumption channels such as vending, convenience stores and food
service market segments.
Market Analysis
The flavored milk business is a relatively new category in the dairy
field. The flavored "refreshment" segment is both the fastest growing and most
profitable category in the industry and is receiving the most attention in the
industry today. Pioneered by Nestle with the NesQuik line and Dean Foods with
its Chug brand, this "good for you" segment is in demand both in the U.S. and
internationally.
The International Dairy Foods Association reports that, although flavored
milk currently amounts to only 5 to 6 percent of milk sales, it represents over
59% of the growth in milk sales. With the total milk category exceeding $9.3
billion in 2004, the flavored milk segment was approximately $2.5 billion in
2004, with single serve flavored milk growing to approximately $1.5 billion for
the same period. Statistically, as the flavored segment grows, the entire
category grows as well. In the past ten years, selling more flavored milks has
resulted in more sales of white milk as well.
In addition, the International Dairy Foods Association and Dairy
Management Inc. have reported on studies suggesting that dairy products may help
in weight loss efforts when coupled with a reduced calorie diet, based on data
associating adequate calcium intake with lower body weight and reduced body fat.
We continue to develop a niche in the single serve flavored milk business by
utilizing strong, national branding as part of the promotion of our Slammers(R),
Pro Slammers(TM) and Slim Slammers(R) products. This niche has as its focus the
increased demand for single serve, healthy and refreshing drinks.
Market Segment Strategy
The Bravo! product model addresses a very clear and concise target market.
We know from experience that the largest retailers of milk products are
demanding new and more diverse refreshment drinks, specifically in the dairy
area, in response to consumer interest and demand. To that end, we have and will
continue to differentiate our products from those of our competitors through
innovative product formulations and packaging designs, such as those implemented
in our Slammers(R) and Pro Slammers(TM) fortified milk product lines and our
Slim Slammers(R) low calorie, no sugar added products.
29
Our Slammers(R) milk products have had promising results penetrating this
arena as consumers continue to look for healthy alternatives to carbonated
beverages. The positioning of our products as a healthy, fun and great tasting
alternative refreshment drink at competitive prices to more traditional
beverages creates value for the producer and the retailer alike. This "profit
orientation" for the trade puts old-fashioned milk products in a whole new
light. The consumer is happy, the retailer is happy and the producer is able to
take advantage of the value added by the brand and the resulting overall
increase in milk sales.
We currently are implementing a very important "first-to-market" strategy
that we feel will dramatically reposition our brands and company. Until now, all
single served flavored milk in plastic bottles required refrigeration for
storage, distribution, and shelf placement. Our strategic partner, Jasper
Products, became America's first processor with FDA approval to offer a "shelf
stable" re-sealable plastic bottle for ambient milk products that do not require
refrigeration.
The tactical advantage of distributing our milk products at ambient
temperatures enables us to side-step a major entry barrier in our immediate
consumption strategy. Most beverages are distributed ambient either through
beverage distribution channels or warehouse "candy and tobacco" distributors.
Refrigerated milk was relegated to dairy direct-store-delivery systems that are
controlled by either regional dairy processors or larger national dairy holding
companies such as Dean Foods or H.P. Hood. We avoid the roadblock of being
reliant upon our competition for chilled distribution since we are now in the
unique position to use the more traditional distribution network that
accommodates non-refrigerated beverages. We currently are converting all of our
products into ambient "shelf stable" re-sealable plastic bottles.
We have been and continue to pursue a strategic goal of placing
Slammers(R) milks in elementary, middle and high schools through ala carte lunch
programs and vending facilities in school cafeterias, and we are promoting our
Slim Slammers(R) milks as low calorie, non-sugar added alternatives to
traditional soft drinks. Penetration of this market segment has been limited by
logistic and economic concerns of school administrators in the push to remove
traditional carbonated soft drinks from schools in favor of milk and milk based
products.
Competition
Nestle pioneered the single serve plastic re-sealable bottle which has
become the standard for this industry, and they currently enjoy a dominant
market share. Dean Foods owns a number of regional single serve brands that are
sold in this format, and they also have an exclusive license to produce Hershey
brand flavored milk nationwide. Our analysis indicates that the Nestle's Nesquik
brand accounts for approximately 30-35 percent of the U.S. single serve milk
category, while Hershey's market share is approximately half that, at around
15%. The other competition comes from private label and regional dairy brands.
Our Slammers(R) milks are the only other single serve brand distributed
nationally in America in plastic re-sealable containers.
Our resources for promotions have been limited, and we run significantly less
promotional activities in comparison to our competitors. Where we are in direct
competition with Nestle and Hershey, however, we have been able to maintain
competitive sales levels.
Employees
We have thirty three full time employees, twenty one of which work at our
North Palm Beach corporate offices.
DESCRIPTION OF PROPERTY
30
Neither our company nor our subsidiaries currently own any real property.
As of February 1, 1999, we moved our corporate offices from West Palm Beach to
11300 US Highway 1, Suite 202, North Palm Beach, Florida, pursuant to a lease
with HCF Realty, Inc., having an initial term of five years. The current
aggregate monthly rent amounts to approximately $7,468, which includes an
expansion of our office space from 2,485 square feet to 3,490 square feet. The
term of this lease has been extended for six years to October 30, 2010.
We have executed a lease for an expansion of our office space in North
Palm Beach, Florida to include an additional 2,190 square feet at $18.50 per
square foot.
31
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The directors, executive officers and significant employees/advisors are as of
December 28, 2006, as follows. Our directors serve for staggered terms of two
years or until their successors are elected. On March 6, 2003, the Board voted
to reduce the board positions by one to nine.
Name of Officer and Age Position with the Company Year Appointed
-------------------------- ---------------------------------------------------- --------------
Bravo! Brands Inc.
Stanley A. Hirschman 60 Chairman and Director 2000
Roy G. Warren 51 Director, Chief Executive Officer 1997/1999
Jeffrey J. Kaplan 58 Chief Financial Officer 2005
Tommy E. Kee 57 Chief Accounting Officer 2003
Roy D. Toulan, Jr. 61 Vice President, Corporate Secretary, General Counsel 2003
Michael Edwards 47 Chief Revenue Officer 2000
Benjamin Patipa 51 Chief Operating Officer 2002
Arthur W. Blanding 77 Director 1999
Robert Cummings 63 Director 1997
John McCormack 47 Director 1997
Phillip Pearce 78 Director 1997
Gerald L. Bos 67 Director 2006
The experience and background of the Company's executive officers
follow:
Mr. Stanley A. Hirschman - Chairman and Director since September 2000
Mr. Hirschman is president of CPointe Associates, Inc., an executive
management and consulting firm specializing in solutions for emerging companies
with technology-based products. CPointe was formed in 1996. In addition, he is
chairman of Oxford Media, Inc., GoldSpring, Inc., Axion Power International and
Dalrada Financial Corporation. Prior to establishing CPointe Associates, Mr.
Hirschman was vice president of operations of Software, Etc., Inc., a retail
software chain, and has held executive positions with retailers T.J. Maxx, Gap
Stores and Banana Republic. Mr. Hirschman currently serves on the Compensation
and Audit Committees of the Company's board of directors.
Mr. Roy G. Warren - Chief Executive Officer since May 1999; Director since 1997
Mr. Warren serves as our Chief Executive Officer and as a director. As
Chief Executive Officer, Mr. Warren continues to develop strategy for our growth
and external financial matters.
For 15 years from 1981 through 1996, Mr. Warren was in the securities
brokerage industry. During those years, Mr. Warren acted as executive officer,
principal, securities broker and partner with brokerage firms in Florida, most
notably Kemper Financial Companies, Alex Brown & Sons and Laffer Warren &
Company. Mr. Warren currently serves on the Executive Committee of the Company's
board of directors.
Mr. Warren also serves as a director of our wholly owned U.K. subsidiary,
Bravo! Brands (UK) Ltd.
Mr. Tommy E. Kee -Chief Financial Officer 2003 - 2005; Chief Accounting Officer
since 2005
Tommy Kee joined our company in March 2003 as Chief Financial Officer. Mr.
Kee currently serves as our Chief Accounting Officer for our company. He
graduated with an MBA from the University of Memphis and a BS degree in
accounting from the University of Tennessee. Before joining us, he served for
several years as CFO for Allied Interstate, Inc. in the West Palm Beach area.
Prior to that, Mr. Kee served as CFO and Treasurer for Hearx Ltd. a West Palm
Beach, Florida public company. He also served 18 years as International
Controller and Financial Director with the Holiday Inns Inc. organization in
Memphis and Orlando. Mr. Kee handles all financial management and reporting for
our company and works closely with our external auditors and general counsel for
financial reporting and SEC compliance.
32
Mr. Jeffrey Kaplan - Chief Financial Officer since 2005
Mr. Kaplan joined Bravo! in October 2005 as Chief Financial Officer. Mr.
Kaplan served as Executive Vice President and Chief Financial Officer of BIB
Holdings, Ltd. and then its private company spin-off, Elk Canyon Ltd., designers
of jeanswear and loungewear, from October 2003 to September 2005. He served as
Executive Vice President of Business Affairs of Viewpoint Corporation, a
graphics software company, from November 2001 to September 2003 and its
Executive Vice President and Chief Financial Officer from February 2001 to
October 2001. Mr. Kaplan served as Executive Vice President and Chief Financial
Officer of Rare Medium Group Inc., an IT professional services company, from
October 1999 to February 2001. Mr. Kaplan received his Bachelor of Arts degree
in political science from Brown University in 1970 and his Masters of Business
Administration in finance from New York University in 1972.
Mr. Roy D. Toulan, Jr. - Vice President, Corporate Secretary, General Counsel
since 2003
Roy Toulan began with the original founders as outside corporate counsel
in 1997 and has been responsible for all of our corporate and business legal
work, including securities matters. Mr. Toulan became Corporate Counsel in
October 2002, when he left his private legal practice in Boston, and Vice
President in January 2003. He received his law degree from Catholic University
in Washington D.C., and for the first 15 years of his career practiced corporate
and securities litigation with large law firms in New York and Boston. Before
joining our company full time, he spent the last 18 years of his private
practice in Boston, Massachusetts, engaged in general corporate and securities
law helping companies with corporate structure and funding, both domestically
and internationally. Mr. Toulan also serves as a director of our wholly owned
U.K. subsidiary, Bravo! Brands (UK) Ltd.
Mr. Michael Edwards - Vice President Sales since 2003
Mr. Edwards has been with our company in a sales and marketing capacity
since 2000. Prior to that time, he worked for 5 years in beverage marketing
research for Message Factors, Inc., a Memphis, Tennessee marketing research
firm. Mr. Edwards has a BS degree from Florida State University in Management
and Marketing and spent 13 years in the banking industry, leaving CitiBank to
join Message Factors in 1995.
Dr. Benjamin Patipa - Director of School/Vending 2002 - 2004; Vice President,
Chief Operating Officer since 2004
Dr. Patipa is a pediatrician with over fifteen years of experience in
directing operations, marketing, sales and facilitating growth in both public
and private companies. In 1987, Dr. Patipa founded and served as the chairman
and CEO of Weight For Me, Inc., a company that developed a proprietary program
which pioneered the delivery of weight control and nutrition services to the
over 12 million obese children and adolescents in America. Weight For Me earned
national and international recognition as the premier program for the control of
obesity in children and adolescents. Dr. Patipa also served at HEARx Ltd. as a
member of the Executive Operating Committee and Sonus USA, Inc., where he lead
the company's franchise licensing and buying group business in the Southeast
United States. Most recently, Dr. Patipa served as Senior Vice President and
Operational Head of eHDL/HealthNet Data Link, Inc., a national electronic
healthcare information company.
Mr. Arthur W. Blanding - Director Since November 1999
Mr. Blanding is president of The Omega Company, an international dairy
industry consulting company. Mr. Blanding has over 50 years experience in
management of dairy processing, sales and strategic planning consulting. He
graduated from Michigan State University in 1956, with a degree in food science,
and in 1964 from Oregon State University with a degree in Food Microbiology and
attended Harvard Business School. Mr. Blanding currently serves on the
Compensation Committee of the Company's board of directors.
As President of The Omega Company for the past 20 years, Mr. Blanding has
completed over 200 projects successfully, both in the U.S. and abroad. Clients
of The Omega Company include Abbott International, Cumberland Farms, Dairy Gold,
Farm Fresh, Inc., Haagen Dazs, Labatt, Ross Laboratories and Stop & Shop
Company, among others. Mr. Blanding was a consultant for the design and
construction of the dairy processing facility built in Shanghai by Green Food
Peregrine. The Omega Company is a party to a consulting contract with the
Company concerning technical and production issues.
33
Mr. Robert J. Cummings - Director Since 1997
Mr. Cummings' work experience includes ten years in purchasing at Ford
Motor Company. In 1975, he founded and currently operates J & J Production
Service, Inc., a manufacturing representative business, which is currently
responsible for over $300 million in annual sales. Mr. Cummings currently serves
on the Compensation Committee of the Company's board of directors.
Mr. Phillip Pearce - Director Since 1997
Mr. Pearce is a "retired" member of the securities industry. Mr. Pearce
served as Chairman of the NASD during which time he was instrumental in the
founding of NASDAQ. Additionally, Mr. Pearce was a former Director of E.F.
Hutton and has served as Governor of the New York Stock Exchange. Since his
retirement in 1988, Mr. Pearce has remained active in the securities industry as
a corporate financial consultant. Mr. Pearce serves on the compensation
committee of our board of directors. Mr. Pearce also serves on our audit
committee. Mr. Pearce serves on our Audit Committee.
Mr. Gerald L. Bos - Director Since 2006
Mr. Bos became a Director in April 2006. From 1998 to his retirement on
December 31, 2005, Mr. Bos was Chief Financial Officer of Dairy Farmers of
America, Inc. (DFA), a cooperative owned and operated by approximately 20,600
dairy farmers. DFA is a diversified US manufacturer of dairy products, food
components and ingredients. The cooperative is considered a leader in
formulating and packaging shelf-stable dairy products in cans and glass. Mr. Bos
will continue to serve DFA in a consulting capacity. Mr. Bos serves as our
financial expert on the Company's Audit Committee.
Based upon a review of the appropriate Forms 3, 4 and 5 and any amendments
to such forms filed pursuant to Section 16(a), we report the following: during
2005, our directors and executive officers did not file Form 4s for options that
were authorized pursuant to an incentive stock option compensation plan until
issued.
34
EXECUTIVE COMPENSATION
Compensation of directors
We compensated Directors for their travel expenses to and from board of
directors' meetings in 2002, 2003, 2004 and, in 2005, an additional $1,000 per
personal attendance and $500 for a telephonic attendance. In 2004, there were
three in person meetings and four telephonic board meetings. In 2005, there were
three in person meetings and four telephonic board meetings. Directors received
options for 35,000 shares of common stock for each year as a director through
2001. Each member of the executive committee has received options for an
additional 40,000 shares of common stock for their services from 1998 through
2001. Directors received additional options for 25,000 shares for 2002 and 2003.
Mr. Hirschman, our Chairman, received total compensation of $48,000 for the year
ended December 31, 2005 for his services as Chairman of both our Board of
Directors and Audit Committee. On January 13, 2004, the Directors unanimously
voted to convert the options to common stock on a one for one basis. The common
shares so converted were issued pursuant to a Form S-8 registration statement
filed December 23, 2004.
On January 13, 2004, the Board of Directors adopted a plan to convert on a
one for one basis the options granted to our present employees and the directors
currently serving on the Board into a like number of our restricted shares of
common stock at the discounted value of $0.05 per share. The conversion of the
options to common stock for any individual director or employee was conditioned
upon a "lockup" agreement by such director or employee, pursuant to which the
recipients of such common stock could not sell, transfer, pledge or hypothecate
such common stock for a six-month period.
On April 6, 2005, our Directors voted to adopt a Stock Option Incentive
Plan for the grant of options to directors, employees and consultants for the
purchase of up to 10,397,745 shares of our common stock. On May 12, 2005, the
Board of Directors accepted and adopted the determination of the Compensation
Committee to grant 3,572,744 of the authorized options to our directors.
Compensation of executive officers
The following table sets forth the compensation paid during the last three
fiscal years to our Chief Executive Officer and the other executive officers of
our company:
Summary Compensation
Annual Compensation Long-Term Compensation
------------------- ----------------------
Restricted
Base Stock Awards All Other
Name & Position Year Salary Bonus Other and Options Compensation (6)
----------------- ---- --------- ------------------ --------- -------------- -----------------
Roy G. Warren 2003 $220,000 2005 Ten Year $300,000 salary
President & CEO Options for $16,272
Director 2004 220,000 $137,750 (1) 2,500,000 (insurance)
$8,462 bonus (3) common valued
2005 240,000 156,538 bonus (4) $42,000 (5) at $300,000;
vested over 18
months
Roy D. Toulan, Jr. 2003 $180,000 $28,000 (2) $15,919 2005 Ten Year $220,000 salary
Vice President Life & Options for $15,919
Secretary 2004 180,000 15,000(1) disability 600,000 common (insurance)
Corporate Counsel 6,923 (bonus (3) & health valued at
insurance $72,000; vested
2005 182,231 7,308 bonus (3) $38,552 (5) over 18 months
Jeffrey Kaplan 2005 $180,000 $40,000 annual $14,000 200,000 ten $200,000
performance based insurance year options at $14,000
bonus paid $0.60 vested insurance
quarterly over 18 months;
1,000,000
options to be
issued at market
Michael Edwards 2005 $162,923 $6,923 bonus (3) $34,161 (5) 2005 Ten Year $180,000 salary
Chief Revenue Options for $13,407
Officer 600,000 common (insurance)
valued at
$72,000; vested
over 18 months
35
Annual Compensation Long-Term Compensation
------------------- ----------------------
Restricted
Base Stock Awards All Other
Name & Position Year Salary Bonus Other and Options Compensation (6)
----------------- ---- --------- ------------------ --------- -------------- -----------------
Benjamin Patipa 2005 $142,615 $6,923 bonus (3) $32,107 (3) 2005 Ten Year $180,000 salary
Chief Operating 11,000 bonus (4) Options for $13,336
Officer 600,000 common (insurance)
valued at
$72,000; vested
over 18 months
Tommy E. Kee 2003 $120,000 2005 Ten Year $160,000 salary
Chief Accounting; Options for $14,874
Officer 2004 120,000 $15,000(1) 600,000 common (insurance)
4,615 bonus (3) valued at
2005 140,923 6,154 bonus (3) $31,415 (3) $72,000; vested
10,000 bonus (4) over 18 months
----------
(1) The reported values of options converted in 2004 are pursuant to a January
13, 2004 vote of Directors authorizing conversion, and are valued $0.05
per share.
(2) 100,000 shares of common stock in 2003 as a signing bonus, valued at
$28,000.
(3) Year end bonus
(4) Special performance based bonus
(5) SEP/IRA Bonus, 2005
(6) Amount paid for termination of employment owing to change of control,
based on base salary for 2006
OPTION GRANTS
On April 6, 2005, our Directors voted to adopt a Stock Option Incentive
Plan for the grant of options to directors, employees and consultants for the
purchase of up to 10,397,745 shares of our common stock. On May 12, 2005, the
Board of Directors accepted and adopted the determination of the Compensation
Committee to grant 3,572,744 of the authorized options to our directors and
4,900,000 to our senior management.
AGGREGATED OPTIONS EXERCISED IN LAST FISCAL YEAR
AND FISCAL YEAR-END OPTION VALUES
None.
COMPENSATION PLANS
SENIOR MANAGEMENT
36
On April 6, 2005, our Directors voted to adopt a Stock Option Incentive
Plan for the grant of options to directors, employees and consultants for the
purchase of up to 10,397,745 shares of our common stock. On May 12, 2005, the
Board of Directors accepted and adopted the determination of the Compensation
Committee to grant 4,900,000 of the authorized option to our senior management.
Employment contracts
Roy G. Warren Chief Executive Officer
On September 14, 2005, the Compensation Committee of the Board of
Directors recommended a new compensation package for Mr. Warren in recognition
of his work to expand our business and in light of the then recent execution of
a ten-year Master distribution Agreement with Coca-Cola Enterprises Inc. The
basic compensation package adopted by the Company for Mr. Warren provides, as
follows:
o Annual base salary of $300,000 paid in accordance with
established Company payment procedures.
o Quarterly bonus of one-quarter of one percent (.0025) of
top-line net sales revenue.
o Company benefits as customarily awarded to executive members
of management.
o Participation in Employee and Director Stock Option programs.
o A "Special Circumstances" bonus of $500,000 to be awarded upon
the signing of a Master Distribution Agreement with CCE. Bonus
to be paid in the following manner: One-half paid as a cash
award or, at the awardees option, in Company stock. One-half
paid in Company stock, with the issuance of such being in the
form of S-8 or other method as determined by counsel.
o Effective October 1, 2005, and for a period of not less than
24 months
Roy D. Toulan, Jr., Vice President, General Counsel and Corporate
Secretary
A new compensation package became effective for Mr. Toulan on January 1,
2006. The basic compensation package adopted by the Company for Mr. Toulan
provides, as follows:
o Annual base salary of $190,000 paid in accordance with
established Company payment procedures.
o Quarterly bonus at discretion of management based upon meeting
performance goals.
o Company benefits as customarily awarded to executive members
of management.
o Participation in Employee and Director Stock Option programs.
o Effective January 1, 2006, and for a period of not less than
24 months
Jeffrey J. Kaplan, Chief Financial Officer
Mr. Kaplan's employment contract provides, as follows:
o Annual base salary of $180,000 in year one paid in accordance
with established Company payment procedures; $200,000 in year
two and $220,000 in year three.
o Quarterly bonus at discretion of management based upon meeting
performance goals.
o Company benefits as customarily awarded to executive members
of management.
o Participation in Employee and Director Stock Option programs.
o Options for 200,000 common shares at market on November 1,
2005 as signing bonus
o Effective November 1, 2005, and for a period of not less than
36 months
Benjamin Patipa, Chief Operating Officer
A new compensation package became effective for Dr. Patipa on January 1,
2006. The basic compensation package adopted by the Company for Dr. Patipa
provides, as follows:
37
o Annual base salary of $180,000 paid in accordance with
established Company payment procedures.
o Quarterly bonus at discretion of management based upon meeting
performance goals.
o Company benefits as customarily awarded to executive members
of management.
o Participation in Employee and Director Stock Option programs.
o Effective January 1, 2006, and for a period of not less than
24 months
Michael Edwards, Chief Revenue Officer
A new compensation package became effective for Mr. Edwards on January 1,
2006. The basic compensation package adopted by the Company for Mr. Edwards
provides, as follows:
o Annual base salary of $180,000 paid in accordance with
established Company payment procedures.
o Quarterly bonus at discretion of management based upon meeting
performance goals.
o Company benefits as customarily awarded to executive members
of management.
o Participation in Employee and Director Stock Option programs.
o Effective January 1, 2006, and for a period of not less than
24 months
Tommy E. Kee, Chief Accounting Officer
A new compensation package became effective for Mr. Kee on January 1,
2006. The basic compensation package adopted by the Company for Mr. Kee
provides, as follows:
o Annual base salary of $160,000 paid in accordance with
established Company payment procedures.
o Quarterly bonus at discretion of management based upon meeting
performance goals.
o Company benefits as customarily awarded to executive members
of management.
o Participation in Employee and Director Stock Option programs.
o Effective January 1, 2006, and for a period of not less than 24 months
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The equity compensation reported in this section has been a issued pursuant to
individual compensation contracts and arrangements with employees, directors,
consultants, advisors, vendors, suppliers, lenders and service providers. The
equity is reported on an aggregate basis as of December 31, 2005. Our security
holders have not approved the compensation contracts and arrangements underlying
the equity reported.
----------------------------------------------------------------------------------------------------------------------
Number of securities
to be issued upon Weighted average price Number of securities remaining for
exercise of options, of outstanding options, future issuance under equity
Compensation Plan Category warrants and rights warrants and rights compensation plans
----------------------------------------------------------------------------------------------------------------------
Directors (former) 325,000 $0.71 0 individual plans
----------------------------------------------------------------------------------------------------------------------
Employees (former) 650,000 $0.87 60,000 individual plans
----------------------------------------------------------------------------------------------------------------------
Directors/Management & 8,872,745 $0.245 1,475,000 2005 Stock Option
Employees Incentive Plan(1)
----------------------------------------------------------------------------------------------------------------------
Consultants 510,714 $0.30 0 individual plans
----------------------------------------------------------------------------------------------------------------------
Total 10,358,459 $0.77 1,535,000
----------------------------------------------------------------------------------------------------------------------
38
On April 6, 2005, our Directors voted to adopt a Stock Option Incentive Plan for
the grant of option to directors, employees and consultants for the purchase of
up to 10,397,745 shares of our common stock. On May 12, 2005, the Board of
Directors accepted and adopted the determination of the Compensation Committee
to grant 8,922,745 of the authorized option to our employees, directors and
certain consultants. The ten-year options vest over a period of eighteen months
and have exercise prices varying from $0.20 per share to $0.30 per share, with a
weighted average exercise price of $0.24 per share.
39
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth the beneficial ownership of our company's common
stock as of December 28, 2006, as to
o each person known to beneficially own more than 5% of the
Company's common stock
o each of our directors
o each executive officer
o all directors and officers as a group
The following conditions apply to all of the following tables:
o except as otherwise noted, the named beneficial owners have
direct ownership of the stock and have sole voting and
investment power with respect to the shares shown
o the class listed as "common" includes the shares of common
stock underlying the Company's issued convertible preferred
stock, options and warrants
Beneficial Owners
--------------------------------------------------------------------------------------------------
Title of Name and Address of Amount and Nature of Percent of
Class Beneficial Owner (1) Beneficial Ownership Class (2)
--------------------------------------------------------------------------------------------------
Common Coca-Cola Enterprises 30,000,000 14.97%
Inc.
2500 Windy Ridge Parkway
Atlanta, GA 30339
--------------------------------------------------------------------------------------------------
Common Mid-Am Capital, L.L.C. (3) 19,970,723 9.97%
Northpointe Tower
10220 North Ambassador Drive
Kansas City, MO 64190
--------------------------------------------------------------------------------------------------
Common Lombard Odier Darier Hentsch & Cie (4) 16,500,000 8. 23%
Rue de la Corraterie 11
1204 Geneva
--------------------------------------------------------------------------------------------------
Common Magnetar Capital Master Fund, Ltd (4) 13,750,000 6.86%
1603 Orrington Avenue 13th Floor
Evanston, IL 60201
--------------------------------------------------------------------------------------------------
----------
(1) Beneficial Ownership is determined in accordance with the rules of
the Securities and Exchange Commission and generally includes voting
or investment power with respect to securities. Shares of common
stock subject to options or warrants currently exercisable or
convertible, or exercisable or convertible within 60 days of October
30, 2006 are deemed outstanding for computing the percentage of the
person holding such option or warrant but are not deemed outstanding
for computing the percentage of any other person.
(2) Percentage calculated from base of 202,429,528 shares of common
stock issued and outstanding.
40
(3) This owner is contractually limited to a beneficial ownership of our
equity not to exceed 9.99%. Equity listed consists of convertible
preferred, convertible debentures and/or warrants.
(4) Equity listed consists of common stock and warrants to purchase
common stock
MANAGEMENT OWNERS
------------------------------------------------------------------------------------------------
Title of Class Name and Address of Amount and Nature of Percent of Class (2)
Management Owner Ownership (1)
------------------------------------------------------------------------------------------------
Common Roy G. Warren 5,810,765(3) 2.89%
11300 US Highway No.1
N. Palm Beach, FL
------------------------------------------------------------------------------------------------
Common Robert Cummings 1,130,038(4) Less than 1%
2829 N.E. 44th Street
Lighthouse Point, FL
------------------------------------------------------------------------------------------------
Common John McCormack 1,312,538 (4) Less than 1%
8750 South Grant
Burridge, IL 60521
------------------------------------------------------------------------------------------------
Common Mr. Arthur W. 947,297 (5) Less than 1%
Blanding
Janesville, WI 53545
------------------------------------------------------------------------------------------------
Common Phillip Pearce 962,297 (6) Less than 1%
6624 Glenleaf Court
Charlotte, NC 28270
------------------------------------------------------------------------------------------------
Common Stanley Hirschman 1,040,652 (7) Less than 1%
2600 Rutgers Court
Plano, Texas 75093
------------------------------------------------------------------------------------------------
Common Roy D. Toulan, Jr. 1,615,121 (8) Less than 1%
VP, General Counsel
6 Wheelers Pt. Rd
Gloucester, MA 01930
------------------------------------------------------------------------------------------------
Common Tommy Kee 1,042,385 (8) Less than 1%
Chief Accounting Officer
11300 US Highway 1
N. Palm Beach, FL 33408
------------------------------------------------------------------------------------------------
Common Benjamin Patipa 1,358,700(8) Less than 1%
Chief Operating Officer
6139 Indian Forest Circle
Lake Worth, FL 33463
------------------------------------------------------------------------------------------------
Common Michael Edwards 2,000,000(8) Less than 1%
Vice President Sales
4140 S.E. Old St. Lucie Blvd.
Stuart, FL 34996
------------------------------------------------------------------------------------------------
41
------------------------------------------------------------------------------------------------
Common Executive officers and 17219,793 8.59%
directors as a group
------------------------------------------------------------------------------------------------
----------
(1) Beneficial Ownership is determined in accordance with the rules of the
Securities and Exchange Commission and generally includes voting or
investment power with respect to securities. Shares of common stock
subject to options or warrants currently exercisable or convertible, or
exercisable or convertible within 60 days of October 30, 2006 are deemed
outstanding for computing the percentage of the person holding such option
or warrant but are not deemed outstanding for computing the percentage of
any other person.
(2) Percentage calculated from base of 202,429,528 shares of common stock
issued and outstanding.
(3) Includes options to purchase 2,500,00 shares of our common stock pursuant
to a 2005 Incentive Stock Option Plan adopted by the Board of Directors on
May 12, 2005.
(4) Includes options to purchase 565,038 shares of our common stock pursuant
to a 2005 Incentive Stock Option Plan adopted by the Board of Directors on
May 12, 2005.
(5) Includes options to purchase 494,408 shares of our common stock pursuant
to a 2005 Incentive Stock Option Plan adopted by the Board of Directors on
May 12, 2005.
(6) Includes options to purchase 706,297 shares of our common stock pursuant
to a 2005 Incentive Stock Option Plan adopted by the Board of Directors on
May 12, 2005.
(7) Includes options to purchase 670,982 shares of our common stock pursuant
to a 2005 Incentive Stock Option Plan adopted by the Board of Directors on
May 12, 2005.
(8) Includes options to purchase 600,000 shares of our common stock pursuant
to a 2005 Incentive Stock Option Plan adopted by the Board of Directors on
May 12, 2005.
There currently are no arrangements that may result in a change of
ownership or control.
CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS
John Mc McCormack has been a director of the Company since 1997 and was
our Chief Operating Officer from December 200 to March 2003. Since December
2005, Mr. McCormack has been employed by Coca-Cola Enterprises Inc. as a
Regional Sales Manager for the supermarket channel, in Wisconsin, Minnesota and
Northern Illinois.
DESCRIPTION OF SECURITIES TO BE REGISTERED
COMMON STOCK
We are authorized to issue up to 500,000,000 shares of Common Stock, par
value $.001. As of December 28, 2006, there were 202,429,528 shares of common
stock outstanding. Holders of the common stock are entitled to one vote per
share on all matters to be voted upon by the stockholders. Holders of common
stock are entitled to receive ratably such dividends, if any, as may be declared
by the Board of Directors out of funds legally available therefor. Upon the
liquidation, dissolution, or winding up of our company, the holders of common
stock are entitled to share ratably in all of our assets which are legally
available for distribution after payment of all debts and other liabilities and
liquidation preference of any outstanding common stock. Holders of common stock
have no preemptive, subscription, redemption or conversion rights. The
outstanding shares of common stock are validly issued, fully paid and
nonassessable.
We have engaged American Stock Transfer & Trust Company located at 59
Maiden Lane, Plaza Level, New York, NY 10038, as independent transfer agent or
registrar.
42
INDEMNIFICATION FOR SECURITIES ACT LIABILITIES
Our Articles of Incorporation, as amended, provide to the fullest extent
permitted by Delaware law, our directors or officers shall not be personally
liable to us or our shareholders for damages for breach of such director's or
officer's fiduciary duty. The effect of this provision of our Articles of
Incorporation, as amended, is to eliminate our rights and our shareholders
(through shareholders' derivative suits on behalf of our company) to recover
damages against a director or officer for breach of the fiduciary duty of care
as a director or officer (including breaches resulting from negligent or grossly
negligent behavior), except under certain situations defined by statute. We
believe that the indemnification provisions in our Articles of Incorporation, as
amended, are necessary to attract and retain qualified persons as directors and
officers.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 (the "Act" or "Securities Act") may be permitted to directors,
officers or persons controlling us 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 Act and is, therefore, unenforceable.
PLAN OF DISTRIBUTION
We are registering the shares of Common Stock issuable upon conversion of
the convertible notes and upon exercise of the warrants to permit the resale of
these shares of Common Stock by the holders of the convertible notes and
warrants from time to time after the date of this prospectus. We will not
receive any of the proceeds from the sale by the selling stockholders of the
shares of Common Stock. We will bear all fees and expenses incident to our
obligation to register the shares of Common Stock.
The selling stockholders may sell all or a portion of the shares of Common
Stock beneficially owned by them and offered hereby from time to time directly
or through one or more underwriters, broker-dealers or agents. If the shares of
Common Stock are sold through underwriters or broker-dealers, the selling
stockholders will be responsible for underwriting discounts or commissions or
agent's commissions. The shares of Common Stock may be sold in one or more
transactions at fixed prices, at prevailing market prices at the time of the
sale, at varying prices determined at the time of sale, or at negotiated prices.
These sales may be effected in transactions, which may involve crosses or block
transactions,
o on any national securities exchange or quotation service on which
the securities may be listed or quoted at the time of sale;
o in the over-the-counter market;
o in transactions otherwise than on these exchanges or systems or in
the over-the-counter market;
o through the writing of options, whether such options are listed on
an options exchange or otherwise;
o ordinary brokerage transactions and transactions in which the
broker-dealer solicits purchasers;
o block trades in which the broker-dealer will attempt to sell the
shares as agent but may position and resell a portion of the block
as principal to facilitate the transaction;
o purchases by a broker-dealer as principal and resale by the
broker-dealer for its account;
o an exchange distribution in accordance with the rules of the
applicable exchange;
o privately negotiated transactions;
o short sales;
43
o sales pursuant to Rule 144;
o broker-dealers may agree with the selling securityholders to sell a
specified number of such shares at a stipulated price per share;
o a combination of any such methods of sale; and
o any other method permitted pursuant to applicable law.
If the selling stockholders effect such transactions by selling shares of
Common Stock to or through underwriters, broker-dealers or agents, such
underwriters, broker-dealers or agents may receive commissions in the form of
discounts, concessions or commissions from the selling stockholders or
commissions from purchasers of the shares of Common Stock for whom they may act
as agent or to whom they may sell as principal (which discounts, concessions or
commissions as to particular underwriters, broker-dealers or agents may be in
excess of those customary in the types of transactions involved). In connection
with sales of the shares of Common Stock or otherwise, the selling stockholders
may enter into hedging transactions with broker-dealers, which may in turn
engage in short sales of the shares of Common Stock in the course of hedging in
positions they assume. The selling stockholders may also sell shares of Common
Stock short and deliver shares of Common Stock covered by this prospectus to
close out short positions and to return borrowed shares in connection with such
short sales. The selling stockholders may also loan or pledge shares of Common
Stock to broker-dealers that in turn may sell such shares.
The selling stockholders may pledge or grant a security interest in some
or all of the convertible notes or warrants or shares of Common Stock owned by
them and, if they default in the performance of their secured obligations, the
pledgees or secured parties may offer and sell the shares of Common Stock from
time to time pursuant to this prospectus or any amendment to this prospectus
under Rule 424(b)(3) or other applicable provision of the Securities Act of
1933, as amended, amending, if necessary, the list of selling stockholders to
include the pledgee, transferee or other successors in interest as selling
stockholders under this prospectus. The selling stockholders also may transfer
and donate the shares of Common Stock in other circumstances in which case the
transferees, donees, pledgees or other successors in interest will be the
selling beneficial owners for purposes of this prospectus.
The selling stockholders and any broker-dealer participating in the
distribution of the shares of Common Stock may be deemed to be "underwriters"
within the meaning of the Securities Act, and any commission paid, or any
discounts or concessions allowed to, any such broker-dealer may be deemed to be
underwriting commissions or discounts under the Securities Act. At the time a
particular offering of the shares of Common Stock is made, a prospectus
supplement, if required, will be distributed which will set forth the aggregate
amount of shares of Common Stock being offered and the terms of the offering,
including the name or names of any broker-dealers or agents, any discounts,
commissions and other terms constituting compensation from the selling
stockholders and any discounts, commissions or concessions allowed or reallowed
or paid to broker-dealers.
Under the securities laws of some states, the shares of Common Stock may
be sold in such states only through registered or licensed brokers or dealers.
In addition, in some states the shares of Common Stock may not be sold unless
such shares have been registered or qualified for sale in such state or an
exemption from registration or qualification is available and is complied with.
There can be no assurance that any selling stockholder will sell any or
all of the shares of Common Stock registered pursuant to the registration
statement, of which this prospectus forms a part.
The selling stockholders and any other person participating in such
distribution will be subject to applicable provisions of the Securities Exchange
Act of 1934, as amended, and the rules and regulations thereunder, including,
without limitation, Regulation M of the Exchange Act, which may limit the timing
of purchases and sales of any of the shares of Common Stock by the selling
stockholders and any other participating person. Regulation M may also restrict
the ability of any person engaged in the distribution of the shares of Common
Stock to engage in market-making activities with respect to the shares of Common
Stock. All of the foregoing may affect the marketability of the shares of Common
Stock and the ability of any person or entity to engage in market-making
activities with respect to the shares of Common Stock.
44
We will pay all expenses of the registration of the shares of Common Stock
pursuant to the registration rights agreement, estimated to be approximately
$55,000 in total, including, without limitation, Securities and Exchange
Commission filing fees and expenses of compliance with state securities or "blue
sky" laws; provided, however, that a selling stockholder will pay all
underwriting discounts and selling commissions, if any. We will indemnify the
selling stockholders against liabilities, including some liabilities under the
Securities Act, in accordance with the registration rights agreements, or the
selling stockholders will be entitled to contribution. We may be indemnified by
the selling stockholders against civil liabilities, including liabilities under
the Securities Act, that may arise from any written information furnished to us
by the selling stockholder specifically for use in this prospectus, in
accordance with the related registration rights agreements, or we may be
entitled to contribution.
Once sold under the registration statement, of which this prospectus forms
a part, the shares of Common Stock will be freely tradable in the hands of
persons other than our affiliates.
PENNY STOCK
The Securities and Exchange Commission has adopted Rule 15g-9 which
establishes the definition of a "penny stock," for the purposes relevant to us,
as any equity security that has a market price of less than $5.00 per share or
with an exercise price of less than $5.00 per share, subject to certain
exceptions. For any transaction involving a penny stock, unless exempt, the
rules require:
o that a broker or dealer approve a person's account for transactions
in penny stocks; and
o the broker or dealer receive from the investor a written agreement
to the transaction, setting forth the identity and quantity of the
penny stock to be purchased.
In order to approve a person's account for transactions in penny stocks,
the broker or dealer must
o obtain financial information and investment experience objectives of
the person; and
o make a reasonable determination that the transactions in penny
stocks are suitable for that person and the person has sufficient
knowledge and experience in financial matters to be capable of
evaluating the risks of transactions in penny stocks.
The broker or dealer must also deliver, prior to any transaction in a
penny stock, a disclosure schedule prescribed by the Commission relating to the
penny stock market, which, in highlight form:
o sets forth the basis on which the broker or dealer made the
suitability determination; and
o that the broker or dealer received a signed, written agreement from
the investor prior to the transaction.
Disclosure also has to be made about the risks of investing in penny
stocks in both public offerings and in secondary trading and about the
commissions payable to both the broker-dealer and the registered representative,
current quotations for the securities and the rights and remedies available to
an investor in cases of fraud in penny stock transactions. Finally, monthly
statements have to be sent disclosing recent price information for the penny
stock held in the account and information on the limited market in penny stocks.
45
SELLING STOCKHOLDERS
The table below sets forth information concerning the resale of the shares
of common stock by the selling stockholders. We will not receive any proceeds
from the resale of the common stock by the selling stockholders. We will receive
proceeds from the exercise of the warrants. Assuming the selling stockholders
sell all the shares registered below, none of the selling stockholders will
continue to own any shares of our common stock.
The following table also sets forth the name of each person who is
offering the resale of shares of common stock by this prospectus, the number of
shares of common stock beneficially owned by each person, the number of shares
of common stock that may be sold in this offering and the number of shares of
common stock each person will own after the offering, assuming they sell all of
the shares offered.
---------------------------------------------------------------------------------------------------------------------------
Total Shares of Percentage
Common Stock Total of
outstanding and Percentage Percentage Common
issuable Upon of Common of Common Stock
exercise of Stock, Beneficial Stock Beneficial Owned
Warrants and/or Assuming Shares of Common Ownership Owned Ownership After
Conversion of Full Stock Included Included in Before After the Offering
Name(2) Debentures Conversion* in Prospectus (1) Prospectus ** Offering Offering(2) (2)
---------------------------------------------------------------------------------------------------------------------------
JULY 2006 FINANCING
---------------------------------------------------------------------------------------------------------------------------
Kings Road 58,343,094 17.13% Up to 73,483,719 22,242,534 9.99% 16,500,000 7.97%
Investments Ltd. shares of common
stock(4)
---------------------------------------------------------------------------------------------------------------------------
Evolution Master 39,922,138 16.47% Up to 71,562,763 22,242,534 9.99% -- --
Fund Ltd. shares of common
stock(5)
---------------------------------------------------------------------------------------------------------------------------
Steelhead 26,614,757 11.62% Up to 47,708,500 22,242,534 9.99% -- --
Investments Ltd. shares of common
stock(6)
---------------------------------------------------------------------------------------------------------------------------
Capital Ventures 24,248,083 10.75% Up to 40,176,208 22,242,534 9.99% 1,650,000 ***
International shares of common
stock(7)
---------------------------------------------------------------------------------------------------------------------------
Alpha Capital 6,260,424 3.02% Up to 8,126,049 4,610,424 2.23% 1,650,000 ***
Aktiengesellschaft shares of common
stock(8)
---------------------------------------------------------------------------------------------------------------------------
SG Cowen & Co., LLC 3,867,286 1.88% Up to 3,179,786 3,179,786 1.55% 687,500 ***
shares of common
stock(9)
---------------------------------------------------------------------------------------------------------------------------
NOVEMBER 2005
FINANCING
---------------------------------------------------------------------------------------------------------------------------
Lombard Odier 20,691,175 9.80% Up to 4,191,175 4,191,175 9.80% 16,500,000 7.97%
Darier Hentsch & shares of common
Cie stock(10)
---------------------------------------------------------------------------------------------------------------------------
Magnetar Capital 17,242,646 8.22% Up to 3,492,646 3,492,646 8.22% 13,750,000 6.67%
Master Fund, Ltd shares of common
stock(11)
---------------------------------------------------------------------------------------------------------------------------
46
---------------------------------------------------------------------------------------------------------------------------
Radcliffe SPC, Ltd 9,483,456 4.59% Up to 1,920,956 1,920,956 4.59% 7,562,500 3.70%
for and on behalf shares of common
of the Class A stock(12)
Convertible
Crossover
Segregated
Portfolio
---------------------------------------------------------------------------------------------------------------------------
Lagunitas Partners 2,163,222 1.06% Up to 438,787 438,787 1.06% 1,724,435 ***
LP shares of common
stock(13)
---------------------------------------------------------------------------------------------------------------------------
Gruber & McBaine 613,602 *** Up to 120,036 120,036 *** 493,566 ***
International shares of common
stock(14)
---------------------------------------------------------------------------------------------------------------------------
Jon D and Linda W 689,706 *** Up to 139,706 139,706 *** 550,000 ***
Gruber Trust shares of common
stock(15)
---------------------------------------------------------------------------------------------------------------------------
JMG Triton 1,379,412 *** Up to 279,412 279,412 *** 1,100,000 ***
Offshore Fund, Ltd. shares of common
stock(16)
---------------------------------------------------------------------------------------------------------------------------
JMG Capital 1,379,412 *** Up to 279,412 279,412 *** 1,100,000 ***
Partners, LP shares of common
stock(17)
---------------------------------------------------------------------------------------------------------------------------
UBS O'Connor LLC 2,069,118 1.02% Up to 419,118 419,118 1.02% 1,650,000 ***
FBO O'Connor PIPES shares of common
Corporate stock(18)
Strategies Master
Limited
---------------------------------------------------------------------------------------------------------------------------
Whalehaven Capital 1,724,265 *** Up to 349,265 349,265 *** 1,375,000 ***
Fund Limited shares of common
stock(19)
---------------------------------------------------------------------------------------------------------------------------
Brian Corbmen 375,000 *** Up to 349,265 375,000 *** -- --
shares of common
stock(21)
---------------------------------------------------------------------------------------------------------------------------
Oliver Colombo 62,500 *** Up to 62,500 62,500 *** -- --
shares of common
stock(22)
---------------------------------------------------------------------------------------------------------------------------
NEW CENTURY
ISSUANCE
---------------------------------------------------------------------------------------------------------------------------
New Century 2,750,000 1.35% Up to 2,750,000 *** 1.35% -- --
Capital, Inc. shares of common
stock(20)
---------------------------------------------------------------------------------------------------------------------------
----------
* Based upon 202,429,528 shares of common stock issued and outstanding on
December 28, 2006.
** The number and percentage of shares beneficially owned is determined in
accordance with Rule 13d-3 of the Securities Exchange Act of 1934, and the
information is not necessarily indicative of beneficial ownership for any other
purpose. Under such rule, beneficial ownership includes any shares as to which
the selling stockholders has sole or shared voting power or investment power and
also any shares, which the selling stockholders has the right to acquire within
60 days.
*** Less than one percent.
(1) The actual number of shares of common stock offered in this prospectus, and
included in the registration statement of which this prospectus is a part,
includes such additional number of shares of common stock as may be issued or
issuable upon the exercise of the related warrants by reason of any stock split,
stock dividend or similar transaction involving the common stock, in accordance
with Rule 416 under the Securities Act of 1933.
47
(2) Kings Road Investments Ltd. ("Kings Road") is a wholly-owned subsidiary of
Polygon Global Opportunities Master Fund ("Master Fund"). Polygon Investment
Partners LLP and Polygon Investment Partners LP (the "Investment Managers"),
Polygon Investments Ltd. (the "Manager"), the Master Fund, Alexander Jackson,
Reade Griffith and Paddy Dear share voting and dispositive power of the
securities held by Kings Road. The Investment Managers, the Manager, Alexander
Jackson, Reade Griffith and Paddy Dear disclaim beneficial ownership of the
securities held by Kings Road.
Capital Ventures International. Heights Capital Management, Inc., the authorized
agent of Capital Ventures International ("CVI"), has discretionary authority to
vote and dispose of the shares held by CVI and may be deemed to be the
beneficial owners of these shares. CVI is affiliated with one or more registered
broker-dealers. CVI purchased the shares being registered hereunder in the
ordinary course of business and at the time of purchase, had no agreements or
understandings, directly or indirectly, with any other person to distribute such
shares.
Evolution Capital Management, LLC, is the investment advisor to Evolution Master
Fund Ltd. SPC, Segregated Portfolio M. Mr. Michael Lerch, as Chief Investment
Officer of Evolution Capital Management, LLC, holds voting and investment
discretion of the securities being offered. Mr. Lerch disclaims beneficial
ownership of such securities."
Steelhead Investments Ltd HBK Investments L.P. may be deemed to have sole voting
and sole dispositive power over the securities pursuant to an Investment
Management Agreement between HBK Investments L.P. and Steelhead Investments
Ltd. Additionally, the following individuals may be deemed to have control over
HBK Investments L.P.: Kenneth M. Hirsh, Laurence H. Lebowitz, William E. Rose,
David C. Haley and Jamiel A. Akhtar. Steelhead Investments Ltd. is an affiliate
of a registered broker-dealer and has represented to us that it acquired the
securities in the ordinary course of business and, at the time of the purchase
of the securities, had no agreements or understandings, directly or indirectly,
with any person to distribute the securities.
Alpha Capital Aktiengesellschaft is a private investment fund that is owned by
all its investors and managed by Mr. Konrad Ackerman. Mr. Konrad Ackerman may be
deemed the control person of the shares owned by such entity, with final voting
power and investment control over such shares.
Lombard Odier Darier Hentsch Fund Manager, by the joint action of Messrs.
Hanspeter Blaser, Assistant Vice President, and Janik Bard Assistant Manager,
has the voting and dispositive power over the securities herein held for resale
by Lombard Odier Darier Hentsch & Cie.
Magnetar Financial LLC is the investment advisor of Magnetar Capital Master
Fund, Ltd ("Magnetar Master Fund") and consequently has voting control and
investment discretion over securities held by Magnetar Master Fund. Magnetar
Financial LLC disclaims beneficial ownership of the securities held by Magnetar
Master Fund. Alec Litowitz is the manager of Magnetar Capital Partners LLC,
which is the sole member of Magnetar Financial LLC. As a result, Mr. Litowitz
may be considered the beneficial owner of any shares deemed to be beneficially
owned by Magnetar Financial LLC. Mr. Litowitz disclaims beneficial ownership of
these shares.
Radcliffe SPC, Ltd. for and on behalf of the Class A Convertible Crossover
Segregated Portfolio. Pursuant to an investment management agreement, RG Capital
Management, L.P. ("RG Capital") serves as the investment manager of Radcliffe
SPC. Ltd's Class A Convertible Crossover Segregated Portfolio. RGC Management
Company, LLC ("Management") is the general partner of RG Capital. Steve
Katznelson and Gerald Stahlecker serve as the managing members of Management.
Each of RG Capital. Management and Messrs. Katznelson and Stahlecker disclaims
beneficial ownership of the securities owned by Radcliffe SPC, Ltd. for and on
behalf of the Class A Convertible Crossover Segregated Portfolio
Lagunitas Partners. Gruber & McBaine Cap Mgmt is the general partner for
Lagunitas Partners LP and the Investment advisor for Gruber & MCBaine
International having full power to vote and invest on their behalf. Gruber &
McBaine Cap Mgmt mangers Jon D Gruber & J Patterson McBaine oversee the voting
activity
Gruber & McBaine International. Gruber & McBaine Cap Mgmt is the general partner
for Lagunitas Partners LP and the Investment advisor for Gruber & MCBaine
International having full power to vote and invest on their behalf. Gruber &
McBaine Cap Mgmt mangers Jon D Gruber & J Patterson McBaine oversee the voting
activity.
Jon D and Linda W Gruber Trust. The Jon D and Linda W Gruber Trust is a private
investment trust. Jon Gruber and Linda Gruber are the Trustees and have full
power to vote and invest on behalf of the Trust
JMG Triton Offshore Fund, Ltd. (the "Fund") is an international business company
organized under the laws of the British Virgin Islands. The Fund's investment
manager is Pacific Assets Management LLC, a Delaware limited liability company
(the "Manager") that has voting and dispositive power over the Fund's
investments, including the Registrable Securities. The equity interests of the
Manager are owned by Pacific Capital Management, Inc., a California corporation
("Pacific") and Asset Alliance Holding Corp., a Delaware corporation. The equity
interests of Pacific are owned by Messrs. Roger Richter, Jonathan M. Glaser and
Daniel A. David. Messrs. Glaser and Richter have sole investment discretion over
the Fund's portfolio holdings.
48
JMG Capital Partners, L.P. ("JMG Partners") is a California limited partnership.
Its general partner is JMG Capital Management, LLC (the "Manager"), a Delaware
limited liability company and an investment adviser that has voting and
dispositive power over JMG Partners' investments, including the Registrable
Securities. The equity interests of the Manager are owned by JMG Capital
Management, Inc., ("JMG Capital") a California corporation, and Asset Alliance
Holding Corp., a Delaware corporation. Jonathan M. Glaser is the Executive
Officer and Director of JMG Capital and has sole investment discretion over JMG
Partners' portfolio holdings.
The selling security holder (O'Connor PIPES Corporate Strategies Master Limited)
of this security is a fund which cedes investment control to UBS O'Connor LLC
(the Investment Manager). The Investment Manager makes all of the investment /
voting decisions. UBS O'Connor LLC is a wholly owned subsidiary of UBS AG which
is listed on the NYSE.
UBS O'Connor LLC is a wholly owned subsidiary of UBS AG which is listed and
traded on the NYSE. The Investment Manager (UBS O'Connor LLC) makes all of the
investment / voting decisions
Whalehaven Funds Limited is a professional hedge fund incorporated in Bermuda.
The control persons are Evan Schemenauer, Arthur Jones, and Jennifer Kelly,
directors.
SG Cowen & Co., LLC. William Buchanan is the Head of Equity Capital Markets and
a Managing Director at SG Cowen & Co., LLC and is responsible for investment
decisions at SG Cowen. SG Cowen is a registered broker-dealer. SG Cowen received
these shares in consideration for providing investment banking services provided
to our company.
(3) Assumes that all securities registered will be sold.
(4) Total shares being registered represents shares issued or issuable in
connection with the July 2006 financing including (i) 14,062,500 shares of
common stock issuable upon conversion of the Initial Notes; (ii) 17,578,125
shares of common stock issuable upon conversion of the Additional Notes; (iii)
8,281,513 shares of common stock issuable upon exercise of the Series A
Warrants; and (iv) 31,640,625 shares of common stock issuable upon exercise of
the Series B Warrants, which such exercise is contingent upon our exercise of
the Company Redemption. In addition, the total shares being registered
represents 1,920,952 shares of common stock issuable upon exercise of the
Additional November 2005 Warrants issued in connection with the November 2005
Financing.
(5) Total shares being registered represents shares issued or issuable in
connection with the July 2006 financing including (i) 14,062,500 shares of
common stock issuable upon conversion of the Initial Notes; (ii) 17,528,125
shares of common stock issuable upon conversion of the Additional Notes; (iii)
8,281,513 shares of common stock issuable upon exercise of the Series A
Warrants; and (iv) 31,640,625 shares of common stock issuable upon exercise of
the Series B Warrants, which such exercise is contingent upon our exercise of
the Company Redemption.
(6) Total shares being registered represents shares issued or issuable in
connection with the July 2006 financing including (i) 9,375,000 shares of common
stock issuable upon conversion of the Initial Notes; (ii) 11,718,750 shares of
common stock issuable upon conversion of the Additional Notes; (iii) 5,521,007
shares of common stock issuable upon exercise of the Series A Warrants; and (iv)
21,093,750 shares of common stock issuable upon exercise of the Series B
Warrants, which such exercise is contingent upon our exercise of the Company
Redemption.
(7) Total shares being registered represents shares issued or issuable in
connection with the July 2006 financing including (i) 7,812,500 shares of common
stock issuable upon conversion of the Initial Notes; (ii) 9,765,625 shares of
common stock issuable upon conversion of the Additional Notes; (iii) 4,600,840
shares of common stock issuable upon exercise of the Series A Warrants; and (iv)
17,578,125 shares of common stock issuable upon exercise of the Series B
Warrants, which such exercise is contingent upon our exercise of the Company
Redemption. In addition, the total shares being registered represents 419,118
shares of common stock issuable upon exercise of the Additional November 2005
Warrants issued in connection with the November 2005 Financing.
49
(8) Total shares being registered represents shares issued or issuable in
connection with the July 2006 financing including (i) 1,562,500 shares of common
stock issuable upon conversion of the Initial Notes; (ii) 1,953,125 shares of
common stock issuable upon conversion of the Additional Notes; (iii) 920,167
shares of common stock issuable upon exercise of the Series A Warrants; and (iv)
3,515,625 shares of common stock issuable upon exercise of the Series B
Warrants, which such exercise is contingent upon our exercise of the Company
Redemption. In addition, the total shares being registered represents 174,632
shares of common stock issuable upon exercise of the Additional November 2005
Warrants issued in connection with the November 2005 Financing.
(9) Total shares being registered represents shares issued or issuable in
connection with the July 2006 financing including (i) 620,127 shares of common
stock issuable upon exercise of the Series A Warrants; and (ii) 2,205,881 shares
of common stock issuable upon exercise of the Series B Warrants. In addition,
the total shares being registered represents 283,778 shares of common stock
issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(10) The total shares being registered represents 4,191,175 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(11) The total shares being registered represents 3,492,646 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(12) The total shares being registered represents 1,920,956 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(13) The total shares being registered represents 438,787 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(14) The total shares being registered represents 120,036 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(15) The total shares being registered represents 139,706 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(16) The total shares being registered represents 279,412 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(17) The total shares being registered represents 279,412 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(18) The total shares being registered represents 419,118 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(19) The total shares being registered represents 349,265 shares of common
stock issuable upon exercise of the Additional November 2005 Warrants issued in
connection with the November 2005 Financing.
(20) Represents 1,750,000 shares of common stock and 1,000,000 shares issuable
upon exercise of common stock purchase warrants.
(21) Represents 375,000 shares issuable upon exercise of common stock purchase
warrants exercisable at $0.32 per share.
(22) Represents 62,500 shares issuable upon exercise of common stock purchase
warrants exercisable at $0.32 per share.
July 2006 Financing
On July 26, 2006, we entered into a Securities Purchase Agreement with
five accredited institutional investors, for the issuance and sale of $30
million in senior convertible notes that are due in January 2010. Under the
terms of the financing, we sold $30 million in senior convertible notes, of
which $15 million (the "Initial Notes") were released upon closing and $15
million (the "Additional Notes") were released from escrow in November 2006. The
Initial Notes carry a 9% annual coupon, payable quarterly, and were initially
convertible into shares of common stock at $0.70 per share. The Additional Notes
carry a 9% annual coupon, payable quarterly, and were initially convertible into
shares of common stock at $0.70 per share and then subsequently to $0.51 per
share. In addition, the Additional Notes also provide that, from and after
October 10, 2006 through December 15, 2006, the holder may require us to redeem
at such holder's option any portion of the holder's Additional Note in cash at a
price equal to 125% of the amount redeemed (the "Holder Optional Redemption").
In the event that such holder does not exercise the Holder Optional Redemption,
the holder's right to any such optional redemptions shall terminate; provided,
however, that once a holder delivers such a request, its right to deliver a
subsequent request shall terminate.
50
We also issued to the investors series A warrants to purchase 13,178,571
shares of common stock initially exercisable at $0.73 per share (the "Series A
Warrants") that expire in July 2011 and series B warrants to purchase 43,392,856
shares of common stock initially exercisable at $0.73 per share (the "Series B
Warrants") that expire in July 2011. We have the option to redeem the Initial
Notes and the Amended Notes at a date earlier than maturity (the "Company
Redemption"). If we exercise the Company Redemption, the holders will have the
right to exercise the Series B Warrants and receive common shares to which these
contingent warrants are indexed. Absent our exercise of the Company Redemption
to redeem the Initial Notes and/or the Additional Notes, the holders have no
right to exercise the Series B Warrants.
Pursuant to a Registration Rights Agreement between our company and the
investors, also dated July 26, 2006, we agreed to prepare and file a
registration statement covering the resale of the shares issuable upon the
conversion of the senior convertible notes and exercise of the warrants. We
agreed to file this resale registration statement by the later to occur of (i)
August 26, 2006 and (ii) 15 days following the effectiveness of the Form SB-2
filed by our company on December 21, 2005, but in no event later than October
10, 2006. If, among other things, (a) we fail to file the resale registration
statement within the period described above, which we were unable to do, or (b)
we fail to cause the resale registration statement to be effective by the SEC
within 60 days following the date we file the resale registration statement, or
within 90 days, if there is a review of the resale registration statement by the
SEC, we will be obligated to pay to each investor, as partial relief, on the
date of such failure, an amount in cash equal to .75% of the aggregate purchase
price paid by such investor for the notes and the warrants. We will be further
obligated to pay, as partial relief, an amount in cash equal to 1.5% of the
aggregate purchase price paid by such investor for the notes and the warrants on
every thirtieth day that such failure continues (prorated for partial periods).
On August 31, 2006, we entered into Amendment Agreements with respect to
the July 26, 2006 $30 million senior convertible notes transaction described
above. Pursuant to the Amendment Agreements, the investors each agreed to
release us from the events of default that occurred under the terms of the
Initial Notes and Additional Notes as a result of our late filing of our Form
10-QSB for the quarterly period ended June 30, 2006. We agreed, in consideration
for such releases, to exchange the Additional Notes for amended and restated
notes (the "Amended and Restated Notes").
The terms of the Amended and Restated Notes differ from the terms of the
Additional Notes in certain regards. The conversion price applicable was reduced
from $0.70 to $0.51. We also granted the Holder Optional Redemption as discussed
above.
On December 29, 2006, we entered into Amendment and Exchange Agreements
(the "December Amendment") with these investors. Pursuant to the December
Amendment, each of the investors agreed to release our company from the events
of default that occurred under the terms of the Initial Notes and Additional
Notes as a result of our late filing of its Form 10-QSB for the quarterly period
ended June 30, 2006. Each of the investors waived any events of default in the
Amended and Restated Additional Notes relating to our failure to pay the Holder
Optional Redemption. Further, we agreed to capitalize the $3,750,000 redemption
premium (which represents a 25% premium on the $15,000,000 principal amount of
the Additional Notes) with respect to the investors' right to compel redemption
pursuant to the Holder Redemption. Also, in connection with the December
Amendment, the investors' right to compel redemption by exercise of the Holder
Redemption has been terminated.
In consideration for each of the investors entering into the December
Amendment, we agreed to amend and restate the terms of the Initial Notes, the
Additional Notes, the Series A Warrants and the Series B Warrants. The
conversion price of the Initial Notes and the Additional Notes has been reduced
to $0.32. The exercise price of the Series A Warrants and the Series B Warrants
was reduced to $0.34.
This prospectus relates to the resale of the shares of common stock to be
issued upon conversion of the senior convertible notes and exercise of common
stock purchase warrants described above.
November 2005 Financing
On November 28, 2005, we closed a funding transaction with 13 accredited
institutional investors, for the issuance and sale of common stock for a
purchase price of $20,250,000. We also issued five-year warrants for the
purchase of an additional 15,187,500 shares of common stock at an exercise price
of $0.51 per share to these investors. In addition, in July 2006, we entered
into a letter agreement with each of the accredited institutional investors
pursuant to which we issued additional five-year warrants to purchase an
aggregate of 8,809,276 shares of common stock exercisable at an exercise price
of $0.51 per share (the "Additional November 2005 Warrants") as a result of the
trigger of certain anti-dilution provisions. In December 2006, as a result of
the anti dilution provisions being triggered, the number of shares exercisable
upon exercise of the Additional November 2005 Warrants was increased to
14,318,478 and the exercise price was adjusted to $0.32. In addition, we issued
common stock purchase warrants to purchase 437,500 shares of common stock,
exercisable at a price of $0.32 per share, to two finders (the "Finders
Warrants"). This prospectus relates to the resale of the shares of common stock
underlying the Additional November 2005 Warrants and the Finders Warrants.
New Century Capital
On March 15, 2005, we entered into a consulting agreement with New Century
Capital, Inc. ("New Century") pursuant to which New Century provided us with
business and marketing development services. In consideration for providing such
services, we issued New Century 2,500,000 shares of common stock and a common
stock purchase warrant to purchase 1,000,000 shares of common stock at an
exercise price of $0.25 per share. This prospectus relates to the resale of
1,750,000 shares of common stock and 1,000,000 shares of common stock underlying
the warrants.
LEGAL MATTERS
Sichenzia Ross Friedman Ference LLP, New York, New York will issue an
opinion with respect to the validity of the shares of common stock being offered
hereby.
EXPERTS
51
Lazar Levine & Felix LLP , Certified Public Accountants, have audited, as
set forth in their report thereon appearing elsewhere herein, our financial
statements at December 31, 2005 and 2004 and for the year then ended that
appears in the prospectus.
AVAILABLE INFORMATION
We have filed a registration statement on Form SB-2 under the
Securities Act of 1933, as amended, relating to the shares of common stock being
offered by this prospectus, and reference is made to such registration
statement. This prospectus constitutes the prospectus of Bravo! Brands Inc.,
filed as part of the registration statement, and it does not contain all
information in the registration statement, as certain portions have been omitted
in accordance with the rules and regulations of the Securities and Exchange
Commission.
We are subject to the informational requirements of the Securities
Exchange Act of 1934 which requires us to file reports, proxy statements and
other information with the Securities and Exchange Commission. Such reports,
proxy statements and other information may be inspected at public reference
facilities of the SEC at 100 F Street N.E., Washington D.C. 20549. Copies of
such material can be obtained from the Public Reference Section of the SEC at
100 F. Street N.E., Washington, D.C. 20549 at prescribed rates. Because we file
documents electronically with the SEC, you may also obtain this information by
visiting the SEC's Internet website at http://www.sec.gov.
52
INDEX TO FINANCIAL STATEMENTS
BRAVO! BRANDS INC. AND SUBSIDIARY
FINANCIAL STATEMENTS
For the Nine Months Ended September 30, 2006
Consolidated Balance Sheets F-1
Consolidated Statements of Operations and Comprehensive Loss F-3
Consolidated Statements of Cash Flow F-4
Notes to Consolidated Financial Statements F-5
For the Years Ended December 31, 2004 and December 31, 2003
Report of Independent Registered Public Accounting Firm F-43
Consolidated Balance Sheets F-44
Consolidated Statements of Operations and Comprehensive Loss F-46
Consolidated Statements of Cash Flow F-47
Consolidated Statement of Stockholders' Capital Deficit F-49
Notes to Consolidated Financial Statements F-50
53
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2006 2005
------------- ------------
(Unaudited)
Assets
Current assets:
Cash and cash equivalents $ 1,138,124 $ 4,947,986
Restricted cash 14,500,000 --
Accounts receivable, net of allowances for doubtful accounts of
$447,634 and $350,000 for 2006 and 2005, respectively 255,259 3,148,841
Inventories 847,428 391,145
Prepaid expenses 1,320,554 973,299
------------- -------------
Total current assets 18,061,365 9,461,271
Furniture and equipment, net 723,813 288,058
Intangible assets, net 19,002,956 18,593,560
Other assets 1,988,145 15,231
------------- -------------
Total assets $ 39,776,279 $ 28,358,120
============= =============
Liabilities, Redeemable Preferred Stock and Stockholders' Equity (Deficit)
Current liabilities:
Accounts payable $ 4,563,807 $ 5,987,219
Accrued liabilities 9,984,851 4,872,277
Current maturities of notes payable 243,627 937,743
Convertible debt 20,846,607 1,012,780
Derivative liabilities 37,075,023 35,939,235
------------- -------------
Total current liabilities 72,713,915 48,749,254
Notes payable, less current maturities 81,685 -
------------- -------------
Total liabilities 72,795,600 48,749,254
------------- -------------
F-1
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
2006 2005
------------- ------------
(Unaudited)
Commitments and contingencies (Note 9) - -
Redeemable preferred stock:
Series F convertible, par value $0.001 per share, 200,000 shares
designated, Convertible Preferred Stock, stated value $10.00 per
share, 5,248 shares issued and outstanding - 52,480
Series H convertible, par value $0.001 per share, 350,000 shares
designated, 7% Cumulative Convertible Preferred Stock, stated value
$10.00 per share, 52,500 and 64,500 shares issued and outstanding 502,507 388,305
Series J, par value $0.001 per share, 500,000 shares designated, 8%
Cumulative Convertible Preferred Stock, stated value $10.00 per share,
200,000 shares issued and outstanding 1,349,614 871,043
Series K, par value $0.001 per share, 500,000 shares designated, 8%
Cumulative Convertible Preferred Stock, stated value $10.00 per share,
95,000 shares issued and outstanding 826,233 792,672
------------- -------------
Total redeemable preferred stock 2,678,354 2,104,500
------------- -------------
Stockholders' equity (deficit):
Preferred stock, 5,000,000 shares authorized
Series B Preferred, par value $0.001 per share, 1,260,000 shares
designated, 9% Convertible Preferred Stock, stated value $1.00 per
share, 107,440 shares issued and outstanding 107,440 107,440
Common stock, par value $0.001 per share, 300,000,000 shares authorized,
200,179,528 and 184,253,753 shares issued and outstanding 200,180 184,254
Additional paid-in capital 100,484,804 96,507,932
Common stock subscription receivable (10,000) (10,000)
Accumulated deficit (136,479,834) (119,254,501)
Cumulative translation adjustment (265) (30,759)
------------- -------------
Total stockholders' equity (deficit) (35,697,675) (22,495,634)
------------- -------------
Total liabilities, Redeemable Preferred Stock and Stockholders'
Equity (Deficit) $ 39,776,279 $ 28,358,120
============= =============
See accompanying notes.
F-2
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------- ------------------------------
2006 2005 2006 2005
---- ---- ---- ----
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
(Restated) (Restated)
Revenues $ 5,110,200 $ 3,245,305 $ 12,376,641 $ 6,591,693
Product costs (4,240,277) (2,360,884) (10,440,374) (4,719,011)
Shipping costs (409,453) (395,073) (1,154,089) (825,909)
------------- ------------- ------------- ------------
Gross margin 460,470 489,348 782,178 1,046,773
Operating expenses:
Selling expense 6,663,113 1,525,944 12,874,022 3,046,524
General and administrative expense 4,057,823 375,081 7,454,344 2,970,159
Product development 232,593 185,042 509,912 400,799
------------- ------------- ------------- ------------
Loss from operations (10,493,059) (1,596,719) (20,056,100) (5,370,709)
Other income (expense)
Derivative income (expense), net 11,056,420 23,321,020 10,958,409 (52,518,630)
Interest income (expense), net (1,163,599) (152,001) (1,594,860) (1,643,891)
Liquidated damages (225,938) - (4,784,213) -
Non-recurring finders' fee - (3,000,000) - (3,000,000)
Legal settlement - - (552,600) -
Loss from extinguishment of debt (425,869) - (425,869) 7,164
Other income (expense) - (893,148) - (893,148)
------------- ------------- ------------- ------------
Income (loss) before income taxes (1,252,045) 17,679,152 (16,455,233) (63,419,214)
Provision for income taxes - - - -
------------- ------------- ------------- ------------
Net income (loss) (1,252,045) 17,679,152 (16,455,233) (63,419,214)
Preferred stock dividends and accretion (411,719) (215,689) (952,979) (1,080,399)
------------- ------------- ------------- ------------
Income (loss) applicable to common
stockholders $ (1,663,764) $ 17,463,463 $ (17,408,212) $(64,499,613)
============= ============= ============= ============
Loss per common share:
Basic income (loss) per common share $ (0.01) $ 0.15 $ (0.09) $ (0.79)
============= ============= ============= ============
Diluted income (loss) per common share $ (0.01) $ 0.00 $ (0.09) $ (0.79)
============= ============= ============= ============
Weighted average common shares outstanding 194,492,040 113,680,645 189,474,500 82,091,556
============= ============= ============= ============
Comprehensive income (loss):
Net income (loss) $ (1,252,045) $ 17,679,152 $ (16,455,233) $(63,419,214)
Foreign currency translation 9,055 (18,322) 30,494 (23,649)
------------- ------------- ------------- ------------
Comprehensive income (loss) $ (1,242,990) $ 17,660,830 $ (16,424,739) $(63,442,863)
============= ============= ============= ============
See accompanying notes.
F-3
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended September 30
2006 2005
-------------------------------
(Unaudited) (Unaudited)
(Restated)
Cash Flow from Operating Activities:
Net loss $(16,455,233) $(63,419,214)
Adjustments to net loss
Depreciation and amortization 2,504,512 1,241,959
Allowance for doubtful accounts 97,634 -
Legal settlement for Marvel warrants 552,600 -
Stock issuance for consulting expense 317,566 346,438
Derivative (gain) expense, net (10,958,409) 52,518,630
(Gain)/loss on debt extinguishment 425,869 (7,164)
Amortization of debt discount 850,000 1,335,678
Stock compensation expense 333,868 654,592
Gain/Loss on disposal of fixed assets 1,998 -
Changes in operating assets & liabilities:
Accounts receivable 2,795,948 (149,281)
Inventories (456,283) (241,173)
Prepaid expenses and other assets (353,518) (1,008,700)
Accounts payable and accrued expenses 3,748,744 5,117,240
------------ ------------
Net cash used in operating activities (16,594,704) (3,610,995)
------------ ------------
Cash Flows from Investing Activities:
Licenses and trademark costs (187,878) (789,171)
Purchases of equipment (520,166) (90,583)
------------ ------------
Net cash used in investing activities (708,044) (879,754)
------------ ------------
Cash Flows provided by financing activities:
Proceeds from exercise of warrants 700,000 2,958,509
Proceeds from convertible notes payable 31,669,323 2,350,000
Restricted cash (14,500,000)
Proceeds from sale of stock and warrants 151,951 450,000
Payments of dividends (33,771) -
Payment of notes payable (2,281,754) -
Redeem warrants - (100,000)
------------ ------------
Registration and deferred financing costs (2,243,357) (704,142)
------------ ------------
Net cash provided by financing activities 13,462,392 4,954,367
------------ ------------
Effect of changes in exchange rates on cash 30,494 (23,649)
------------ ------------
Net (decrease) increase in cash and cash equivalents (3,809,862) 439,969
Cash and cash equivalent, beginning of period 4,947,986 113,888
------------ ------------
Cash and cash equivalent, ending of period $ 1,138,124 $ 553,857
============ ============
See accompanying notes.
F-4
BRAVO! BRANDS INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2006
(UNAUDITED)
Note 1 - Nature of Business, Basis of Presentation and Liquidity and
Management's Plans
Nature of Business:
We are engaged in the sale of flavored and organic milk products and flavor
ingredients in the United States, the United Kingdom and the Middle East, and
we are establishing an infrastructure to conduct business in Canada.
Basis of Presentation:
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Form 10QSB, Item
310(b) of Regulation S-B and Article 10 (01)(c) of Regulation S-X.
Accordingly, the accompanying financial statements do not include all the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
all adjustments (consisting of normal recurring adjustments) considered
necessary for a fair presentation have been included in the accompanying
financial statements. Operating results for the three and nine-month
periods ending September 30, 2006 are not necessarily indicative of the
results that may be expected for the year ended December 31, 2006.
Liquidity and Management's Plans:
As reflected in the accompanying consolidated financial statements, we have
incurred operating losses and negative cash flow from operations and have a
working capital deficiency of $54,652,550 as of September 30, 2006. In
addition, we experienced delays in filing our financial statements and
registration statements due to errors in our historical accounting that
have now been corrected. Our inability to make these filings has resulted
in our recognition of significant penalties to the investors during the
quarter ended September 30, 2006. However, these penalties ceased on
November 7, 2006 when the Securities and Exchange Commission declared
effective our Amended Form SB-2 registration statement filed in November
2006. Finally, our revenues are significantly concentrated with one major
customer. The loss of this customer or curtailment in business with this
customer could have a material adverse effect on our business. These
conditions raise substantial doubt about our ability to continue as a going
concern.
We have been dependent upon third party financings as we execute our
business model and plans. In July 2006, we completed a $30.0 million
convertible note financing that is expected to fulfill our liquidity
requirements through the end of 2006. As of September 30, 2006, $14.5
million of the proceeds from this financing arrangement were restricted and
held in escrow, pending effectiveness of our Amended Forms SB-2
registration statement. However, such proceeds were released to us on
November 14, 2006.
We plan to increase our sales, improve our gross profit margins, augment
our international business and, if necessary, obtain additional financing.
Ultimately, our ability to continue is dependent upon the achievement of
profitable operations. There is no assurance that further funding will be
available at acceptable terms, if at all, or that we will be able to
achieve profitability.
The accompanying financial statements do not reflect any adjustments that
may result from the outcome of this uncertainty.
F-5
Note 2 - Summary of Significant Accounting Policies:
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 estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting period. Among the
more significant estimates included in our financial statements are the
following:
- Estimating future bad debts on accounts receivable that are carried
at net realizable values.
- Estimating our reserve for unsalable and obsolete inventories that
are carried at lower of cost or market.
- Estimating the fair value of our financial instruments that are
required to be carried at fair value.
- Estimating the recoverability of our long-lived assets.
We use all available information and appropriate techniques to develop our
estimates. However, actual results could differ from our estimates.
Business Segment and Geographic Information
-------------------------------------------
We operate in one dominant industry segment that we have defined as the
single serve flavored milk industry. While our international business is
expected to grow in the future, it currently contributes less than 10% of
our revenues, and we have no physical assets outside of the United States.
Revenue Recognition
-------------------
Our revenues are derived from the sale of branded milk products to
customers in the United States of America, Great Britain and the Middle
East. Geographically, our revenues are dispersed 99% and 1% between the
United States of America and internationally, respectively. We currently
have one customer in the United States that provided 79% and 0% of our
revenue during the nine months ended September 30, 2006 and 2005,
respectively.
Revenues are recognized pursuant to formal revenue arrangements with our
customers, at contracted prices, when our product is delivered to their
premises and collectibility is reasonably assured. We extend
merchantability warranties to our customers on our products, but otherwise
do not afford our customers with rights of return. Warranty costs have
historically been insignificant.
Our revenue arrangements often provide for industry-standard slotting fees
where we make cash payments to the respective customer to obtain rights to
place our products on their retail shelves for a stipulated period of time.
We also engage in other promotional discount programs in order to enhance
our sales activities. We believe our participation in these arrangements is
essential to ensuring continued volume and revenue growth in the
competitive marketplace. These payments, discounts and allowances are
recorded as reductions to our reported revenue. Unamortized slotting fees
are recorded in prepaid expenses.
F-6
Principles of Consolidation
---------------------------
Our consolidated financial statements include the accounts of Bravo! Brands
Inc (the "Company"), and its wholly-owned subsidiary Bravo! Brands (UK)
Ltd. All material intercompany balances and transactions have been
eliminated.
Recent Accounting Pronouncements:
---------------------------------
SEC Staff Accounting Bulletin 108 ("SAB 108"), Considering the Effects of
Prior Year Misstatements when Qualifying Misstatements in Current Year
Financial Statements
In September 2006, the SEC staff issued Staff Accounting Bulletin No. 108,
"Considering the Effects of Prior Year Misstatements when Quantifying
Misstatements in Current Year Financial Statements." SAB 108 was issued in
order to eliminate the diversity of practice surrounding how public
companies quantify financial statement misstatements.
Traditionally, there have been two widely-recognized methods for
quantifying the effects of financial statement misstatements: the "roll-
over" method and the "iron curtain" method. The roll-over method focuses
primarily on the impact of a misstatement on the income statement-including
the reversing effect of prior year misstatements-but its use can lead to
the accumulation of misstatements in the balance sheet. The iron-curtain
method, on the other hand, focuses primarily on the effect of correcting
the period-end balance sheet with less emphasis on the reversing effects of
prior year errors on the income statement.
In SAB 108, the SEC staff established an approach that requires
quantification of financial statement misstatements based on the effects of
the misstatements on each of the company's financial statements and the
related financial statement disclosures. This model is commonly referred to
as a "dual approach" because it requires quantification of errors under
both the iron curtain and the roll-over methods.
SAB 108 permits existing public companies to initially apply its provisions
either by (i) restating prior financial statements as if the "dual
approach" had always been used or (ii) recording the cumulative effect of
initially applying the "dual approach" as adjustments to the carrying
values of assets and liabilities as of January 1, 2006 with an offsetting
adjustment recorded to the opening balance of retained earnings.
We will adopt the provisions of SAB 108 in connection with the preparation
of our annual financial statements for the year ending December 31, 2006.
We are in the process of evaluating the impact, if any, on our financial
statements of initially applying the provisions of SAB 108.
Statement of Financial Accounting Standard 158, Fair Value Measurements
("SFAS 158")
On September 15, 2006, the Financial Accounting Standard Board issued a
standard that provides enhanced guidance for using fair value to measure
assets and liabilities. The standard applies whenever other standards
require (or permit) assets or liabilities to be measured at fair value. The
standard does not expand the use of fair value in any new circumstances.
This Statement is effective for financial statements issued for fiscal
years beginning after November 15, 2007, and interim periods within those
fiscal years. Earlier application is encouraged, provided that the
reporting entity has not yet issued financial statements for that fiscal
year, including financial statements for an interim period within that
fiscal year. The Company will adopt this pronouncement effective January 1,
2007. We are currently evaluating the impact of adopting this pronouncement
on our financial statements.
F-7
FSP FAS 123(R )-5, Amendment of FASB Staff Position FAS 123(R)-1
FSP FAS 123(R )-5 was issued on October 10, 2006. The FSP provides that
instruments that were originally issued as employee compensation and then
modified, and that modification is made to the terms of the instrument
solely to reflect an equity restructuring that occurs when the holders are
no longer employees, no change in the recognition or the measurement (due
to a change in classification) of those instruments will result if both of
the following conditions are met: (a). There is no increase in fair value
of the award (or the ratio of intrinsic value to the exercise price of the
award is preserved, that is, the holder is made whole), or the antidilution
provision is not added to the terms of the award in contemplation of an
equity restructuring; and (b). All holders of the same class of equity
instruments (for example, stock options) are treated in the same manner.
The provisions in this FSP shall be applied in the first reporting period
beginning after the date the FSP is posted to the FASB website. We will
adopt this FSP from its effective date. We currently do not believe that
its adoption will have any impact on our financial statements.
Shipping and Handling Costs
---------------------------
Shipping and handling costs incurred to deliver products to our customers
are included as a component of cost of sales. These costs amounted to
$409,453 and $395,073 for the three months ended September 30, 2006 and
2005, respectively; $1,154,089 and $825,909 for the nine months ended
September 30, 2006 and 2005, respectively.
Cash and Cash Equivalents
-------------------------
We consider all highly liquid investments purchased with a remaining
maturity of three months or less to be cash equivalents.
Accounts Receivable
-------------------
Our accounts receivable are exposed to credit risk. During the normal
course of business, we extend unsecured credit to our customers with normal
and traditional trade terms. Typically credit terms require payments to be
made by the thirtieth day following the sale. We regularly evaluate and
monitor the creditworthiness of each customer. We provide an allowance for
doubtful accounts based on our continuing evaluation of our customers'
credit risk and our overall collection history. As of September 30, 2006
and December 31, 2005, the allowance of doubtful accounts aggregated
$447,634 and $350,000, respectively.
Inventories
-----------
Inventories, which consist primarily of finished goods, are stated at the
lower of cost on the first in, first-out method or market. Our inventories
at September 30, 2006 have substantially increased from levels at December
31, 2005 in order to support our contractual arrangement with a significant
customer. Further, our inventories are perishable. Accordingly, we estimate
and record lower-of-cost or market and unsalable-inventory reserves based
upon a combination of our historical experience and on a specific
identification basis. During the nine months ended September 30, 2006, we
provided reserves for unsalable inventories amounting to $44,601.
In November 2004, the FASB issued Financial Accounting Standard No. 151,
Inventory Costs, an amendment of ARB No. 43 Chapter 4 (FAS 151), which
clarifies that inventory costs that are "abnormal" are required to be
charged to expense as incurred as opposed to being capitalized into
inventory as a product cost. FAS 151 provides examples of "abnormal" costs
to include costs of idle facilities, excess freight and handling costs and
spoilage. FAS 151 became effective for our fiscal year beginning January 1,
2006.
F-8
Furniture and Equipment
-----------------------
Furniture and equipment are stated at cost. Depreciation is computed using
the straight-line method over a period of seven years for furniture and
five years for equipment. Maintenance, repairs and minor renewals are
charged directly to expenses as incurred. Additions and betterments to
property and equipment are capitalized. When assets are disposed of, the
related cost and accumulated depreciation thereon are removed from the
accounts, and any resulting gain or loss is included in the statement of
operations.
Intangible Assets
-----------------
Our intangible assets as of September 30, 2006 and December 31, 2005
consist of our distribution agreement with Coca-Cola Enterprises ("CCE"),
our manufacturing agreements with Jasper Products, Inc. and HP Hood, LLC,
and license and trademark costs. Estimated useful lives range from one to
ten years. The following table illustrates information about our intangible
assets:
September 30, 2006 December 31, 2005
----------------------------------------
Distribution agreement $15,960,531 $15,960,531
Manufacturing agreements 5,084,055 2,700,000
Licenses and trademarks 450,825 1,315,958
Less accumulated amortization (2,492,455) (1,382,929)
----------------------------------------
$19,002,956 $18,593,560
========================================
Amortization expense amounted to $618,251 and $2,167,540 for the three and
nine months ended September 30, 2006 and $402,812 and $729,775 for the
three and nine months ended September 30, 2005.
Estimated future amortization of our intangible assets is as follows as of
September 30, 2006:
Three months ended December 31, 2006 $ 660,026
==========
Year ended:
December 31, 2007 $2,600,290
==========
December 31, 2008 $2,583,684
==========
December 31, 2009 $2,583,187
==========
December 31, 2010 $2,430,632
==========
December 31, 2011 $1,994,934
==========
Impairment of Long-Lived Assets
-------------------------------
We evaluate the carrying value and recoverability of our long-lived assets
when circumstances warrant such evaluation by applying the provisions of
Financial Accounting Standard No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets ("FAS 144"). FAS 144 requires that long-lived
assets be reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable through the estimated undiscounted cash flows expected to
result from the use and eventual disposition of the assets. Whenever any
such impairment exists, an impairment loss will be recognized for the
amount by which the carrying value exceeds the fair value.
F-9
Financial Instruments
---------------------
Financial instruments, as defined in Financial Accounting Standard No. 107
Disclosures about Fair Value of Financial Instruments (FAS 107), consist of
cash, evidence of ownership in an entity and contracts that both (i) impose
on one entity a contractual obligation to deliver cash or another financial
instrument to a second entity, or to exchange other financial instruments
on potentially unfavorable terms with the second entity, and (ii) conveys
to that second entity a contractual right (a) to receive cash or another
financial instrument from the first entity, or (b) to exchange other
financial instruments on potentially favorable terms with the first entity.
Accordingly, our financial instruments consist of cash and cash
equivalents, accounts receivable, accounts payable, accrued liabilities,
notes payable, derivative financial instruments, convertible debt and
redeemable preferred stock that we have concluded is more akin to debt than
equity.
We carry cash and cash equivalents, accounts receivable, accounts payable
and accrued liabilities at historical costs; their respective estimated
fair values approximate carrying values due to their current nature. We
also carry notes payable, convertible debt and redeemable preferred stock
at historical cost; however, fair values of debt instruments and redeemable
preferred stock are estimated for disclosure purposes (below) based upon
the present value of the estimated cash flows at market interest rates
applicable to similar instruments.
As of September 30, 2006, estimated fair values and respective carrying
values of our notes payable, convertible debt and redeemable preferred
stock are as follows:
Instrument Note Fair Value Carrying Value
------------------------------------------------------------------------------
$600,000 Convertible Note Payable 5(c) $ 501,000 $ 450,000
===========================
$168,000 Convertible Note Payable 5(g) 172,000 168,000
===========================
$30,000,000 Convertible Note Payable 5(i) 20,142,000 20,228,608
===========================
Series H Preferred Stock 6(a) 570,000 502,507
===========================
Series J Preferred Stock 6(b) 1,811,000 1,349,614
===========================
Series K Preferred Stock 6(c) 713,000 826,233
===========================
As of December 31, 2005, estimated fair values and respective carrying
values of our notes payable, convertible debt and redeemable preferred
stock were as follows:
Instrument Fair Value Carrying Value
--------------------------------------------------------------------
$200,000 Convertible Note Payable $ 190,000 $187,934
==========================
$15,000 Convertible Note Payable 13,300 1,620
==========================
$600,000 Convertible Notes Payable 668,000 600,000
==========================
$6,250 Convertible Note Payable 6,375 5,188
==========================
$25,000 Convertible Note Payable 25,500 30,278
==========================
$187,760 Convertible Note Payable 187,760 187,760
==========================
Series F Preferred Stock 46,000 52,480
==========================
Series H Preferred Stock 525,000 388,305
==========================
Series J Preferred Stock 1,731,000 871,043
==========================
Series K Preferred Stock 881,000 792,672
==========================
Derivative financial instruments, as defined in Financial Accounting
Standard No. 133, Accounting for Derivative Financial Instruments and
Hedging Activities (FAS 133), consist of financial instruments or other
contracts that contain a notional amount and one or more underlying (e.g.
interest rate, security price or other variable), require no initial net
investment and permit net settlement. Derivative financial instruments may
be free-standing or embedded in other financial instruments. Further,
derivative financial
F-10
instruments are initially, and subsequently, measured at fair value and
recorded as liabilities or, in rare instances, assets.
We generally do not use derivative financial instruments to hedge exposures
to cash-flow, market or foreign-currency risks. However, we have entered
into certain other financial instruments and contracts, such as debt
financing arrangements, redeemable preferred stock arrangements, and
freestanding warrants with features that are either (i) not afforded equity
classification, (ii) embody risks not clearly and closely related to host
contracts, or (iii) may be net-cash settled by the counterparty. As
required by FAS 133, these instruments are required to be carried as
derivative liabilities, at fair value, in our financial statements.
The following table summarizes the components of derivative liabilities as
of September 30, 2006 and December 31, 2005:
Note 2006 2005
--------------------------------------
Compound derivative financial instruments that have been
bifurcated from the following financing arrangements:
--------------------------------------------------------
$2,500,000 Note Financing 4(a) $ -- $ --
$400,000 Convertible Note Financing 5(a) -- (1,311,000)
$2,300,000 Convertible Note Financing 5(b) -- (4,867)
$600,000 Convertible Note Financing 5(c) (620,100) (153,700)
$693,000 Convertible Note Financing 5(e) -- (42,878)
$660,000 Convertible Note Financing 5(f) -- (159,250)
$1,080,000 Convertible Note Financing 5(g) (580,986) (564,735)
$30,000,000 Convertible Note Financing 5(i) (4,705,317) -
Series H Preferred Stock Financing 6(a) (549,576) (381,377)
Series J Preferred Stock Financing 6(b) (4,452,000) (5,628,000)
Series K Preferred Stock Financing 6(c) (276,864) (206,200)
Series F Preferred Stock Financing 6(d) -- (25,632)
Freestanding derivative contracts arising from financing
and other business arrangements:
--------------------------------------------------------
Warrants issued with $2,500,000 Note Financing 4(a) (119,466) --
Warrants issued with $693,000 Convertible Notes 5(e) -- (924,120)
Warrants issued with $30,000,000 Convertible Notes 5(i) (5,853,857) --
Warrants issued with Series D Preferred Stock 7(d) -- (400,214)
Warrants issued with Series H Preferred Stock 6(a) (359,907) (1,264,109)
Warrants issued with Series F Preferred Stock 6(d) -- (563,096)
Other warrants 8(b) (19,556,950) (24,310,057)
-----------------------------
Total derivative liabilities $(37,075,023) $(35,939,235)
=============================
See the notes referenced in the table for details of the origination and
accounting for these derivative financial instruments. We estimate fair
values of derivative financial instruments using various techniques (and
combinations thereof) that are considered to be consistent with the
objective measuring fair values. In selecting the appropriate technique, we
consider, among other factors, the nature of the instrument, the market
risks that it embodies and the expected means of settlement. For less
complex derivative instruments, such as free-standing warrants, we
generally use the Black-Scholes-Merton option valuation technique because
it embodies all of the requisite assumptions (including trading volatility,
estimated terms and risk free rates) necessary to fair value these
instruments. For complex derivative instruments, such as embedded
conversion options, we generally use the Flexible Monte Carlo valuation
technique because it embodies all of the requisite assumptions (including
credit risk, interest-rate risk and exercise/conversion behaviors) that are
necessary to fair value these more complex instruments. For forward
contracts that contingently require net-cash settlement as the principal
means of settlement, we project and discount future cash flows applying
probability-weightage to multiple possible outcomes. Estimating fair values
of derivative financial instruments requires the development of significant
and
F-11
subjective estimates that may, and are likely to, change over the duration
of the instrument with related changes in internal and external market
factors. In addition, option-based techniques are highly volatile and
sensitive to changes in the trading market price of our common stock, which
has a high-historical volatility. Since derivative financial instruments
are initially and subsequently carried at fair values, our income will
reflect the volatility in these estimate and assumption changes.
The following table summarizes the effects on our income (loss) associated
with changes in the fair values of our derivative financial instruments by
type of financing for the three and nine months ended September 30, 2006
and 2005.
Three months Three months Nine months Nine months
ended ended ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense):
Convertible note and warrant financings $ 338,406 $14,161,562 $ (622,453) $(38,746,429)
Preferred stock and warrant financings 2,471,296 10,485,803 2,332,192 (10,637,376)
Other warrants and derivative contracts 8,246,718 (1,326,345) 9,248,670 (3,134,825)
----------------------------------------------------------------
$11,056,420 $23,321,020 $10,958,409 $(52,518,630)
================================================================
Additional information related to individual financings can be found in
notes 5, 6 and 8.
Our derivative liabilities as of September 30, 2006 and December 31, 2005,
and our derivative losses during the three and nine months ended September
30, 2006 and 2005 are significant to our consolidated financial statements.
The magnitude of the derivative income (expense) amounts for each of the
periods reflect the following:
(a) During the quarters ended September 30, 2006 and September 30, 2005,
the trading price of our common stock, which significantly affects the fair
value of our derivative financial instruments, experienced material price
declines. To illustrate, the closing price of our common stock decreased
from $0.61 to $0.51 during the quarter ended September 30, 2006 and from
$0.93 to $0.61 during the quarter ended September 30, 2005. The lower stock
prices had the effect of significantly decreasing the fair value of our
derivative liabilities and, accordingly, we were required to adjust the
derivatives to these lower values with credits to our income. The price of
the common stock also declined during the nine months ended September 30,
2006, from $0.58 to $0.51, thereby contributing to the derivative income
impact for this period. In contrast, during the nine months ended September
30, 2005, the price of our common stock increased significantly, from $0.17
at January 3, 2005 to $0.61 at September 30, 2005. As a result, a
significant charge was recorded to our income.
(b) During the nine months ended September 30, 2005, we entered into a
$2,300,000 debt and warrant financing arrangement, more fully discussed in
Note 5(b). In connection with our accounting for this financing we
encountered the unusual circumstance of a day-one loss related to the
recognition of derivative instruments arising from the arrangement. That
means that the fair value of the bifurcated compound derivative and
warrants exceeded the proceeds that we received from the arrangement and we
were required to record a loss to record the derivative financial
instruments at fair value. The loss that we recorded amounted to
$8,663,869. We did not enter into any other financing arrangements during
the periods reported that reflected day-one losses.
F-12
The following table summarizes the number of common shares indexed to the
derivative financial instruments as of September 30, 2006:
Conversion
Financing or other contractual arrangement: Note Features Warrants Total
------------------------------------------
$2,500,000 Note Financing 4(a) -- 300,000 300,000
$600,000 Convertible Note Financing 5(c) 3,075,000 -- 3,075,000
$1,080,000 Convertible Note Financing 5(g) 1,722,000 -- 1,722,000
$30,000,000 Convertible Note Financing 5(i) 50,840,336 12,857,143 63,697,479
Series H Convertible Preferred Stock (a) 6(a) -- 3,137,500 3,137,500
Series J Convertible Preferred Stock 6(b) 20,000,000 -- 20,000,000
Other warrants and contracts 8(b) -- 54,574,688 54,574,688
-------------------------------------------
75,637,336 70,869,331 146,506,667
===========================================
(a) As more fully described in Notes 6(a) and 6(c) these instruments were
afforded the conventional convertible exemption, which means we did
not have to bifurcate the embedded conversion feature. However, we
were required to bifurcate certain other embedded derivatives as
discussed in the notes. Although the conversion features did not
require derivative accounting, we are required to also consider the
1,312,500 and 9,500,000 common shares, respectively, into which these
instruments are convertible in determining whether we have sufficient
authorized and unissued common shares for all of our share-settled
obligations.
During October 2006, the Financial Accounting Standards Board exposed for
public comment FASB Staff Position 00-19(b), Accounting for Registration
Payment Arrangements, which, if promulgated in its current form would amend
Financial Accounting Standard No. 133 Accounting for Derivative Financial
Instruments and Hedging Activities. Generally, the proposed amendment will
provide for the exclusion of registration payments, such as the liquidated
damages that we have incurred, from the consideration of classification of
financial instruments. Rather, such registration payments would be
accounted for pursuant to Financial Accounting Standard No. 5 Accounting
for Contingencies, which is our current accounting practice. That is, all
registration payments will require recognition when they are both probable
and reasonably estimable. Our current financial arrangements result in
liability classification because of registration payments and variable-
priced instruments that cause share settlement of all of our derivative
instruments to be beyond our control. Until we can amend or redeem the
variable-indexed instruments, we will not receive the benefit of equity
reclassification. Upon amendment or redemption, substantially all of our
derivative financial instruments will be reclassified to stockholders'
equity at their adjusted fair value and we will no longer be required to
reflect fair value changes in our earnings.
Advertising and Promotion Costs
-------------------------------
Advertising and promotion costs, which are included in selling expenses,
are expensed as incurred and aggregated $3,190,312 and $626,843 for the
three months ended September 30, 2006 and 2005, respectively. Advertising
and Promotion costs were $5,377,445 and $1,138,397 for the nine months
ended September 30, 2006 and 2005, respectively.
Share-based payments
--------------------
Effective January 1, 2005, we adopted the fair value recognition provisions
of Financial Accounting Standards No. 123 Accounting for Stock-Based
compensation. Effective January 1, 2006 we adopted
F-13
Financial Accounting Standards No. 123(R), Share-Based Payments (FAS123R).
Under the fair value method, we recognize compensation expense for all
share-based payments granted after January 1, 2005, as well as all share-
based payments granted prior to, but not yet vested, as of January 1, 2005,
in accordance with SFAS No. 123. Under the fair value recognition
provisions of FAS 123(R), we recognize share-based compensation expense,
net of an estimated forfeiture rate, over the requisite service period of
the award. Prior to the adoption of FAS 123 and FAS 123(R), the Company
accounted for share-based payments under Accounting Principles Board
Opinion No. 25 Accounting for Stock Issued to Employees and the disclosure
provisions of SFAS No. 123. For further information regarding the adoption
of SFAS No. 123(R), see Note 7 to the consolidated financial statements.
Income Taxes
------------
We account for income taxes using the liability method, which requires an
entity to recognize deferred tax liabilities and assets. Deferred income
taxes are recognized based on the differences between the tax bases of
assets and liabilities and their reported amounts in the financial
statements that will result in taxable or deductible amounts in future
years. Further, the effects of enacted tax laws or rate changes are
included as part of deferred tax expense or benefit in the period that
covers the enactment date. A valuation allowance is recognized if it is
more likely than not that some portion, or all, of a deferred tax asset
will not be realized.
Income (Loss) Per Common Share
------------------------------
Our basic income (loss) per common share is computed by dividing income
(loss) applicable to common stockholders by the weighted average number of
common share outstanding during the reporting period. Diluted income (loss)
per common share is computed similar to basic income (loss) per common
share except that diluted income (loss) per common share includes dilutive
common stock equivalents, using the treasury stock method, and assumes that
the convertible debt instruments were converted into common stock upon
issuance, if dilutive. For the three and nine months ended September 30,
2006 potential common shares arising from our stock options, stock
warrants, convertible debt and convertible preferred stock amounting to
115,339,001 and 122,567,616 shares, respectively, were not included in the
computation of diluted earnings per share because their effect was
antidilutive. For the three and nine months ended September 30, 2005
potential common shares arising from our stock options, stock warrants,
convertible debt and convertible preferred stock amounting to 139,575,171
and142,611,032 shares, respectively, were not included in the computation
of diluted earnings per share because their effect was antidilutive.
Note 3 - Accrued liabilities
Accrued liabilities consist of the following as of September 30, 2006 and
December 31, 2005:
2006 2005
--------------------------
Liquidated damages due to late registration (a) $3,143,331 $ 303,750
Investor relations liability (b) 1,372,000 1,545,565
Production processor liability (c) 1,183,557 182,814
Accrued payroll and related taxes 351,527 636,757
Accrued interest 559,358 376,198
Marketing and promotion accrual (d) 2,099,495 --
Accrued finance fees for July 2006 financing 975,000 --
Discontinued products (e) -- 1,710,734
Other 300,583 116,459
--------------------------
$9,984,851 $4,872,277
==========================
F-14
(a) Certain of our financing arrangements provide for penalties in the
event of non-registration of securities underlying the financial
instruments. Generally, these penalties are calculated as a percentage of
the financing proceeds, usually between 1.0% and 3.0% each month. We record
these liquidated damages when they are probable and estimable pursuant to
FAS 5.
(b) We entered into a contract with an investor relations firm during 2005
that required payment in our equity securities. This liability represents
the cost of the shares, which have not yet been issued.
(c) Represents amounts owed to our 3rd party production processor.
Approximately $1.1 million of this balance relates to penalties incurred as
a result of not meeting minimum monthly production requirements (idle
capacity costs).
(d) Represents liability associated with nationwide sales and marketing
program that was launched during the quarter ended September 30, 2006.
(e) During our year ended December 31, 2005, we discontinued certain
product lines and, as a result, incurred certain penalties under purchase
commitments with our manufacturing vendors. We accrued these penalties upon
our decision to discontinue the products.
Note 4 - Notes Payable
Notes payable consist of the following as of September 30, 2006 and
December 31, 2005:
2006 2005
------------------------
$2,500,000 face value note payable, due November 12, 2006 (a) $ -- $ --
$ 750,000 face value note payable, due September 3, 2004 (b) -- 750,000
$ 187,743 face value note payable, due December 31, 2005 (c) 187,743 187,743
Other notes payable 137,569 --
------------------------
Total notes payable 325,312 937,743
Less current maturities (243,627) (937,743)
------------------------
Long-term notes payable $ 81,685 $ --
========================
(a) $2,500,000 Note Payable, due November 12, 2006:
---------------------------------------------------
On May 12, 2006, we issued $2,500,000 of six-month, 10% notes payable plus
detachable warrants to purchase 1,500,000 shares of our common stock with a
strike price of $0.80 for a period of five-years. Net proceeds from this
financing transaction amounted to $2,235,000. The holder has the option to
redeem the notes for cash in the event of default and certain other
contingent events, including events related to the common stock into which
the instrument is convertible, registration and listing (and maintenance
thereof) of our common stock and filing of reports with the Securities and
Exchange Commission (the "Default Put"). We evaluated the terms and
conditions of the notes and warrants and determined that (i) the Default
Put required bifurcation because it did not meet the "clearly and closely
related" criteria of FAS 133 and (ii) the warrants did not meet all of the
requisite conditions for equity classification under FAS 133. As a result,
the net proceeds from the arrangement were first allocated to the Default
Put ($87,146) and the warrants ($901,665) based upon their fair values,
because these instruments are required to be initially and subsequently
carried at fair values.
On July 26, 2006, $1,000,000 of the outstanding note balance and 1,200,000
of the warrants were included in a debt exchange with a new convertible
debt financing which occurred on July 26, 2006 (See Note 5(i)). The terms
of the exchange resulted in the treatment of the transaction as a debt
F-15
extinguishment, resulting in a loss of $357,054. The remaining balance of
$1,500,000 was repaid on July 31, 2006 resulting in an extinguishment gain
of approximately $485,000.
At September 30, 2006, there was a warrant liability for the remaining
300,000 warrants which will continue to be recorded at fair value until the
warrants are either exercised or expire.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $2,500,000 Note Payable.
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense):
Default Put $180,905 -- $(35,831) --
=======================================================
Warrant derivative $135,804 -- $298,239 --
=======================================================
We estimated the fair value of the put on the inception date using a cash
flow technique that involves probability weighting multiple outcomes. We
estimated the warrant value using the Black Scholes-Merton valuation
technique. Significant assumptions included in our valuation models are as
follows:
Inception September 30, 2006
---------------------------------
Trading value of common stock $0.75 $0.51
Warrant strike price $0.80 $0.80
Volatility 133.00% 133.00%
Risk free rate 5.08% 5.04%
Expected term Stated term Remaining term
Discount rate used for cash flows 13.75% 14.00%
The fair value of the warrants declined principally due to the decline in
our common stock trading price. Since these instruments are measured at
fair value, future changes in assumptions, arising from both internal
factors and general market conditions, may cause further variation in the
fair value of these instruments. Changes in fair values of derivative
financial instruments are reflected as charges and credits to income.
The above allocations resulted in a discount to the carrying value of the
notes amounting to approximately $1,246,000. This discount, along with
related deferred finance costs and future interest payments were amortized
through periodic charges to interest expense using the effective method
until the date of the repayment and the debt exchange. Interest expense
during the nine months ended September 30, 2006 amounted to approximately
$351,000.
(b) On May 9, 2004 we received the proceeds of a $750,000 loan from Mid-Am
Capital, payable September 3, 2004, with an interest rate of 8%. This loan
was secured by a general security interest in all of our assets. The loan
was repaid in full during the quarter ended September 30, 2006.
(c) In 1999, we issued a promissory note to assume existing debt owed by
our then Chinese joint venture subsidiary to a supplier, International
Paper. The face value of that unsecured note was $282,637 at an annual
interest rate of 10.5%. The note originally required 23 monthly payments of
$7,250 and a balloon payment of $159,862 due on July 15, 2000. During 2000,
we negotiated an extension of this note to July 1, 2001. International
Paper imposed a charge of $57,000 to renegotiate the note, which amount
represents interest due through the extension date. The balance due on this
note is $187,743 at September 30, 2006 and December 31, 2005, all of which
is delinquent.
F-16
Note 5 - Convertible Debt
Convertible debt carrying values consist of the following as of September
30, 2006 and December 31, 2005:
2006 2005
------------------------
$ 200,000 Convertible Note Payable, due November 2006 (a) $ -- $ 187,934
$ 15,000 Convertible Note Payable, due May 2007 (b) -- 1,620
$ 600,000 Convertible Note Payable, due December 2005 (c) 450,000 600,000
$ 6,250 Convertible Note Payable, due April 30, 2006 (e) -- 5,188
$ 25,000 Convertible Note Payable, due October 1, 2006 (f) -- 30,278
$ 168,000 Convertible Note Payable, due December 1, 2005(g) 168,000 187,760
$30,000,000 Convertible Note Payable, due July 31, 2010 (i) 20,228,607 --
---------------------------
$20,846,607 $1,012,780
===========================
(a) $400,000 Convertible Note Financing
---------------------------------------
On November 20, 2003, we issued $400,000 of 8.0% convertible notes payable,
due November 20, 2005 plus warrants to purchase 14,000,000 shares of our
common stock with a strike prices ranging from $0.05 to $1.00 for a period
of three years. In November 2005, the underlying note agreement was
modified to extend the maturity date to November 2006. As of December 31,
2005, this note had an outstanding face value of $200,000, which was fully
converted by September 30, 2006. The convertible notes were convertible
into a variable number of our common shares based upon a variable
conversion price of the lower of $0.05 or 75% of the closing market price
near the conversion date. The holder had the option to redeem the
convertible notes payable for cash at 130% of the face value in the event
of defaults and certain other contingent events, including events related
to the common stock into which the instrument was convertible, registration
and listing (and maintenance thereof) of our common stock and filing of
reports with the Securities and Exchange Commission (the "Default Put"). In
addition, we extended registration rights to the holder that required
registration and continuing effectiveness thereof; we would be required to
pay monthly liquidating damages of 2.0% for defaults under this provision.
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to variable conversion feature; and it did not otherwise
meet the conditions for equity classification. Since equity classification
is not available for the conversion feature, we were required to bifurcate
the embedded conversion feature and carry it as a derivative liability, at
fair value. We also concluded that the Default Put required bifurcation
because, while puts on debt instruments are generally considered clearly
and closely related to the host, the Default Put is indexed to certain
events, noted above, that are not associated debt instruments. We combined
all embedded features that required bifurcation into one compound
instrument that is carried as a component of derivative liabilities. We
also determined that the warrants did not meet the conditions for equity
classification because, as noted above, share settlement and maintenance of
an effective registration statement are not within our control. Therefore,
the warrants are also required to be carried as a derivative liability, at
fair value.
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo valuation technique, because
that technique embodies all
F-17
of the assumptions (including credit risk, interest risk, stock price
volatility and conversion estimates) that are necessary to fair value
complex derivative instruments. We estimated the fair value of the warrants
on the inception dates, and subsequently, using the Black-Scholes-Merton
valuation technique, because that technique embodies all of the assumptions
(including, volatility, expected terms, and risk free rates) that are
necessary to fair value freestanding warrants. As a result of these
estimates, our valuation model resulted in compound derivative balances
associated with this financing arrangement of $-0- and $1,311,000 as of
September 30, 2006 and December 31, 2005, respectively. These amounts are
included in Derivative Liabilities on our balance sheet. Warrants related
to the financing were fully converted prior to December 31, 2005.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $400,000 convertible note financing.
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $ (196,200) $864,000 $ (551,400) $(1,878,000)
=============================================================
Warrant derivative $ -- $ -- $ -- $(5,733,700)
=============================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices.
The aforementioned allocations to the compound and warrant derivatives
resulted in the discount in the carrying value of the notes to zero. This
discount, along with related deferred finance costs and future interest
payments, are amortized through periodic charges to interest expense using
the effective method. Interest expense during the nine months ended
September 30, 2006 and 2005 amounted to approximately $22,000 and $74,000,
respectively.
As noted in the introductory paragraph of this section, the holders
extended the notes one additional year to November 2006. This modification
was accounted for as an extinguishment because the present value of the
amended debt was significantly different than the present value immediately
preceding the modification. As a result of the extinguishment, the existing
debt carrying value was adjusted to fair value using projected cash flows
at market rates for similar instruments. This extinguishment resulted in
our recognition of a gain on extinguishment of $22,733 in the fourth fiscal
quarter of our year ended December 31, 2005.
(b) $2,300,000 Convertible Note Financing:
------------------------------------------
On January 28, 2005, May 23, 2005 and August 18, 2005, we issued
$1,150,000, $500,000 and $650,000, respectively of 8.0% convertible notes
payable, due January 28, 2007 plus warrants to purchase 9,200,000,
4,000,000 and 5,200,000, respectively, shares of our common stock with a
strike price of $0.129 for a period of five years. At December 31, 2005,
this note had an outstanding face value of $15,000, which was fully
converted by August 30, 2006. The reduction in face value resulted from
conversions to common stock. The convertible notes were convertible into a
fixed number of our common shares based upon a conversion price of $0.125
with anti-dilution protection for sales of securities below the fixed
conversion price. We had the option to redeem the convertible notes for
cash at 120% of the face value. The holder had the option to redeem the
convertible notes payable for cash at 120% of the face value in the event
of defaults and certain other contingent events, including events related
to the common stock into which the instrument was convertible, registration
and listing (and maintenance thereof) of our common stock and filing of
reports with the Securities and Exchange Commission (the "Default Put").
F-18
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to the anti-dilution protection; and it did not otherwise
meet the conditions for equity classification. Since equity classification
was not available for the conversion feature, we were required to bifurcate
the embedded conversion feature and carry it as a derivative liability, at
fair value. We also concluded that the Default Put required bifurcation
because, while puts on debt instruments are generally considered clearly
and closely related to the host, the Default Put is indexed to certain
events, noted above, that are not associated debt instruments. We combined
all embedded features that required bifurcation into one compound
instrument that is carried as a component of derivative liabilities. We
also determined that the warrants did not meet the conditions for equity
classification because these instruments did not meet all of the criteria
necessary for equity classification. Therefore, the warrants were also
required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo valuation technique, because
that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments. We estimated the
fair value of the warrants on the inception dates, and subsequently, using
the Black-Scholes-Merton valuation technique, because that technique
embodies all of the assumptions (including, volatility, expected terms, and
risk free rates) that are necessary to fair value freestanding warrants. As
a result of these estimates, our valuation model resulted in compound
derivative balances associated with this financing arrangement of $-0- and
$4,867 as of September 30, 2006 and December 31, 2005, respectively.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $2,300,000 convertible note financing:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $ (24,278) $4,167,234 $(24,868) $(6,791,319)
=============================================================
Warrant derivative $ -- $ -- $ -- $(8,189,280)
=============================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices.
The aforementioned allocations to the compound and warrant derivatives
resulted in the discount in the carrying value of the notes. This discount,
along with related deferred finance costs and future interest payments, are
amortized through periodic charges to interest expense using the effective
method. Interest expense during the nine months ended September 30, 2006
and 2005 amounted to approximately $38,500 and $244,800, respectively.
(c) $600,000 Convertible Note Financing:
----------------------------------------
On June 29, 2004, we issued $600,000 of 10.0% convertible notes payable,
due December 31, 2005, plus warrants to purchase 2,000,000 and 5,000,000
shares of our common stock with strike prices of $0.25 and $1.00,
respectively, for a periods of five and two years, respectively. Net
proceeds from this financing arrangement amounted to $500,000. As of
September 30, 2006 and December 31, 2005, the outstanding principal balance
on this note was $450,000 and $600,000, respectively. The reduction in
principal was due to note conversions. As of September 30, 2006, this debt
is past due and the outstanding carrying
F-19
value of $450,000 does not include $51,000 of capitalized interest, which
is being reflected in accrued liabilities. The convertible note is
convertible into a fixed number of our common shares based upon a
conversion price of $0.15 with anti-dilution protection for sales of
securities below the fixed conversion price. We have the option to redeem
the convertible notes for cash at 120% of the face value. The holder has
the option to redeem the convertible notes payable for cash at 130% of the
face value in the event of defaults and certain other contingent events,
including events related to the common stock into which the instrument is
convertible, registration and listing (and maintenance thereof) of our
common stock and filing of reports with the Securities and Exchange
Commission (the "Default Put"). In addition, we extended registration
rights to the holder that required registration and continuing
effectiveness thereof; we are required to pay monthly liquidating damages
of 2.0% for defaults under this provision.
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to the anti-dilution protection; and it did not otherwise
meet the conditions for equity classification. Since equity classification
is not available for the conversion feature, we were required to bifurcate
the embedded conversion feature and carry it as a derivative liability, at
fair value. We also concluded that the Default Put required bifurcation
because, while puts on debt instruments are generally considered clearly
and closely related to the host, the Default Put is indexed to certain
events, noted above, that are not associated debt instruments. We combined
all embedded features that required bifurcation into one compound
instrument that is carried as a component of derivative liabilities. We
also determined that the warrants did not meet the conditions for equity
classification because these instruments did not meet all of the criteria
necessary for equity classification. Therefore, the warrants are also
required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo valuation technique, because
that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments. We estimated the
fair value of the warrants on the inception dates, and subsequently, using
the Black-Scholes-Merton valuation technique, because that technique
embodies all of the assumptions (including, volatility, expected terms, and
risk free rates) that are necessary to fair value freestanding warrants. As
a result of these estimates, our valuation model resulted in compound
derivative balances associated with this financing arrangement of $620,100
and $153,700 as of September 30, 2006 and December 31, 2005, respectively.
These amounts are included in Derivative Liabilities on our balance sheet.
As of December 31, 2005, all warrants related to the financing had been
converted.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $600,000 convertible note financing:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $5,300 $110,100 $(466,400) $(1,472,067)
===========================================================
Warrant derivative $ -- $ -- $ -- $(5,478,300)
===========================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices. Future changes in these underlying market conditions will
have a continuing effect on derivative income (expense) associated with
these instruments.
F-20
The aforementioned allocations to the compound and warrant derivatives
resulted in the discount in the carrying value of the notes. This discount,
along with related deferred finance costs and future interest payments, are
amortized through periodic charges to interest expense using the effective
method. Interest expense during the nine months ended September 30, 2006
and 2005 amounted to approximately $-0- and $350,000, respectively.
(d) $240,000 Convertible Note Financing:
----------------------------------------
On December 22, 2004, we issued $240,000 of 10.0% convertible notes
payable, due April 30, 2006, plus warrants to purchase 800,000 shares of
our common stock at $0.15 for five years. Net proceeds from this financing
arrangement amounted to $196,500. As of June 30, 2005, this debt had been
fully converted. The convertible notes were convertible into a fixed number
of our common shares based upon a conversion price of $0.10 with anti-
dilution protection for sales of securities below the fixed conversion
price. We had the option to redeem the convertible notes for cash at 120%
of the face value. The holder had the option to redeem the convertible
notes payable for cash at 130% of the face value in the event of defaults
and certain other contingent events, including events related to the common
stock into which the instrument was convertible, registration and listing
(and maintenance thereof) of our common stock and filing of reports with
the Securities and Exchange Commission (the "Default Put"). In addition, we
extended registration rights to the holder that required registration and
continuing effectiveness thereof; we were required to pay monthly
liquidating damages of 2.0% for defaults under this provision.
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to the anti-dilution protection and it did not otherwise
meet the conditions for equity classification. Since equity classification
was not available for the conversion feature, we were required to bifurcate
the embedded conversion feature and carry it as a derivative liability, at
fair value. We also concluded that the Default Put required bifurcation
because, while puts on debt instruments are generally considered clearly
and closely related to the host, the Default Put was indexed to certain
events, noted above, that are not associated debt instruments. We combined
all embedded features that required bifurcation into one compound
instrument that is carried as a component of derivative liabilities. We
also determined that the warrants did not meet the conditions for equity
classification because these instruments did not meet all of the criteria
necessary for equity classification. Therefore, the warrants were also
required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo Valuation technique, because
that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments. These amounts are
included in Derivative Liabilities on our balance sheet. We estimated the
fair value of the warrants on the inception dates, and subsequently, using
the Black-Scholes-Merton valuation technique, because that technique
embodies all of the assumptions (including, volatility, expected terms, and
risk free rates) that are necessary to fair value freestanding warrants. As
of September 30, 2005 all warrant liabilities related to the financing had
been fully converted.
F-21
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $240,000 convertible note financing:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $ -- $ -- $ -- $(55,604)
===========================================================
Warrant derivative $ -- $265,740 $ -- $ 55,540
===========================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices.
The aforementioned allocations to the compound and warrant derivatives
resulted in the discount in the carrying value of the notes. This discount,
along with related deferred finance costs and future interest payments,
were amortized through periodic charges to interest expense using the
effective method. Interest expense during the nine months ended September
30, 2006 and 2005 amounted to approximately $-0- and $90,000, respectively.
(e) $693,000 Convertible Note Financing:
----------------------------------------
On October 29, 2004, we issued $693,000 of 10.0% convertible notes payable,
due April 30, 2006, plus warrants to purchase 2,200,000 shares of our
common stock at $0.15 for five years. Net proceeds from this financing
arrangement amounted to $550,000. As of December 31, 2005, this debt had
face value $6,250 outstanding which amount had been fully converted by
April 30, 2006. The convertible notes were convertible into a fixed number
of our common shares based upon a conversion price of $0.10 with anti-
dilution protection for sales of securities below the fixed conversion
price. We had the option to redeem the convertible notes for cash at 120%
of the face value. The holder had the option to redeem the convertible
notes payable for cash at 130% of the face value in the event of defaults
and certain other contingent events, including events related to the common
stock into which the instrument was convertible, registration and listing
(and maintenance thereof) of our common stock and filing of reports with
the Securities and Exchange Commission (the "Default Put"). In addition, we
extended registration rights to the holder that required registration and
continuing effectiveness thereof; we were required to pay monthly
liquidating damages of 2.0% for defaults under this provision.
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to the anti-dilution protection; and it did not otherwise
meet the conditions for equity classification. Since equity classification
was not available for the conversion feature, we were required to bifurcate
the embedded conversion feature and carry it as a derivative liability, at
fair value. We also concluded that the Default Put required bifurcation
because, while puts on debt instruments are generally considered clearly
and closely related to the host, the Default Put is indexed to certain
events, noted above, that are not associated debt instruments. We combined
all embedded features that required bifurcation into one compound
instrument that is carried as a component of derivative liabilities. We
also determined that the warrants did not meet the conditions for equity
classification because these instruments did not meet all of the criteria
necessary for equity classification. Therefore, the warrants were also
required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo valuation technique, because
that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments. We estimated the
fair value of the warrants on the inception dates, and subsequently, using
the Black-Scholes-Merton valuation technique, because that technique
embodies all of the assumptions (including, volatility, expected terms, and
risk free rates) that are necessary to fair value freestanding warrants. As
a result of these estimates, our valuation model resulted in compound
derivative balances of $-0- and $42,878 as of September 30, 2006 and
December 31, 2005, respectively. Our valuation model resulted in warrant
derivative balances associated arising from the convertible note
F-22
financing of $-0- and $924,120 as of September 30, 2006 and December 31,
2005, respectively. These amounts are included in Derivative Liabilities on
our balance sheet.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $693,000 convertible note financing:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $ -- $ 22,625 $(6,143) $(2,611,650)
============================================================
Warrant derivative $ -- $538,220 $ -- $ (707,880)
=============================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices.
The aforementioned allocations to the compound and warrant derivatives
resulted in the discount in the carrying value of the notes. This discount,
along with related deferred finance costs and future interest payments,
were amortized through periodic charges to interest expense using the
effective method. Interest expense during the nine months ended September
30, 2006 and 2005 amounted to approximately $3,711 and $253,000,
respectively.
(f) $660,000 Convertible Note Financing:
----------------------------------------
On April 2, 2004, we issued $660,000 of 10.0% convertible notes payable,
due October 1, 2005, plus warrants to purchase 3,000,000 shares of our
common stock at $0.15 for five years. Net proceeds from this financing
arrangement amounted to $493,000. As of December 31, 2005, this debt had a
face value $25,000 outstanding which amount had been fully converted by
June 30, 2006. The convertible notes were convertible into a fixed number
of our common shares based upon a conversion price of $0.10 with anti-
dilution protection for sales of securities below the fixed conversion
price. We had the option to redeem the convertible notes for cash at 120%
of the face value. The holder had the option to redeem the convertible
notes payable for cash at 130% of the face value in the event of defaults
and certain other contingent events, including events related to the common
stock into which the instrument is convertible, registration and listing
(and maintenance thereof) of our common stock and filing of reports with
the Securities and Exchange Commission (the "Default Put"). In addition, we
extended registration rights to the holder that required registration and
continuing effectiveness thereof; we were required to pay monthly
liquidating damages of 2.0% for defaults under this provision.
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to the anti-dilution protection, and it did not otherwise
meet the conditions for equity classification. Since equity classification
is not available for the conversion feature, we were required to bifurcate
the embedded conversion feature and carry it as a derivative liability, at
fair value. We also concluded that the Default Put required bifurcation
because, while puts on debt instruments are generally considered clearly
and closely related to the host, the Default Put is indexed to certain
events, noted above, that are not associated debt instruments. We combined
all embedded features that required bifurcation into one compound
instrument that is carried as a component of derivative liabilities. We
also determined that the warrants did not meet the conditions for equity
classification because these instruments did not meet all of the criteria
necessary for equity classification. Therefore, the warrants are also
required to be carried as a derivative liability, at fair value.
F-23
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo valuation technique, because
that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments. We estimated the
fair value of the warrants on the inception dates, and subsequently, using
the Black-Scholes-Merton valuation technique, because that technique
embodies all of the assumptions (including, volatility, expected terms, and
risk free rates) that are necessary to fair value freestanding warrants. As
a result of these estimates, our valuation model resulted in compound
derivative balances of $-0- and $159,250 as of September 30, 2006 and
December 31, 2005, respectively. These amounts are included in Derivative
Liabilities on our balance sheet. As of September 30, 2005, all warrants
related to the financing had been fully converted.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $660,000 convertible note financing:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $ -- $(435,861) $(3,250) $(2,793,746)
=============================================================
Warrant derivative $ -- $ -- $ -- $ 61,800
=============================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices.
The aforementioned allocations to the compound and warrant derivatives
resulted in the discount in the carrying value of the notes. This discount,
along with related deferred finance costs and future interest payments,
were amortized through periodic charges to interest expense using the
effective method. Interest expense during the nine months ended September
30, 2006 and 2005 amounted to approximately $-0- and $111,465, respectively.
(g) $1,008,000 Convertible Note Financing:
------------------------------------------
On June 29, 2004, we issued $1,008,000 of 10.0% convertible notes payable,
due April 30, 2006, plus warrants to purchase 3,200,000 and 8,000,000
shares of our common stock at $0.25 and $2.00, respectively, for a periods
of five years. Net proceeds from this financing arrangement amounted to
$679,000. We had an outstanding balance of $168,000 and $187,760 as of
September 30, 2006 and December 31, 2005, respectively on this note. The
convertible notes were convertible into a fixed number of our common shares
based upon a conversion price of $0.15 with anti-dilution protection for
sales of securities below the fixed conversion price. We had the option to
redeem the convertible notes for cash at 120% of the face value. The holder
has the option to redeem the convertible notes payable for cash at 130% of
the face value in the event of defaults and certain other contingent
events, including events related to the common stock into which the
instrument is convertible, registration and listing (and maintenance
thereof) of our common stock and filing of reports with the Securities and
Exchange Commission (the "Default Put"). In addition, we extended
registration rights to the holder that required registration and continuing
effectiveness thereof; we are required to pay monthly liquidating damages
of 2.0% for defaults under this provision.
F-24
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to the anti-dilution protection; and it did not otherwise
meet the conditions for equity classification. Since equity classification
is not available for the conversion feature, we were required to bifurcate
the embedded conversion feature and carry it as a derivative liability, at
fair value. We also concluded that the Default Put required bifurcation
because, while puts on debt instruments are generally considered clearly
and closely related to the host, the Default Put is indexed to certain
events, noted above, that are not associated debt instruments. We combined
all embedded features that required bifurcation into one compound
instrument that is carried as a component of derivative liabilities. We
also determined that the warrants did not meet the conditions for equity
classification because these instruments did not meet all of the criteria
necessary for equity classification. Therefore, the warrants are also
required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo valuation technique, because
that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments. We estimated the
fair value of the warrants on the inception dates, and subsequently, using
the Black-Scholes-Merton valuation technique, because that technique
embodies all of the assumptions (including, volatility, expected terms, and
risk free rates) that are necessary to fair value freestanding warrants.
These amounts are included in Derivative Liabilities on our balance sheet.
As of December 31, 2005, all warrants related to the financing had been
fully converted.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $1,008,000 convertible note financing:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $53,424 $ 644,804 $(16,251) $(2,531,373)
===========================================================
Warrant derivative $ -- $ 7,361,600 -- $ 220,800
===========================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices. Future changes in these underlying market conditions will
have a continuing effect on derivative income (expense) associated with
these instruments.
The aforementioned allocations to the compound and warrant derivatives
resulted in the discount in the carrying value of the notes. This discount,
along with related deferred finance costs and future interest payments,
were amortized through periodic charges to interest expense using the
effective method. Interest expense during the nine months ended September
30, 2006 and 2005 amounted to approximately $0 and $485,000, respectively.
(h) $360,000 Convertible Note Financing:
----------------------------------------
On April 21, 2005, we issued $360,000, nine-month-term, 10% convertible
notes payable, due October 31, 2005. Net proceeds for this financing
transaction amounted to $277,488. The notes were convertible into shares of
common stock at a fixed conversion rate of $0.20, with anti-dilution
protection for sales of securities below the fixed conversion price. The
holder converted the notes on September 30, 2005. We had the option to
redeem the notes payable for cash at 120% of the face value. The holder had
the option to redeem the convertible notes payable for cash at 130% of the
face value in the event of defaults and
F-25
certain other contingent events, including events related to the common
stock into which the instrument is convertible, registration and listing
(and maintenance thereof) of our common stock and filing of reports with
the Securities and Exchange Commission (the "Default Put").
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to the anti-dilution protection afforded the holder and it
did not otherwise meet the conditions for equity classification. Therefore,
we were required to bifurcate the embedded conversion feature and carry it
as a derivative liability. We also concluded that the Default Put required
bifurcation because, while puts on debt instruments are generally
considered clearly and closely related to the host, the Default Put is
indexed to certain events, noted above, that are not associated debt
instruments. We combined all embedded features that required bifurcation
into one compound instrument that was carried as a component of derivative
liabilities through the date of conversion.
We allocated the initial proceeds from the financing first to the compound
derivative instrument in the amount of $113,925 and the balance to the debt
host instrument. We estimated the fair value of the compound derivative on
the inception dates, and subsequently, using the Monte Carlo valuation
technique, because that technique embodies all of the assumptions
(including credit risk, interest risk, stock price volatility and
conversion estimates) that are necessary to fair value complex derivative
instruments.
The following table illustrates fair value adjustments that we have
recorded related to the compound derivative arising from the $360,000
convertible notes payable.
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $ -- $623,100 $ -- $(841,650)
============================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. Since the instrument was
converted on September 30, 2005, there will be no future charges or credits
to derivative income (expense) associated with this instrument.
The above allocations resulted in a discount to the carrying value of the
notes amounting to approximately $173,925. This discount, along with
related deferred finance costs and future interest payments, are being
amortized through periodic charges to interest expense using the effective
method. Interest expense during the nine months ended September 30, 2005
amounted to approximately $163,000.
(i) $30,000,000 Convertible Note Financing:
-------------------------------------------
On July 26, 2006, we issued $30,000,000 of 9.0% convertible notes payable,
due January 27, 2010, plus warrants to purchase 12,857,143 shares of our
common stock at $0.73, for a period of five years. Net proceeds from this
financing arrangement amounted to approximately $15,000,000 (net of
approximately $1,090,000 in financing costs) and $15,000,000 to be held in
escrow for future release, pending the occurrence of certain defined
events. There was a $1,000,000 note balance related to the May 2006
financing that was exchanged for an equal amount of convertible notes from
this financing (See Note 4(a) for our accounting for that exchange). We had
a carrying value on this note of $20,229,000 as of September 30, 2006. The
convertible notes are
F-26
convertible into a fixed number of our common shares based upon a
conversion price of $0.70 with anti-dilution protection for sales of
securities below the fixed conversion price. We have the option to redeem
the convertible notes for cash at an amount equal to the note balance plus
accrued interest including the amount of unpaid interest that would have
been paid through the third anniversary of the note. The holder has the
option to redeem the convertible notes payable for cash at 125% of the face
value in the event of default and certain other contingent events,
including events related to the common stock into which the instrument is
convertible, registration and listing (and maintenance thereof) of our
common stock and filing of reports with the Securities and Exchange
Commission (the "Default Put"). We have the option to redeem the notes
payable at a date earlier than maturity (the "call option"). If we exercise
the call option, the holders will have the right to exercise an additional
42,857,142 warrants and receive common shares to which the contingent
warrants are indexed to. Absent the Company's exercise of its call option
to redeem the convertible notes, the holders have no rights to exercise the
warrants and receive common shares to which the contingent warrants are
indexed. The Company currently has no plans in the foreseeable future to
exercise its call option. If the Company does exercise its call option,
however, the number of our common shares that are issuable upon the
exercise of the contingent warrants is limited to the number of our common
shares underlying the convertible notes that have been redeemed. In
addition, we extended registration rights to the holder that required
registration and continuing effectiveness thereof; we are required to pay
monthly liquidating damages of 3.0% for defaults under this provision.
In our evaluation of this instrument, we concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to the anti-dilution protection; and it did not otherwise
meet the conditions for equity classification. Since equity classification
is not available for the conversion feature, we were required to bifurcate
the embedded conversion feature and carry it as a derivative liability, at
fair value. We also concluded that the Default Put required bifurcation
because, while puts on debt instruments are generally considered clearly
and closely related to the host, the Default Put is indexed to certain
events, noted above, that are not associated debt instruments. We combined
all embedded features that required bifurcation into one compound
instrument that is carried as a component of derivative liabilities. We
also determined that the warrants did not meet the conditions for equity
classification because these instruments did not meet all of the criteria
necessary for equity classification. Therefore, the warrants are also
required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo valuation technique, because
that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments. We estimated the
fair value of the warrants on the inception dates, and subsequently, using
the Black-Scholes-Merton valuation technique, because that technique
embodies all of the assumptions (including, volatility, expected terms, and
risk free rates) that are necessary to fair value freestanding warrants.
These amounts are included in Derivative Liabilities on our balance sheet.
On August 31, 2006, the Company entered into Amendment Agreements in which
the investors agreed to release the Company from events of default that
occurred under the terms of the original July 26, 2006 financing. In
exchange, Amended and Restated Notes were issued in which the conversion
price on the $15,000,000 financing, which was held in escrow, was reduced
from $0.70 to $0.51. In addition, the holder could require the Company to
redeem any portion of the Amended and Restated Note in cash or common stock
at 125% from October 10, 2006 through December 31, 2006. This debt
modification was deemed to be a modification rather than a debt
extinguishment since it did not rise to the requirements of EITF 96-19 to
be deemed a debt extinguishment. The change in the conversion price caused
an additional embedded conversion feature liability of approximately
$646,000 which was also recorded as a reduction in the carrying amount of
the debt.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the $30,000,000 convertible note financing:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $(478,692) $ -- $(478,692) $ --
============================================================
Warrant derivative $ 662,143 $ -- $ 662,143 $ --
============================================================
F-27
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices. Future changes in these underlying market conditions will
have a continuing effect on derivative income (expense) associated with
these instruments.
The aforementioned allocations to the compound and warrant derivatives
resulted in the discount in the carrying value of the notes. This discount,
along with related deferred finance costs and future interest payments,
were amortized through periodic charges to interest expense using the
effective method. Interest expense during the nine months ended September
30, 2006 amounted to approximately $97,000.
Derivative warrant fair values are calculated using the Black-Scholes-
Merton valuation technique. Significant assumptions as of September 30,
2006, corresponding to each of the series of warrants are as follows:
Series A
--------
Trading market price $0.51
Strike price $0.73
Volatility 94.25%
Risk-free rate 5.02%
Remaining term/life (years) 4.75
Our stock prices have been highly volatile. Future fair value changes are
significantly influenced by our trading common stock prices. As previously
discussed herein, changes in fair value of derivative financial instruments
are reflected in earnings.
Note 6 - Preferred Stock
Our articles of incorporation authorize the issuance of 5,000,000 shares of
preferred stock. We have designated this authorized preferred stock, as
follows:
(a) Series H Preferred Stock:
-----------------------------
We have designated 350,000 shares of our preferred stock as Series H
Cumulative Convertible Preferred Stock with a stated and liquidation value
of $10.00 per share. Series H Preferred Stock has cumulative dividend
rights at 7.0% of the stated amount, ranks senior to common stock and is
non-voting. As of September 30, 2006 and December 31, 2005, the preferred
stock liability was $502,507 and $388,305, respectively. The Series H
preferred stock is convertible into our common stock at a fixed conversion
price of $0.40 per common share. The Series H Preferred Stock is
mandatorily redeemable for common stock on the fifth anniversary of its
issuance. We have the option to redeem the Series H Preferred Stock for
cash at 135% of the stated value. The holder has the option to redeem the
Series H Preferred Stock for cash at 140% of the stated value in the event
of defaults and certain other contingent events, including events related
to the common stock into which the instrument is convertible, listing of
our common stock and filing of reports with the Securities and Exchange
Commission (the "Default Put").
Based upon our evaluation of the terms and conditions of the Series H
Preferred Stock, we concluded that it was more akin to a debt instrument
than an equity instrument, which means that our accounting conclusions are
based upon those related to a traditional debt security, and that it should
afforded the conventional convertible exemption regarding the embedded
conversion feature because the conversion
F-28
price is fixed. Therefore, we are not required to bifurcate the embedded
conversion feature and carry it as a liability. However, we concluded that
the Default Put required bifurcation because, while puts on debt-type
instruments are generally considered clearly and closely related to the
host, the Default Put is indexed to certain events, noted above, that are
not associated with debt-type instruments. In addition, due to the default
and contingent redemption features of the Series H Preferred Stock, we
classified this instrument as redeemable preferred stock, outside of
stockholders' equity.
Between December 2001 and March 2002, we issued 175,500 shares of Series H
Preferred Stock for cash of $1,755,000, plus warrants to purchase an
aggregate of 4,387,500 shares of common stock at $0.50 for five years. As
of September 30, 2006 and December 31, 2005, shares of preferred stock
outstanding were 52,500 and 64,500, respectively, and warrants outstanding
were 3,379,435 and 4,387,500, respectively. We initially allocated
$1,596,228 of the proceeds from the Series H Preferred financings to the
warrants at their fair values because the warrants did not meet all of the
conditions necessary for equity classification and, accordingly, are
carried as derivative liabilities, at fair value. We also allocated
$134,228 to the Default Puts which, as described above are carried as
derivative liabilities, at fair value. Finally, we recorded derivative
expense of $9,666 because one of the financings did not result in
sufficient proceeds to record the derivative financial instruments at fair
values on the inception date.
We estimated the fair value of the derivative warrants on the inception
dates, and subsequently, using the Black-Scholes-Merton valuation
technique. As a result of applying this technique, our valuation of the
derivative warrants amounted to $359,907 and $1,264,109 as of September 30,
2006 and December 31, 2005, respectively. We estimated the fair value of
the Default Puts on the inception dates, and subsequently, using a cash
flow technique that involves probability-weighting multiple outcomes at net
present values. Significant assumptions underlying the probability-weighted
outcomes included both our history of similar default events, all available
information about our business plans that could give rise to or risk
defaults and the imminence of impending or current defaults. As a result of
these subjective estimates, our valuation model resulted in Default Put
balances associated with the Series H Preferred Stock of $549,576 and
$381,377 as of September 30, 2006 and December 31, 2005, respectively.
These amounts are included in Derivative Liabilities on our balance sheet.
The following table illustrates fair value adjustments that we have
recorded related to the Default Puts on the Series H Preferred Stock.
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
Derivative income (expense) 2006 2005 2006 2005
----------------------------------------------------------------
Default Put $(47,124) $ (2,064) $(168,198) $ (6,191)
=============================================================
Derivative Warrants $480,363 $1,346,635 $ 904,202 $(1,361,786)
=============================================================
Derivative income (expense) related to the Default Put includes changes to
the fair value arising from changes in our estimates about the probability
of default events and amortization of the time-value element embedded in
our calculations. Higher derivative expense in the three and nine months
ended September 30, 2006, when compared to the same periods of 2005,
reflected the increased probability that the Default Put would become
exercisable because we would not timely file certain reports with the
Securities and Exchange Commission. While the Default Put became
exercisable at that time, the holders of the Series H Preferred Stock did
not exercise their right prior to curing the event. There can be no
assurances that the holders of the Series H Preferred Stock would not
exercise their rights should further defaults arise.
F-29
The discounts to the Series H Preferred Stock that resulted from the
aforementioned allocations are being accreted through periodic charges to
paid-in capital using the effective method. The following table illustrates
the components of preferred stock dividends and accretions for the three
and nine months ended September 30, 2006 and 2005:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Cumulative dividends at 7% $ 35,100 $35,100 $105,300 $105,300
Accretions 144,640 16,298 224,202 518,915
-----------------------------------------------------------
$179,740 $51,398 $329,502 $624,215
===========================================================
As of September 30, 2006, $421,200 of cumulative dividends are in arrears
on Series H Preferred Stock.
(b) Series J Preferred Stock:
-----------------------------
We have designated 500,000 shares of our preferred stock as Series J
Cumulative Convertible Preferred Stock with a stated and liquidation value
of $10.00 per share. Series J Preferred Stock has cumulative dividend
rights at 8.0% of the stated amount, ranks senior to common stock and is
non-voting. It is also convertible into our common stock at a conversion
price of $0.20 per common share. The Series J Preferred Stock is
mandatorily redeemable for common stock on the fifth anniversary of its
issuance. We have the option to redeem the Series J Preferred Stock for
cash at 135% of the stated value. The holder has the option to redeem the
Series J Preferred Stock for cash at 140% of the stated value in the event
of defaults and certain other contingent events, including events related
to the common stock into which the instrument is convertible, registration
and listing (and maintenance thereof) of our common stock and filing of
reports with the Securities and Exchange Commission (the "Default Put").
Based upon our evaluation of the terms and conditions of the Series J
Preferred Stock, we concluded that its features were more akin to a debt
instrument than an equity instrument, which means that our accounting
conclusions are generally based upon standards related to a traditional
debt security. Our evaluation concluded that the embedded conversion
feature was not afforded the exemption as a conventional convertible
instrument due to certain variability in the conversion price, and it
further did not meet the conditions for equity classification. Therefore,
we are required to bifurcate the embedded conversion feature and carry it
as a liability. We also concluded that the Default Put required bifurcation
because, while puts on debt-type instruments are generally considered
clearly and closely related to the host, the Default Put is indexed to
certain events, noted above, that are not associated debt-type instruments.
We combined all embedded features that required bifurcation into one
compound instrument that is carried as a component of derivative
liabilities. In addition, due to the default and contingent redemption
features of the Series J Preferred Stock, we classified this instrument as
redeemable preferred stock, outside of stockholders' equity.
In September 2002, February 2003 and May 2003 we issued 100,000 shares,
50,000 shares and 50,000 shares, respectively, of Series J Preferred Stock
for cash of $2,000,000. We also issued warrants for an aggregate of
14,000,000 shares of our common stock in connection with the financing
arrangement. The warrants have terms of five years and an exercise price of
$0.25. We initially allocated proceeds of $658,000 and $1,190,867 from the
financing arrangements to the compound derivative discussed above and to
the warrants, respectively. Since these instruments did not meet the
criteria for classification, they are required to be carried as derivative
liabilities, at fair value.
We estimated the fair value of the compound derivative on the inception
dates, and subsequently, using the Monte Carlo valuation technique, because
that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments. We estimated the
fair value of the warrants on the inception dates, and
F-30
subsequently, using the Black-Scholes-Merton valuation technique, because
that technique embodies all of the assumptions (including, volatility,
expected terms, and risk free rates) that are necessary to fair value
freestanding warrants. As a result of these estimates, our valuation model
resulted in compound derivative balances associated with the Series J
Preferred Stock of $4,452,000 and $5,628,000 as of September 30, 2006 and
December 31, 2005, respectively. These amounts are included in Derivative
Liabilities on our balance sheet.
The following table illustrates fair value adjustments that we have
recorded related to the derivative financial instruments associated with
the Series J Preferred Stock.
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense)
Compound derivative $1,652,000 $3,584,000 $1,176,000 $(4,452,000)
=============================================================
Warrant derivative $ -- $2,515,200 $ -- $(3,136,000)
=============================================================
Changes in the fair value of the compound derivative and, therefore,
derivative income (expense) related to the compound derivative is
significantly affected by changes in our trading stock price and the credit
risk associated with our financial instruments. The fair value of the
warrant derivative is significantly affected by changes in our trading
stock prices. Future changes in these underlying market conditions will
have a continuing effect on derivative income (expense) associated with
these instruments.
The discounts to the Series J Preferred Stock that resulted from the
aforementioned allocations are being accreted through periodic charges to
paid-in capital using the effective method. The following table illustrates
the components of preferred stock dividends and accretions for the three
and nine months ended September 30, 2006 and 2005:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Cumulative dividends at 8% $ 40,000 $ 40,000 $120,000 $120,000
Accretions 183,289 102,229 478,570 266,923
-----------------------------------------------------------
$223,289 $142,229 $598,570 $386,923
===========================================================
As of September 30, 2006, $600,000 of cumulative dividends are in arrears
on Series J Preferred Stock.
(c) Series K Preferred Stock:
-----------------------------
We have designated 500,000 shares of our preferred stock as Series K
Cumulative Convertible Preferred Stock with a stated and liquidation value
of $10.00 per share. Series K Preferred Stock has cumulative dividend
rights at 8.0% of the stated amount, ranks senior to common stock and is
non-voting. It is also convertible into our common stock at a fixed
conversion price of $0.10 per common share. The Series K Preferred Stock is
mandatorily redeemable for common stock on the fifth anniversary of its
issuance. We have the option to redeem the Series K Preferred Stock for
cash at 120% of the stated value. The holder has the option to redeem the
Series K Preferred Stock for cash at 140% of the stated value in the event
of defaults and certain other contingent events, including events related
to the common stock into which the instrument is convertible, listing of
our common stock and filing of reports with the Securities and Exchange
Commission (the "Default Put").
F-31
Based upon our evaluation of the terms and conditions of the Series K
Preferred Stock, we concluded that it was more akin to a debt instrument
than an equity instrument, which means that our accounting conclusions are
based upon those related to a traditional debt security, and that it should
afforded the conventional convertible exemption regarding the embedded
conversion feature because the conversion price is fixed. Therefore, we are
not required to bifurcate the embedded conversion feature and carry it as a
liability. However, we concluded that the Default Put required bifurcation
because, while puts on debt-type instruments are generally considered
clearly and closely related to the host, the Default Put is indexed to
certain events, noted above, that are not associated debt-type instruments.
In addition, due to the default and contingent redemption features of the
Series K Preferred Stock, we classified this instrument as redeemable
preferred stock, outside of stockholders' equity.
In March 2004, we issued 80,000 shares of Series K Preferred Stock for cash
of $800,000. In April 2004, we issued 15,000 shares of Series K Preferred
Stock to extinguish debt with a carrying value of $150,000. At the time of
these issuances, the trading market price of our common stock exceeded the
fixed conversion price and, as a result, we allocated $160,000 and $60,000
from the March and April issuances, respectively, to stockholders' equity
which amount represented a beneficial conversion feature. In addition, we
recorded a debt extinguishment loss of $60,000 in connection with the April
exchange of Series K Preferred Stock for debt because we estimated that it
had a fair value that exceeded the carrying value of the extinguished debt
by that amount. Finally, we allocated approximately $59,000 and $11,000 to
the Default Puts, representing fair values, in connection with the March
and April issuances, respectively.
We estimated the fair value of the Default Puts on the inception dates, and
subsequently, using a cash flow technique that involves probability-
weighting multiple outcomes at net present values. Significant assumptions
underlying the probability-weighted outcomes included both our history of
similar default events, all available information about our business plans
that could give rise to or risk defaults, and the imminence of impending or
current defaults. As a result of these subjective estimates, our valuation
model resulted in Default Put balances associated with the Series K
Preferred Stock of $276,864 and $206,200 as of September 30, 2006 and
December 31, 2005, respectively. These amounts are included in Derivative
Liabilities on our balance sheet. The following table illustrates fair
value adjustments that we have recorded related to the Default Puts on the
Series K Preferred Stock.
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Derivative income (expense) $(4,614) $(1,256) $(70,664) $(3,769)
==========================================================
Derivative income (expense) related to the Default Put includes changes to
the fair value arising from changes in our estimates about the probability
of default events and amortization of the time-value element embedded in
our calculations. Higher derivative expense in the three and nine months
ended September 30, 2006, when compared to the same periods of 2005,
reflected the increased probability that the Default Put would become
exercisable because we would not timely file certain reports with the
Securities and Exchange Commission. While the Default Put became
exercisable at that time, the holders of the Series K Preferred Stock did
not exercise their right prior to curing the event. There can be no
assurances that the holders of the Series K Preferred Stock would not
exercise their rights should further defaults arise.
F-32
The discounts to the Series K Preferred Stock that resulted from the
aforementioned allocations are being accreted through periodic charges to
paid-in capital using the effective method. The following table illustrates
the components of preferred stock dividends and accretions for the three
and nine months ended September 30, 2006 and 2005:
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
2006 2005 2006 2005
----------------------------------------------------------------
Cumulative dividends at 8% $19,000 $19,000 $57,000 $57,000
Accretions 11,360 10,682 33,561 31,560
----------------------------------------------------------
$30,360 $29,682 $90,561 $88,560
==========================================================
As of September 30, 2006, $190,000 of cumulative dividends are in arrears
on Series K Preferred Stock.
(d) Other Preferred Stock Designations and Financings:
------------------------------------------------------
Series A Preferred: We have designated 500,000 shares of our preferred
stock as Series A Convertible Preferred Stock. There were no Series A
Preferred Stock outstanding during the periods presented.
Series B Preferred: We have designated 1,260,000 shares of our preferred
stock as Series B Convertible Preferred Stock with a stated and liquidation
value of $1.00 per share. Series B Preferred has cumulative dividend rights
of 9.0%, ranks senior to common stock and has voting rights equal to the
number of common shares into which it may be converted. Series B Preferred
is convertible into common on a share for share basis. Based upon our
evaluation of the terms and conditions of the Series B Preferred Stock, we
have concluded that it meets all of the requirements for equity
classification. We have 107,440 shares of Series B Preferred outstanding as
of September 30, 2006 and December 31, 2005.
Series D Preferred: We have designated 165,000 shares of our preferred
stock as Series D Cumulative Convertible Preferred Stock with a stated and
liquidation value of $10 per share. Series D Preferred has cumulative
dividend rights of 6.0%, ranks senior to common stock and is non-voting.
There are no shares of Series D Preferred Stock outstanding during any of
the periods reported in this quarterly report.
Series F Preferred: We have designated 200,000 shares of our preferred
stock as Series F Convertible Preferred Stock with a stated and liquidation
value of $10 per share. There were 5,248 shares of Series F Preferred Stock
outstanding as of December 31, 2005. The shares were fully converted by
September 30, 2006. Series F Preferred is non-voting and convertible into
common stock at a variable conversion price equal to the lower of $0.60 or
75% of the trading prices near the conversion date. In addition, the holder
had the option to redeem the convertible notes payable for cash at 125% of
the face value in the event of defaults and certain other contingent
events, including events related to the common stock into which the
instrument is convertible, registration and listing (and maintenance
thereof) of our common stock and filing of reports with the Securities and
Exchange Commission (the "Default Put"). We concluded that the conversion
feature was not afforded the exemption as a conventional convertible
instrument due to variable conversion feature and it did not otherwise meet
the conditions for equity classification. Since equity classification is
not available for the conversion feature, we were required to bifurcate the
embedded conversion feature and carry it as a derivative liability, at fair
value. We also concluded that the Default Put required bifurcation because,
while puts on debt-type instruments are generally considered clearly and
closely related to the host, the Default Put is indexed to certain events,
noted above, that are not associated debt-type instruments. These two
derivative features were combined into one compound derivative instrument.
In addition, due to the default and contingent redemption features of the
Series F Preferred Stock, we classified this instrument as redeemable
preferred stock, outside of stockholders' equity.
F-33
Series I Preferred: We have designated 200,000 shares of our preferred
stock as Series I Convertible Preferred Stock with a stated and liquidation
value of $10.00 per share. Series I Preferred has cumulative dividend
rights at 8.0% of the stated value, ranks senior to common stock and is
non-voting. Series I Preferred is convertible into a variable number of
common shares at the lower conversion price of $0.40 or 75% of the trading
market price. There were no Series I Preferred Stock outstanding as of
September 30, 2006 and December 31, 2005. We accounted for Series I
Preferred Stock while it was outstanding as an instrument that was more
akin to a debt instrument. We also bifurcated the embedded conversion
feature and freestanding warrants issued with the financing and carried
these amounts as derivative liabilities, at fair value. The table below
reflects derivative income and (expense) associated with changes in the
fair value of this derivative financial instrument.
The following table summarizes derivative income (expense) related to
compound derivatives and freestanding warrant derivatives that arose in
connection with the preferred stock transactions discussed above.
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
Derivative income (expense) 2006 2005 2006 2005
----------------------------------------------------------------
Series D Preferred:
Warrant derivative $337,714 $ 823,734 $ 331,509 $ (153,788)
Series F Preferred:
Compound derivative 31,819 (1,198,083) (403,753) (1,269,520)
Warrant derivative 21,138 3,417,637 563,096 65,780
Series I Preferred:
Compound derivative -- -- -- (69,620)
Warrant derivative -- -- -- (250,482)
-----------------------------------------------------------
$390,671 $ 3,043,288 $ 490,852 $(1,677,630)
===========================================================
Note 7 - Share Based Payments
We have adopted certain incentive share-based plans that provide for the
grant of up to 10,397,745 stock options to our directors, officers and key
employees. As of September 30, 2006, there were 660,655 shares of common
stock reserved for issuance under our stock plans. Options granted under
plans prior to May, 2005 are fully vested. Subsequent options granted are
under plans which become exercisable over two years in equal annual
installments with the first third exercisable on grant date, provided that
the individual is continuously employed by us. We did not grant options
during the nine months ended September 30, 2006.
On January 1, 2006, we adopted Financial Accounting Standard 123 (revised
2004), Share-Based Payments ("FAS 123(R)") which is a revision of FAS No.
123, using the modified prospective method. Under this method, compensation
cost recognized for the nine months ended September 30, 2006 includes
compensation cost for all share-based payments modified or granted prior to
but not yet vested as of, January 1, 2006, based on the grant date fair
value estimated in accordance with the original provisions of FAS No. 123.
Compensation cost is being recognized on a straight-line basis over the
requisite service period for the entire award in accordance with the
provisions of SFAS 123R.
F-34
As we had previously adopted the fair-value provisions of FAS No. 123,
effective January 1, 2005, the adoption of FAS 123(R) had a negligible
impact on our earnings. We recorded compensation costs of $110,911 and
$333,868 for the three and nine months ended September 30, 2006,
respectively, and $102,782 and $654,592 for the three and nine months ended
September 30, 2005. We recognized no tax benefit for share-based
compensation arrangements due to the fact that we are in a cumulative loss
position and recognize no tax benefits in our Consolidated Statement of
Operations.
As required by FAS 123(R), we estimate forfeitures of employee stock
options and recognize compensation cost only for those awards expected to
vest. Forfeiture rates are determined for two groups of employees -
directors / officers and key employees based on historical experience. We
adjust estimated forfeitures to actual forfeiture experience as needed. The
cumulative effect of adopting FAS 123(R) of $17,000, which represents
estimated forfeitures for options outstanding at the date of adoption, was
not material and therefore has been recorded as a reduction of our stock-
based compensation costs in Selling and General and Administrative expenses
expense rather than displayed separately as a cumulative change in
accounting principle in the Consolidated Statement of Operations. The
adoption of SFAS No. 123(R) had no effect on cash flow from operating
activities or cash flow from financing activities for the nine months ended
September 30, 2006.
We estimate the fair value of each stock option on the date of grant using
a Black-Scholes-Merton (BSM) option-pricing formula, applying the following
assumptions and amortize that value to expense over the option's vesting
period using the straight-line attribution approach:
Third Nine months Third Nine months
Quarter ended Quarter ended
2006 * 2006 * 2005 * 2005
------------------------------------------------
Expected Term (in years) n/a n/a n/a 6
Risk-free rate n/a n/a n/a 5.01%
Expected volatility n/a n/a n/a 141%
Expected dividends n/a n/a n/a 0%
* No options were granted for the respective periods.
Expected Term: The expected term represents the period over which the
share-based awards are expected to be outstanding. It has been determined
as the midpoint between the vesting date and the end of the contractual
term.
Risk-Free Interest Rate: We based the risk-free interest rate used in our
assumptions on the implied yield currently available on U.S. Treasury zero-
coupon issues with a remaining term equivalent to the stock option award's
expected term.
Expected Volatility: The volatility factor used in our assumptions is based
on the historical price of our stock over the most recent period
commensurate with the expected term of the stock option award.
Expected Dividend Yield: We do not intend to pay dividends on our common
stock for the foreseeable future. Accordingly, we use a dividend yield of
zero in our assumptions.
F-35
A summary of option activity under the stock incentive plans for the nine
months ended September 30, 2006 is presented below:
Average
Weighted- Remaining
Average Contractual Aggregate
Exercise Term Intrinsic
Options Shares Price (in years) Value
------------------------------------------------ --------- --------- ----------- ---------
Outstanding at December 31, 2005 9,600,422 $0.32
Granted - -
Exercised - -
Forfeited (41,667) $0.25
Expired (155,000) $0.75
Outstanding at September 30, 2006 9,403,755 $0.31 8.61 $2,234,945
========= ===== ==== ==========
Vested or expected to vest at September 30, 2006 9,114,991 $0.31 8.61 $2,161,956
========= ===== ==== ==========
Exercisable at September 30 , 2006 6,470,283 $0.33 8.61 $1,492,908
========= ===== ==== ==========
No options were granted during the nine months ended September 30, 2006.
There were no options granted during the third quarter of 2005. The
weighted-average fair value of options granted during the nine months ended
September 30, 2005 was $0.15. There were no exercises of options during the
nine months ended September 30, 2006 and the same period in 2005.
At September 30, 2006, the Company had $311,904 of total unrecognized
compensation expense related to non-vested stock options, which is expected
to be recognized over a weighted-average period of one year.
Note 8 - Other Stockholders' Equity
(a) Issuances of Common Stock During the Three Month Period Ended
-----------------------------------------------------------------
September 30, 2006
------------------
On July, 6, 2006, we issued 83,121 shares of our common stock in a private
placement, pursuant to Section 4(2) of the Securities Act of 1933, to an
accredited investor.
On July, 14, 2006, we issued 436,388 shares of common stock upon the
cashless exercise of a warrant associated with our Series D convertible
preferred stock. These shares were issued to an accredited investor
pursuant to Regulation D and Section 4(2) of the Securities Act of 1933.
On July 14, August 14 and August 31, 2006, we issued, in the aggregate,
275,000 shares of common stock pursuant to a conversion of our Series H
preferred stock. The shares of common stock underlying the preferred were
issued pursuant to Regulation D.
On July, 19, 2006, we issued 1,008,065 shares of common stock upon the
cashless exercise of a warrant associated with our Series H convertible
preferred stock. These shares were issued to an accredited investor
pursuant to Regulation D and Section 4(2) of the Securities Act of 1933.
On August 24, 2006, we issued 168,937 shares of common stock pursuant to a
conversion of our May 2005 convertible note. The shares of common stock
underlying the convertible note were
F-36
issued pursuant to a registration statement declared effective by the
Securities and Exchange Commission on August 2, 2005.
On September 13, 2006, we issued, in the aggregate, 161,527 shares of
common stock pursuant to a conversion of our Series F preferred stock. The
shares of common stock underlying the preferred were issued pursuant to
Regulation D.
On September 28, 2006, we issued 4,000,000 shares of common stock pursuant
to a conversion of our November 2003 convertible note. The shares of common
stock underlying the convertible note were issued pursuant to a
registration statement declared effective by the Securities and Exchange
Commission on August 3, 2004.
On September 28, 2006, we issued 1,000,000 shares of common stock pursuant
to a conversion of our June 2004 convertible note. The shares of common
stock underlying the convertible note were issued pursuant to a
registration statement declared effective by the Securities and Exchange
Commission on April 18, 2005.
(b) Outstanding Warrants
------------------------
As of September 30, 2006, we had the following outstanding warrants:
Warrants/
Expiration Options Exercise
Warrants Grant date date Granted Price
Series H Preferred Stock Financing 12/5/2001 12/4/2006 2,637,500 0.500
Series H Preferred Stock Financing 1/30/2002 1/30/2007 375,000 0.500
Series H Preferred Stock Financing 2/15/2002 2/14/2007 125,000 0.500
Warrant to Licensor 6/20/2005 6/19/2007 1,000,000 0.050
Warrant to Consultant 4/8/2005 4/7/2007 1,000,000 0.250
Warrant to Distributor 8/30/2005 8/29/2008 30,000,000 0.360
November 2005 Common Stock Financing 11/28/2005 11/27/2010 15,667,188 0.800
November 2005 Common Stock Financing 11/28/2005 11/27/2010 1,012,500 0.500
Warrant to Distributor 9/19/2006 9/19/2012 5,870,000 0.730
May 2006 Debt Financing 5/12/2006 5/11/2011 300,000 0.800
Other Financings 12/27/2001 2/28/2007 25,000 0.400
July 2006 Senior Convertible Notes Financing 7/27/2006 7/26/2012 12,857,143 0.730
----------
Total Warrants 70,869,331
==========
The table above excludes contingent warrants to purchase 42,857,142 shares of
the Company's common stock. These contingent warrants were issued in
connection with the convertible debt and warrant arrangement discussed in Note
5(i). The warrant holders' ability to exercise these warrants is contingent
upon the Company's exercise of its call option to redeem the specified
convertible notes payable at a date earlier than maturity. Absent the
Company's exercise of its call option to redeem the convertible notes, the
holders have no rights to exercise the warrants and receive common shares to
which the contingent warrants are indexed. The Company currently has no
plans in the foreseeable future to exercise its call option. If the Company
does exercise its call option, however, the number of our common shares that
are issuable upon the exercise of the contingent warrants is limited to the
number of our common shares underlying the convertible notes that have been
redeemed.
Derivative income (expense) associated with these other warrants are
summarized in the table below.
F-37
Three months Three months Nine months Nine months
ended ended Ended ended
September 30, September 30, September 30, September 30,
Derivative income (expense) 2006 2005 2006 2005
----------------------------------------------------------------
Warrant derivative $8,246,718 $(1,326,345) $9,248,670 $(3,134,825)
=============================================================
Note 9 - Commitments and Contingencies
Lease of Office
---------------
We lease office space, used for our corporate offices in Florida, under an
operating lease that expires October 31, 2015. Future non-cancelable
minimum rental payments required under the operating lease as of September
30, 2006 are as follows:
Amount
-------
Three months ending December 31, 2006 $23,217
Years ending December 31,
2007 92,868
2008 92,868
2009 92,868
2010 92,868
Total rent expense, including expenses related to common area maintenance
and parking, for the three and nine months ended September 30, 2006
amounted to $44,116 and $113,877; rent expense for the three and nine
months ended September 30, 2005 amounted to $22,662 and $67,366.
Royalties:
----------
We license trademarks and trade dress from certain Licensors for use on our
products. Royalty advances are payable against earned royalties on a
negotiated basis for these licensed intellectual property rights. The table
below identifies each Licensor to which our licenses require advance
payments and, in addition, reflects the term of the respective licenses as
well as the advance royalties remaining to be paid on such negotiated
advance royalty payments, as of September 30, 2006. We currently are in
default of our guaranteed royalty payments to Marvel Enterprises on our
license for the United Kingdom by the aggregate advance remaining listed
below for Marvel (UK).
Aggregate Advance
Licensor: Term Remaining
-------------------------------------------------------------
Marvel (UK) Two years $ 120,960
Masterfoods Six years 2,430,000
Diabetes Research Institute One year 7,500
Employment Contacts
-------------------
Our Chief Executive Officer, Mr. Warren, has a two-year employment
contract, expiring October 2007, that provides a base salary of $300,000,
plus a bonus of one quarter percent (0.25%) of net revenue and normal
corporate benefits. This contract has a minimum two-year term plus a
severance package upon change of control based on base salary.
F-38
Officers Toulan, Patipa, Edwards and Kee have employment contracts with
base salaries aggregating $710,000 annually, plus discretionary bonuses and
normal corporate benefits. These contracts have minimum two-year terms plus
severance packages upon change of control based on base salary.
Our Chief Financial Officer, Mr. Kaplan, has an employment contract,
expiring November 2008, that provides a base salary of $180,000 for year
one, $200,000 for year two and $220,000 for year three, plus discretionary
bonuses and normal corporate benefits. This contract has a minimum three-
year term plus a severance package upon change of control based on base
salary
Marketing Commitments
---------------------
Coca-Cola Enterprises ("CCE"). In August 2005, we executed a Master
Distribution Agreement with CCE. Pursuant to this agreement, we are
contractually obligated to spend an aggregate of $5,000,000 on marketing
activities in 2005 and 2006 for our products that are distributed by CCE.
Beginning in 2007, we are further obligated to spend an amount annually in
each country within a defined territory equal or greater than 3% of our
total CCE revenues in such territory (on a country by country basis). Such
national and local advertising for our products includes actively marketing
the Slammers mark, based on a plan to be mutually agreed each year. We are
required to maintain our intellectual property rights necessary for the
production, marketing and distribution of our products by CCE.
During the period commencing at the inception of the CCE agreement through
the period ended September 30, 2006, we have spent approximately $4.2
million on marketing activities pursuant to our agreement with CCE.
Production Agreements
---------------------
Jasper Products LLC
-------------------
On December 27, 2005, we executed a multi-year non-exclusive production
agreement with Jasper Products, L.L.C. of Joplin Missouri for the
production of our products through 2011. Under the terms of the agreement,
the parties have agreed to annual volume commitments for the ordering and
production of our various lines of shelf stable single serve flavored milk
beverages. To secure the production commitments, as well as the right of
first refusal for Jasper's additional production capacity going forward, we
paid a one time equipment mobilization payment of $2.7 million to Jasper.
The agreement incorporates per unit (single bottle) monetary penalties for
both unused capacity by us and any production shortfall by Jasper.
HP Hood LLC
-----------
On September 19, 2006, we executed a six-year non-exclusive production
agreement with HP Hood LLC of Chelsea, Massachusetts, for the production of
our products through 2012. Under the terms of the agreement, the parties
have agreed to annual volume commitments for the ordering and production of
our various lines of shelf-stable, single-serve flavored milk beverages.
The agreement incorporates per unit monetary penalties for unused capacity
by us. The penalty shall be adjusted annually based upon a formula indexed
to a defined series of the Producer Price Index for Total Manufacturing
Industries. In connection with the agreement, we issued a six year warrant
to HP Hood for the purchase of 5,870,000 shares of our common stock at an
exercise price of $0.73 per share. We have a conditional right to call the
exercise of the warrant.
Note 10 - Restatements
Our statements of operations for the three and nine months ended September
30, 2005 and our balance sheet as of December 31, 2005 have been restated
as illustrated in the following tables:
Condensed Consolidated Statements of Operations
Three and Nine Months Ended September 30, 2005
Three months Three months Nine months Nine months
ended ended ended ended
Sept. 30, 2005 Sept. 30, 2005 Sept. 30, 2005 Sept. 30, 2005
(As Restated) (As Reported) (As Restated) (As Reported)
--------------------------------------------------------------------
Revenues $ 3,245,305 $ 3,245,305 $ 6,591,693 $ 6,591,693
Product and shipping costs (2,755,957) (2,360,884) (5,544,920) (4,719,011)
Operating expenses (2,086,067) (2,717,708) (6,417,482) (6,064,998)
Other income (expense) 19,275,871 (3,073,169) (58,048,505) (3,293,415)
-----------------------------------------------------------------
Net (loss) 17,679,152 (4,906,456) (63,419,214) (7,485,731)
=================================================================
Loss applicable to common 17,463,463 (4,994,496) (64,499,613) (7,748,732)
=================================================================
Loss per common share 0.15 (0.04) (0.79) (0.09)
=================================================================
Comprehensive loss $17,660,830 $(4,912,126) $(63,442,863) $(7,509,380)
=================================================================
F-39
The following tables reflect the individual components of our restatements
and a description of the nature of the adjustment:
Quarter ended
Sept. 30, 2005
--------------
Net income (loss), as reported $(4,906,456)
Share-based payments (102,782)
Deferred development costs (128,711)
Derivative income (expense) 23,321,020
Amortization of debt discount (73,864)
Investor relations charges (634,541)
Other 204,486
-----------
Net income (loss), as restated $17,679,152
===========
Share-based payments: We improperly measured and deferred share-based
payment expense related to employee stock options that were issued
commencing in the second quarter of the year ended quarter ended September
20, 2005. These adjustments, which are reflected in operating expenses,
reflect the effects of re-measurement of the stock options and the
elimination of previously deferred compensation amounts.
Deferred development costs: We improperly capitalized development costs on
our balance sheet. These adjustments reflect our revised policy that
requires development costs to be expensed as they are incurred. We record
development costs as a component of operating expenses.
Derivative income (expense): Derivative income (expense) arises from
adjustments to our derivative liabilities to carry these instruments at
fair value at the end of each reporting period. Our derivative financial
instruments consist of compound and freestanding instruments. These
derivative financial instruments arose from (i) our notes payable,
convertible notes payable and preferred stock financing transactions and
(ii) the reclassification of non-exempt warrants from stockholders' equity
to derivative liabilities because share settlement is presumed not to be
within our control. We previously did not properly allocate proceeds from
our financing transactions to derivative liabilities where applicable; nor
did we reclassify our other warrants to derivative liabilities when we
presumably lost our ability to share settle such instruments.
Amortization of debt discounts and other charges: We have adjusted our
notes payable and convertible notes payable to reflect the allocation of
proceeds to derivative liabilities. These allocations have resulted in
discounts to the face value of the debt, and we are required to amortize
these discounts through periodic charges to interest expense using the
effective method. The adjustments reflect the difference between our
previous method of recognizing interest expense based upon the stated
interest rate and amounts derived from the application of the effective
interest method. Other charges include gains and losses on extinguishments
of our debt instruments that have arisen when modifications to such
instruments were considered to be significant.
Investor relations charges: We entered into a contract with an investor
relations firm during 2005 that required payment in our equity securities.
We incorrectly did not recognize the value of these services until the
securities were issued. This adjustment reflects the proper recognition of
the consulting cost in general and administrative expenses and a reciprocal
amount in accrued liabilities.
F-40
Quarter ended
Sept. 30, 2005
--------------
Loss applicable to common
stockholders, as reported $(4,994,496)
Adjustments to net loss 22,585,608
Preferred stock accretion (127,649)
-----------
Loss applicable to common stockholders, as restated $17,463,463
===========
Preferred stock accretions: We did not allocate proceeds from certain of
our preferred stock financings to derivative financial instruments
(warrants and compound derivatives) and stockholders' equity (beneficial
conversion features). These adjustments reflect the accretion of discounts
to the preferred stock carrying values, which are reductions to net income
(loss) to arrive at income (loss) applicable to common shareholders. We
have accreted these discounts in our restated financial statements through
periodic charges to retained earnings using the effective method.
Quarter ended
Sept. 30, 2005
--------------
Loss per common share, as reported $(0.04)
Share-based payments (0.00)
Deferred development costs (0.00)
Derivative income (expense) 0.20
Amortization of debt discount (0.00)
Liquidated damages expense --
Investor relations charges (0.01)
Preferred stock accretions/dividends (0.00)
------
Net income (loss) per common share, as restated $ 0.15
------
Diluted income per common share, as restated $ 0.00
======
See descriptions that we have provided under the tables for net income
(loss) and income (loss) applicable to common stockholders. Our restated
income (loss) per common share reflects the application of the treasury
stock method and the if-converted methods where those methods are
appropriate.
Quarter ended
Sept. 30, 2005
--------------
Comprehensive loss, as reported $(4,912,126)
-----------
Comprehensive loss, as restated $17,660,830
===========
Our restated comprehensive income (loss) reflects the adjustments
attributable to net income (loss), above.
Note 11 - Subsequent Events
On October 11, 2006, a Special Meeting of Stockholders of the Company was
convened pursuant to written notice in accordance with the Company's By-
laws. At that meeting, the stockholders by proxy and in person voted (i) to
amend Article IV of the Company's Articles of Incorporation to increase the
F-41
Company's capital stock from 300,000,000 to 500,000,000 shares of common
stock and (ii) to amend Article I of the Company's Articles of
Incorporation to change the name of the Company to Bravo! Brands Inc.
The votes received by the Company in favor of the increase in its capital
stock represented 95.55% of the Company's shares of common stock issued and
outstanding on the record date for the vote. The votes received by the
Company in favor of the name change represented 98.75% of the Company's
shares of common stock issued and outstanding on the record date for the
vote.
On November 7, 2006, the Securities and Exchange Commission declared
effective the Form SB - 2 registration statement filed by the company in
December 2005. The registration statement included amended and restated
financial statements for the fiscal year ended December 31, 2005 and for
the quarterly period ending June 30, 2006. The restated financial
statements reflect the reclassification of certain of the company's
financial instruments and the implementation of a new valuation methodology
for derivatives associated with certain of its past and current financial
instruments. The restatements resulted in non-cash adjustments to the
financial statements and did not impact the operating results of the
company.
In July 2006, the Company sold $30 million of Senior Convertible Notes due
2010. Of the $30 million raised by the company, $15 million was released to
the Company upon closing the transaction in July and the remaining $15
million was held in escrow, pending effectiveness of the Form SB-2. The
Company had previously satisfied the other escrow release condition by
having shareholders approve an increase in authorized shares at a
shareholder meeting on October 11, 2006. On November 10, 2006, the balance
of the proceeds from the Company's July 2006 sale of the $30 million of
Senior Convertible Notes was released to the Company from escrow.
F-42
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Shareholders
Bravo! Brands Inc.
North Palm Beach, Florida
We have audited the accompanying consolidated balance sheets of Bravo! Brands
Inc. (formerly Bravo! Foods International Corp.) as of December 31, 2005 and
2004 and the related consolidated statements of operations and comprehensive
loss, stockholders' deficit and cash flows for the years 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 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 audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting. Our audits included consideration of internal
control over financial reporting as a basis for designing audit procedures that
are appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements, 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 Bravo! Brands Inc. as of
December 31, 2005 and 2004 and the results of its operations and its cash flows
for the years then ended in conformity with accounting principles generally
accepted in the United States of America.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As shown in the financial statements,
the Company incurred a net loss of $79,528,653 for the year ended December 31,
2005 and as of that date had a working capital deficiency of $39,287,983. The
Company is also delinquent in payment of certain debts. These conditions raise
substantial doubt about their ability to continue as a going concern.
Management's actions in regard to these matters are more fully described in Note
1. The financial statements do not include any adjustments relating to the
recoverability and classification of recorded assets, or the amounts and
classification of liabilities that might be necessary in the event the Company
cannot continue in existence.
As more fully described in Note 13 to the consolidated financial statements, the
accompanying consolidated balance sheets as of December 31, 2005 and 2004, and
the related consolidated statements of operations and comprehensive loss,
stockholders' deficit and cash flows for the years then ended, have been
restated to reflect the proper accounting for certain transactions.
/s/ Lazar Levine & Felix LLP
New York, New York
February 9, 2006, except for Note 13
as to which the date is September 8, 2006
F-43
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
December 31,
------------------------------
2005 2004
(Restated) (Restated)
------------------------------
Assets
Current assets:
Cash and cash equivalents $ 4,947,986 $ 113,888
Accounts receivable, net of allowance for doubtful accounts of
$350,000 and $90,396 for 2005 and 2004, respectively 3,148,841 51,968
Inventories 391,145 11,656
Prepaid expenses 973,299 387,866
------------- ------------
Total current assets 9,461,271 565,378
Fixed assets 288,058 111,206
Intangible assets, net 18,593,560 77,038
Other assets 15,231 342,186
------------- ------------
Total assets $ 28,358,120 $ 1,095,808
============= ============
See accompanying notes
F-44
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
Liabilities, Redeemable Preferred Stock and Stockholders' Deficit
Current liabilities:
Accounts payable $ 5,987,219 $ 1,763,339
Accrued liabilities 4,872,277 444,986
Notes payable 937,743 1,184,858
Convertible notes payable 1,012,780 1,099,231
Derivative liabilities 35,939,235 10,835,629
------------- ------------
Current and total liabilities 48,749,254 15,328,043
------------- ------------
Commitments and contingencies (Note 11) - -
Redeemable preferred stock:
Series F convertible, par value $0.001 per share, 200,000 shares designated
Convertible Preferred Stock, stated value $10.00 per share,
5,248 and 55,515 shares issued and outstanding 52,480 555,150
Series H convertible, par value $0.001 per share, 350,000 shares designated,
7% Cumulative Convertible Preferred Stock, stated value
$10.00 per share, 64,500 and 165,500 shares issued and outstanding 388,305 840,215
Series I convertible, par value $0.001 per share, 200,000 shares designated,
8% Cumulative Convertible Preferred Stock, stated value
$10.00 per share, 0 and 30,000 shares issued and outstanding - 300,000
Series J, par value $0 001 per share, 500,000 shares designated, 8% Cumulative
Convertible Preferred Stock, stated value $10.00 per share,
200,000 shares issued and outstanding 871,043 485,825
Series K, par value $0 001 per share, 500,000 shares designated, 8%
Cumulative Convertible Preferred Stock, stated value $10.00 per share,
95,000 shares issued and outstanding 792,672 750,265
------------- ------------
Total redeemable preferred stock 2,104,500 2,931,455
------------- ------------
Stockholders' Deficit:
Preferred stock, 5,000,000 shares authorized
Series B convertible, par value $0.001 per share, 1,260,000 shares designated,
9% Convertible Preferred Stock, stated value $1.00 per
share, 107,440 shares issued and outstanding 107,440 107,440
Common stock, par value $0.001 per share, 300,000,000 shares
authorized, 184,253,753 and 184,254, 501 shares issued and outstanding 184,254 57,791
Additional paid-in capital 96,507,932 21,387,210
Common stock subscription receivable (10,000) -
Accumulated deficit (119,254,501) (38,716,131)
Translation adjustment (30,759) -
------------- ------------
Total stockholders' deficit (22,495,634) (17,163,690)
------------- ------------
Total liabilities, redeemable preferred stock and stockholders' deficit $ 28,358,120 $ 1,095,808
============= ============
See accompanying notes
F-45
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE LOSS
Years ended December 31,
------------------------------
2005 2004
------------------------------
(Restated) Restated)
Revenues $ 11,948,921 $ 3,344,699
Product costs (8,938,692) (2,374,805)
Shipping costs (1,505,035) (498,313)
------------- ------------
Gross margin 1,505,194 471,581
Operating expenses:
Selling 7,464,876 1,300,673
General and administrative 7,263,284 2,677,061
Product development 636,342 206,129
Non-recurring finder's fee 3,000,000 -
------------- ------------
Loss from operations (16,859,308) (3,712,282)
Other income (expenses), net:
Derivative income (expense) (60,823,574) (6,309,933)
Interest (1,667,294) (1,435,405)
Other 125,273 (60,000)
Liquidated damages (303,750) -
------------- ------------
Loss before income taxes (79,528,653) (11,517,620)
Provision for income taxes - -
------------- ------------
Net loss (79,528,653) (11,517,620)
Adjustments to net loss to arrive at loss applicable to common stockholders:
Preferred stock dividends (336,300) (388,632)
Accretion of preferred stock (985,717) (599,388)
------------- ------------
Loss applicable to common stockholders $ (80,850,670) $(12,505,640)
============= ============
Basic and diluted loss per common share $ (0.60) $ (0.31)
============= ============
Weighted average number of common shares outstanding 135,032,836 40,229,738
============= ============
Comprehensive loss and its components consist of the following:
Net loss $ (79,528,653) $(11,517,620)
Foreign currency translation adjustment (30,759) (689)
------------- ------------
Comprehensive loss $ (79,559,412) $(11,518,309)
============= ============
See accompanying notes
F-46
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004
Years ended December 31,
------------------------------
2005 2004
(Restated) (Restated)
------------ ------------
Cash flows from operating activities:
Net loss $(79,528,653) $(11,517,620)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 2,251,646 239,853
Stock issuances for compensation 346,438 675,632
Equity instruments to be issued for consulting expenses 1,472,261 -
Options issued for compensation 798,869 153,631
Bad debt expense 259,604 51,170
(Gain) loss on debt extinguishment (125,273) 60,000
Derivative expense 60,823,574 6,309,933
Amortization of debt discount 1,428,638 1,175,245
Loss on disposal of fixed assets - 6,216
Increase (decrease) in cash from changes in:
Accounts receivable (3,356,477) (77,217)
Other receivable - 6,331
Inventories (379,489) 43,339
Prepaid expenses and other assets (586,764) (214,094)
Accounts payable and accrued expenses 7,294,548 (542,282)
------------ ------------
Net cash used in operating activities (9,301,078) (3,629,863)
------------ ------------
Cash flows from investing activities:
Licenses and trademark costs (3,823,521) (452,311)
Purchase of equipment (220,144) (78,952)
------------ ------------
Net cash used in investing activities (4,043,665) (531,263)
------------ ------------
Cash flows from financing activities:
Proceeds from sale of preferred stock - 950,000
Exercise of warrants 3,208,509 -
Proceeds from convertible notes payable 2,850,000 3,427,500
Proceeds from sale of common stock and warrants 20,690,000 30,000
Payments for redemption of warrants (5,900,000) -
Payment of note payable (500,000) (150,000)
Registration costs of financing (2,138,909) (40,656)
------------ ------------
Net cash provided by financing activities 18,209,600 4,216,844
------------ ------------
Effect of changes in exchange rate on cash (30,759) (689)
------------ ------------
Net increase in cash and cash equivalents 4,834,098 55,029
Cash and cash equivalents, beginning of period 113,888 58,859
------------ ------------
Cash and cash equivalents, end of period $ 4,947,986 $ 113,888
============ ============
See accompanying notes
F-47
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004
2005 2004
Supplemental Cash Flow Information (Restated) (Restated)
------------ ------------
Cash paid during the year for interest $ 10,741 $ 51,301
============ ============
Cash paid for taxes $ - $ -
============ ============
Non-cash investing and financing activities:
Purchase of intangible assets with derivative warrants $ 15,960,531 $ 612,538
============ ============
Conversion of notes payable and accrued interest $ 20,343,934 $ 531,494
============ ============
Conversion of redeemable preferred stock and related dividends $ 2,644,326 $ 927,146
============ ============
Exercise of derivative warrants $ 35,230,018 $ -
============ ============
Beneficial Conversion Feature $ - $ 220,000
============ ============
See accompanying notes
F-48
BRAVO! BRANDS INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT
FOR THE YEARS ENDED DECEMBER 31, 2005 AND 2004
Accumulated
Additional Common Stock Other
Preferred Stock Common Stock Paid In Accumulated Subscription Comprehensive
Shares Amount Shares Amount Capital Deficit Receivable Loss Total
Balance, January 1, 2004
(Restated) 107,440 $107,440 28,047,542 $ 28,045 $18,430,875 $ (26,556,046) $ - $ 689 $ (7,988,997)
Issuance of common stock
for services - - 9,332,300 9,332 666,300 - - - 675,632
Conversion redeemable
preferred stock and
dividends - - 15,897,701 15,898 1,553,713 (642,465) - - 927,146
Conversion notes payable - - 4,265,958 4,266 527,228 - - - 531,494
Private Placement
financing - - 250,000 250 29,750 - - - 30,000
Beneficial conversion
feature - - - - 220,000 - - - 220,000
Financing Costs - - - - (40,656) - - - (40,656)
Net loss for 2004 - - - - - (11,517,620) - - (11,517,620)
Translation adjustment - - - - - - - (689) (689)
--------------------------------------------------------------------------------------------------------
Balance, December 31,
2004 (Restated) 107,440 107,440 57,793,501 57,791 21,387,210 (38,716,131) - - (17,163,690)
Conversion redeemable
preferred stock and
dividends - - 9,245,352 9,247 2,659,079 (24,000) - - 2,644,326
Exercise of warrants - - 32,474,792 32,475 38,406,052 - - - 38,438,527
Conversion notes payable - - 41,248,858 41,249 20,302,685 - - - 20,343,934
Private placement
financing - - 40,950,000 40,950 20,649,050 - - - 20,690,000
Common stock subscribed
but not paid - - - - - - (10,000) - (10,000)
Stock issued for
compensation - - 2,541,250 2,542 343,896 - - - 346,438
Financing costs - - - - (2,138,909) - - - (2,138,909)
Stock option expense - - - - 798,869 - - - 798,869
Redemption of warrants - - - - (5,900,000) - - - (5,900,000)
Accretion of preferred
stock - - - - - (985,717) - - (985,717)
Net loss for 2005 - - - - - (79,528,653) - - (79,528,653)
Translation adjustment - - - - - - - (30,759) (30,759)
--------------------------------------------------------------------------------------------------------
Balance, December 31,
2005 (Restated) 107,440 $107,440 184,253,753 $184,254 $96,507,932 $(119,254,501) $(10,000) $(30,759) $(22,495,634)
========================================================================================================
See accompanying notes
F-49
BRAVO! BRANDS INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE YEARS ENDED DECEMBER 31 2005 AND 2004
Note 1 - Nature of Business, Liquidity and Management's Plans and Significant
Accounting Policies
Nature of Business:
We are engaged in the sale of flavored milk products and flavor ingredients in
the United States, the United Kingdom, Central America and the Middle East, and
we are establishing an infrastructure to conduct business in Canada.
Liquidity and Management's Plans:
As reflected in the accompanying consolidated financial statements, we have
incurred operating losses and negative cash flows from operations and have a
working capital deficiency of $39,287,983 as of December 31, 2005. In addition,
we are delinquent on certain of our debt agreements at December 31, 2005, and we
have experienced delays in filing our financial statements and registration
statements due to errors in our historical accounting that have been corrected
(See Note 13). Our inability to make these filings is resulting in our
recognition of penalties to the investors, and these penalties will continue
until we can complete our filings and register the common shares into which the
investors' financial instruments are convertible. Finally, our revenues are
significantly concentrated with one major customer. The loss of this customer or
curtailment in business with this customer could have a material adverse affect
on our business. These conditions raise substantial doubt about our ability to
continue as a going concern.
We have been dependent upon third party financings as we execute our business
model and plans. We completed a $30.0 million convertible note financing in
August 2006 that is expected to fulfill our liquidity requirements through the
end of 2006. However, $15.0 million of this financing is held in escrow, pending
approval by our shareholders of an increase in our authorized shares of common
stock. We were in default on this instrument due to the delay in filing our
quarterly financial report for the quarterly period ended June 30, 2006. As a
result, an event of default has occurred under the terms of the Notes and the
interest rate on the Notes, payable quarterly, was increased from 9% to 14% per
annum. Pursuant to the terms of the Notes, upon the occurrence of an event of
default, holders of the Notes may, upon written notice to the Company, each
require the Company to redeem all or any portion of their Notes, at a default
redemption price calculated pursuant to the terms of the Notes. During September
2006, we entered into an Amendment Agreement with the holders of the Notes to
amend the Notes in certain respects as consideration for the holders' release of
the Company's default resulting from its delay in the filing of our Form 10-QSB
for the quarter ended June 30, 2006.
We plan to increase our sales, improve our gross profit margins, augment our
international business and, if necessary, obtain additional financing.
Ultimately, our ability to continue is dependent upon the achievement of
profitable operations. There is no assurance that further funding will be
available at acceptable terms, if at all, or that we will be able to achieve
profitability.
The accompanying financial statements do not reflect any adjustments that may
result from the outcome of this uncertainty.
Significant Accounting Policies:
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
estimates and assumptions that affect the
F-50
reported amounts of assets and liabilities and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. The most significant
estimates included in our financial statements are the following:
- Estimating future bad debts on accounts receivable that are carried at net
realizable values.
- Estimating our reserve for unsalable and obsolete inventories that are
carried at lower of cost or market.
- Estimating the fair value of our financial instruments that are required
to be carried at fair value.
- Estimating the recoverability of our long-lived assets.
We use all available information and appropriate techniques to develop our
estimates. However, actual results could differ from our estimates.
Business Segment and Geographic Information
-------------------------------------------
We operate in one dominant industry segment that we have defined as the single
serve flavored milk industry. While our international business is expected to
grow in the future, it currently contributes less than 10% of our revenues, and
we have no physical assets outside of the United States.
Revenue Recognition
-------------------
Our revenues are derived from the sale of branded milk products to customers in
the United States of America, Great Britain and the Middle East. Geographically,
our revenues are dispersed 98% and 2% between the United States of America and
internationally, respectively. We currently have one customer in the United
States that provided 34% and 0% of our revenue during the years ended December
31, 2005 and 2004, respectively. Since we commenced business with this customer
during our fourth fiscal quarter of 2005, we expect that our revenue from this
customer will increase as a percentage of total sales in the near future.
Revenues are recognized pursuant to formal revenue arrangements with our
customers, at contracted prices, when our product is delivered to their premises
and collectibility is reasonably assured. We extend merchantability warranties
to our customers on our products but otherwise do not afford our customers with
rights of return. Warranty costs have historically been insignificant.
Our revenue arrangements often provide for industry-standard slotting fees where
we make cash payments to the respective customer to obtain rights to place our
products on their retail shelves for a stipulated period of time. We also engage
in other promotional discount programs in order to enhance our sales activities.
We believe our participation in these arrangements is essential to ensuring
continued volume and revenue growth in the competitive marketplace. These
payments, discounts and allowances are recorded as reductions to our reported
revenue. Unamortized slotting fees are recorded in prepaid expenses.
Principles of Consolidation
---------------------------
Our consolidated financial statements include the accounts of Bravo! Brands Inc.
(the "Company"), and its wholly-owned subsidiary Bravo! Brands (UK) Ltd. All
material intercompany balances and transactions have been eliminated. Cumulative
translation adjustments that we make to reflect the accounts of Bravo! Brands
(UK) Ltd. in United States Dollars are recorded as a component of other
comprehensive income (loss) and stockholder's equity. Foreign currency
transaction gains and losses are reported as a component of other income
(expense).
F-51
Shipping and Handling Costs
---------------------------
Shipping and handling costs incurred to deliver products to our customers are
included as a component of cost of sales. These costs amounted to approximately
$1,505,035 and $498,313 for the years ended December 31, 2005 and 2004,
respectively.
Cash and Cash Equivalents
-------------------------
We consider all highly liquid investments purchased with a remaining maturity of
three months or less to be cash equivalents.
Accounts Receivable
-------------------
Our accounts receivable are exposed to credit risk. During the normal course of
business, we extend unsecured credit to our customers with normal and
traditional trade terms. Typically credit terms require payments to be made by
the thirtieth day following the sale. We regularly evaluate and monitor the
creditworthiness of each customer. We provide an allowance for doubtful accounts
based on our continuing evaluation of our customers' credit risk and our overall
collection history. As of December 31, 2005 and 2004, the allowance of doubtful
accounts aggregated $350,000 and $90,396, respectively.
In addition, our accounts receivable are concentrated with one customer that
represents 70% and 0% of our gross accounts receivable balances at December 31,
2005 and 2004, respectively. Approximately 2% of our gross accounts receivable
at December 31, 2005 are due from international customers.
Inventories
-----------
Inventories, which consist primarily of finished goods, are stated at the lower
of cost on the first in, first-out method or market. Further, our inventories
are perishable. Accordingly, we estimate and record lower-of-cost or market and
unsalable-inventory reserves based upon a combination of our historical
experience and on a specific identification basis. During the years ended
December 31, 2005 and 2004, we did not provide for unsaleable inventories.
In November 2004, the FASB issued Financial Accounting Standard No. 151,
Inventory Costs, an amendment of ARB No. 43 Chapter 4 (FAS 151), which clarifies
that inventory costs that are "abnormal" are required to be charged to expense
as incurred as opposed to being capitalized into inventory as a product cost.
FAS 151 provides examples of "abnormal" costs to include costs of idle
facilities, excess freight and handling costs and spoilage. FAS 151 will become
effective for our fiscal year beginning January 1, 2006. The adoption of FAS No.
151 is not expected to have a material effect on our consolidated financial
statements.
Fixed Assets
------------
Fixed assets are stated at cost. Depreciation is computed using the
straight-line method over a period of seven years for furniture and five years
for equipment. Maintenance, repairs and minor renewals are charged directly to
expenses as incurred. Additions and betterments to property and equipment are
capitalized. When assets are disposed of, the related cost and accumulated
depreciation thereon are removed from the accounts, and any resulting gain or
loss is included in the statement of operations.
F-52
Intangible Assets
-----------------
Our intangible assets, which we record at cost, consist of our distribution
agreement with Coca-Cola Enterprises ("CCE") that we entered into during the
third fiscal quarter of 2005, our manufacturing agreement with Jasper Products,
Inc. and licenses and trademark costs with estimated lives of ten years, five
years and one-to-five years, respectively.
Impairment of Long-Lived Assets
-------------------------------
We evaluate the carrying value and recoverability of our long-lived assets when
circumstances warrant such evaluation by applying the provisions of Financial
Accounting Standard No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets ("FAS 144"). FAS 144 requires that long-lived assets be
reviewed for impairment whenever events or changes in circumstances indicate
that the carrying amount of an asset may not be recoverable through the
estimated undiscounted cash flows expected to result from the use and eventual
disposition of the assets. Whenever any such impairment exists, an impairment
loss will be recognized for the amount by which the carrying value exceeds the
fair value.
Financial Instruments
---------------------
Financial instruments, as defined in Financial Accounting Standard No. 107
Disclosures about Fair Value of Financial Instruments (FAS 107), consist of
cash, evidence of ownership in an entity and contracts that both (i) impose on
one entity a contractual obligation to deliver cash or another financial
instrument to a second entity, or to exchange other financial instruments on
potentially unfavorable terms with the second entity, and (ii) conveys to that
second entity a contractual right (a) to receive cash or another financial
instrument from the first entity or (b) to exchange other financial instruments
on potentially favorable terms with the first entity. Accordingly, our financial
instruments consist of cash and cash equivalents, accounts receivable, accounts
payable, accrued liabilities, notes payable, derivative financial instruments,
convertible debt and redeemable preferred stock that we have concluded is more
akin to debt than equity.
We carry cash and cash equivalents, accounts receivable, accounts payable, and
accrued liabilities at historical costs; their respective estimated fair values
approximate carrying values due to their current nature. We also carry notes
payable, convertible debt and redeemable preferred stock at historical cost;
however, fair values of debt instruments and redeemable preferred stock are
estimated for disclosure purposes (below) based upon the present value of the
estimated cash flows at market interest rates applicable to similar instruments.
As of December 31, 2005, estimated fair values and respective carrying values of
our notes payable, convertible debt and redeemable preferred stock are as
follows:
Instrument Note Fair Value Carrying Value
----------------------------------------------------------------------------
$750,000 Notes Payable 5(a) $ 750,000 $ 750,000
$187,843 Notes Payable 5(b) 187,743 187,743
Other Notes Payable 5(c) 0 0
$200,000 Convertible Note Payable 6(a) 190,000 187,934
$ 15,000 Convertible Note Payable 6(b) 13,300 1,620
$600,000 Convertible Note Payable 6(c) 668,000 600,000
$ 6,250 Convertible Note Payable 6(e) 6,375 5,188
$ 25,000 Convertible Note Payable 6(f) 25,500 30,278
$187,760 Convertible Note Payable 6(g) 187,760 187,760
Series F Preferred Stock 7(d) 46,000 52,480
Series H Preferred Stock 7(a) 525,000 388,305
Series I Preferred Stock 7(d) 0 0
Series J Preferred Stock 7(b) 1,731,000 871,043
Series K Preferred Stock 7(c) 881,000 792,672
As of December 31, 2004, estimated fair values and respective carrying values of
our notes payable, convertible debt and redeemable preferred stock are as
follows:
Instrument Fair Value Carrying Value
------------------------------------------------- ---------------- ----------------
$750,000 face value note payable $ 750,000 $ 750,000
================ ================
$187,743 face value note payable 187,743 187,743
================ ================
$275,000 note payable, due 11.30.06 246,621 175,055
================ ================
$600,000 convertible note payable, due 12.31.05 568,421 240,088
================ ================
$1,008,000 convertible note payable, due 11.30.05 1,679,832 402,607
================ ================
$577,500 convertible note payable, due 4.30.06 547,377 73,057
================ ================
$375,000 convertible note payable, due 10.1.06 339,901 208,424
================ ================
Other notes payable 247,115 247,115
================ ================
Series F Preferred Stock 555,150 555,150
================ ================
Series H Preferred Stock 1,459,846 840,215
================ ================
Series I Preferred Stock 260,778 300,000
================ ================
Series J Preferred Stock 1,701,772 485,825
================ ================
Series K Preferred Stock 729,429 750,265
================ ================
F-53
Derivative financial instruments, as defined in Financial Accounting Standard
No. 133, Accounting for Derivative Financial Instruments and Hedging Activities
(FAS 133), consist of financial instruments or other contracts that contain a
notional amount and one or more underlying (e.g. interest rate, security price
or other variable), require no initial net investment and permit net settlement.
Derivative financial instruments may be free-standing or embedded in other
financial instruments. Further, derivative financial instruments are initially,
and subsequently, measured at fair value and recorded as liabilities or, in rare
instances, assets.
We generally do not use derivative financial instruments to hedge exposures to
cash-flow, market or foreign-currency risks. However, we have entered into
certain other financial instruments and contracts, such as debt financing
arrangements, redeemable preferred stock arrangements, and freestanding warrants
with features that are either (i) not afforded equity classification, (ii)
embody risks not clearly and closely related to host contracts, or (iii) may be
net-cash settled by the counterparty. As required by FAS 133, these instruments
are required to be carried as derivative liabilities, at fair value, in our
financial statements.
The following table summarizes the components of derivative liabilities as of
December 31, 2005 and 2004:
Note 2005 2004
----------------------------------------
Compound derivative financial instruments that have been
bifurcated from the following financing arrangements:
--------------------------------------------------------
$ 400,000 Convertible Note Financing 6(a) $ (1,311,000) $ (201,000)
$2,300,000 Convertible Note Financing 6(b) (4,867) -
$ 600,000 Convertible Note Financing 6(c) (153,700) (27,833)
$ 693,000 Convertible Note Financing 6(e) (42,878) (794,750)
$ 660,000 Convertible Note Financing 6(f) (159,250) (440,648)
$1,008,000 Convertible Note Financing 6(g) - (378,756)
$ 240,000 Convertible Note Financing 6(d) - (258,400)
Series F Preferred Stock Financing 7(d) (25,632) (247,562)
Series H Preferred Stock Financing 7(a) (381,377) (156,927)
Series I Preferred Stock Financing 7(b) - (10,400)
Series J Preferred Stock Financing 7(b) (5,628,000) (728,000)
Series K Preferred Stock Financing 7(c) (206,200) (73,644)
Freestanding derivative contracts arising from financing
and other business arrangements:
--------------------------------------------------------
Warrants issued with $693,000 Convertible Notes 6(e) (924,120) (330,220)
Warrants issued with $400,000 Convertible Notes 6(a) - (1,264,600)
Warrants issued with $600,000 Convertible Notes 6(c) - (904,100)
Warrants issued with $660,000 Convertible Notes 6(f) - (446,400)
Warrants issued with $1,008,000 Convertible Notes 6(g) (564,735) (1,446,560)
Warrants issued with $240,000 Convertible Notes 6(d) - (121,040)
Warrants issued with Series H Preferred Stock 7(a) (1,264,109) (376,212)
Warrants issued with Series I Preferred Stock 7(i) - (177,257)
Warrants issued with Series F Preferred Stock 7(d) (563,096) (648,004)
Warrants issued with Series D Preferred Stock 7(d) (400,214) (188,982)
Warrants issued with Series J Preferred Stock 7(b) - (1,088,000)
Other warrants, including warrants issued with common
stock financing 9(b) (24,310,057) (526,334)
------------------------------
Total derivative liabilities $(35,939,235) $(10,835,629)
==============================
F-54
See the notes referenced in the table for details of the origination and
accounting for these derivative financial instruments. We estimate fair values
of derivative financial instruments using various techniques (and combinations
thereof) that are considered to be consistent with the objective measuring fair
values. In selecting the appropriate technique, we consider, among other
factors, the nature of the instrument, the market risks that it embodies and the
expected means of settlement. For less complex derivative instruments, such as
freestanding warrants, we generally use the Black-Scholes-Merton option
valuation technique because it embodies all of the requisite assumptions
(including trading volatility, estimated terms and risk free rates) necessary to
fair value these instruments. For complex derivative instruments, such as
embedded conversion options, we generally use the Flexible Monte Carlo valuation
technique because it embodies all of the requisite assumptions (including credit
risk, interest-rate risk and exercise/conversion behaviors) that are necessary
to fair value these more complex instruments. For forward contracts that
contingently require net-cash settlement as the principal means of settlement,
we project and discount future cash flows applying probability-weightage to
multiple possible outcomes. Estimating fair values of derivative financial
instruments requires the development of significant and subjective estimates
that may, and are likely to, change over the duration of the instrument with
related changes in internal factors and external market indicators. In addition,
option-based techniques are highly volatile and sensitive to changes in our
trading market price which has a high-historical volatility. Since derivative
financial instruments are initially and subsequently carried at fair values, our
income will reflect the volatility in these estimate and assumption changes.
The following table summarizes the effects on our income (loss) associated with
changes in the fair values of our derivative financial instruments by type of
financing for the years ended December 31, 2005 and 2004:
Derivative income (expense): 2005 2004
-----------------------------
Convertible note and warrant financings $(42,172,053) $(3,432,061)
Preferred stock and warrant financings (11,314,733) (2,561,043)
Other warrants and derivative contracts (7,336,788) (316,829)
-----------------------------
$(60,823,574) $(6,309,933)
=============================
Additional information related to individual financings can be found in notes 6,
7 & 9.
Our derivative liabilities as of December 31, 2005 and 2004, and our derivative
loss during each of the years ended December 31, 2005 and 2004 is significant to
our consolidated financial statements. The magnitude of the derivative loss
during the year ended December 31, 2005 when compared with the loss for the year
ended December 31, 2004 reflects the following:
(a) During the year ended December 31, 2005, and specifically commencing in the
second quarter, the trading price of our common stock reached significantly high
levels relative to its trend. The trading price of our common stock
significantly affects the fair value of our derivative financial instruments. To
illustrate, our trading stock price at the end of the first quarter of 2005 was
$0.15 and then increased to $0.93 by the end of the second quarter. Our trading
stock price then declined to $0.61 and $0.59 at the end of the third and fourth
quarters, respectively. However, the higher stock price had the effect of
significantly increasing the fair value of our derivative liabilities and,
accordingly, we were required to adjust the derivatives to these higher values
with charges to our income. Also, due to the higher stock price commencing in
the second quarter, we experienced significant exercise and conversion activity
related to our derivative warrants and, to a lesser degree, with respect to the
embedded conversion options. Accordingly, our year end derivative liability
balances reflect, among other elements of our valuation assumptions, the higher
intrinsic values of the arrangements caused by the significant changes
F-55
in our stock price, which are offset by a smaller number of common shares
indexed to outstanding warrants due to the extraordinary level of exercise
activity.
(b) During the year ended December 31, 2005, we entered into a $2,300,000 debt
and warrant financing arrangement, more fully discussed in Note 6(b). In
connection with our accounting for this financing we encountered the unusual
circumstance of a day-one loss related to the recognition of derivative
instruments arising from the arrangement. That means that the fair value of the
bifurcated compound derivative and warrants exceeded the proceeds that we
received from the arrangement and we were required to record a loss to record
the derivative financial instruments at fair value. The loss that we recorded
amounted to $8,663,869. We did not enter into any other financing arrangements
during the periods reported that reflected day-one losses.
The following table summarizes the number of common shares indexed to the
derivative financial instruments as of December 31, 2005:
Conversion
Financing or other contractual arrangement: Note Features Warrants Total
---------------------------------- --------------
$ 400,000 Convertible Note Financing 6(a) 4,320,000 - 4,320,000
$2,300,000 Convertible Note Financing 6(b) 120,000 2,000,000 2,120,000
$ 600,000 Convertible Note Financing 6(c) 4,100,000 - 4,100,000
$ 693,000 Convertible Note Financing 6(e) 65,104 1,700,000 1,765,104
$ 660,000 Convertible Note Financing 6(f) 250,000 1,500,000 1,750,000
$1,080,000 Convertible Note Financing 6(g) 1,924,540 - 1,924,540
Series D Convertible Preferred Stock 7(d) - 611,250 611,250
Series F Convertible Preferred Stock 7(d) 220,969 1,038,259 1,259,228
Series H Convertible Preferred Stock(a) 7(a) - 4,387,500 4,387,500
Series J Convertible Preferred Stock 7(b) 20,000,000 - 20,000,000
Series K Convertible Preferred Stock(a) 7(c) - - -
Other warrants and contracts 9(b) - 49,504,688 49,504,688
------------------------- --------------
31,000,613 60,741,697 91,742,310
========================================
(a) As more fully described in Notes 7(a) and 7(c) these instruments were
afforded the conventional convertible exemption, which means we did not
have to bifurcate the embedded conversion feature. However, we were
required to bifurcate certain other embedded derivatives as discussed in
the notes. Although the conversion features did not require derivative
accounting, we are required to also consider the 953,443 and 9,500,000
common shares, respectively, into which these instruments are indexed in
determining whether we have sufficient authorized and unissued common
shares for all of our share-settled obligations.
We have entered into registration rights agreements with certain investors that
require us to file a registration statement covering shares underlying a
financing arrangement, become effective on the registration statement, maintain
effectiveness and, in some instances, maintain the listing of the underlying
shares. Certain of these registration rights agreements require our payment of
liquidating damages to the investors in the event we do not achieve the
requirements. We record estimated liquidated damages as liabilities and charges
to our income when the liquidated damages are probable and estimable under
Financial Accounting Standard No. 5 Accounting for Contingencies. During the
years ended December 31, 2005 and 2004, we recorded liquidated damages expense
of $303,750 and $0, respectively.
Advertising and Promotion Costs
-------------------------------
Advertising and promotion costs, which are included in selling expenses, are
expensed as incurred and aggregated $2,515,062 and $656,614 for the years ended
December 31, 2005 and 2004, respectively.
Share-Based Payments
--------------------
Prior to 2005, we accounted for our stock options under the recognition and
measurement provisions of APB Opinion No. 25, Accounting for Stock Issued to
Employees, and related Interpretations. Effective January 1, 2005, the Company
adopted the fair value recognition provisions of FASB Statement No. 123,
Accounting for Stock Based Compensation ("FAS 123"). Under the modified
prospective method of adoption selected by the Company under the provisions of
FASB Statement No. 148, Accounting for Stock Based
F-56
Compensation - Transition and Disclosure ,("FAS 148") compensation costs
recognized in 2005 were the same as that which would have been recognized had
the recognition provisions of FAS 123 been applied from the options' grant
dates. This is because all outstanding options at December 31, 2004 were fully
vested on that date. Consistent with the requirements of this method of
adoption, results for prior years have not been restated. We recognized no tax
benefit for share-based compensation arrangements due to the fact that we are in
a cumulative loss position and recognize no tax benefits in our Consolidated
Statements of Operations. For further information regarding the adoption of SFAS
No. 123, see Note 8 to the consolidated financial statements.
Income Taxes
------------
We account for income taxes using the liability method, which requires an entity
to recognize deferred tax liabilities and assets. Deferred income taxes are
recognized based on the differences between the tax bases of assets and
liabilities and their reported amounts in the financial statements that will
result in taxable or deductible amounts in future years. Further, the effects of
enacted tax laws or rate changes are included as part of deferred tax expense or
benefit in the period that covers the enactment date. A valuation allowance is
recognized if it is more likely than not that some portion, or all, of a
deferred tax asset will not be realized.
Loss Per Common Share
---------------------
Our basic loss per common share is computed by dividing loss applicable to
common stockholders by the weighted average number of common share outstanding
during the reporting period. Diluted loss per common share is computed similar
to basic loss per common share except that diluted loss per common share
includes dilutive common stock equivalents, using the treasury stock method, and
assumes that the convertible debt instruments were converted into common stock
upon issuance, if dilutive. For the years ended December 31, 2005 and 2004
potential common shares arising from our stock options, stock warrants,
convertible debt and convertible preferred stock amounting to 108,059,082 and
126,767,057 shares, respectively, were not included in the computation of
diluted loss per share because their effect was antidilutive.
Note 2 - Fixed Assets
Our fixed assets are comprised of the following as of December 31, 2005 and
2004:
2005 2004
---- ----
Office equipment $ 209,085 $ 151,577
Furniture and fixtures 189,068 150,871
Automobiles 29,295 -
Leasehold improvements 23,714 23,714
Purchased software 3,223 3,223
--------- ---------
454,385 329,385
Less: accumulated depreciation and amortization (166,327) (218,179)
--------- ---------
$ 288,058 $ 111,206
========= =========
Depreciation and amortization expense of fixed assets aggregated $43,292 and
$30,153 for 2005 and 2004, respectively.
F-57
Note 3 - Intangible Assets
Our intangible assets consist of our distribution agreement with Coca-Cola
Enterprises ("CCE"), our manufacturing agreement with Jasper Products, Inc. and
licenses and trademark costs, with estimated lives of ten years, five years and
one-to-five years, respectively. The following table summarizes the components
of our intangible assets as of December 31, 2005 and 2004:
2005 2004
---- ----
Distribution agreement $15,960,531 $ -
Manufacturing agreement 2,700,000 -
Licenses and trademarks 1,370,958 365,431
Less accumulated amortization (1,437,929) (288,393)
----------- ---------
$18,593,560 $ 77,038
=========== =========
Amortization expense amounted to $1,411,004 and $269,242 for the years ended
December 31, 2005 and 2004, respectively.
Estimated future amortization of our intangible assets for each of the next five
years is as follows as of December 31, 2005:
December 31, 2006 $2,685,671
==========
December 31, 2007 $2,367,947
==========
December 31, 2008 $2,356,342
==========
December 31, 2009 $2,355,844
==========
December 31, 2010 $2,203,289
==========
Note 4 - Accrued Liabilities
Accrued liabilities consist of the following as of December 31, 2005 and
December 31, 2004:
2005 2004
---- ----
Investor relations liability $1,545,565 $ -
Production processor liability 182,814 -
Accrued payroll and related 636,757 15,000
Accrued interest 376,198 255,173
Discontinued products (a) 1,710,733 -
Liquidated damages due to late registraton (b) 303,750 -
Other 116,460 174,813
---------- --------
$4,872,277 $444,986
========== ========
(a) During the year ended December 31, 2005, we discontinued certain product
lines and, as a result, incurred certain penalties under purchase
commitments with our manufacturing vendors. We accrued these penalties
upon our decision to discontinue the products.
(b) Certain of our financings provide for penalties in the event of
non-registration of securities underlying the financial instruments.
Generally, these penalties are calculated as a percentage of the financing
proceeds, usually between 1.0% and 3.0% monthly. We record these
liquidated damages when they are probable and estimable pursuant to FAS 5.
Note 5 -- Notes Payable
Notes payable consist of the following as of December 31, 2005 and 2004:
2005 2004
---- ----
$750,000 face value note payable, due September 3, 2004 (a) $750,000 $ 750,000
$187,743 face value note payable, due December 31, 2005 (b) 187,743 187,743
$100,000 face value note payable due February 1, 2002 (c) - 100,000
F-58
Other 147,115
-------- ----------
Total notes payable 937,743 1,184,858
Less current maturities 937,743 1,184,858
-------- ----------
Long-term notes payable $ - $ -
======== ==========
(a) On May 9, 2004 we received the proceeds of a $750,000 loan from Mid-Am
Capital, payable September 3, 2004, with an interest rate of 8%. This loan
is secured by a general security interest in all of our assets. Mid-Am has
agreed to extend the note on a demand basis.
(b) In 1999, we issued a promissory note to assume existing debt owed by our
then Chinese joint venture subsidiary to a supplier, International Paper.
The face value of that unsecured note was $282,637 at an annual interest
rate of 10.5%. The note originally required 23 monthly payments of $7,250
and a balloon payment of $159,862 due on July 15, 2000. During 2000, we
negotiated an extension of this note to July 1, 2001. International Paper
imposed a charge of $57,000 to renegotiate the note, which amount
represents interest due through the extension date. The balance due on
this note is $187,743 at December 31, 2005, all of which is delinquent.
Although International Paper has not pursued collection of the note, it
is possible that they could do so in the future and, if they do, such
collection effort may have a significant adverse impact on the liquidity
of the Company.
(c) On November 6 and 7, 2001 respectively, the Company received proceeds of
two loans aggregating $100,000 from two offshore lenders. The two
promissory notes, one for $34,000 and the other for $66,000, were payable
on February 1, 2002 with interest at an annual rate of 8%. These loans
were secured by a general security interest on all of the assets of the
Company. These lenders had agreed to extend the notes without default on
a demand basis. Interest accrued and unpaid at December 31, 2004
aggregated $25,380.
Note 6. Convertible Notes Payable
Convertible debt carrying values consist of the following as of December 31,
2005 and 2004:
2005 2004
---- ----
$200,000 Convertible Note Payable, due November 2006 (a) $ 187,934 $ 175,055
$15,000 Convertible Note Payable, due May 2007 (b) 1,620 -
$600,000 Convertible Note Payable, due December 2006 (c) 600,000 240,088
$6,250 Convertible Note Payable, due April 30, 2006 (e) 5,188 73,057
$25,000 Convertible Note Payable, due October 1, 2006 (f) 30,278 208,424
$187,760 Convertible Note Payable, due December 2006 (g) 187,760 402,607
---------- ----------
$1,012,780 $1,099,231
========== ==========
(a) $400,000 Convertible Note Financing
---------------------------------------
On November 20, 2003, we issued $400,000 of 8.0% convertible notes payable, due
November 20, 2005 plus warrants to purchase 14,000,000 shares of our common
stock with strike prices ranging from $0.05 to $1.00 for a period of three
years. The convertible notes had a face value outstanding of $200,000 and
$275,000 on December 31, 2005 and 2004, respectively following the modification
of the underlying note agreement, extending the maturity date of the remaining
balance to November 20, 2006. The convertible notes are convertible into a
variable number of our common shares based upon a variable conversion price of
the lower of $0.05 or 75% of the closing market price near the conversion date.
The holder has the option to redeem the convertible notes payable for cash at
130% of the face value in the event of defaults and certain other contingent
events, including events related to the common stock into which the
F-59
instrument is convertible, registration and listing (and maintenance thereof) of
our common stock and filing of reports with the Securities and Exchange
Commission (the "Default Put"). In addition, we extended registration rights to
the holder that required registration and continuing effectiveness thereof; we
would be required to pay monthly liquidating damages of 2.0% for defaults under
this provision.
In our evaluation of this instrument, we concluded that the conversion feature
was not afforded the exemption as a conventional convertible instrument due to a
variable conversion feature, and it did not otherwise meet the conditions for
equity classification. Since equity classification is not available for the
conversion feature, we were required to bifurcate the embedded conversion
feature and carry it as a derivative liability at fair value. We also concluded
that the Default Put required bifurcation because, while puts on debt
instruments are generally considered clearly and closely related to the host,
the Default Put is indexed to certain events, noted above, that are not
associated with debt instruments. We combined all embedded features that
required bifurcation into one compound instrument that is carried as a component
of derivative liabilities. We also determined that the warrants did not meet the
conditions for equity classification because, as noted above, share settlement
and maintenance of an effective registration statement are not within our
control. Therefore, the warrants are also required to be carried as a derivative
liability, at fair value.
We estimated the fair value of the compound derivative on the inception dates,
and subsequently, using the Monte Carlo Valuation technique, because that
technique embodies all of the assumptions (including credit risk, interest risk,
stock price volatility and conversion estimates) that are necessary to fair
value complex derivative instruments. We estimated the fair value of the
warrants on the inception dates, and subsequently, using the
Black-Scholes-Merton Valuation technique, because that technique embodies all of
the assumptions (including, volatility, expected terms, and risk free rates)
that are necessary to fair value freestanding warrants. As a result of these
estimates, our valuation model resulted in compound derivative balances
associated with this financing arrangement of $1,311,000 and $201,000 as of
December 31, 2005 and 2004, respectively. This amount is included in Derivative
Liabilities on our balance sheet. Warrants related to the financing were fully
converted prior to December 31, 2005.
The following table illustrates fair value adjustments that we have recorded
related to the derivative financial instruments associated with the $400,000
convertible note financing.
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $(1,110,000) $ 23,000
=============================
Warrant derivative $(5,842,900) $(1,031,800)
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit risk associated with our
financial instruments. The fair value of the warrant derivative is significantly
affected by changes in our trading stock prices. Future changes in these
underlying market conditions will have a continuing effect on derivative income
(expense) associated with the remaining compound derivatives.
The aforementioned allocations to the compound and warrant derivatives resulted
in the discount in the carrying value of the notes to zero. This discount, along
with related deferred finance costs and future interest payments, are amortized
through periodic charges to interest expense using the effective method.
Interest expense during the years ended December 31, 2005 and 2004 amounted to
approximately $88,000 and $204,000, respectively.
F-60
As noted in the introductory paragraph of this section, the holders extended the
notes one additional year to November 2006. This modification was accounted for
as an extinguishment because the present value of the amended debt was
significantly different than the present value immediately preceding the
modification. As a result of the extinguishment, the existing debt carrying
value was adjusted to fair value using projected cash flows at market rates for
similar instruments. This extinguishment resulted in our recognition of a gain
on extinguishment of $22,733 in the fourth fiscal quarter of our year ended
December 31, 2005.
(b) $2,300,000 Convertible Note Financing:
------------------------------------------
On January 28, 2005, May 23, 2005 and August 18, 2005, we issued $1,150,000,
$500,000 and $650,000, respectively of 8.0% convertible notes payable, due
January 28, 2007, May 23, 2007 and August 18, 2007, plus, warrants
to purchase 9,200,000, 4,000,000 and 5,200,000 shares, respectively, of our
common stock with a strike price of $0.129 for a period of five years. The
convertible notes had a face value outstanding of $15,000 on December 31, 2005,
resulting from conversions of all other notes associated with this financing to
common stock. The remaining portion of the May 23, 2005 convertible notes are
convertible into a fixed number of our common shares based upon a conversion
price of $0.125 with anti-dilution protection for sales of securities below the
fixed conversion price. We have the option to redeem the convertible notes for
cash at 120% of the face value. The holder has the option to redeem the
convertible notes payable for cash at 120% of the face value in the event of
defaults and certain other contingent events, including events related to the
common stock into which the instrument is convertible, registration and listing
(and maintenance thereof) of our common stock and filing of reports with the
Securities and Exchange Commission (the "Default Put").
In our evaluation of this instrument, we concluded that the conversion feature
was not afforded the exemption as a conventional convertible instrument due to
the anti-dilution protection; and it did not otherwise meet the conditions for
equity classification. Since equity classification is not available for the
conversion feature, we were required to bifurcate the embedded conversion
feature and carry it as a derivative liability, at fair value. We also concluded
that the Default Put required bifurcation because, while puts on debt
instruments are generally considered clearly and closely related to the host,
the Default Put is indexed to certain events, noted above, that are not
associated debt instruments. We combined all embedded features that required
bifurcation into one compound instrument that is carried as a component of
derivative liabilities. We also determined that the warrants did not meet the
conditions for equity classification because these instruments did not meet all
of the criteria necessary for equity classification. Therefore, the warrants are
also required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception dates,
and subsequently, using the Monte Carlo Valuation technique, because that
technique embodies all of the assumptions (including credit risk, interest risk,
stock price volatility and conversion estimates) that are necessary to fair
value complex derivative instruments. We estimated the fair value of the
warrants on the inception dates, and subsequently, using the
Black-Scholes-Merton Valuation technique, because that technique embodies all of
the assumptions (including volatility, expected terms, and risk free rates) that
are necessary to fair value freestanding warrants. As a result of these
estimates, our valuation model resulted in compound derivative balances
associated with this financing arrangement of $4,867 as of December 31, 2005.
As of December 31, 2005 2,000,000 warrants related to the financing remain
unconverted.
The following table illustrates fair value adjustments that we have recorded
related to the derivative financial instruments associated with the $2,300,000
convertible note financing:
F-61
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $ (3,779,033) $-
=============================
Warrant derivative $(17,141,306) $-
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit risk associated with our
financial instruments. The fair value of the warrant derivative is significantly
affected by changes in our trading stock prices. Future changes in these
underlying market conditions will have a continuing effect on derivative income
(expense) associated with these instruments.
In connection with our accounting for this financing arrangement we encountered
the unusual circumstance of a day-one loss related to the recognition of
derivative instruments arising from the arrangement. That means that the fair
value of the bifurcated compound derivative and warrants exceeded the proceeds
that we received from the arrangement and we were required to record a loss to
record the derivative financial instruments at fair value. The loss that we
recorded amounted to $8,663,869.
The aforementioned allocations to the compound and warrant derivatives resulted
in the discount in the carrying value of the notes. This discount, along with
related deferred finance costs and future interest payments, are amortized
through periodic charges to interest expense using the effective method.
Interest expense during the year ended December 31, 2005 amounted to
approximately $462,000.
(c) $600,000 Convertible Note Financing:
----------------------------------------
On June 29, 2004, we issued $600,000 of 10.0% convertible notes payable, due
December 31, 2005, plus warrants to purchase 2,000,000 and 5,000,000 shares of
our common stock with strike prices of $0.25 and $2.00, respectively, for a
periods of five and two years, respectively. Net proceeds from this financing
arrangement amounted to $500,000. As of December 31, 2005, this debt is past due
and, accordingly, the outstanding carrying value of $600,000 does not include
the $68,000 of capitalized interest, which is being reflected as accrued
liabilities. The convertible notes are convertible into a fixed number of our
common shares based upon a conversion price of $0.15 with anti-dilution
protection for sales of securities below the fixed conversion price. We have the
option to redeem the convertible notes for cash at 120% of the face value. The
holder has the option to redeem the convertible notes payable for cash at 130%
of the face value in the event of defaults and certain other contingent events,
including events related to the common stock into which the instrument is
convertible, registration and listing (and maintenance thereof) of our common
stock and filing of reports with the Securities and Exchange Commission (the
"Default Put"). In addition, we extended registration rights to the holder that
required registration and continuing effectiveness thereof; we are required to
pay monthly liquidating damages of 2.0% for defaults under this provision. The
maturity dates for these notes have been extended to December 31, 2006.
In our evaluation of this instrument, we concluded that the conversion feature
was not afforded the exemption as a conventional convertible instrument due to
the anti-dilution protection; and it did not otherwise meet the conditions for
equity classification. Since equity classification is not available for the
conversion feature, we were required to bifurcate the embedded conversion
feature and carry it as a derivative liability, at fair value. We also concluded
that the Default Put required bifurcation because, while puts on debt
instruments are generally considered clearly and closely related to the host,
the Default Put is indexed to certain events, noted above, that are not
associated with debt instruments. We combined all embedded features that
required bifurcation into one compound instrument that is carried as a component
of derivative liabilities. We also determined that the warrants did not meet the
conditions for
F-62
equity classification because these instruments did not meet all of the criteria
necessary for equity classification. Therefore, the warrants are also required
to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception dates,
and subsequently, using the Monte Carlo Valuation technique, because that
technique embodies all of the assumptions (including credit risk, interest risk,
stock price volatility and conversion estimates) that are necessary to fair
value complex derivative instruments. We estimated the fair value of the
warrants on the inception dates, and subsequently, using the
Black-Scholes-Merton Valuation technique, because that technique embodies all of
the assumptions (including, volatility, expected terms, and risk free rates)
that are necessary to fair value freestanding warrants. As a result of these
estimates, our valuation model resulted in compound derivative balances
associated with this financing arrangement of $153,700 and $27,833 as of
December 31, 2005 and 2004, respectively. These amounts are included in
Derivative Liabilities on our balance sheet.
As of December 31, 2005 all warrants related to the financing had been
converted.
The following table illustrates fair value adjustments that we have recorded
related to the derivative financial instruments associated with the $600,000
convertible note financing:
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $ (125,867) $ 47,134
=============================
Warrant derivative $(5,478,300) $(479,067)
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit risk associated with our
financial instruments. The fair value of the warrant derivative is significantly
affected by changes in our trading stock prices. Future changes in these
underlying market conditions will have a continuing effect on derivative income
(expense) associated with these instruments.
The aforementioned allocations to the compound and warrant derivatives resulted
in the discount in the carrying value of the notes. This discount, along with
related deferred finance costs and future interest payments, are amortized
through periodic charges to interest expense using the effective method.
Interest expense during the years ended December 31, 2005 and 2004 amounted to
approximately $428,000 and $240,000, respectively.
(d) $240,000 Convertible Note Financing:
----------------------------------------
On December 22, 2004, we issued $240,000 of 10.0% convertible notes payable, due
April 30, 2006, plus warrants to purchase 800,000 shares of common stock at
$0.15 for five years. Net proceeds from this financing arrangement amounted to
$200,000. As of December 31, 2005, this debt had been fully converted. As of
December 31, 2004, this debt had a face value of $210,000. The convertible notes
were convertible into a fixed number of our common shares based upon a
conversion price of $0.10 with anti-dilution protection for sales of securities
below the fixed conversion price. We had the option to redeem the convertible
notes for cash at 120% of the face value. The holder has the option to redeem
the convertible notes payable for cash at 130% of the face value in the event of
defaults and certain other contingent events, including events related to the
common stock into which the instrument is convertible, registration and listing
(and maintenance thereof) of our common stock and filing of reports with the
Securities and Exchange Commission (the "Default Put"). In addition, we extended
registration rights to
F-63
the holder that required registration and continuing effectiveness thereof; we
are required to pay monthly liquidating damages of 2.0% for defaults under this
provision.
In our evaluation of this instrument, we concluded that the conversion feature
was not afforded the exemption as a conventional convertible instrument due to
the anti-dilution protection; and it did not otherwise meet the conditions for
equity classification. Since equity classification is not available for the
conversion feature, we were required to bifurcate the embedded conversion
feature and carry it as a derivative liability, at fair value. We also concluded
that the Default Put required bifurcation because, while puts on debt
instruments are generally considered clearly and closely related to the host,
the Default Put is indexed to certain events, noted above, that are not
associated with debt instruments. We combined all embedded features that
required bifurcation into one compound instrument that is carried as a component
of derivative liabilities. We also determined that the warrants did not meet the
conditions for equity classification because these instruments did not meet all
of the criteria necessary for equity classification. Therefore, the warrants are
also required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception dates,
and subsequently, using the Monte Carlo Valuation technique, because that
technique embodies all of the assumptions (including credit risk, interest risk,
stock price volatility and conversion estimates) that are necessary to fair
value complex derivative instruments. These amounts are included in Derivative
Liabilities on our balance sheet. We estimated the fair value of the warrants on
the inception dates, and subsequently, using the Black-Scholes-Merton Valuation
technique, because that technique embodies all of the assumptions (including,
volatility, expected terms, and risk free rates) that are necessary to fair
value freestanding warrants.
As of December 31, 2005 all warrant liabilities related to the financing had
been fully converted.
The following table illustrates fair value adjustments that we have recorded
related to the derivative financial instruments associated with the $240,000
convertible note financing:
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $(55,604) $ 64,600
=============================
Warrant derivative $ 55,540 $(220,515)
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit risk associated with our
financial instruments. The fair value of the warrant derivative is significantly
affected by changes in our trading stock prices. Future changes in these
underlying market conditions will have a continuing effect on derivative income
(expense) associated with the remaining compound derivative.
The aforementioned allocations to the compound and warrant derivatives resulted
in the discount in the carrying value of the notes. This discount, along with
related deferred finance costs and future interest payments, were amortized
through periodic charges to interest expense using the effective method.
Interest expense during the years ended December 31, 2005 and 2004 amounted to
approximately $66,781 and $-0-, respectively.
F-64
(e) $693,000 Convertible Note Financing:
----------------------------------------
On October 29, 2004, we issued $693,000 of 10.0% convertible notes payable, due
April 30, 2006, plus warrants to purchase 2,200,000 at $0.15 for five years. Net
proceeds from this financing arrangement amounted to $550,000. As of December
31, 2005, this debt had face value $6,250 outstanding. The convertible notes
were convertible into a fixed number of our common shares based upon a
conversion price of $0.10 with anti-dilution protection for sales of securities
below the fixed conversion price. We had the option to redeem the convertible
notes for cash at 120% of the face value. The holder has the option to redeem
the convertible notes payable for cash at 130% of the face value in the event of
defaults and certain other contingent events, including events related to the
common stock into which the instrument is convertible, registration and listing
(and maintenance thereof) of our common stock and filing of reports with the
Securities and Exchange Commission (the "Default Put"). In addition, we extended
registration rights to the holder that required registration and continuing
effectiveness thereof; we are required to pay monthly liquidating damages of
2.0% for defaults under this provision. The maturity dates for these notes were
extended to October 1, 2006.
In our evaluation of this instrument, we concluded that the conversion feature
was not afforded the exemption as a conventional convertible instrument due to
the anti-dilution protection; and it did not otherwise meet the conditions for
equity classification. Since equity classification is not available for the
conversion feature, we were required to bifurcate the embedded conversion
feature and carry it as a derivative liability, at fair value. We also concluded
that the Default Put required bifurcation because, while puts on debt
instruments are generally considered clearly and closely related to the host,
the Default Put is indexed to certain events, noted above, that are not
associated with debt instruments. We combined all embedded features that
required bifurcation into one compound instrument that is carried as a component
of derivative liabilities. We also determined that the warrants did not meet the
conditions for equity classification because these instruments did not meet all
of the criteria necessary for equity classification. Therefore, the warrants are
also required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception dates,
and subsequently, using the Monte Carlo Valuation technique, because that
technique embodies all of the assumptions (including credit risk, interest risk,
stock price volatility and conversion estimates) that are necessary to fair
value complex derivative instruments. We estimated the fair value of the
warrants on the inception dates, and subsequently, using the
Black-Scholes-Merton Valuation technique, because that technique embodies all of
the assumptions (including, volatility, expected terms, and risk free rates)
that are necessary to fair value freestanding warrants. As a result of these
estimates, our valuation model resulted in a compound derivative balance of
$42,878 as of December 31, 2005. Our valuation model resulted in a warrant
derivative balance, arising from the convertible note financing, of $924,120 and
$330,220 as of December 31, 2005 and 2004, respectively. These amounts are
included in Derivative Liabilities on our balance sheet.
The following table illustrates fair value adjustments that we have recorded
related to the derivative financial instruments associated with the $693,000
convertible note financing:
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $(2,610,699) $(133,492)
=============================
Warrant derivative $ (668,950) $(373,967)
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit
F-65
risk associated with our financial instruments. The fair value of the warrant
derivative is significantly affected by changes in our trading stock prices.
Future changes in these underlying market conditions will have a continuing
effect on derivative income (expense) associated with the remaining compound
instruments.
The aforementioned allocations to the compound and warrant derivatives resulted
in the discount in the carrying value of the notes. This discount, along with
related deferred finance costs and future interest payments, were amortized
through periodic charges to interest expense using the effective method.
Interest expense during the years ended December 31, 2005 and 2004 amounted to
approximately $199,000 and $73,000, respectively.
(f) $660,000 Convertible Note Financing:
----------------------------------------
On April 2, 2004, we issued $660,000 of 10.0% convertible notes payable, due
October 1, 2005, plus warrants to purchase 3,000,000 at $0.15 for five years.
Net proceeds from this financing arrangement amounted to $500,000. As of
December 31, 2005, this debt had a face value of $25,000 outstanding. The
convertible notes were convertible into a fixed number of our common shares
based upon a conversion price of $0.10 with anti-dilution protection for sales
of securities below the fixed conversion price. We had the option to redeem the
convertible notes for cash at 120% of the face value. The holder has the option
to redeem the convertible notes payable for cash at 130% of the face value in
the event of defaults and certain other contingent events, including events
related to the common stock into which the instrument is convertible,
registration and listing (and maintenance thereof) of our common stock and
filing of reports with the Securities and Exchange Commission (the "Default
Put"). In addition, we extended registration rights to the holder that required
registration and continuing effectiveness thereof; we are required to pay
monthly liquidating damages of 2.0% for defaults under this provision.
In our evaluation of this instrument, we concluded that the conversion feature
was not afforded the exemption as a conventional convertible instrument due to
the anti-dilution protection; and it did not otherwise meet the conditions for
equity classification. Since equity classification is not available for the
conversion feature, we were required to bifurcate the embedded conversion
feature and carry it as a derivative liability, at fair value. We also concluded
that the Default Put required bifurcation because, while puts on debt
instruments are generally considered clearly and closely related to the host,
the Default Put is indexed to certain events, noted above, that are not
associated with debt instruments. We combined all embedded features that
required bifurcation into one compound instrument that is carried as a component
of derivative liabilities. We also determined that the warrants did not meet the
conditions for equity classification because these instruments did not meet all
of the criteria necessary for equity classification. Therefore, the warrants are
also required to be carried as a derivative liability, at fair value.
We estimated the fair value of the compound derivative on the inception dates,
and subsequently, using the Monte Carlo Valuation technique, because that
technique embodies all of the assumptions (including credit risk, interest risk,
stock price volatility and conversion estimates) that are necessary to fair
value complex derivative instruments. We estimated the fair value of the
warrants on the inceptions dates, and subsequently, using the
Black-Scholes-Merton Valuation technique, because that technique embodies all of
the assumptions (including, volatility, expected terms, and risk free rates)
that are necessary to fair value freestanding warrants. As a result of these
estimates, our valuation model resulted in a compound derivative balance of
$159,250 and $440,648 as of December 31, 2005 and 2004, respectively. This
amount is included in Derivative Liabilities on our balance sheet.
As of June 30, 2006, all warrants related to the financing have been fully
converted.
F-66
The following table illustrates fair value adjustments that we have recorded
related to the derivative financial instruments associated with the $660,000
convertible note financing:
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $(2,787,246) $(194,962)
=============================
Warrant derivative $ 61,800 $(276,188)
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit risk associated with our
financial instruments. The fair value of the warrant derivative is significantly
affected by changes in our trading stock prices. Future changes in these
underlying market conditions will have a continuing effect on derivative income
(expense) associated with the remaining compound instruments.
The aforementioned allocations to the compound and warrant derivatives resulted
in the discount in the carrying value of the notes. This discount, along with
related deferred finance costs and future interest payments, were amortized
through periodic charges to interest expense using the effective method.
Interest expense during the years ended December 31, 2005 and 2004 amounted to
approximately $74,000 and $256,000, respectively.
(g) $1,008,000 Convertible Note Financing:
------------------------------------------
On June 29, 2004, we issued $1,008,000 of 10.0% convertible notes payable, due
April 30, 2006, plus warrants to purchase 3,200,000 and 8,000,000 shares of our
common stock at $0.25 and $2.00, respectively, for periods of five and two
years, respectively. Net proceeds from this financing arrangement amounted to
$800,000. As of December 31, 2005, this debt had a face value of $187,760
outstanding. The convertible notes were convertible into a fixed number of our
common shares based upon a conversion price of $0.15 with anti-dilution
protection for sales of securities below the fixed conversion price. We had the
option to redeem the convertible notes for cash at 120% of the face value. The
holder has the option to redeem the convertible notes payable for cash at 130%
of the face value in the event of defaults and certain other contingent events,
including events related to the common stock into which the instrument is
convertible, registration and listing (and maintenance thereof) of our common
stock and filing of reports with the Securities and Exchange Commission (the
"Default Put"). In addition, we extended registration rights to the holder that
required registration and continuing effectiveness thereof; we are required to
pay monthly liquidating damages of 2.0% for defaults under this provision. The
maturity dates for these notes have been extended to December 31, 2006.
In our evaluation of this instrument, we concluded that the conversion feature
was not afforded the exemption as a conventional convertible instrument due to
the anti-dilution protection; and it did not otherwise meet the conditions for
equity classification. Since equity classification is not available for the
conversion feature, we were required to bifurcate the embedded conversion
feature and carry it as a derivative liability, at fair value. We also concluded
that the Default Put required bifurcation because, while puts on debt
instruments are generally considered clearly and closely related to the host,
the Default Put is indexed to certain events, noted above, that are not
associated with debt instruments. We combined all embedded features that
required bifurcation into one compound instrument that is carried as a component
of derivative liabilities. We also determined that the warrants did not meet the
conditions for equity classification because these instruments did not meet all
of the criteria necessary for equity classification. Therefore, the warrants are
also required to be carried as a derivative liability, at fair value.
F-67
We estimated the fair value of the compound derivative on the inception dates,
and subsequently, using the Monte Carlo Valuation technique, because that
technique embodies all of the assumptions (including credit risk, interest risk,
stock price volatility and conversion estimates) that are necessary to fair
value complex derivative instruments. We estimated the fair value of the
warrants on the inceptions dates, and subsequently, using the
Black-Scholes-Merton Valuation technique, because that technique embodies all of
the assumptions (including, volatility, expected terms, and risk free rates)
that are necessary to fair value freestanding warrants. As a result of these
estimates, our valuation model resulted in a compound derivative balance of
$564,735 and $1,446,560 as of December 31, 2005 and 2004, respectively. This
amount is included in Derivative Liabilities on our balance sheet.
As of December 31, 2005, all warrants related to the financing had been fully
converted.
The following table illustrates fair value adjustments that we have recorded
related to the derivative financial instruments associated with the $1,008,000
convertible note financing:
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $ (185,979) $ (29,988)
=============================
Warrant derivative $(1,661,859) $(826,816)
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit risk associated with our
financial instruments. The fair value of the warrant derivative is significantly
affected by changes in our trading stock prices. Future changes in these
underlying market conditions will have a continuing effect on derivative income
(expense) associated with these instruments.
The aforementioned allocations to the compound and warrant derivatives resulted
in the discount in the carrying value of the notes. This discount, along with
related deferred finance costs and future interest payments, were amortized
through periodic charges to interest expense using the effective method.
Interest expense during the years ended December 31, 2005 and 2004 amounted to
approximately $383,000 and $403,000, respectively.
(h) $360,000 Convertible Note Financing:
----------------------------------------
On April 21, 2005, we issued $360,000, six-month-term, 10% convertible notes
payable, due October 31, 2005. Net proceeds for this financing transaction
amounted to $277,488. The notes were convertible into shares of common stock at
a fixed conversion rate of $0.20, with anti-dilution protection for sales of
securities below the fixed conversion price. The holder converted the notes on
September 30, 2005. We had the option to redeem the notes payable for cash at
120% of the face value. The holder has the option to redeem the convertible
notes payable for cash at 130% of the face value in the event of defaults and
certain other contingent events, including events related to the common stock
into which the instrument is convertible, registration and listing (and
maintenance thereof) of our common stock and filing of reports with the
Securities and Exchange Commission (the "Default Put").
In our evaluation of this instrument, we concluded that the conversion feature
was not afforded the exemption as a conventional convertible instrument due to
the anti-dilution protection afforded the holder; and it did not otherwise meet
the conditions for equity classification. Therefore, we were required to
bifurcate the embedded conversion feature and carry it as a derivative
liability. We also concluded that
F-68
the Default Put required bifurcation because, while puts on debt instruments are
generally considered clearly and closely related to the host, the Default Put is
indexed to certain events, noted above, that are not associated debt
instruments. We combined all embedded features that required bifurcation into
one compound instrument that was carried as a component of derivative
liabilities through the date of conversion.
We allocated the initial proceeds from the financing first to the compound
derivative instrument in the amount of $113,925 and the balance to the debt host
instrument. We estimated the fair value of the compound derivative on the
inception dates, and subsequently, using the Monte Carlo Valuation technique,
because that technique embodies all of the assumptions (including credit risk,
interest risk, stock price volatility and conversion estimates) that are
necessary to fair value complex derivative instruments.
The following table illustrates fair value adjustments that we have recorded
related to the compound derivative arising from the $360,000 convertible notes
payable.
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $(841,650) $-
=============================
Warrant derivative $ - $-
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit risk associated with our
financial instruments. Since the instrument was converted on September 30, 2005,
there will be no future charges or credits to derivative income (expense)
associated with this instrument.
The above allocations resulted in a discount to the carrying value of the notes
amounting to approximately $173,925. This discount, along with related deferred
finance costs and future interest payments, was amortized through periodic
charges to interest expense using the effective method. Interest expense during
the year ended December 31, 2005 amounted to approximately $163,000.
Derivative warrant fair values are calculated using the Black-Scholes-Merton
Valuation technique. Significant assumptions as of December 31, 2005,
corresponding to each of the above financings (by paragraph reference) are as
follows:
6(a) 6(b) 6(c) 6(d) 6(e) 6(f)
-----------------------------------------------------------------
Trading market price $0.59 $0.59 $0.59 $0.59 $0.59 $0.59
Strike price $.05-$1.00 $.129 $.10 $.15 $.15 $.15
Volatility 148% 133% 136% 136% 136% 142%
Risk-free rate 3.25% 3.71% 3.30% 3.57% 3.30% 3.45%
Remaining term/life (years) .92 4.63 3.5 4.0 3.83 3.25
Our stock prices have been highly volatile. Future fair value changes are
significantly influenced by our trading common stock prices. As previously
discussed herein, changes in fair value of derivative financial instruments are
reflected in earnings.
F-69
Note 7. Preferred Stock
Our articles of incorporation authorize the issuance of 5,000,000 shares of
preferred stock. We have designated this authorized preferred stock, as follows:
(a) Series H Preferred Stock:
-----------------------------
We have designated 350,000 shares of our preferred stock as Series H Cumulative
Convertible Preferred Stock with a stated and liquidation value of $10.00 per
share. Series H Preferred Stock has cumulative dividend rights at 7.0% of the
stated amount, ranks senior to common stock and is non-voting. It is also
convertible into our common stock at a fixed conversion price of $0.40 per
common share. The Series H Preferred Stock is mandatorily redeemable for common
stock on the fifth anniversary of its issuance. We have the option to redeem the
Series H Preferred Stock for cash at 135% of the stated value. The holder has
the option to redeem the Series H Preferred Stock for cash at 140% of the stated
value in the event of defaults and certain other contingent events, including
events related to the common stock into which the instrument is convertible,
listing of our common stock and filing of reports with the Securities and
Exchange Commission (the "Default Put").
Based upon our evaluation of the terms and conditions of the Series H Preferred
Stock, we concluded that it was more akin to a debt instrument than an equity
instrument, which means that our accounting conclusions are based upon those
related to a traditional debt security, and that it should be afforded the
conventional convertible exemption regarding the embedded conversion feature
because the conversion price is fixed. Therefore, we are not required to
bifurcate the embedded conversion feature and carry it as a liability. However,
we concluded that the Default Put required bifurcation because, while puts on
debt-type instruments are generally considered clearly and closely related to
the host, the Default Put is indexed to certain events, noted above, that are
not associated debt-type instruments. In addition, due to the default and
contingent redemption features of the Series H Preferred Stock, we classified
this instrument as redeemable preferred stock, outside of stockholders' equity.
Between December 2001 and March 2002, we issued 175,500 shares of Series H
Preferred Stock for cash of $1,755,000, plus warrants to purchase an aggregate
of 4,387,500 shares of common stock at $0.50 for five years. As of December 31,
2005, 64,500 shares of preferred stock remain outstanding; all of the warrants
remain outstanding. We allocated $1,596,228 of the proceeds from the Series H
Preferred financings to the warrants at their fair values because the warrants
did not meet all of the conditions necessary for equity classification and,
accordingly, are carried as derivative liabilities, at fair value. We also
allocated $134,228 to the Default Puts which, as described above are carried as
derivative liabilities, at fair value. We also allocated proceeds of $34,210 to
paid-in capital because the aforementioned allocations resulted in an effective
beneficial conversion feature, which is recorded in equity. Finally, we recorded
derivative expense of $9,666 because one of the financings did not result in
sufficient proceeds to record the derivative financial instruments at fair
values on the inception date.
We estimated the fair value of the derivative warrants on the inception dates,
and subsequently, using the Black-Scholes-Merton valuation technique. As a
result of applying this technique, our valuation of the derivative warrants
amounted to $1,264,109 and $376,212 as of December 31, 2005 and 2004,
respectively. We estimated the fair value of the Default Puts on the inception
dates, and subsequently, using a cash flow technique that involves
probability-weighting multiple outcomes at net present values. Significant
assumptions underlying the probability-weighted outcomes included both our
history of similar default events, all available information about our business
plans that could give rise to or risk defaults, and the imminence of impending
or current defaults. As a result of these subjective estimates, our valuation
model resulted in Default Put balances associated with the Series H Preferred
Stock of
F-70
$381,377 and $156,927 as of December 31, 2005 and 2004, respectively. These
amounts are included in Derivative Liabilities on our balance sheet. The
following table illustrates fair value adjustments that we have recorded related
to the Default Puts on the Series H Preferred Stock.
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $(224,451) $ (22,701)
=============================
Warrant derivative $(887,896) $(253,571)
=============================
Derivative income (expense) related to the Default Put includes changes to the
fair value arising from changes in our estimates about the probability of
default events and amortization of the time-value element embedded in our
calculations. Higher derivative expense in the year ended December 31, 2005 when
compared to the same period of 2004, reflected the increased probability that
the Default Put would become exercisable because we would not timely file
certain reports with the Securities and Exchange Commission. In fact, we
ultimately did not file our Quarterly Report on Form 10-QSB for the June 2006
reporting period on a timely basis. While the Default Put became exercisable at
that time, the holders of the Series H Preferred Stock did not exercise their
right prior to curing the event. There can be no assurances that the holders of
the Series H Preferred Stock would not exercise their rights should further
defaults arise.
The discounts to the Series H Preferred Stock that resulted from the
aforementioned allocations are being accreted through periodic charges to
retained earnings using the effective method. The following table illustrates
the components of preferred stock dividends and accretions for the years ended
December 31, 2005 and 204:
Year ended Year ended
December 31, December 31,
2005 2004
-----------------------------
Preferred stock dividends $140,400 $140,400
=============================
Accretions $558,089 $357,392
=============================
As of December 31, 2005, $315,900 of cumulative dividends are in arrears on
Series H Preferred Stock.
(b) Series J Preferred Stock:
-----------------------------
We have designated 500,000 shares of our preferred stock as Series J Cumulative
Convertible Preferred Stock with a stated and liquidation value of $10.00 per
share. Series J Preferred Stock has cumulative dividend rights at 8.0% of the
stated amount, ranks senior to common stock and is non-voting. It is also
convertible into our common stock at a conversion price of $0.20 per common
share. The Series J Preferred Stock is mandatorily redeemable for common stock
on the fifth anniversary of its issuance. We have the option to redeem the
Series J Preferred Stock for cash at 135% of the stated value. The holder has
the option to redeem the Series J Preferred Stock for cash at 140% of the stated
value in the event of defaults and certain other contingent events, including
events related to the common stock into which the instrument is convertible,
registration and listing (and maintenance thereof) of our common stock and
filing of reports with the Securities and Exchange Commission (the "Default
Put").
Based upon our evaluation of the terms and conditions of the Series J Preferred
Stock, we concluded that its features were more akin to a debt instrument than
an equity instrument, which means that our accounting conclusions are generally
based upon standards related to a traditional debt security. Our
F-71
evaluation concluded that the embedded conversion feature was not afforded the
exemption as a conventional convertible instrument, since it did not meet the
conditions for equity classification. Therefore, we are required to bifurcate
the embedded conversion feature and carry it as a liability. We also concluded
that the Default Put required bifurcation because, while puts on debt-type
instruments are generally considered clearly and closely related to the host,
the Default Put is indexed to certain events, noted above, that are not
associated debt-type instruments. We combined all embedded features that
required bifurcation into one compound instrument that is carried as a component
of derivative liabilities. In addition, due to the default and contingent
redemption features of the Series J Preferred Stock, we classified this
instrument as redeemable preferred stock, outside of stockholders' equity.
In September 2002, February 2003 and May 2003 we issued 100,000 shares, 50,000
shares and 50,000 shares, respectively, of Series J Preferred Stock for cash of
$2,000,000. We also issued warrants for an aggregate of 14,000,000 shares of our
common stock in connection with the financing arrangement. The warrants have
terms of five years and an exercise price of $0.25. We initially allocated
proceeds of $658,000 and $1,190,867 from the financing arrangements to the
compound derivative discussed above and to the warrants, respectively. Since
these instruments did not meet the criteria for classification, they are
required to be carried as derivative liabilities, at fair value.
We estimated the fair value of the compound derivative on the inception dates,
and subsequently, using the Monte Carlo Valuation technique, because that
technique embodies all of the assumptions (including credit risk, interest risk,
stock price volatility and conversion estimates) that are necessary to fair
value complex derivative instruments. We estimated the fair value of the
warrants on the inception dates, and subsequently, using the
Black-Scholes-Merton Valuation technique, because that technique embodies all of
the assumptions (including, volatility, expected terms, and risk free rates)
that are necessary to fair value freestanding warrants. As a result of these
estimates, our valuation model resulted in a compound derivative balance
associated with the Series J Preferred Stock of $5,628,000 and $728,000 as of
December 31, 2005 and December 31,2004, respectively. This amount is included in
Derivative Liabilities on our balance sheet.
The following table illustrates fair value adjustments that we have recorded
related to the derivative financial instruments associated with the Series J
Preferred Stock.
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $(4,900,000) $(644,000)
=============================
Warrant derivative $(3,136,000) $(713,600)
=============================
Changes in the fair value of the compound derivative and, therefore, derivative
income (expense) related to the compound derivative is significantly affected by
changes in our trading stock price and the credit risk associated with our
financial instruments. The fair value of the warrant derivative is significantly
affected by changes in our trading stock prices. Future changes in these
underlying market conditions will have a continuing effect on derivative income
(expense) associated with these instruments.
The discounts to the Series J Preferred Stock that resulted from the
aforementioned allocations are being accreted through periodic charges to
paid-in capital using the effective method. The following table illustrates the
components of preferred stock dividends and accretions for the years ended
December 31, 2005 and 2004:
F-72
Year ended Year ended
December 31, December 31,
2005 2004
-----------------------------
Preferred stock dividends $160,000 $160,000
=============================
Accretions $385,218 $214,856
=============================
As of December 31, 2005 $480,000 of cumulative dividends are in arrears on
Series J Preferred Stock.
(c) Series K Preferred Stock:
-----------------------------
We have designated 500,000 shares of our preferred stock as Series K Cumulative
Convertible Preferred Stock with a stated and liquidation value of $10.00 per
share. Series K Preferred Stock has cumulative dividend rights at 8.0% of the
stated amount, ranks senior to common stock and is non-voting. It is also
convertible into our common stock at a fixed conversion price of $0.10 per
common share. The Series K Preferred Stock is mandatorily redeemable for common
stock on the fifth anniversary of its issuance. We have the option to redeem the
Series K Preferred Stock for cash at 120% of the stated value. The holder has
the option to redeem the Series K Preferred Stock for cash at 140% of the stated
value in the event of defaults and certain other contingent events, including
events related to the common stock into which the instrument is convertible,
listing of our common stock and filing of reports with the Securities and
Exchange Commission (the "Default Put").
Based upon our evaluation of the terms and conditions of the Series K Preferred
Stock, we concluded that it was more akin to a debt instrument than an equity
instrument, which means that our accounting conclusions are based upon those
related to a traditional debt security, and that it should afforded the
conventional convertible exemption regarding the embedded conversion feature
because the conversion price is fixed. Therefore, we are not required to
bifurcate the embedded conversion feature and carry it as a liability. However,
we concluded that the Default Put required bifurcation because, while puts on
debt-type instruments are generally considered clearly and closely related to
the host, the Default Put is indexed to certain events, noted above, that are
not associated debt-type instruments.. In addition, due to the default and
contingent redemption features of the Series K Preferred Stock, we classified
this instrument as redeemable preferred stock, outside of stockholders' equity.
In March 2004, we issued 80,000 shares of Series K Preferred Stock for cash of
$800,000. In April 2004, we issued 15,000 shares of Series K Preferred Stock to
extinguish debt with a carrying value of $150,000. At the time of these
issuances, the trading market price of our common stock exceeded the fixed
conversion price and, as a result, we allocated $160,000 and $60,000 from the
March and April issuances, respectively, to stockholders' equity which amount
represented a beneficial conversion feature. In addition, we recorded a debt
extinguishment loss of $60,000 in connection with the April exchange of Series K
Preferred Stock for debt because we estimated that it had a fair value that
exceeded the carrying value of the extinguished debt by that amount. Finally, we
allocated approximately $59,000 and $11,000 to the Default Puts, representing
fair values, in connection with the March and April issuances, respectively.
We estimated the fair value of the Default Puts on the inception dates, and
subsequently, using a cash flow technique that involves probability-weighting
multiple outcomes at net present values. Significant assumptions underlying the
probability-weighted outcomes included both our history of similar default
events, all available information about our business plans that could give rise
to or risk defaults, and the imminence of impending or current defaults. As a
result of these subjective estimates, our valuation model resulted in Default
Put balances associated with the Series K Preferred Stock of $206,200 and
$73,644 as of December 31, 2005 and 2004, respectively. These amounts are
included in Derivative
F-73
Liabilities on our balance sheet. The following table illustrates fair value
adjustments that we have recorded related to the Default Puts on the Series K
Preferred Stock.
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $(132,556) $(3,768)
=============================
Warrant derivative $ - $ -
=============================
Derivative income (expense) related to the Default Put includes changes to the
fair value arising from changes in our estimates about the probability of
default events and amortization of the time-value element embedded in our
calculations. Higher derivative expense in the year ended December 31, 2005,
when compared to the same period of 2004, reflected the increased probability
that the Default Put would become exercisable because we would not timely file
certain reports with the Securities and Exchange Commission. In fact, we
ultimately did not file our Quarterly Report on Form 10-QSB for the June 2006
reporting period in a timely basis. While the Default Put became exercisable at
that time, the holders of the Series K Preferred Stock did not exercise their
right prior to curing the event. There can be no assurances that the holders of
the Series K Preferred Stock would not exercise their rights should further
defaults arise.
The discounts to the Series K Preferred Stock that resulted from the
aforementioned allocations are being accreted through periodic charges to
paid-in capital using the effective method. The following table illustrates the
components of preferred stock dividends and accretions for the years ended
December 31, 2005 and 2004:
Year ended Year ended
December 31, December 31,
2005 2004
-----------------------------
Preferred stock dividends $76,000 $57,000
=============================
Accretions $40,407 $30,140
=============================
As of December 31, 2005, $133,000 of cumulative dividends are in arrears on
Series K Preferred Stock.
(d) Other Preferred Stock Designations and Financings:
Series A Preferred: We have designated 500,000 shares of our preferred stock as
Series A Convertible Preferred Stock. There were no Series A Preferred Stock
outstanding during the periods presented.
Series B Preferred: We have designated 1,260,000 shares of our preferred stock
as Series B Convertible Preferred Stock with a stated and liquidation value of
$1.00 per share. Series B Preferred has cumulative dividend rights of 9.0%,
ranks senior to common stock and has voting rights equal to the number of common
shares into which it may be converted. Series B Preferred is convertible into
common on a share for share basis. Based upon our evaluation of the terms and
conditions of the Series B Preferred Stock, we have concluded that it meets all
of the requirements for equity classification. We have 107,440 shares of Series
B Preferred outstanding as of December 31, 2005.
Series D Preferred: We have designated 165,000 shares of our preferred stock as
Series D Cumulative Convertible Preferred Stock with a stated and liquidation
value of $10 per share. Series D Preferred has cumulative dividend rights of
6.0%, ranks senior to common stock and is non-voting. There are no shares of
Series D Preferred Stock outstanding during any of the periods presented.
However, we continue to
F-74
have 611,250 warrants outstanding that were issued in connection with the
original Series D Preferred Stock Financing arrangement.
Series F Preferred: We have designated 200,000 shares of our preferred stock as
Series F Convertible Preferred Stock with a stated and liquidation value of $10
per share. There were 5,248 and 55,515 shares of Series F Preferred Stock
outstanding as of December 31, 2005 and 2004, respectively. Series F Preferred
is non-voting and convertible into common stock at a variable conversion price
equal to the lower of $0.60 or 75% of the trading prices near the conversion
date. In addition, the holder has the option to redeem the convertible notes
payable for cash at 125% of the face value in the event of defaults and certain
other contingent events, including events related to the common stock into which
the instrument is convertible, registration and listing (and maintenance
thereof) of our common stock and filing of reports with the Securities and
Exchange Commission (the "Default Put"). We concluded that the conversion
feature was not afforded the exemption as a conventional convertible instrument
due to a variable conversion feature; and it did not otherwise meet the
conditions for equity classification. Since equity classification is not
available for the conversion feature, we were required to bifurcate the embedded
conversion feature and carry it as a derivative liability, at fair value. We
also concluded that the Default Put required bifurcation because, while puts on
debt-type instruments are generally considered clearly and closely related to
the host, the Default Put is indexed to certain events, noted above, that are
not associated with debt-type instruments. These two derivative features were
combined into one compound derivative instrument. In addition, due to the
default and contingent redemption features of the Series F Preferred Stock, we
classified this instrument as redeemable preferred stock, outside of
stockholders' equity.
Series I Preferred: We have designated 200,000 shares of our preferred stock as
Series I Convertible Preferred Stock with a stated and liquidation value of
$10.00 per share. Series I Preferred has cumulative dividend rights at 8.0% of
the stated value, ranks senior to common stock and is non-voting. Series I
Preferred is convertible into a variable number of common shares at the lower
conversion price of $0.40 or 75% of the average trading market price. There were
no Series I Preferred Stock outstanding as of December 31, 2005. However, we had
30,000 shares outstanding during the year ended December 31, 2004. We accounted
for Series I Preferred Stock, while it was outstanding as an instrument that was
more akin to a debt instrument. We also bifurcated the embedded conversion
feature and freestanding warrants issued with the financing and carried these
amounts as derivative liabilities, at fair value. The table below reflects
derivative income and (expense) associated with changes in the fair value of
this derivative financial instrument.
The following table summarizes derivative income (expense) related to compound
derivatives and freestanding warrant derivatives that arose in connection with
the preferred stock transactions discussed above.
Year ended Year ended
December 31, December 31,
2005 2004
Derivative income (expense) -----------------------------
Compound derivative $ 152,310 $ (22,535)
=============================
Warrant derivative $(2,186,140) $(900,868)
=============================
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The following table summarizes preferred stock dividends related to the
convertible preferred stock discussed above:
Year ended Year ended
December 31, December 31,
2005 2004
-----------------------------
Preferred stock dividends $5,600 $31,200
=============================
Accretions $ - $ -
=============================
Note 8. - Share Based Payments
On April 6, 2005, our Board of Directors adopted an incentive share-based plan
(the "2005 Stock Incentive Plan") that provides for the grant of stock options
for up to 10,397,745 shares of our common stock to our directors, officers, key
employees, and consultants. On May 10, 2005, our Board of Directors adopted the
recommendation of our Compensation Committee to grant options for 8,922,745
shares to our directors and key employees. As of December 31, 2005, there were
1,475,000 shares of common stock reserved for issuance under our stock plan.
Options granted under 2005 Stock Incentive Plan have a contractual life of 10
years and vest over two years in equal annual installments with the first third
exercisable on the grant date, provided that the individual is continuously
employed by us.
In years prior to 2005, we granted options for 650,000 shares to now former
employees and options for 220,000 shares to now former directors, all which are
fully vested and exercisable, under individual plans. Currently, there are no
shares reserved for future issuance under these individual plans.
We adopted the fair-value provisions of FAS No. 123, effective January 1, 2005,
and we recorded compensation costs aggregating $798,870 for the twelve months
ended December 31, 2005. We recognized no tax benefit for share-based
compensation arrangements due to the fact that we are in a cumulative loss
position and recognize no tax benefits in our Consolidated Statements of
Operations.
We estimate the fair value of each stock option on the date of grant using a
Black-Scholes-Merton (BSM) option-pricing formula, applying the following
assumptions and amortize that value to expense over the options' vesting periods
using the straight-line attribution approach. In addition to the issuance of the
outstanding options discussed above, we granted options for 750,000 shares in
2004, which were part of the options for 5,395,000 shares that were exchanged
into an equivalent number of common shares in 2004, as discussed further below.
2005
----
Expected Term (in years) 6
Risk-free rate 5%
Expected volatility 141%
Expected dividends 0%
Expected Term: The expected term represents the period over which the
share-based awards are expected to be outstanding. It has been determined as the
midpoint between the vesting date and the end of the contractual term.
Risk-Free Interest Rate: We based the risk-free interest rate used in our
assumptions on the implied yield currently available on U.S. Treasury
zero-coupon issues with a remaining term equivalent to the stock option award's
expected term.
F-76
Expected Volatility: The volatility factor used in our assumptions is based on
the historical price of our stock over the most recent period commensurate with
the expected term of the stock option award.
Expected Dividend Yield: We do not intend to pay dividends on our common stock
for the foreseeable future. Accordingly, we use a dividend yield of zero in our
assumptions.
A summary of option activity under the stock incentive plan for the years ended
December 31, 2005 and 2004 are presented below:
2005 2004
---------------------- ------------------------
Weighted- Weighted-
Number Average Number Average
of Exercise of Exercise
Options Options Price Options Price
---------------------------------------- ------- -------- ---------- ---------
Outstanding Balance at beginning of year 1,025,000 $0.46 7,903,705 $ 0.43
Granted 9,122,743 $0.28 750,000 $ 0.29
Exercised - - - -
Forfeited (547,321) $0.28 - -
Expired - - (2,233,705) $(0.76)
Cancelled - - (5,395,000) $(0.27)
--------- ----------
Outstanding at the end of the year 9,600,422 $0.30 1,025,000 $ 0.46
========= ==========
Exercisable at the end of the year 3,816,806 $0.33 1,025,000 $ 0.46
========= ==========
The following table summarized the status of the stock options outstanding and
exercisable at December 31, 2005:
2005 2005
Options Outstanding Options Exercisable
--------------------------------------- -----------------------
Weighted-
Average
Remaining Weighted- Weighted-
Range Number Contractual Average Number Average
of Exercise of Term Exercise of Exercise
Prices Options (in years) Price Options Price
----------- ------- ----------- --------- ------- ---------
$.20 to $.35 9,200,422 9.18 $0.28 3,416,806 $0.16
$.60 to $1.00 400,000 4.94 $0.78 400,000 $0.78
--------- ---------
9,600,422 9.00 $0.30 3,816,806 $0.22
========= =========
The weighted-average exercise prices and weighted-average fair values of options
granted during 2005 for which the exercise prices exceeded the market prices of
the stock was $0.23 and $0.15, respectively. The weighted-average exercise price
and weighted-average fair value of options granted during 2005 for which
F-77
the exercise price equaled the market price of the stock was $0.61 and $0.56,
respectively. There were no exercises of options during the years ended December
31, 2005 and 2004.
During 2004 we granted options for 750,000 shares which were cancelled and
converted into common shares. These options were part of options for 5,395,000
shares that were exchanged into an equivalent number of unregistered common
shares in 2004. In connection with such cancellation, we recorded $269,750 of
compensation expenses at the value of $.05 per each common share. This valuation
was discounted from the quoted market price of $.08 due to restrictions imposed
by insider trading and short swing profits rules on the transferability of such
shares that were issued to our directors and senior management.
In May 2005, we extended the contractual life of fully vested options for
770,000 shares held by two directors. As a result of that modification, we have
recognized, on a restated basis, additional compensation expense of $104,000 for
the second quarter of 2005
Note 9 - Stockholders' Deficit
(a) Convertible Preferred Stock
---------------------------
We have designated 1,260,000 shares of our preferred stock as Series B
Convertible Preferred Stock. Series B Preferred accumulates dividends at the
rate of 9% per annum, payable only upon liquidation or redemption, as a
percentage of the stated value, out of the assets and available funds. Voting
rights of the Series B Convertible Preferred stock are the same as our common
stock. Series B Convertible Preferred stock is convertible anytime after
December 31, 1997 to our common stock at the fixed ratio of one share of common
stock for one share of Series B Convertible Preferred stock surrendered for
conversion. We account for Series B Preferred Stock as perpetual preferred
equity.
(b) Common Stock Warrants
---------------------
As of December 31, 2005, we had the following outstanding warrants:
Warrants/
Expiration Options Exercise
Warrants Grant date date Granted Price
Series D Preferred Stock Financing 3/9/1999 11/17/2008 17,500 0.100
Series D Preferred Stock Financing 4/23/1999 11/17/2008 8,750 0.100
Series D Preferred Stock Financing 2/1/2000 11/17/2008 130,000 0.100
Series D Preferred Stock Financing 2/1/2000 11/17/2008 455,000 0.100
Series F Preferred Stock Financing 10/13/2000 11/17/2008 1,038,259 0.100
Series H Preferred Stock Financing 12/5/2001 12/4/2006 2,637,500 0.500
Series H Preferred Stock Financing 1/30/2002 1/30/2007 375,000 0.500
Series H Preferred Stock Financing 2/15/2002 2/14/2007 125,000 0.500
Series H Preferred Stock Financing 3/18/2002 3/17/2007 1,250,000 0.500
January 2005 Convertible Debt Financing 11/20/2003 11/20/2008 2,000,000 0.050
Warrant to Licensor 6/20/2005 6/19/2007 1,000,000 0.050
Warrant Consultant 4/8/2005 4/7/2007 1,000,000 0.250
Warrant to Distributor 8/30/2005 8/29/2008 30,000,000 0.360
April 2004 Financing 4/20/2004 4/19/09 1,500,000 0.100
October 2004 Financing 10/29/2004 10/28/2009 500,000 0.100
F-78
January 2005 Financing 1/31/05 1/30/2010 2,000,000 0.100
November 2005 Common Stock Financing 11/28/2005 11/27/2010 15,667,188 0.800
November 2005 Common Stock Financing 11/28/2005 11/27/2010 1,012,500 0.500
Other Financings 12/27/2001 2/28/2007 25,000 0.400
----------
Total Warrants 60,741,697
==========
Certain conversion features in our debt and preferred stock are indexed to a
variable number of common shares based upon our trading stock price.
Accordingly, in the event of stock price declines, we may have insufficient
shares to share-settle all of our contracts that are convertible into or
exercisable for common stock. As a result, current accounting standards require
us to assume that we would not have sufficient authorized shares to settle these
other warrants and, therefore, reclassify other warrants and contracts that were
otherwise carried in stockholders' equity to derivative liabilities. Such
warrants and contracts that required reclassification were indexed to 49,504,688
and 47,679,688 shares of our common stock as of December 31, 2005 and 2004,
respectively. We are not required to reclassify certain exempt contracts and
employee stock options, so those items are not included in this caption.
Derivative income (expense) associated with these other warrants for the years
ended December 31, 2005 and 2004 are as follows:
Derivative income (expense) 2005 2004
---------------------------
Warrant derivative $(7,336,788) $(316,829)
===========================
Activity for our common stock warrants is presented below:
Weighted
Average
Shares Price
----------- ---------
Total warrants outstanding at December 31, 2003 34,700,277 $ 0.33
Warrants granted 27,950,000 1.03
Warrants exercised - -
Warrants expired (33,000) (2.75)
------------ ------
Total warrants outstanding at December 31, 2004 62,617,277 $ 0.64
Warrants granted
66,329,688 0.39
Warrants exercised (32,873,601) (0.15)
Warrants expired (3,331,667) (1.62)
Warrants redeemed (32,000,000) (0.18)
------------ ------
Total warrants outstanding at December 31, 2005 60,741,697 $ 0.44
============ ======
F-79
(c) Other Stockholders' Equity Transactions
---------------------------------------
Year ended December 31, 2005
Quarter Ended March 31, 2005
----------------------------
New Financing: January 2005 Convertible Notes. On January 31, 2005, we
closed a funding transaction with Longview Fund, LP, Longview Equity Fund, LP,
Longview International Equity Fund, LP, Alpha Capital Aktiengesellschaft and
Whalehaven Funds Limited, five institutional accredited investors, for the
issuance and sale to the Subscribers of up to $2,300,000 of principal amount of
promissory notes convertible into shares of our common stock, and Warrants to
purchase shares of common stock at 100% coverage of the common stock issuable
in accordance with the principal amount of the notes. One Million One Hundred
Fifty Thousand Dollars ($1,150,000) of the
F-80
purchase price was paid on the initial closing date, and One Million One Hundred
Fifty Thousand Dollars ($1,150,000) of the purchase price will be payable within
five (5) business days after the actual effectiveness of an SB-2 Registration
Statement as defined in the Subscription Agreement. The initial closing notes
were at prime plus 4% interest in the aggregate amount of $1,150,000, plus
five-year Warrants for the purchase of, in the aggregate, 9,200,000 shares of
common stock, at the lesser of (i) $0.16, or (ii) 101% of the closing bid price
of the Common Stock as reported by Bloomberg L.P. for the OTC Bulletin Board for
the trading day preceding the Closing Date. The notes are convertible into
shares of our common stock at $0.125 per common share. Conversions are limited
to a maximum ownership of 9.99% of the underlying common stock at any one time.
The notes have a maturity date two years from closing and are payable in twelve
equal monthly installments, commencing June 1, 2005. The installment payments
consist of principal equal to 1/20th of the initial principal amount which,
subject to certain conditions concerning trading volume and price, can be paid
in cash at 103% of the monthly installment, or common stock or a combination of
both. The notes have an acceleration provision upon the change in a majority of
the present Board of Directors except as the result of the death of one or more
directors, or a change in the present CEO. In connection with this transaction,
we issued restricted common stock in the aggregate amount of 460,000 shares plus
the aggregate cash amount of $57,500 for due diligence fees to the investors in
this transaction. We issued the Convertible Promissory Note and the underlying
common stock upon conversion to an accredited investor, pursuant to a Regulation
D offering. The underlying common stock is now registered pursuant to a Form
SB-2 registration statement declared effective August 2, 2005.
November 2003 Convertible Notes. We converted $25,000 of our November 2003
Convertible Promissory Notes into 549,340 shares of common stock pursuant to a
notice of conversion from Gamma Opportunity Capital Partners LP, at a fixed
conversion price of $0.05. The conversion included $2,467 of accrued and unpaid
interest on the converted amount. We issued the underlying common stock upon
conversion pursuant to a Form SB-2 registration statement, declared effective on
August 3, 2004.
April 2004 Convertible Notes. We converted $99,999 of our April 2004
Convertible Promissory Notes into 1,141,387 shares of common stock pursuant to
notices of conversion from Longview Fund LP, at a fixed conversion price of
$0.10. The conversions included $14,138 of accrued and unpaid interest. We
issued the underlying common stock upon conversion pursuant to our SB-2
registration statement, declared effective on August 3, 2004.
June 2004 Convertible Notes. We converted $41,666 of our June 2004
Convertible Promissory Notes into 430,327 shares of restricted common stock
pursuant to a notice of conversion from Longview Fund LP, at a fixed conversion
price of $0.15. The conversion included $22,822 of accrued and unpaid interest.
We issued the Convertible Promissory Note and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering. The
underlying common stock is now registered pursuant to a Form SB-2 registration
statement declared effective April 18, 2005.
Quarter Ended June 30, 2005
---------------------------
New Financing: April 2005 Convertible Note. On April 21, 2005, we closed a
funding transaction with Alpha Capital Aktiengesellschaft for the issuance of a
convertible 10% note in the aggregate amount of $300,000. The promissory note is
convertible into shares of common stock of the Company at $0.20 per common
share. Conversions are limited to a maximum ownership of 9.99% of the Company's
common stock at any one time. The note has an October 31, 2005 maturity and is
payable in five equal monthly installments, commencing June 1, 2005. The
installment payments consist of principal (equal to 1/5th of the initial
principal amount) plus accrued interest. Installments can be paid in cash or
common stock valued at the average closing price of the Company's common stock
during the
F-81
five trading days immediately preceding the relevant installment due date. The
Company has repriced Class B Warrants issued on June 30, 2004 from $2.00 per
share to $0.125 per share and issued restricted common stock in the aggregate
amount of 93,750 shares for finder's fees to a third-party to facilitate this
transaction. The Company has the right to prepay the promissory note by paying
to the holder cash equal to 120% of the principal to be prepaid plus accrued
interest. The notes have an acceleration provision upon the change in a majority
of the present Board of Directors except as the result of the death of one or
more directors or a change in the present CEO of the Company. The common stock
underlying the note and the finder's fee common stock have "piggy back"
registration rights. We issued the convertible note and finder's fee common
stock to accredited investors, pursuant to a Regulation D offering.
New Financing: May 2005 Convertible Notes On May 23, 2005, we closed a
funding transaction (the "May '05 Transaction") with Longview Fund, LP,
Whalehaven Funds Limited, Ellis International Ltd., and Osher Capital Corp.,
four institutional accredited investors, for the issuance and sale to the
Subscribers of Five Hundred Thousand Dollars ($500,000) of principal amount of
promissory notes convertible into shares of our common stock and Warrants to
purchase shares of common stock at 100% coverage of the common stock issuable in
accordance with the principal amount of the notes. This May '05 Transaction was
a part of a January 23, 2005 funding transaction for an aggregate of Two Million
Three Hundred Thousand Dollars ($2,300,000), One Million One Hundred Fifty
Thousand Dollars ($1,150,000) of which was paid on the initial closing date, and
One Million One Hundred Fifty Thousand Dollars ($1,150,000) of which (the
"Second Tranche") was to be payable within five (5) business days after the
actual effectiveness of an SB-2 Registration Statement covering the aggregate
transaction, as defined in the Subscription Agreement. The May '05 Transaction
for Five Hundred Thousand Dollars ($500,000) is a partial interim closing of the
Second Tranche, which occurred prior to the anticipated effectiveness of the
SB-2 Registration Statement covering the aggregate transaction. Contemporaneous
with the May '05 Transaction, we agreed to a modification of the January 23,
2005 aggregate transaction for the substitution of Ellis International Ltd. and
Osher Capital Corp. in the place of Alpha Capital Aktiengesellschaft, one of the
original investors. The May '05 Transaction convertible notes are at prime plus
4% interest in the aggregate amount of $500,000, plus five-year Warrants for the
purchase of, in the aggregate, 4,000,000 shares of common stock, at an exercise
price of $0.129. The notes are convertible into shares of our common stock at
$0.125 per common share. Conversions are limited to a maximum ownership of 9.99%
of the underlying common stock at any one time. The notes have a maturity date
two years from closing and are payable in twelve equal monthly installments,
commencing June 1, 2005. The installment payments consist of principal equal to
1/20th of the initial principal amount which, subject to certain conditions
concerning trading volume and price, can be paid in cash at 103% of the monthly
installment or common stock or a combination of both. The notes have an
acceleration provision upon the change in a majority of the present Board of
Directors except as the result of the death of one or more directors, or a
change in the present CEO. In connection with this transaction, we issued
restricted common stock in the aggregate amount of 200,000 shares plus the
aggregate cash amount of $25,000 for due diligence fees to Longview Fund, LP,
Gem Funding LLC, Ellis International Ltd., and Osher Capital Corp. in this
transaction. The Second Tranche of the January 23, 2005 aggregate transaction,
now in the amount of $650,000, remains outstanding and will be triggered by the
effectiveness of the pending SB-2 registration statement.
Conversions: November 2003 Convertible Notes. We converted $50,000 of our
November 2003 Convertible Promissory Note into 1,106,740 shares of common stock
pursuant to a notice of conversion from Gamma Opportunity Capital Partners LP,
at a fixed conversion price of $0.05. The conversion included $5,337 of accrued
and unpaid interest. We issued the underlying common stock upon conversion
pursuant to a Form SB-2 registration statement, declared effective on August 3,
2004.
F-82
Warrant Exercise: November 2003 Warrant. We issued 1,000,000 shares of
common stock to Gamma Opportunity Capital Partners LP pursuant to the exercise
of a Warrant issued in connection with the November 2003 financing transaction,
and received $50,000 in warrant exercise payments. The shares of common stock
underlying the warrant were issued pursuant to a Form SB-2 shelf registration
statement, declared effective by the SEC on August 3, 2004.
Warrant Exercise: April 2004 Warrant. We issued 1,500,000 shares of common
stock to Longview Fund LP pursuant to the exercise of a Warrant issued in
connection with the April 2004 financing transaction, and received $225,000 in
warrant exercise payments. The shares of common stock underlying the warrant
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on August 3, 2004.
Conversions: June 2004 Convertible Notes. We converted $528,573 of our
June 2004 Convertible Promissory Notes into 5,633,039 shares of common stock
pursuant to notices of conversion from Longview Fund LP, Gem Funding LLC,
Whalehaven Capital Fund Limited, Stonestreet Limited Partnership and Bi-Coastal
Consulting Corp. at a fixed conversion price of $0.10. The conversion included
$33,689 of accrued and unpaid interest. We issued the common stock upon
conversion pursuant to a Form SB-2 registration statement declared effective by
the Securities and Exchange Commission on April 18, 2005.
Warrant Exercise: June 2004 Warrant. We issued 2,200,000 shares of common
stock to Longview Fund LP, Whalehaven Capital Fund Limited and Stonestreet
Limited Partnership pursuant to the exercise of Warrants issued in connection
with the June 2004 financing transaction, and received $309,000 in warrant
exercise payments. The shares of common stock underlying the warrants were
issued pursuant to a Form SB-2 shelf registration statement, declared effective
by the SEC on April 18, 2005.
Conversions: October 2004 Convertible Notes. We converted $446,250 of our
October 2004 Convertible Promissory Notes into 4,718,514 shares of common stock
pursuant to notices of conversion from Longview Fund LP, Gem Funding LLC,
Whalehaven Capital Fund Limited, Stonestreet Limited Partnership and Bi-Coastal
Consulting Corp. at a fixed conversion price of $0.10. The conversion included
$25,602 of accrued and unpaid interest. We issued the common stock upon
conversion pursuant to a Form SB-2 registration statement declared effective by
the Securities and Exchange Commission on April 18, 2005.
Warrant Exercise: October 2004 Warrant. We issued 1,700,000 shares of
common stock to Longview Fund LP, Whalehaven Capital Fund Limited and
Stonestreet Limited Partnership pursuant to the exercise of Warrants issued in
connection with the October 2004 financing transaction, and received $248,700 in
warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on April 18, 2005.
Conversions: December 2004 Convertible Notes. We converted $210,000 of our
December 2004 Convertible Promissory Notes into 2,176,706 shares of common stock
pursuant to notices of conversion, to Momona Capital Corp. and Ellis
International Ltd Inc., at a fixed conversion price of $0.10 per share. The
conversion included $7,450 of accrued and unpaid interest. We issued the
underlying common stock upon conversion pursuant to a Form SB-2 registration
statement, declared effective on April 18, 2005.
Warrant Exercise: December 2004 Warrant. We issued 500,000 shares of
common stock to Momona Capital Corp. and Ellis International Ltd Inc., pursuant
to the exercise of Warrants issued in
F-83
connection with the December 2004 financing transaction, and received $72,500 in
warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on April 18, 2005.
Conversions: January 2005 Convertible Notes. We converted $534,304 of our
January 2005 Convertible Promissory Notes into 4,461,685 shares of restricted
common stock pursuant to notices of conversion, to Longview Fund LP, Longview
Equity Fund LP and Longview International Equity Fund LP at a fixed conversion
price of $0.125 per share. We issued the Convertible Promissory Note and the
underlying common stock upon conversion to an accredited investor, pursuant to a
Regulation D offering. The underlying common stock is now registered pursuant to
a Form SB-2 registration statement declared effective August 2, 2005.
Conversions: Series F Convertible Preferred. We converted 31,134 shares of
our Series F Convertible Preferred, having a stated value of $311,340 into
2,903,839 shares of common stock pursuant to notices of conversion, to
Austinvest Anstalt Balzers and Esquire Trade & Finance Inc. We issued the Series
F Convertible Preferred and the underlying common stock upon conversion to
accredited investors, pursuant to a Regulation D offering and Rule 144(k).
Conversions: Series H Convertible Preferred. We converted 100,000 shares
of our Series H Convertible Preferred, having a stated value of $1,000,000 into
2,500,000 shares of common stock pursuant to notices of conversion, to four
individual and two institutional investors. We issued the Convertible Preferred
and the underlying common stock upon conversion to accredited investors,
pursuant to a Regulation D offering and Rule 144(k).
Conversions: Series I Convertible Preferred. We converted 20,000 shares of
our Series I Convertible Preferred, having a stated value of $200,000 into
2,354,808 shares of common stock pursuant to a notice of conversion, to Alpha
Capital AG. We issued the Convertible Preferred and the underlying common stock
upon conversion to accredited investors, pursuant to a Regulation D offering and
Rule 144(k).
Warrant Exercise: Series I Warrant. We issued 1,333,333 shares of
restricted common stock to Alpha Capital AG, pursuant to the exercise of
Warrants issued in connection with the Series I financing transaction, and
received $133,333 in warrant exercise payments. The shares of common stock
underlying the warrants are now registered pursuant to a Form SB-2 shelf
registration statement, declared effective by the SEC on August 2, 2005.
Private Placements. On May 17, 2005 we issued the aggregate of 27,500
restricted shares of the Company's common stock, with a recorded value of
$4,950, to eleven product sales brokers as a bonus for the performance of
services for the Company. We issued the restricted common stock pursuant to
Section 4(6) of the Securities Act of 1933, which provides an exemption from the
registration requirements of the Act for transactions not involving a public
offering.
S-8 Registration. On April 14, 2005 and April 18, 2005, we issued 750,000
and 250,000 shares, respectively, of our common stock to Geoffrey Eiten, for
services rendered for strategic business planning. These shares were part of
1,500,000 shares of the Company's common stock registered under a Form S-8
registration statement filed December 23, 2004.
Warrant Issue. On June 20, 2005, we issued one year Warrant to Marvel
Enterprises Inc. to purchase 1,000,000 shares of our common stock a $0.05 per
share. This Warrant was issued in connection with the execution of a License
Agreement with Marvel for the United States, Canada and
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Mexico. We issued the Warrant pursuant to Section 4(6) of the Securities Act of
1933, which provides an exemption from the registration requirements of the Act
for transactions not involving a public offering.
Quarter Ended September 30, 2005
--------------------------------
Warrant Exercise: Series D Warrant. We issued 696,042 shares of common
stock to Longview Fund LP, Longview Equity Fund LP, Longview International
Equity Fund LP and Esquire Trade & Finance Inc., pursuant to the cashless
exercises of warrants for 763,750 shares of common stock. We issued the Warrants
and the underlying common stock upon exercise to accredited investors, pursuant
to a Regulation D offering and Rule 144(k).
Conversions: Series F Convertible Preferred. We converted 19,133 shares of
our Series F Convertible Preferred, having a stated value of $191,330 into
804,752 shares of common stock pursuant to notices of conversion to Amro
International, SA. We issued the Series F Convertible Preferred and the
underlying common stock upon conversion to accredited investors, pursuant to a
Regulation D offering and Rule 144(k).
Warrant Exercise: Series F Warrant. We issued 3,345,417 shares of common
stock to Austinvest Anstalt Balzers and Esquire Trade & Finance Inc. and Libra
Finance, SA., pursuant to the cashless exercise of warrants for 3,676,518 shares
of common stock. We issued the Warrants and the underlying common stock upon
exercise to accredited investors, pursuant to a Regulation D offering and Rule
144(k).
Conversions: Series H Convertible Preferred. We converted 1,000 shares of
our Series H Convertible Preferred, having a stated value of $10,000 into 25,000
shares of common stock pursuant to notices of conversion, to one individual
investor. We issued the Convertible Preferred and the underlying common stock
upon conversion to accredited investors, pursuant to a Regulation D offering and
Rule 144(k).
Conversions: Series I Convertible Preferred. We converted 10,000 shares of
our Series I Convertible Preferred, having a stated value of $100,000 into
656,953 shares of common stock pursuant to a notice of conversion, to
Tradersbloom Limited. The conversion included $24,000 of accrued and unpaid
interest. We issued the Convertible Preferred and the underlying common stock
upon conversion to accredited investors, pursuant to a Regulation D offering and
Rule 144(k).
Conversions: April 2004 Convertible Notes. We converted $250,000 of our
April 2004 Convertible Promissory Notes into 2,808,219 shares of common stock
pursuant to notices of conversion from Osher Capital Inc., Ellis International
Ltd Inc. and Alpha Capital AG. The conversion included $3,082 of accrued and
unpaid interest on the converted amount. We issued the underlying common stock
upon conversion pursuant to a Form SB-2 registration statement, declared
effective on August 4, 2004.
Conversions: June 2004 Convertible Notes. We converted $250,000 of our
June 2004 Convertible Promissory Notes into 2,796,575 shares of common stock
pursuant to notices of conversion from Alpha Capital AG at a fixed conversion
price of $0.10. The conversion included $29,657 of accrued and unpaid interest
on the converted amount. We issued the common stock upon conversion pursuant to
a Form SB-2 registration statement declared effective by the Securities and
Exchange Commission on April 18, 2005.
Conversions: October 2004 Convertible Notes. We converted $125,000 of our
October 2004 Convertible Promissory Notes into 1,342,808 shares of common stock
pursuant to notices of conversion
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from Alpha Capital AG at a fixed conversion price of $0.10. The conversion
included $9,280 of accrued and unpaid interest on the converted amount. We
issued the common stock upon conversion pursuant to a Form SB-2 registration
statement declared effective by the Securities and Exchange Commission on April
18, 2005.
Warrant Exercise: December 2004 Warrant. We issued 300,000 shares of
common stock to Momona Capital Corp. pursuant to the exercise of Warrants issued
in connection with the December 2004 financing transaction, and received $30,000
in warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on April 18, 2005.
Conversions: January 2005 Convertible Notes. We converted $500,071 of our
January 2005 Convertible Promissory Notes into 4,186,644 shares of restricted
common stock pursuant to notices of conversion, to Longview Fund LP, Longview
Equity Fund LP and Longview International Equity Fund LP at a fixed conversion
price of $0.125 per share. The conversion included $23,260 of accrued and unpaid
interest on the converted amount. We issued the common stock upon conversion
pursuant to a Form SB-2 registration statement declared effective by the
Securities and Exchange Commission on August 2, 2005.
Warrant Exercise: January 2005 Warrant. We issued 7,200,000 shares of
common stock to Whalehaven Capital Fund Limited, Longview Fund LP, Longview
Equity Fund LP and Longview International Equity Fund LP pursuant to the
exercise of Warrants issued in connection with the January 2005 financing
transaction, and received $720,000 in warrant exercise payments. The shares of
common stock underlying the warrants were issued pursuant to a Form SB-2 shelf
registration statement, declared effective by the SEC on August 2, 2005.
Conversions: April 2005 Convertible Notes. We converted $300,000 of our
April 2005 Convertible Promissory Note into 1,556,438 shares of restricted
common stock pursuant to notices of conversion, to Alpha Capital AG at a fixed
conversion price of $0.20 per share. The conversion included $11,288 of accrued
and unpaid interest on the converted amount. We issued the common stock upon
conversion pursuant to a Form SB-2 registration statement declared effective by
the Securities and Exchange Commission on August 2, 2005.
Conversions: May 2005 Convertible Notes. We converted $475,000 of our May
2005 Convertible Promissory Notes into 4,141,270 shares of restricted common
stock pursuant to notices of conversion, to Whalehaven Capital Fund Limited,
Ellis International Ltd, Longview Fund LP and Osher Capital Corp. The conversion
included $9,317 of accrued and unpaid interest on the converted amount. We
issued the common stock upon conversion pursuant to a Form SB-2 registration
statement declared effective by the Securities and Exchange Commission on August
2, 2005.
Warrant Exercise: May 2005 Warrant. We issued 4,000,000 shares of common
stock to Whalehaven Capital Fund Limited, Ellis International Ltd, Longview Fund
LP and Osher Capital Corp. pursuant to the exercise of Warrants issued in
connection with the January 2005 financing transaction, and received $400,000 in
warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on August 2, 2005.
New Financing: August 2005 Convertible Notes On August 18, 2005, we closed
a funding transaction (the "August '05 Transaction") with Longview Fund, LP,
Longview Equity Fund, LP and Longview International Equity Fund, LP, three
institutional accredited investors, for the issuance and sale
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to the Subscribers of Six Hundred Fifty Thousand Dollars ($650,000) of principal
amount of promissory notes convertible into shares of our common stock and
Warrants to purchase shares of common stock at 100% coverage of the common stock
issuable in accordance with the principal amount of the notes. This August'05
Transaction was a part of a January 23, 2005 funding transaction for an
aggregate of Two Million Three Hundred Thousand Dollars ($2,300,000). The August
'05 Transaction is the Second Tranche of the January '05 transaction, which
occurred upon the effectiveness of the SB-2 Registration Statement covering the
aggregate transaction. The August'05 Transaction convertible notes are at prime
plus 4% interest in the aggregate amount of $650,000, plus five-year Warrants
for the purchase of, in the aggregate, 5,200,000 shares of common stock, at an
exercise price of $0.129. The notes are convertible into shares of our common
stock at $0.125 per common share. Conversions are limited to a maximum ownership
of 9.99% of the underlying common stock at any one time. The notes have a
maturity date two years from closing and are payable in twelve equal monthly
installments. The installment payments consist of principal equal to 1/20th of
the initial principal amount which, subject to certain conditions concerning
trading volume and price, can be paid in cash at 103% of the monthly
installment, or common stock or a combination of both. The notes have an
acceleration provision upon the change in a majority of the present Board of
Directors except as the result of the death of one or more directors, or a
change in the present CEO. In connection with this transaction, we issued
restricted common stock in the aggregate amount of 260,000 shares plus the
aggregate cash amount of $32,500 for due diligence fees to Longview Fund
companies. We issued the equity equivalents, the underlying common stock upon
conversion and the finders' fee common stock pursuant to a Form SB-2
registration statement declared effective by the Securities and Exchange
Commission on August 2, 2005.
On September 30, 2005, we prepaid $250,000 of the aggregate $650,000 of
the August '05 Transaction notes, as follows: $57,692 to Longview Fund, LP,
$144,231 to Longview Equity Fund, LP and $ $48,077 to Longview International
Equity Fund, LP. The holders of these notes waived the prepayment premium in
lieu of their retention of warrants attached to August '05 Transaction.
Conversions: August 2005 Convertible Notes. We converted $91,217 of our
August 2005 Convertible Promissory Notes into 743,750 shares of restricted
common stock pursuant to a notice of conversion, to Longview Fund LP, at a fixed
conversion price of $0.125 per share. The conversion included $1,752 of accrued
and unpaid interest on the converted amount. We issued the common stock upon
conversion pursuant to a Form SB-2 registration statement declared effective by
the Securities and Exchange Commission on August 2, 2005.
Warrant Exercise: August 2005 Warrant. We issued 5,200,000 shares of
common stock to Longview Fund LP, Longview Equity Fund LP and Longview
International Equity Fund LP pursuant to the exercise of Warrants issued in
connection with the August 2005 financing transaction, and received $520,000 in
warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on August 2, 2005.
Private Placements. On August 3, 2005 we issued 500,000 restricted shares
of our common stock to Geoffrey Eiten, for services rendered for strategic
business planning. We issued the restricted common stock pursuant to Section
4(6) of the Securities Act of 1933, which provides an exemption from the
registration requirements of the Act for transactions not involving a public
offering.
On August 29 and September 19, 2005 we issued the aggregate of 1,000,000
restricted shares of our common stock to National Financial Communications Corp.
pursuant to the exercise of Warrants issued in connection with a consulting
agreement for services rendered for strategic business planning. We issued the
restricted common stock pursuant to Section 4(6) of the Securities Act of 1933,
which
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provides an exemption from the registration requirements of the Act for
transactions not involving a public offering.
On September 19, 2005, we issued 450,000 restricted shares of our common
stock to Alpha Capital AG, an accredited investor, in a sale not involving a
public offering at a price of $1.00 per share. We issued the common stock
pursuant to a Regulation D offering.
Warrant Issue. On August 31, 2005, we issued a three year Warrant to
Coca-Cola Enterprises Inc. to purchase 30,000,000 shares of our common stock a
$0.36 per share. During the first 18 months of the exercise period, the Company
has the option to "call" the exercise of up to 10,000,000 shares of common stock
issuable upon exercise of the Warrant, upon the Company's satisfaction of
certain conditions, including a trading price of not less than $1.08 per share
for 20 consecutive trading days. This Warrant was issued in connection with the
execution of a Master Distribution Agreement on August 31, 2005. We issued the
Warrant pursuant to Section 4(6) of the Securities Act of 1933, which provides
an exemption from the registration requirements of the Act for transactions not
involving a public offering. The Company will record an $11,900,000 net charge
in deferred distribution costs for the issuance of a three year warrant to
Coca-Cola Enterprises to purchase of 30,000,000 shares of our common stock in
connection with the Master Distribution Agreement. The Company will recognize
that cost as a selling expense over the 10-year term of the agreement.
Quarter Ended December 31, 2005
-------------------------------
On November 28, 2005, we closed a funding transaction with 13 accredited
institutional investors, for the issuance and sale of 40,500,000 shares of our
common stock for a purchase price of $20,250,000. In addition, we also issued
five-year warrants for the purchase of an additional 15,187,500 shares of common
stock at an exercise price of $0.80 per share. The securities are restricted and
have been issued pursuant to an exemption to the registration requirements of
Section 5 of the Securities Act of 1933 for "transactions of the issuer not
involving any public offering" provided in Section 4(2) of the Act and pursuant
to a Regulation D offering. In connection with this financing, we issued common
stock purchase warrants to purchase 1,012,500 shares of common stock at an
exercise price of $.50 per share and 304,688 shares of common stock at an
exercise price of $.80 per share to SG Cowen & Co., LLC, who acted as placement
agent for this financing.
The shares of common stock and the shares of common stock underlying the
warrants carry registration rights that obligate us to file a registration
statement within 45 days from closing and have the registration statement
declared effective within 120 days from closing.
All of the above offerings and sales were deemed to be exempt under rule
506 of Regulation D and Section 4(2) of the Securities Act of 1933, as amended.
No advertising or general solicitation was employed in offering the securities.
The offerings and sales were made to a limited number of persons, all of whom
were accredited investors, or business associates of Bravo! Brands Inc.,
and transfer was restricted by Bravo! Brands Inc. in accordance with the
requirements of the Securities Act of 1933. In addition to representations by
the above-referenced persons, we have made independent determinations that all
of the above-referenced persons were accredited or sophisticated investors, and
that they were capable of analyzing the merits and risks of their investment and
that they understood the speculative nature of their investment. Furthermore,
all of the above-referenced persons were provided with access to our Securities
and Exchange Commission filings.
Warrant Exercise: June 2004 Warrant. In December 2005, we issued
2,500,000 shares of common stock to Alpha Capital AG pursuant to the exercise
of a "B" Warrant issued in connection with
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the June 2004 financing transaction and received $250,000 in warrant exercise
payments. The shares of common stock underlying the warrants were issued
pursuant to a Form SB-2 shelf registration statement, declared effective by the
SEC on April 18, 2005.
Year ended December 31, 2004
On February 1, 2004, we agreed to issue 750,000 shares of our common stock
and warrants to purchase an additional 750,000 shares of common stock to Marvel
Enterprises, Inc. We issued this equity in connection with the grant of an
intellectual property license by Marvel on January 17, 2004, giving us the right
to use certain Marvel Comics characters on our Slammers(R) line of flavored
milks. The warrants have an exercise price of $0.10 per share for the first year
and, upon the occurrence of certain conditions tied to the royalty performance
under the license, can be extended for an additional year with an exercise price
of $0.14 per share. We made this private offering to Marvel Enterprises, an
accredited investor, pursuant to Rule 506 of Regulation D and Section 4(2) of
the Securities Act of 1933.
On February 12, 2004, we held a special meeting of shareholders at which
the shareholders approved an increase of our authorized common stock from
50,000,000 shares to 300,000,000 shares.
On February 17, 2004, we converted 875 shares of Series G Convertible
Preferred Stock into 215,164 shares of common stock pursuant to a January 12,
2004 notice of conversion from Nesher, LP, at a conversion price of $0.0407. The
conversion included accrued and unpaid dividends on the converted preferred. We
delayed processing this notice in light of our special meeting of shareholders
held February 12, 2004. The shares of common stock issued pursuant to this
conversion were retired and cancelled on March 5, 2004 and issued to third
parties on that date in accordance with the instructions of Nesher, LP.
On February 17, 2004, we converted 1,400 shares of Series G Convertible
Preferred Stock into 343,980 shares of common stock pursuant to a January 12,
2004 notice of conversion from Talbiya Investments, Ltd., at a conversion price
of $0.0407. The conversion included accrued and unpaid dividends on the
converted preferred. We delayed processing this notice in light of our special
meeting of shareholders held February 12, 2004. The shares of common stock
issued pursuant to this conversion were retired and cancelled on March 5, 2004
and issued to third parties on that date in accordance with the instructions of
Talbiya Investments, Ltd.
On February 17, 2004, we converted 700 shares of Series G Convertible
Preferred Stock into 172,162 shares of common stock pursuant to a January 12,
2004 notice of conversion from The Keshet Fund, LP, at a conversion price of
$0.0407. The conversion included accrued and unpaid dividends on the converted
preferred. We delayed processing this notice in light of our special meeting of
shareholders held February 12, 2004. The shares of common stock issued pursuant
to this conversion were retired and cancelled on March 5, 2004 and issued to
third parties on that date in accordance with the instructions of The Keshet
Fund, LP.
On February 17, 2004, we converted 2,025 shares of Series G Convertible
Preferred Stock into 497,951 shares of common stock pursuant to a January 12,
2004 notice of conversion from Keshet LP, at a conversion price of $0.0407. The
conversion included accrued and unpaid dividends on the converted preferred. We
delayed processing this notice in light of our special meeting of shareholders
held February 12, 2004. The shares of common stock issued pursuant to this
conversion were retired and cancelled on March 5, 2004 and issued to third
parties on that date in accordance with the instructions of Keshet, LP.
F-89
On March 1,2004, we issued 80,000 shares of non-voting Series K 8%
Convertible Preferred stock, to Mid-Am Capital, LLC, having a stated value of
$10.00 per Preferred K share, for the aggregate purchase price of $800,000. Each
preferred share is convertible to 100 shares of our common stock at a conversion
price of $0.10, representing 8,000,000 shares of common stock underlying the
preferred. In addition, we made the following adjustments to prior issued
warrants for the purpose of facilitating future fund raising by us arising out
of the exercise of the warrants by Holder. The purchase price, as defined in the
Warrant No. 2003-B-002, has been reduced to $0.10, subject to further adjustment
as described in the warrant. The expiration date, as defined in the warrant,
remains as stated. This private offering was made to Mid-Am, an accredited
investor, pursuant to Rule 506 of Regulation D and Section 4(2) of the
Securities Act of 1933.
On March 9, 2004, we converted 5,000 shares of Series F Convertible
Preferred Stock into 1,315,789 shares of common stock pursuant to a January 8,
2004 notice of conversion from Esquire Trade & Finance Inc., at a conversion
price of $0.038. The conversion did not include accrued and unpaid dividends on
the converted preferred. We delayed processing this notice in light of our
special meeting of shareholders held February 12, 2004. The shares of common
stock issued pursuant to this conversion were issued to third parties on that
date in accordance with the instructions of Esquire Trade & Finance Inc.
On April 1 2004, we converted 5,000 shares of Series F Convertible
Preferred Stock into 1,315,789 shares of common stock pursuant to a January 27,
2004 notice of conversion from Austinvest Anstalt Balzers, at a conversion price
of $0.038. The conversion did not include accrued and unpaid dividends on the
converted preferred. We delayed processing this notice in light of our special
meeting of shareholders held February 12, 2004. The shares of common stock
issued pursuant to this conversion were issued to third parties on that date in
accordance with the instructions of Austinvest Anstalt Balzers. We issued the
preferred and the underlying common stock upon conversion to an accredited
investor, pursuant to a Regulation D offering.
On April 2, 2004, the Company and Mid-Am Capital, LLC entered into
Supplement No.1 to the Series K Convertible Preferred Subscription Agreement, by
which we sold an additional 15,000 shares of our Series K Convertible Preferred
Stock utilizing the proceeds from a certain promissory note issued by us to
Mid-Am in the face amount of $150,000. With the consummation of this sale, the
$150,000 promissory note was deemed paid by us in full. We issued the preferred
and the underlying common stock upon conversion to an accredited investor,
pursuant to a Regulation D offering.
On April 8, 2004, we converted 4,862 shares of Series G Convertible
Preferred Stock into 700,000 shares of common stock pursuant to a March 25, 2004
notice of conversion from Nesher, LP, at a conversion price of $0.0853. The
conversion included accrued and unpaid dividends of $11,089 on the preferred
converted. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering.
On April 8, 2004, we converted 4,478 shares of Series G Convertible
Preferred Stock into 650,000 shares of common stock pursuant to a March 25, 2004
notice of conversion from Talbiya B. Investments, Ltd., at a conversion price of
$0.0853. The conversion included accrued and unpaid dividends of $10,662 on the
preferred converted. We issued the preferred and the underlying common stock
upon conversion to an accredited investor, pursuant to a Regulation D offering.
On April 8, 2004, we converted 1,919 shares of Series G Convertible
Preferred Stock into 275,000 shares of common stock pursuant to a March 25, 2004
notice of conversion from The Keshet Fund, LP, at a conversion price of $0.0853.
The conversion included accrued and unpaid dividends of
F-90
$4,265 on the preferred converted. We issued the preferred and the underlying
common stock upon conversion to an accredited investor, pursuant to a Regulation
D offering.
On April 8, 2004, we converted 7,677 shares of Series G Convertible
Preferred Stock into 1,100,000 shares of common stock pursuant to a March 25,
2004 notice of conversion from Keshet, LP, at a conversion price of $0.0853. The
conversion included accrued and unpaid dividends of $17,060 on the preferred
converted. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering.
On April 20, 2004, we entered into a Subscription Agreement with Longview
Fund, LP and Alpha Capital Aktiengesellschaft for the issuance of two
convertible 10% notes in the amount of $250,000 each and five-year warrants for
the purchase of, in the aggregate, 3,000,000 shares of common stock, at $0.15
per share. The notes are convertible into shares of our common stock at $0.10
per common share. Conversions are limited to a maximum ownership of 9.99% of the
underlying common stock at any one time. The notes are payable in twelve equal
monthly installments, commencing November 1, 2004. The installment payments
consist of principal and a "premium" of 20% of the principal paid per
installment. We have the option to defer such payment until the note's maturity
date on October 1, 2005, if our common stock trades above $0.20 for the five
trading days prior to the due date of an installment payment. In connection with
this transaction, we issued two additional notes in the aggregate amount of
$50,000, upon identical terms as the principal notes, as a finder's fee, and
paid $20,000 in legal fees. The common stock underlying all notes and warrants
carry registration rights. We issued the convertible notes and warrants to
accredited investors, pursuant to a Regulation D offering.
On April 30, 2004, we converted 20,000 shares of Series F Convertible
Preferred Stock into 1,945,525 shares of common stock pursuant to an April 27,
2004 notice of conversion from Esquire Trade & Finance Inc., at a conversion
price of $0.1028. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering.
On April 30, 2004, we converted 20,000 shares of Series F Convertible
Preferred Stock into 1,945,525 shares of common stock pursuant to an April 27,
2004 notice of conversion from Austinvest Anstalt Balzers, at a conversion price
of $0.1028. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering.
On April 30, 2004, we converted 2,500 shares of Series F Convertible
Preferred Stock into 243,191 shares of common stock pursuant to an April 27,
2004 notice of conversion from Esquire Trade & Finance Inc., at a conversion
price of $0.1028. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering.
On April 30, 2004, we converted 2,500 shares of Series F Convertible
Preferred Stock into 243,191 shares of common stock pursuant to an April 27,
2004 notice of conversion from Austinvest Anstalt Balzers, at a conversion price
of $0.1028. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering.
On May 20, 2004, we converted 9,226 shares of Series G Convertible
Preferred Stock into 620,578 shares of common stock pursuant to a May 19, 2004
notice of conversion from Nesher, LP, at a conversion price of $0.148. The
conversion did not include accrued and unpaid dividends on the converted
preferred. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering.
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On May 20, 2004, we converted 13,972 shares of Series G Convertible
Preferred Stock into 939,782 shares of common stock pursuant to a May 19, 2004
notice of conversion from Keshet, LP, at a conversion price of $0.148. The
conversion did not include accrued and unpaid dividends on the converted
preferred. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering.
On June 17, 2004, we issued 87,195 of our common stock to Stephen Nollau,
a former consultant, for services rendered. We issued the common stock pursuant
to a Form S-8 registration statement, filed by us on June 16, 2004.
On June 29, 2004, we converted 234 shares of Series G Convertible
Preferred Stock into 13,604 shares of common stock pursuant to a June 15, 2004
notice of conversion from Nesher, LP, at a conversion price of $0.172. The
conversion did not include accrued and unpaid dividends on the converted
preferred. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering. This
conversion exhausted the outstanding Series G convertible preferred held by this
investor.
On June 29, 2004, we converted 1,850 shares of Series G Convertible
Preferred Stock into 107,558 shares of common stock pursuant to a June 15, 2004
notice of conversion from Keshet, LP, at a conversion price of $0.172. The
conversion did not include accrued and unpaid dividends on the converted
preferred. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering. This
conversion exhausted the outstanding Series G convertible preferred held by this
investor.
On June 29, 2004, we converted 3,472 shares of Series G Convertible
Preferred Stock into 201,860 shares of common stock pursuant to a June 15, 2004
notice of conversion from The Keshet Fund, LP, at a conversion price of $0.172.
The conversion did not include accrued and unpaid dividends on the converted
preferred. We issued the preferred and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering. This
conversion exhausted the outstanding Series G convertible preferred held by this
investor.
On June 29, 2004, we converted 8,091 shares of Series G Convertible
Preferred Stock into 470,406 shares of common stock pursuant to a June 15, 2004
notice of conversion from Talbiya B. Investments, Ltd, at a conversion price of
$0.172. The conversion did not include accrued and unpaid dividends on the
converted preferred. We issued the preferred and the underlying common stock
upon conversion to an accredited investor, pursuant to a Regulation D offering.
This conversion exhausted the outstanding Series G convertible preferred held by
this investor.
On June 30, 2004, we entered into Subscription Agreements with Longview
Fund, LP, Alpha Capital Aktiengesellschaft, Whalehaven Funds Limited,
Stonestreet Limited Partnership and Mid-Am Capital L.L.C for the issuance of
convertible 10% notes in the aggregate amount of $1,300,000 and five-year "A"
warrants for the purchase of, in the aggregate, 5,200,000 shares of common
stock, at $0.25 per share, and five-year "B" warrants for the purchase of, in
the aggregate, 13,000,000 shares of common stock, at $2.00 per share. The notes
are convertible into shares of our common stock at $0.15 per common share.
Conversions are limited to a maximum ownership of 9.99% of the underlying common
stock at any one time. The notes are payable in twelve equal monthly
installments, commencing January 1, 2005. The installment payments consist of
principal and a "premium" of 20% of the principal paid per installment. We have
the option to defer such payment until the note's maturity date on December 1,
2005, if our common stock trades above $0.20 for the five trading days prior to
the due date of an installment payment. In connection with this transaction, we
issued additional notes in the aggregate
F-92
amount of $40,000 to Gem Funding, LLC, Bi-Coastal Consulting Corp., Stonestreet
Limited Partnership and Libra Finance, S.A upon identical terms as the principal
notes, as a finder's fee, and paid $12,500 in legal fees. The common stock
underlying all notes and warrants carry registration rights. We issued the
convertible notes and warrants to accredited investors, pursuant to a Regulation
D offering.
On August 9, 2004, we converted $50,000 of our November 2003 Convertible
Promissory Note into 1,000,000 shares of common stock pursuant to an August 5,
2004 notice of conversion from Gamma Opportunity Capital Partners LP, at a fixed
conversion price of $0.05. The conversion did not include accrued and unpaid
interest on the converted amount. We issued the underlying common stock upon
conversion pursuant to our SB-2 registration statement, declared effective on
August 3, 2004.
On August 23, 2004, we converted $50,000 of our April 2004 Convertible
Promissory Note into 500,000 shares of common stock pursuant to an August 5,
2004 notice of conversion from Longview Fund LP, at a fixed conversion price of
$0.10. The conversion did not include accrued and unpaid interest on the
converted amount. We issued the underlying common stock upon conversion pursuant
to our SB-2 registration statement, declared effective on August 3, 2004.
On September 27, 2004, we converted $50,000 of our April 2004 Convertible
Promissory Note into 500,000 shares of common stock pursuant to a September 21,
2004 notice of conversion from Longview Fund LP, at a fixed conversion price of
$0.10. The conversion did not include accrued and unpaid interest on the
converted amount. We issued the underlying common stock upon conversion pursuant
to our SB-2 registration statement, declared effective on August 3, 2004.
On October 6, 2004, we converted $25,000 of our November 2003 Convertible
Promissory Note into 500,000 shares of common stock pursuant to a September 23,
2004 notice of conversion from Gamma Opportunity Capital Partners LP, at a fixed
conversion price of $0.05. The conversion did not include accrued and unpaid
interest on the converted amount. We issued the underlying common stock upon
conversion pursuant to our SB-2 registration statement, declared effective on
August 3, 2004.
On October 6, 2004, we issued 500,000 shares of our common stock to
Knightsbridge Holdings, LLC, pursuant to a consulting agreement dated November
10, 2003. We issued the common stock pursuant to our SB-2 registration
statement, declared effective on August 3, 2004. The issued and outstanding
equity reported in our Form 10QSB for the period ended March 31, 2004 reflects
these shares of common stock.
On October 13, 2004, we issued 250,000 restricted shares of our common
stock in a private placement to Arthur Blanding, at the market price of $0.12
per share, pursuant to Section 4(2) of the Securities Act of 1934. Mr. Blanding,
who solicited the purchase, is an accredited investor and has been a director of
the Company since 1999.
On October 15, 2004, we issued 750,000 shares of our common stock to
Marvel Enterprises, Inc., as partial compensation under a license agreement
dated February 1, 2004. We issued the common stock pursuant to our SB-2
registration statement, declared effective on August 3, 2004. The issued and
outstanding equity reported in our Form 10QSB for the period ended March 31,
2004 reflects these shares of common stock.
On October 29, 2004, we entered into Subscription Agreements with Longview
Fund, LP, Alpha Capital Aktiengesellschaft, Whalehaven Funds Limited and
Stonestreet Limited Partnership for the issuance of convertible 10% notes in the
aggregate amount of $550,000 and five-year "C" warrants for the purchase of, in
the aggregate, 2,200,000 shares of common stock, at $0.15 per share, and the
repricing
F-93
of five-year "A" warrants, issued June 30, 2004 for the purchase of, in the
aggregate, 3,200,000 shares of common stock, from $0.25 to $0.15 per share. The
notes are convertible into shares of our common stock at $0.10 per common share.
Conversions are limited to a maximum ownership of 9.99% of the underlying common
stock at any one time. The notes are payable in twelve equal monthly
installments, commencing May 1, 2005. The installment payments consist of
principal and a "premium" of 20% of the principal paid per installment. We have
the option to defer such payment until the note's maturity date on April 30,
2006, if our common stock trades above $0.15 for the five trading days prior to
the due date of an installment payment and the underlying common stock is
registered. In connection with this transaction, we issued additional notes,
without attached warrants, in the aggregate amount of $27,500 to Gem Funding,
LLC, Bi-Coastal Consulting Corp., Stonestreet Limited Partnership and Libra
Finance, S.A upon identical terms as the principal notes, as a finder's fee, and
paid $12,500 in legal fees. The common stock underlying all notes and warrants
carry registration rights. We issued the convertible notes and warrants to
accredited investors, pursuant to a Regulation D offering.
On December 17, 2004, we converted $50,000 of our April 2004 Convertible
Promissory Note into 500,000 shares of common stock pursuant to a December 8,
2004 notice of conversion from Longview Fund LP, at a fixed conversion price of
$0.10. The conversion did not include accrued and unpaid interest on the
converted amount. We issued the underlying common stock upon conversion pursuant
to our SB-2 registration statement, declared effective on August 3, 2004.
On December 20, 2004, we converted $25,000 of our April 2004 Convertible
Promissory Note into 265,958 shares of common stock pursuant to a December 9,
2004 notice of conversion from Bi Coastal Consulting Corp., at a fixed
conversion price of $0.10. The conversion included $1,595.89 accrued and unpaid
interest on the converted amount. We issued the underlying common stock upon
conversion pursuant to our SB-2 registration statement, declared effective on
August 3, 2004.
On December 20, 2004, we converted $50,000 of our November 2003
Convertible Promissory Note into 1,000,000 shares of common stock pursuant to a
December 8, 2004 notice of conversion from Gamma Opportunity Capital Partners
LP, at a fixed conversion price of $0.05. The conversion did not include accrued
and unpaid interest on the converted amount. We issued the underlying common
stock upon conversion pursuant to our SB-2 registration statement, declared
effective on August 3, 2004.
On December 27, 2004, we converted 10,000 shares of Series F Convertible
Preferred Stock into 1,290,323 shares of common stock pursuant to a December 27,
2004 notice of conversion from Austinvest Anstalt Balzers, at a conversion price
of $0.0775. The conversion did not include accrued and unpaid dividends on the
converted preferred. We issued the preferred and the underlying common stock
upon conversion to an accredited investor, pursuant to a Regulation D offering
and Rule 144.
On December 27, 2004, we converted 10,000 shares of Series F Convertible
Preferred Stock into 1,290,323 shares of common stock pursuant to a December 27,
2004 notice of conversion from Esquire Trade & Finance Inc., at a conversion
price of $0.0775. The conversion did not include accrued and unpaid dividends on
the converted preferred. We issued the preferred and the underlying common stock
upon conversion to an accredited investor, pursuant to a Regulation D offering
and Rule 144.
On December 29, 2004, we closed a funding transaction with Momona Capital
Corp. and Ellis International Ltd. for the issuance of convertible 10% notes in
the aggregate amount of $200,000 and five-year "C" warrants for the purchase of,
in the aggregate, 800,000 shares of common stock, at $0.15 per share. The notes
are convertible into shares of our common stock at $0.10 per common share.
Conversions are limited to a maximum ownership of 9.99% of the underlying common
stock at any one time. The notes are payable in twelve equal monthly
installments, commencing May 1, 2005. The
F-94
installment payments consist of principal and a "premium" of 20% of the
principal paid per installment. We have the option to defer such payment until
the note's maturity date on April 30, 2006, if our common stock trades above
$0.15 for the five trading days prior to the due date of an installment payment,
and the underlying common stock is registered. In connection with this
transaction, we issued additional notes, without attached warrants, in the
aggregate amount of $10,000 to the investors upon identical terms as the
principal notes, as a finder's fee, and paid $3,500 in legal fees. The common
stock underlying all notes and warrants carry registration rights. We issued the
convertible notes and warrants to accredited investors, pursuant to an amendment
to an October 29, 2004 Regulation D offering.
On December 31, 2004, we issued 8,095,105 shares of our common stock and
options for 150,000 shares at an exercise price of $0.25 per share to our
employees and consultants for services rendered, pursuant to a Form S-8
registration statement filed December 23, 2004.
Note 10 - Income Taxes
We have recorded no income tax benefit for our taxable losses during the years
ended December 31, 2005 and 2004 because there is no certainty that we will
realize those benefits. The components of our deferred tax assets and
liabilities as of December 31, 2005 and 2004 are as follows:
2005 2004
----------------------------
Tax effect of net operating loss carryforwards $ 14,875,732 $ 9,100,463
Accrued expenses that are deductible in future periods 1,479,268 57,304
Bad debt reserves that are deductible in future periods 130,550 33,718
Debt discounts that affect the timing of our interest 25,477 405,805
Depreciation and amortization method differences 1,645 (37,102)
----------------------------
Net deferred tax assets $ 16,512,672 $ 9,560,188
============================
Valuation allowances $(16,512,672) $(9,560,188)
============================
Our valuation allowances increased by $6,952,484 and $1,934,561 during the years
ended December 31, 2005 and 2004, respectively.
As of December 31, 2005, we have a net tax operating loss of $39,881,318 that
will be available to offset future taxable income, if any. The use of net
operating loss carryforwards to reduce future income tax liabilities is subject
to limitation and these amounts will begin to expire in 2022.
The following table illustrates the reconciliation of the tax benefit at the
federal statutory rate to our effective rate for each year ended December 31,
2005 and 2004:
2005 2004
------------------------
Benefit at federal statutory rate (34.00)% (34.00)%
Benefit at state rate, net of federal benefit (3.30)% (3.30)%
Non-deductible derivative fair value losses 28.64% 20.43%
Effect of changes in our valuation allowances 8.63% 16.80%
Non-deductible travel expenses and charitable donations 0.03% 0.07%
----------------------
Benefit at our effective rate (0.00)% (0.00)%
======================
We operate in certain foreign jurisdictions that are not reflected in the above
rate reconciliation because these operations are insignificant. However, we plan
to increase our foreign operations and, as a result, we may generate tax
liabilities in these foreign operations in future periods.
F-95
Note 11 - Commitments and Contingencies
Lease of Office
---------------
We lease office space at our corporate office in Florida under an original
operating lease that expired March 8, 2004. We have renewed the operating lease
for an additional six-year period that will expire October 30, 2015.
Future minimum rental payments required under the operating lease as of December
31, 2005 are as follows:
Years ending December 31, Amount
------------------------- -------
2006 $92,868
2007 $92,868
2008 $92,868
2009 $92,868
2010 $81,140
Rental expense for the years ended December 31, 2005 and 2004 are $90,000 and
$68,784, respectively.
Licenses
--------
Royalty advances are payable against earned royalties on a negotiated basis. The
table below identifies each Licensor to which our licenses require advance
payments and, in addition, reflects the term of the respective licenses as well
as the advance royalties remaining to be paid on such negotiated advance royalty
payments, as of September 25, 2006. We currently are in default of our
guaranteed royalty payments to Marvel Enterprises on our license for the United
Kingdom by the aggregate advance remaining listed below for Marvel (UK) .
---------------------------------------------------------------------------
Aggregate Advance
Licensor Term Remaining
---------------------------------------------------------------------------
Marvel (UK) Two years $120,960
---------------------------------------------------------------------------
Masterfoods Three years $2,430,000
---------------------------------------------------------------------------
Diabetes Research Institute One year $2,500
---------------------------------------------------------------------------
Marvel Enterprises, Inc. (Super Heroes(R) and Marvel Heroes(R))
On February 4, 2005, we entered into a two-year license agreement for the
utilization of Marvel Heroes characters on our flavored milks in the United
Kingdom and Ireland. We agreed to a royalty rate of 4% of net wholesale sales in
the territory as the cost of the license. We have adopted the unit sales model
currently used in the United States. We have outsourced the infrastructure
required for the production, promotion, marketing, distribution and sale of our
products through a production agreement with Waterfront Corporation in the UK
and through an exclusive sales agency agreement with Drinks Brokers, Ltd., a UK
registered company responsible for the launch and growth of several major
beverage brands in the licensed territory.
In March 2005, we entered into a new one-year license agreement with
Marvel Enterprises, Inc. to use its Super Heroes(R) properties to promote our
branded milk products in the United States, Canada and
F-96
Mexico. Under the terms of the license agreement, we agreed to a royalty rate of
5% of net wholesale sales in the United States, 4% for school lunch channels and
2.5% for school hot lunch programs. We also agreed to a 11% royalty on the
amount invoiced to dairy processors for "kits" in Canada and Mexico.
On February 4, 2005, we entered into an eighteen month license agreement
for the utilization of Marvel Heroes characters on our flavored milks in nine
Middle East Countries. We agreed to a 11% royalty on the amount invoiced to
third party dairy processors for "kits" in the territory against the prepayment
of a guaranteed minimum royalty amount of $75,600.
Chattanooga Bakery, Inc.( Moon Pie(R) )
In October 2003, we executed a two-year license agreement with MD
Enterprises, Inc. on behalf of Chattanooga Bakery. Under the terms of the
license agreement, we have the exclusive right to manufacture, distribute,
market and sell Moon Pie(R) flavored milk products in the United States. We
agreed to a variable royalty rate of 2% to 3% of net wholesale sales, depending
upon volume, as the cost of the license. This license has been extended
verbally.
Masterfoods USA (Starburst(R), Milky Way(R), 3 Musketeers(R))
On September 21, 2004, we entered into a licensing agreement with
Masterfoods USA, a division of Mars, Incorporated, for the use of Masterfood's
Milky Way(R), Starburst(R) and 3 Musketeers(R) trademarks in connection with the
manufacture, marketing and sale of single serve flavored milk drinks in the
United States, its Possessions and Territories and US Military installations
worldwide. The license limits the relationship of the parties to separate
independent entities. The amended term of the license agreement expires December
31, 2012. We have agreed to pay a 5% to 7% royalty based upon the total net
sales value of the licensed products sold as the cost of the license. Ownership
of the licensed marks and the specific milk flavors to be utilized with the
marks remains with Masterfoods. We have a right of first refusal for other milk
beverage products utilizing the Masterfoods marks within the licensed territory.
Diabetes Research Institute
In June 2005, we agreed to extend our licensing agreement with Diabetes
Research Institute for a term beyond the original June 30, 2006 termination
date.. We agreed to a variable royalty rate of 0.25% of net sales as the cost of
the license . We use this intellectual property, which consists of a logo plus
design on the labels of our Slim Slammers(TM) product line.
Employment Contracts
--------------------
Mr. Warren has an employment contract effective October 1, 2005, having an
annual base salary of $300,000, plus a bonus of .25% of top line net sales
revenue and normal corporate benefits. This contract has minimum two-year terms
plus a severance package upon change of control based on base salary.
Messrs. Toulan, Patipa, Edwards and Kee have employment contracts
effective January 1, 2006, having annual base salaries aggregating $710,000,
plus discretionary bonuses and normal corporate benefits. These contracts have
minimum two-year terms plus severance packages upon change of control based on
base salary.
Mr. Kaplan has an employment contract effective November 1, 2005, having
an annual base salary of $180,000 for year one, $200,000 for year two and
$220,000 for year three, plus discretionary
F-97
bonuses and normal corporate benefits. This contract has a minimum three-year
terms plus a severance package upon change of control based on base salary
Marketing Commitments
---------------------
Coca-Cola Enterprises. We are obligated to spend an aggregate of
$5,000,000 on marketing activities in 2005 and 2006 and thereafter, beginning in
2007, an amount per year in each country in the defined territory equal or
greater than 3% of our total revenue in such defined territory (on a country by
country basis). Such national and local advertising for our defined products
includes actively marketing the Slammers mark, based on a plan to be mutually
agreed each year. We are required to maintain our intellectual property rights
necessary for the production, marketing and distribution of our products by CCE.
Marvel UK. We are obligated to contribute to a discretionary marketing
fund at the rate of 3% of royalties payable to Marvel for our sales in the UK,
if requested by Marvel. We satisfied this obligation with a lump-sum payment of
$1,000 at the inception of the license.
Note 12 - Master Distribution Agreement
On August 31, 2005, we entered into a Master Distribution Agreement with
Coca-Cola Enterprises, Inc., which included the attendant grant of three year
warrants to CCE for the right to purchase 30 million shares of the Company's
common stock at an exercise price of $0.36 per share. The fair value of the
warrants has been recorded as deferred distribution costs and is being amortized
over the life of the distribution agreement.
Under the terms of the agreement, Coca-Cola Enterprises is obligated to
use all commercially reasonable efforts to solicit, procure and obtain orders
for our products and merchandise and actively promote the sale of such products
in the Territory, as defined in the agreement. The agreement establishes a
comprehensive process for the phased transition from our existing system of
distributors to Coca-Cola Enterprises, dependent upon distribution territory,
product and sales channels. The parties have agreed that Coca-Cola Enterprises
will implement its distribution on a ramp-up basis, with the initial
distribution commencing in the United States on or about the October 31, 2005
effective distribution date. Coca-Cola Enterprises' distribution in other
Territory areas will be dependent upon, among other things, third-party
licensing considerations and compliance with the regulatory requirements for the
products in foreign countries.
Note 13 - Restatements of Prior Financial Statements
We have restated our prior financial statements. This footnote is organized to
reflect (i) our annual and quarterly statements of operations as reported and as
restated, (ii) a tabular summary of the amounts of adjustments and descriptions
of matters that gave rise to the restatements of our statements of operations
and (iii) a tabular summary of the amounts of adjustments and the descriptions
of matters that gave rise to the restatements of our balance sheets. See also
Notes 1, 5, 6, 7, 8, 9 and 10 for additional disclosures.
F-98
Condensed Consolidated Statements of Operations
Years Ended December 31, 2005 and 2004
Year ended Year ended
December 31, 2005 December 31, 2005
(As Restated) (As Reported)
---------------------------------------
Revenues $ 11,948,921 $ 11,948,921
Product costs (10,443,727) (8,938,692)
Operating expenses (18,364,502) (17,209,180)
Other income (expense) (62,669,345) (307,679)
----------------------------------
Net (loss) (79,528,653) (14,506,630)
==================================
Loss applicable to common (80,850,670) (14,842,933)
==================================
Loss per common share (0.60) (0.11)
==================================
Comprehensive loss $(79,559,412) $(14,537,389)
==================================
Year ended Year ended
December 31, 2004 December 31, 2004
(As Restated) (As Reported)
---------------------------------------
Revenues $ 3,344,699 $ 3,344,699
Product costs (2,873,118) (2,374,805)
Operating expenses (4,183,863) (4,529,373)
Other income (expense) (7,805,338) (240,447)
----------------------------------
Net (loss) (11,517,620) (3,799,926)
==================================
Loss applicable to common (12,505,640) (4,188,558)
==================================
Loss per common share (0.31) (0.10)
==================================
Comprehensive loss $(11,518,309) $ (3,800,615)
==================================
Condensed Consolidated Statements of Operations
Three Months Ended March 31, 2005 and 2004
Three months ended Three months ended
March 31, 2005 March 31, 2005
(As Restated) (As Reported)
----------------------------------------
Revenues $ 897,770 $ 897,770
Product costs (816,113) (677,663)
Operating expenses (1,282,309) (1,340,290)
Other income (expense) 547,582 (117,065)
----------------------------------
Net (loss) (653,070) (1,237,248)
==================================
Loss applicable to common (924,185) (1,332,308)
==================================
Loss per common share (0.02) (0.02)
==================================
Comprehensive loss $ (661,093) $ (1,245,464)
==================================
Three months ended Three months ended
March 31, 2004 March 31, 2004
(As Restated) (As Reported)
----------------------------------------
Revenues $ 438,206 $ 438,206
Product costs (409,835) (330,121)
Operating expenses (976,424) (957,649)
Other income (expense) (3,524,664) (31,685)
----------------------------------
Net (loss) (4,472,717) (881,249)
==================================
Loss applicable to common (4,698,116) (974,717)
==================================
Loss per common share (0.15) (0.03)
==================================
Comprehensive loss $ (4,472,717) $ (881,249)
==================================
F-99
Condensed Consolidated Statements of Operations
Three and Six Months Ended June 30, 2005 and 2004
Three months Three months Six months Six months
ended ended Ended ended
June 30, 2005 June 30, 2005 June 30, 2005 June 30, 2005
(As Restated) (As Reported) (As Restated) (As Reported)
-------------------------------------------------------------------
Revenues $ 2,448,618 $ 2,448,618 $ 3,346,388 $ 3,346,388
Product costs (1,972,850) (1,680,464) (2,788,963) (2,358,127)
Operating expenses (2,696,152) (2,007,000) (3,978,461) (3,347,290)
Other income (expense) (78,224,912) (103,181) (77,677,330) (220,246)
------------------------------------------------------------------
Net (loss) (80,445,296) (1,342,027) (81,098,366) (2,579,275)
==================================================================
Loss applicable to common (81,038,891) (1,421,928) (81,963,076) (2,754,236)
==================================================================
Loss per common share (1.12) (0.02) (1.24) (0.04)
==================================================================
Comprehensive loss $(80,442,600) $ (1,351,790) $(81,103,693) $ (2,597,254)
==================================================================
Three months Three months Six months Six months
ended ended Ended ended
June 30, 2004 June 30, 2004 June 30, 2004 June 30, 2004
(As Restated) (As Reported) (As Restated) (As Reported)
-------------------------------------------------------------------
Revenues $ 1,441,356 $ 1,441,356 $ 1,879,562 $ 1,879,562
Product costs (1,051,120) (934,966) (1,460,955) (1,265,087)
Operating expenses (1,198,967) (1,342,970) (2,175,391) (2,300,619)
Other income (expense) (9,376,541) (43,310) (12,901,205) (74,995)
------------------------------------------------------------------
Net (loss) (10,185,272) (879,890) (14,657,989) (1,761,139)
==================================================================
Loss applicable to common (10,431,608) (980,710) (15,129,724) (1,955,427)
==================================================================
Loss per common share (0.26) (0.02) (0.43) (0.06)
==================================================================
Comprehensive loss $(10,185,272) $ (879,890) $(14,657,989) $ (1,761,139)
==================================================================
Condensed Consolidated Statements of Operations
Three and Nine Months Ended September 30, 2005 and 2004
Three months Three months Nine months Nine months
ended ended Ended ended
Sept. 30, 2005 Sept. 30, 2005 Sept. 30, 2005 Sept.
30, 2005 (As Restated) (As Reported) (As Restated)
(As Reported)
-------------------------------------------------------------------
Revenues $ 3,245,305 $ 3,245,305 $ 6,591,693 $ 6,591,693
Product costs (2,755,957) (2,360,884) (5,544,920) (4,719,011)
Operating expenses (2,439,020) (2,717,708) (6,417,482) (6,064,998)
Other income (expense) 19,628,825 (3,073,169) (58,048,505) (3,293,415)
------------------------------------------------------------------
Net (loss) 17,679,153 (4,906,456) (63,419,214) (7,485,371)
==================================================================
Loss applicable to common 17,463,463 (4,994,496) (64,499,613) (7,748,732)
==================================================================
Loss per common share 0.15 (0.04) (0.79) (0.09)
==================================================================
Comprehensive loss $ 17,660,830 $ (4,912,126) $(63,442,863) $ (7,509,380)
==================================================================
F-100
Three months Three months Nine months Nine months
ended ended Ended ended
Sept. 30, 2004 Sept. 30, 2004 Sept. 30, 2004 Sept.
30, 2004 (As Restated) (As Reported) (As Restated)
(As Reported)
-------------------------------------------------------------------
Revenues $ 825,430 $ 825,430 $ 2,704,992 $ 2,704,992
Product costs (781,856) (628,747) (2,242,811) (1,893,834)
Operating expenses (1,182,112) (1,237,853) (3,357,503) (3,538,472)
Other income (expense) 7,436,020 (79,822) (5,465,185) (154,817)
------------------------------------------------------------------
Net (loss) 6,297,482 (1,120,992) (8,360,507) (2,882,131)
==================================================================
Loss applicable to common 6,043,897 (1,218,164) (9,085,827) (3,173,591)
==================================================================
Loss per common share 0.14 (0.03) (0.24) (0.08)
==================================================================
Comprehensive loss $ 6,297,482 $ (1,120,992) $ (8,360,507) $ (2,882,131)
==================================================================
The following tables reflect the individual components of our restatements and a
description of the nature of the adjustment:
Quarter ended Quarter ended Quarter ended Quarter ended Year ended
March 31, 2005 June 30, 2005 Sept. 30, 2005 Dec. 31, 2005 Dec. 31, 2005
-------------- -------------- -------------- -------------- --------------
Net income (loss), as reported $ (1,237,248) $ (1,342,027) $ (4,906,456) $ (7,020,899) $ (14,506,630)
Share-based payments -- (551,810) (102,782) 569,620 (84,972)
Deferred development costs (12,586) (94,768) (128,711) -- (236,065)
Derivative income (expense) 1,471,743 (77,311,393) 23,321,020 (8,304,944) (60,823,574)
Amortization of debt discount (772,181) (489,633) (73,864) (92,960) (1,428,638)
Liquidated damages expense -- -- -- (303,750) (303,750)
Investor relations charges (30,000) (332,954) (634,541) (484,766) (1,482,261)
Other (72,798) (322,711) 204,487 (471,740) (662,762)
-------------- -------------- -------------- -------------- --------------
Net income (loss), as restated $ (653,070) $ (80,445,296) $ 17,679,153 $ (16,109,439) (79,528,653)
============== ============== ============== ============== ==============
Share-based payments: We improperly measured and deferred share-based payment
expense related to employee stock options that were issued commencing in the
second quarter of the year ended December 31, 2005. These adjustments, which are
reflected in operating expenses, reflect the effects of re-measurement of the
stock options and the elimination of previously deferred compensation amounts.
Deferred development costs: We improperly capitalized development costs on our
balance sheet. These adjustments reflect our revised policy that requires
development costs to be expensed as they are incurred. We record development
costs as a component of operating expenses.
Derivative income (expense): Derivative income (expense) arises from adjustments
to our derivative liabilities to carry these instruments at fair value at the
end of each reporting period. Our derivative financial instruments consist of
compound and freestanding instruments. These derivative financial instruments
arose from (i) our notes payable, convertible notes payable and preferred stock
financing transactions and (ii) the reclassification of non-exempt warrants from
stockholders' equity to derivative liabilities because share settlement is
presumed not to be within our control. We previously did not properly allocate
proceeds from our financing transactions to derivative liabilities where
applicable; nor did we reclassify our other warrants to derivative liabilities
when we presumably lost our ability to share settle such instruments.
Amortization of debt discounts and other charges: We have adjusted our notes
payable and convertible notes payable to reflect the allocation of proceeds to
derivative liabilities. These allocations have resulted in discounts to the face
value of the debt, and we are required to amortize these discounts through
periodic charges to interest expense using the effective method. The adjustments
reflect the difference between our previous method of recognizing interest
expense based upon the stated interest rate and amounts derived from the
application of the effective interest method. Other charges include gains and
losses on extinguishments of our debt instruments that have arisen when
modifications to such instruments were considered to be significant.
F-101
Liquidated Damages
------------------
Liquidated damages: We have restated our consolidated financial statements to
record estimated liquidated damages that arose in connection with a registration
rights agreement, pursuant to financial accounting standard No. 5, Accounting
for Contingencies. In our previous filing, we recorded these amounts as
incurred. During the years ended December 31, 2005 and December 31, 2004, we
recorded liquidated damages expense of $303,750 and $0, respectively.
Investor relations charges: We entered into a contract with an investor
relations firm during 2005 that required payment in our equity securities. We
incorrectly did not recognize the value of these services until the securities
were issued. This adjustment reflects the proper recognition of the consulting
cost in general and administrative expenses and a reciprocal amount in accrued
liabilities.
Quarter ended Quarter ended Quarter ended Quarter ended Year ended Dec.
March 31, 2005 June 30, 2005 Sept. 30, 2005 Dec. 31, 2005 31, 2005
--------------- --------------- --------------- --------------- ---------------
Loss applicable to common $ (1,332,308) $ (1,421,928) $ (4,994,496) $ (7,094,201) $ (14,842,933)
stockholders, as reported
Adjustments to net loss 584,178 (79,103,269) 22,585,608 (9,088,540) (65,022,023)
Preferred stock accretion (176,055) (513,694) (127,649) (168,316) (985,714)
--------------- --------------- --------------- --------------- ---------------
Loss applicable to common
stockholders, as restated $ (924,185) $ (81,038,891) $ 17,463,463 $ (16,351,057) $ (80,850,670)
=============== =============== =============== =============== ===============
Preferred stock accretions: We did not allocate proceeds from certain of our
preferred stock financings to derivative financial instruments (warrants and
compound derivatives) and stockholders' equity (beneficial conversion features).
These adjustments reflect the accretion of discounts to the preferred stock
carrying values, which are reductions to net income (loss) to arrive at income
(loss) applicable to common shareholders. We have accreted these discounts in
our restated financial statements through periodic charges to retained earnings
using the effective method.
Quarter ended Quarter ended Quarter ended Quarter ended Year ended,
March 31, 2005 June 30, 2005 Sept. 30, 2005 Dec. 31, 2005 Dec, 2005
--------------- --------------- --------------- --------------- ---------------
Loss per common share, $ (0.02) $ (0.02) $ (0.04) $ (0.00) $ (0.11)
as reported
Share-based payments -- (0.01) (0.00) (0.00) (0.00)
Deferred development costs (0.00) (0.00) (0.00) -- (0.01)
Derivative income (expense) 0.02 (1.07) 0.21 (0.05) (0.45)
Amortization of debt discount (0.01) (0.01) (0.00) (0.00) (0.01)
Liquidated damages expense -- -- -- (0.00) (0.00)
Investor relations charges (0.00) (0.00) (0.01) (0.03) (0.01)
Preferred stock
accretions/dividends (0.00) (0.01) (0.00) (0.00) (0.01)
--------------- --------------- --------------- --------------- ---------------
Net income (loss) per common share,
as restated $ (0.02) $ (1.12) $ 0.15 $ (0.10) $ (0.60)
--------------- --------------- --------------- --------------- ---------------
Diluted income per common share, as
restated $ (0.02) $ (1.12) $ 0.01 $ (0.10) $ (0.60)
=============== =============== =============== =============== ===============
F-102
See descriptions that we have provided under the tables for net income (loss)
and income (loss) applicable to common stockholders. Our restated income (loss)
per common share reflects the application of the treasury stock method and the
if-converted methods where those methods are appropriate.
Quarter ended Quarter ended Quarter ended Quarter ended Year ended Dec.
March 31, 2005 June 30, 2005 Sept. 30, 2005 Dec. 31, 2005 31, 2005
--------------- --------------- --------------- --------------- ---------------
Comprehensive loss,
as reported $ (1,245,464) $ (1,351,790) $ (4,912,126) $ (7,028,009) $ (14,537,389)
--------------- --------------- --------------- --------------- ---------------
Comprehensive loss,
as restated $ (661,093) $ (80,442,600) $ 17,660,830 $ (16,116,549) $ (79,559,412)
=============== =============== =============== =============== ===============
Our restated comprehensive income (loss) reflects the adjustments attributable
to net income (loss), above.
Quarter ended Quarter ended Quarter ended Quarter ended Year ended Dec.
March 31, 2004 June 30, 2004 Sept. 30, 2004 Dec. 31, 2004 31, 2004
--------------- --------------- --------------- --------------- ---------------
Net income (loss), as reported $ (881,249) $ (879,890) $ (1,120,992) $ (917,795) $ (3,799,926)
Deferred development costs (102,951) (28,790) (1,089) 12,372 (120,458)
Derivative income (expense) (3,430,564) (9,105,816) 8,005,711 (1,779,264) (6,309,933)
Amortization of debt discount (57,500) (162,500) (484,901) (470,344) (1,175,245)
Other (453) (8,276) (101,247) (2,082) (112,058)
--------------- --------------- --------------- --------------- ---------------
Net income (loss), as restated $ (4,472,717) $ (10,185,272) $ 6,297,482 $ (3,157,113) $ (11,517,620)
=============== =============== =============== =============== ===============
Deferred development costs: We improperly capitalized development costs on our
balance sheet. These adjustments reflect our revised policy that requires
development costs to be expensed as they are incurred. We record development
costs as a component of operating expenses.
Derivative income (expense): Derivative income (expense) arises from adjustments
to our derivative liabilities to carry these instruments at fair value at the
end of each reporting period. Our derivative financial instruments consist of
compound and freestanding instruments. These derivative financial instruments
arose from (i) our notes payable, convertible notes payable and preferred stock
financing
F-103
transactions and (ii) the reclassification of non-exempt warrants from
stockholders' equity to derivative liabilities because share settlement is
presumed not to be within our control. We previously did not properly allocate
proceeds from our financing transactions to derivative liabilities where
applicable; nor did we reclassify our other warrants to derivative liabilities
when we presumably lost our ability to share settle such instruments.
Amortization of debt discounts and other charges: We have adjusted our notes
payable and convertible notes payable to reflect the allocation of proceeds to
derivative liabilities. These allocations have resulted in discounts to the face
value of the debt, and we are required to amortize these discounts through
periodic charges to interest expense using the effective method. The adjustments
reflect the difference between our previous method of recognizing interest
expense based upon the stated interest rate and amounts derived from the
application of the effective interest method. Other charges include gains and
losses on extinguishments of our debt instruments that have arisen when
modifications to such instruments were considered to be significant.
Investor relations charges: We entered into a contract with an investor
relations firm during 2005 that required payment in our equity securities. We
incorrectly did not recognize the value of these services until the securities
were issued. This adjustment reflects the proper recognition of the consulting
cost in general and administrative expenses and a reciprocal amount in accrued
liabilities.
See descriptions that we have provided under the tables for net income (loss)
and income (loss) applicable to common stockholders. Our restated income (loss)
per common share reflects the application of the treasury stock method and the
if-converted methods where those methods are appropriate.
Quarter ended Quarter ended Quarter ended Quarter ended Year ended Dec.
March 31, 2004 June 30, 2004 Sept. 30, 2004 Dec. 31, 2004 31, 2004
--------------- --------------- --------------- --------------- ---------------
Loss applicable to common $ (974,717) $ (980,710) $ (1,218,164) $ (1,014,967) $ (4,188,558)
stockholders, as reported
Adjustments to net loss (3,591,468) (9,305,352) 7,418,444 (2,239,318) (7,717,694)
Preferred stock accretion (131,931) (145,546) (156,383) (165,528) (599,388)
--------------- --------------- --------------- --------------- ---------------
Loss applicable to common
stockholders, as restated $ (4,698,116) $ (10,431,608) $ 6,043,897 $ (3,419,813) $ (12,505,640)
=============== =============== =============== =============== ===============
Preferred stock accretions: We did not allocate proceeds from certain of our
preferred stock financings to derivative financial instruments (warrants and
compound derivatives) and stockholders' equity (beneficial conversion features).
These adjustments reflect the accretion of discounts to the preferred stock
carrying values, which are reductions to net income (loss) to arrive at income
(loss) applicable to common shareholders. We have accreted these discounts in
our restated financial statements through periodic charges to retained earnings
using the effective method.
Quarter ended Quarter ended Quarter ended Quarter ended Year ended Dec.
March 31, 2004 June 30, 2004 Sept. 30, 2004 Dec. 31, 2004 31, 2004
--------------- --------------- --------------- --------------- ---------------
Loss per common share, $ (0.03) $ (0.02) $ (0.03) $ (0.02) $ (0.09)
as reported
Deferred development costs (0.00) (0.00) (0.00) 0.00 (0.00)
Derivative income (expense) (0.12) (0.24) 0.18 (0.04) (0.16)
Amortization of debt discount (0.00) (0.00) (0.01) (0.01) (0.03)
Investor relations charges (0.00) (0.00) (0.00) (0.00) (0.00)
Preferred stock accretions/dividends (0.01) (0.01) (0.01) (0.01) (0.02)
--------------- --------------- --------------- --------------- ---------------
Net income (loss) per common share,
as restated $ (0.15) $ (0.26) $ 0.14 $ (0.07) $ (0.31)
--------------- --------------- --------------- --------------- ---------------
Diluted income per common share, as
restated $ (0.15) $ (0.26) $ 0.01 $ (0.07) $ (0.31)
=============== =============== =============== =============== ===============
F-104
See descriptions that we have provided under the tables for net income (loss)
and income (loss) applicable to common stockholders. Our restated income (loss)
per common share reflects the application of the treasury stock method and the
if-converted methods where those methods are appropriate.
Quarter ended Quarter ended Quarter ended Quarter ended Year ended Dec.
March 31, 2004 June 30, 2004 Sept. 30, 2004 Dec. 31, 2004 31, 2004
--------------- --------------- --------------- --------------- ---------------
Comprehensive loss,
as reported $ (881,249) $ (879,890) $ (1,120,992) $ (918,494) $ (3,800,625)
--------------- --------------- --------------- --------------- ---------------
Comprehensive loss,
as restated $ (4,472,717) $ (10,185,272) $ 6,297,482 $ (3,157,802) $ (11,518,309)
=============== =============== =============== =============== ===============
Our consolidated balance sheets as of December 31, 2005 and 2004 have been
restated as illustrated in the following table:
Redeemable Stockholders
Total Total Preferred Equity
Assets Liabilities Stock (Deficit)
------------ ------------ ------------ ------------
As reported (December 31, 2005) $ 24,284,806 $(10,793,837) $ (3,153,316) $ 10,337,653
Adjustments:
Intangible assets 4,073,314 -- -- --
Accrued liabilities -- (1,656,988) -- --
Dividends payable -- 1,240,682 -- --
Derivative liabilities -- (35,939,235) -- --
Notes payable and convertible notes -- (1,599,876) -- --
Paid in capital -- -- -- 37,365,319
Preferred stock adjustments -- -- 1,048,816 --
Accumulated Deficit -- -- -- (70,674,539)
Deferred compensation -- -- 475,933
------------ ------------ ------------ ------------
As restated (December 31, 2005) $ 28,358,120 $(48,749,254) $ (2,104,500) $(22,495,634)
============ ============ ============ ============
Redeemable Stockholders
Total Total Preferred Equity
Assets Liabilities Stock (Deficit)
------------ ------------ ------------ ------------
As reported (December 31, 2004) $ 1,093,847 $ (4,123,541) $ (4,284,802) $ (7,314,496)
Adjustments:
Prepaid Expenses (163,644) -- -- --
Intangible assets 165,605 -- -- --
Accrued liabilities -- (69,024) -- --
Dividends payable -- 928,379 -- --
Derivative liabilities -- (10,835,629) -- --
Notes payable and convertible notes -- (1,228,228) -- --
Common Stock -- -- -- --
Paid in Capital -- -- -- (4,870,092)
Preferred stock adjustments -- -- 1,353,347 --
Accumulated Deficit -- -- -- (4,979,102)
------------ ------------ ------------ ------------
As restated (December 31, 2004) $ 1,095,808 $(15,328,043) $ (2,931,455) $(17,163,690)
============ ============ ============ ============
F-105
The components off our restated consolidated accumulated deficit as of December
31, 2005 and 2004 are set forth in the following tables:
Accumulated Deficit
-------------------
As reported (December 31, 2005) $ (48,579,962)
Adjustments:
Cumulative Derivative Expense (59,476,877)
Amortization of Licenses and Distribution Agreements (584,243)
Cumulative Amortization of Debt Expense (2,627,050)
Cumulative Accretion of Preferred Stock (6,774,620)
Cumulative Reversal of Accrued Dividends 1,240,682
Share based payments - 2005 (84,972)
Liquidated damages expense - 2005 (303,750)
Investor relations charges - 2005 (1,482,261)
Cumulative Other (581,448)
As restated (December 31, 2005) $ (119,254,501)
Accumulated Deficit
-------------------
As reported (December 31, 2004) $ (33,737,029)
Adjustments:
Cumulative Derivative Income 1,346,697
Cumulative Product Development Expenses (162,169)
Cumulative Amortization of Debt Discount Expense (1,198,412)
Cumulative Accretion of Preferred Stock (5,788,903)
Cumulative Reversal of Accrued Dividends 928,379
Cumulative Other (104,694)
As restated (December 31, 2004) $ (38,716,131)
Intangible assets: We entered into a Master Distribution Agreement with Coca
Cola Enterprises on August 31, 2005 that provided for the issuance of 30,000,000
warrants to purchase our common stock. We originally did not value these
warrants using a proper valuation method. We have restated the intangible asset
to reflect its proper valuation. In addition, the warrants did not meet all of
the criteria for equity classification and are carried as derivative liabilities
at fair value in the amount of $14,220,657 as of December 31, 2005.
Stockholders' equity (deficit) reflects the reclassification of the original
value, the adjustments to fair value and adjusted amortization for the revised
intangible asset carrying value.
Accrued liabilities: We entered into a contract with an investor relations firm
during 2005 that required payment in our equity securities. We incorrectly did
not recognize the value of these services until the securities were issued. This
adjustment reflects the proper recognition of the consulting cost in general and
administrative expenses and a reciprocal amount in accrued liabilities.
Dividends payable: We originally reported dividends payable of $1,240,682 on
certain series of our preferred stock; it was the only non-current liability at
December 31, 2005. These dividends were not declared and, therefore, they have
been reversed against the related charges in retained earnings. In the future we
will accrue preferred stock dividends when they have been declared.
Derivative liabilities: We issued certain debt and preferred stock that embody
variable conversion rates having the effect of extending share settlement of our
share obligations beyond our control. As a result, we reclassified our other
warrants to derivative liabilities and carry them at fair value in our revised
balance sheet. Derivative financial instruments are initially and subsequently
measured at fair values using techniques consistent with the risks associated
with the derivative financial instruments. Stockholders' equity (deficit)
reflects the reclassification of the original equity related to these warrants
and fair value adjustments.
Notes payable and convertible notes payable: We have allocated proceeds from our
note payable, convertible note payable and preferred stock financing
transactions, where applicable, to compound and freestanding derivative
financial instruments in our restated financial statements. As noted above, we
F-106
have also re-classed certain non-exempt warrants from stockholders' equity to
derivative liabilities because share settlement is presumed not to be within our
control. In addition to the adjustments to notes payable described under
derivative financial instruments above, we have restated other notes payable to
properly reflect discounts and their carrying amounts. These adjustments
generally were made through charges to interest expense using the effective
interest method over the periods such notes were outstanding.
Preferred Stock Adjustments: We previously reported the aggregate carrying value
of $3,153,316 related to our Series F, H, J and K Preferred Stock in
stockholders' equity. We are required to carry these instruments outside of
stockholders' equity, under the caption redeemable preferred stock, because
these instruments have features where the investors' could require us to redeem
them for cash. As of December 31, 2005 the carrying value of these series of
preferred stock amounted to $2,104,500. See also Note 7.
The financial instruments issued in the original preferred stock financing
transactions included both freestanding derivatives (principally warrants) and
compound embedded derivatives (principally conversion and default put features)
that we are required to carry as derivative liabilities, and at fair values. As
of December 31, 2005, these derivative liabilities had a fair value of
$36,868,468.
The allocation of proceeds from our preferred stock financing transactions
resulted in discounts to the carrying values of the preferred stock. The
restated financial statements reflect periodic accretions of these discounts,
through charges to retained earnings, using the effective method. We also
incorrectly accrued undeclared dividends and have reversed those provisions.
The aggregate of our adjustments to preferred stock, including the periodic
(charges) and credits to derivative income (expense), resulted in a decrease in
our stockholders' equity of $1,048,816. The effects on income (loss)
attributable to these adjustments are reflected in the tables, above.
Deferred Compensation: We previously reported deferred compensation as a
component of stockholders' equity of $475,933. We have restated our balance
sheet to revalue the underlying options and properly recognize the compensation
expense amounting to $560,904 and paid in capital of $84,972.
Note 14 - Subsequent Events (UNAUDITED)
On April 13, 2006, we issued 457,125 shares of common stock pursuant to a notice
of conversion of interest and premium associated with our June 2004 convertible
note. The common stock underlying this note was registered pursuant to a
registration statement declared effective on April 18, 2005.
On April 17, 2006, we issued 807,692 shares of common stock underlying our
Series F Warrant for 1,000,000 shares to an accredited investor. The shares of
common stock underlying the Warrant were issued pursuant Regulation D.
On April 21, 2006, we issued 437,500 shares of common stock to an accredited
investor pursuant to notices of conversion of our April, June and October 2004
convertible notes. The common stock underlying these notes was registered
pursuant to a registration statement declared effective on August 3, 2004 and
April 18, 2005, respectively.
F-107
On April 21, 2006, we issued 196,078 shares of our common stock in a private
placement, pursuant to Section 4(2) of the Securities Act of 1933, to an
accredited investor.
On April 28, 2006 we issued 1,500,000 shares of common stock underlying our
April 2004 Warrant. The shares of common stock underlying the Warrant were
registered pursuant to a registration statement declared effective on August 3,
2004.
On May 12, 2006, we issued $2,500,000, six-month-term, 10% notes payable plus
detachable warrants to purchase 1,500,000 shares of our common stock with a
strike price of $0.80 for a period of five-years. Net proceeds from this
financing transaction amounted to $2,235,000. The holder has the option to
redeem the notes for cash in the event of defaults and certain other contingent
events, including events related to the common stock into which the instrument
is convertible, registration and listing (and maintenance thereof) of our common
stock and filing of reports with the Securities and Exchange Commission (the
"Default Put"). We evaluated the terms and conditions of the notes and warrants
and determined that (i) the Default Put required bifurcation because it did not
meet the "clearly and closely related" criteria of FAS 133 and (ii) the warrants
did not meet all of the requisite conditions for equity classification under FAS
133. As a result, the net proceeds from the arrangement were first allocated to
the Default Put ($87,146) and the warrants ($901,665) based upon their fair
values, because these instruments are required to be initially and subsequently
carried at fair values. These instruments will be carried in our balance sheet
following the financing under the classification, Derivative Liabilities and
adjusted to fair value. The warrants and shares of common stock underlying the
warrants and notes were issued to two accredited investors in a private
placement exempt from registration under the Securities Act of 1933 pursuant
Regulation D.
On May 16, 2006, we issued 2,000,000 shares of common stock pursuant to an
exercise of a warrant associated with our January 2005 convertible note
financing. The common stock underlying this warrant was registered pursuant to a
registration statement declared effective by the Securities and Exchange
Commission on August 2, 2005.
On June 7, 2006, we issued 101,100 shares of common stock pursuant to a
conversion of our May 2005 convertible note. The shares of common stock
underlying this convertivle note issued pursuant to a registration statement
declared effective by the Securities and Exchange Commission on August 2, 2005.
On June 23, 2006, we issued 2,000,000 shares of common stock pursuant to an
exercise of a warrant associated with our November 2003 convertible notes
financing. The common stock underlying this warrant was registered pursuant to a
registration statement declared effective by the Securities and Exchange
Commission on August2, 2005.
On July, 6, 2006, we issued 83,121 shares of our common stock in a private
placement, pursuant to Section 4(2) of the Securities Act of 1933, to an
accredited investor.
On July, 14, 2006, we issued 436,388 shares of common stock upon the cashless
exercise of a warrant associated with our Series D convertible preferred stock.
These shares were issued to an accredited investor pursuant to Regulation D and
Section 4(2) of the Securities Act of 1933.
On July 14, August 14 and August 31, 2006, we issued, in the aggregate, 250,000
shares of common stock pursuant to a conversion of our Series H preferred stock.
The shares of common stock underlying the preferred were issued pursuant to
Regulation D.
On July, 19, 2006, we issued 1,008,065 shares of common stock upon the cashless
exercise of a warrant associated with our Series H convertible preferred stock.
These shares were issued to an accredited investor pursuant to Regulation D and
Section 4(2) of the Securities Act of 1933.
On July 27, 2006, we entered into definitive agreements to sell $30 million
senior convertible notes that are due in 2010 to several institutional and
accredited investors in a private placement exempt from
F-108
registration under the Securities Act of 1933. The notes initially carry a 9%
coupon, payable quarterly and are convertible into shares of common stock at
$0.70 per share. In 2007, the coupon may decline to LIBOR upon the Company
achieving certain financial milestones. The notes will begin to amortize in
equal, bi-monthly payments beginning in mid-2007. We concurrently issued
warrants to purchase 12,857,143 shares of common stock at $0.73 per share that
expire in July 2011 to the investors in the private placement. Under the terms
of the financing, we will sell $30 million notes, of which $15.0 million of the
notes will be held in escrow. The release of the escrowed funds will be subject
to stockholder approval. We intend to file a proxy statement seeking such
shareholder approval as soon as practical. As a result of our failure to file
our March 31, 2006 Form 10QSB timely, an event of default has occurred under the
terms of the Notes, and the interest rate on the Notes, payable quarterly, was
increased from 9% to 14% per annum. Pursuant to the terms of the Notes, upon the
occurrence of an event of default, holders of the Notes may, upon written notice
to the Company, each require the Company to redeem all or any portion of their
Notes, at a default redemption price calculated pursuant to the terms of the
Notes. We have entered into an Amendment Agreement with the holders of the Notes
to amend the Notes in certain respects as consideration for the holders' release
of the Company's default resulting from its delay in the filing of this
quarterly report.
On August 24, 2006, we issued 168,937 shares of common stock pursuant to a
conversion of our May 2005 convertible note. The shares of common stock
underlying the convertible note were issued pursuant to a registration statement
declared effective by the Securities and Exchange Commission on August 2, 2005.
On September 13 2006, we issued, in the aggregate, 161,527 shares of common
stock pursuant to a conversion of our Series F preferred stock. The shares of
common stock underlying the preferred were issued pursuant to Regulation D.
On September 28, 2006, we issued 4,000,000 shares of common stock pursuant to a
conversion of our November 2003 convertible note. The shares of common stock
underlying the convertible note were issued pursuant to a registration statement
declared effective by the Securities and Exchange Commission on August 3, 2004.
On September 28, 2006, we issued 1,000,000 shares of common stock pursuant to a
conversion of our June 2004 convertible note. The shares of common stock
underlying the convertible note were issued pursuant to a registration statement
declared effective by the Securities and Exchange Commission on April 18, 2005.
F-109
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS.
Our Articles of Incorporation, as amended, provide to the fullest extent
permitted by Delaware law, our directors or officers shall not be personally
liable to us or our shareholders for damages for breach of such director's or
officer's fiduciary duty. The effect of this provision of our Articles of
Incorporation, as amended, is to eliminate our right and our shareholders
(through shareholders' derivative suits on behalf of our company) to recover
damages against a director or officer for breach of the fiduciary duty of care
as a director or officer (including breaches resulting from negligent or grossly
negligent behavior), except under certain situations defined by statute. We
believe that the indemnification provisions in its Articles of Incorporation, as
amended, are necessary to attract and retain qualified persons as directors and
officers.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons of
the registrant pursuant to the foregoing provisions, or otherwise, the
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 the payment by the
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 registrant will, unless in
the opinion of its 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.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The following table sets forth an itemization of all estimated expenses,
all of which we will pay, in connection with the issuance and distribution of
the securities being registered:
NATURE OF EXPENSE AMOUNT
SEC Registration fee $ 4,340.90
Accounting fees and expenses 10,000.00*
Legal fees and expenses 35,000.00*
Miscellaneous 5,000.00
-----------
TOTAL $ 54,340.90*
===========
----------
* Estimated.
II-1
ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES.
On January 2, 2002, we issued options for 3,714 shares of common stock having an
exercise price of $0.35 and exercisable for five years, pursuant to an
employment agreement.
On January 18, 2002, we issued 238,334 shares of common stock to Austinvest
Anstalt Balzers, upon the conversion of 5,000 shares of Series D Convertible
Preferred, at a conversion price of $0.2453. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $8,463.34.
On January 18, 2002, we issued 238,334 shares of common stock to Esquire Trade &
Finance, Inc., upon the conversion of 5,000 shares of Series D Convertible
Preferred, at a conversion price of $0.2453. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $8,463.34.
On January 28, 2002, we issued 40,000 shares of common stock to The Keshet Fund
LP, upon the conversion of 883 shares of Series G Convertible Preferred, at a
conversion price of $0.2453. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $984.83.
On January 28, 2002, we issued 136,038 shares of common stock to Amro
International, S.A., upon the conversion of 2,840 shares of Series D Convertible
Preferred, at a conversion price of $0.2453. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $4,970.00.
On January 30, 2002, we issued 15,000 shares of its Series H convertible
preferred stock, having a conversion price of $0.40 per share of common stock,
and warrants for 375,000 shares at $0.50 per share. The Series H convertible
preferred stock and warrants were priced at $10.00 per unit, and resulted in
proceeds of $150,000 in cash.
On February 4, 2002, we issued 206,700 shares of common stock to Austinvest
Anstalt Balzers, upon the conversion of 4,375 shares of Series D Convertible
Preferred, at a conversion price of $0.2480. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $7,511.60.
On February 4, 2002, we issued 206,700 shares of common stock to Esquire Trade &
Finance, Inc., upon the conversion of 4,375 shares of Series D Convertible
Preferred, at a conversion price of $0.2480. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $7,511.60.
On February 5, 2002, we issued 20,000 shares of common stock to The Keshet Fund
LP, upon the conversion of 492 shares of Series G Convertible Preferred, at a
conversion price of $0.2453. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $496.03.
On February 15, 2002, we issued 5,000 shares of its Series H convertible
preferred stock, having a conversion price of $0.40 per share of common stock,
and warrants for 125,000 shares at $0.50 per share to a sophisticated and
accredited investor. The Series H convertible preferred stock and warrants were
priced at $10.00 per unit, and resulted in proceeds of $50,000 in cash.
On February 20, 2002, we issued 35,000 shares of common stock to The Keshet Fund
LP, upon the conversion of 832 shares of Series G Convertible Preferred, at a
conversion price of $0.2949. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $952.05.
On February 29, 2002, we issued 279,795 shares of common stock to Amro
International, S.A, upon the conversion of 7,160 shares of Series D Convertible
Preferred, at a conversion price of $0.3013. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $12,711.00.
On March 1, 2002, we issued 20,000 shares of common stock to The Keshet Fund LP,
upon the conversion of 536 shares of Series G Convertible Preferred, at a
conversion price of $0.2993. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $630.20.
II-2
On March 1, 2002, we issued warrants for 25,000 shares of common stock, having
an exercise price of $0.40 per share. The warrants are immediately exercisable
and have an expiration date of February 28, 2007. These warrants were issued to
the lender in connection with a December 27, 2001 loan of $250,000 to us.
On March 15, 2002, we issued 20,000 shares of common stock to The Keshet Fund
LP, upon the conversion of 532 shares of Series G Convertible Preferred, at a
conversion price of $0.2973. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $633.70.
On March 18, 2002, we issued 50,000 shares of its Series H convertible preferred
stock, having a conversion price of $0.40 per share of common stock, and
warrants for 1,250,000 shares at $0.50 per share to a sophisticated and
accredited investor. The Series H convertible preferred stock and warrants were
priced at $10.00 per unit, and resulted in proceeds of $500,000 in cash.
On April 19, 2002, we issued 10,000 shares of common stock to The Keshet Fund
LP, upon the conversion of 252 shares of Series G Convertible Preferred, at a
conversion price of $0.2840. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $320.80.
On April 19, 2002, we issued 10,000 shares of common stock to The Keshet Fund
LP, upon the conversion of 234 shares of Series G Convertible Preferred, at a
conversion price of $0.2640. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $299.40.
On April 24, 2002 our Board of Directors voted to extend options for 1,383,705
shares of common stock issued on April 29 and December 15, 1997 to Tamarind
Management, Ltd. (an affiliate of Mr. Paul Downes, a founder of the Company) and
options for 700,000 shares of common stock issued on December 15, 1997 to Mr.
Dale Reese (a founder of the Company), for services rendered to us. These
extended options, which had original expiration dates of April 29 and December
15, 2002, respectively, retain an exercise price of $1.00 and are exercisable
upon the following conditions: The expiration dates for these options are
extended for a two year period, commencing upon the effective date of a
registration statement for the resale of the common stock underlying the
options; the options will not be exercised during a one year lockup period
commencing on the 1st day after our common stock trades during a 90 day period
at a moving average of at least $1.00; we have the option to call the options
commencing on the 1st day after our common stock trades during a 90 day period
at a moving average of at least $2.00.
On May 3, 2002, we issued 52,730 shares of common stock to Amro International,
S.A, upon the conversion of 1,000 shares of Series D Convertible Preferred, at a
conversion price of $0.22. The conversion included accrued and unpaid dividends
on the preferred converted in the amount of $1,811.51.
On May 7, 2002, we issued 10,000 shares of common stock to The Keshet Fund LP,
upon the conversion of 215 shares of Series G Convertible Preferred, at a
conversion price of $0.2427. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $277.44.
On May 13, 2002, we issued 10,000 shares of common stock to The Keshet Fund LP,
upon the conversion of 158 shares of Series G Convertible Preferred, at a
conversion price of $0.1787. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $207.77.
On May 13, 2002, we issued 10,000 shares of common stock to The Keshet Fund LP,
upon the conversion of 158 shares of Series G Convertible Preferred, at a
conversion price of $0.1787. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $207.77.
On May 13, 2002, we issued 20,000 shares of common stock to Keshet LP, upon the
conversion of 316 shares of Series G Convertible Preferred, at a conversion
price of $0.1787. The conversion included accrued and unpaid dividends on the
preferred converted in the amount of $416.07.
On May 13, 2002, we issued 15,000 shares of common stock to Keshet LP, upon the
conversion of 237 shares of Series G Convertible Preferred, at a conversion
price of $0.1787. The conversion included accrued and unpaid dividends on the
preferred converted in the amount of $312.45.
II-3
On May 17, 2002, we issued 131,239 shares of common stock to Amro International,
S.A, upon the conversion of 2,000 shares of Series D Convertible Preferred, at a
conversion price of $0.18. The conversion included accrued and unpaid dividends
on the preferred converted in the amount of $3,623.00.
On May 17, 2002, we issued 278,498 shares of common stock to Amro International,
S.A, upon the conversion of 4,000 shares of Series D Convertible Preferred, at a
conversion price of $0.17. The conversion included accrued and unpaid dividends
on the preferred converted in the amount of $7,344.00.
On May 20, 2002, we issued 10,000 shares of common stock to Keshet LP, upon the
conversion of 158 shares of Series G Convertible Preferred, at a conversion
price of $0.1787. The conversion included accrued and unpaid dividends on the
preferred converted in the amount of $209.37.
On May 20, 2002, we issued 10,000 shares of common stock to Keshet LP, upon the
conversion of 131 shares of Series G Convertible Preferred, at a conversion
price of $0.1680. The conversion included accrued and unpaid dividends on the
preferred converted in the amount of $372.82.
On May 23, 2002, we issued 63,454 shares of common stock to Austinvest Anstalt
Balzers, upon the conversion of 1,000 shares of Series D Convertible Preferred,
at a conversion price of $0.1787. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $7,494.00.
On May 23, 2002, we issued 63,454 shares of common stock to Esquire Trade &
Finance, Inc., upon the conversion of 1,000 shares of Series D Convertible
Preferred, at a conversion price of $0.1787. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $7,494.00.
On May 24, 2002, we issued 15,000 shares of common stock to Keshet LP, upon the
conversion of 237 shares of Series G Convertible Preferred, at a conversion
price of $0.1787. The conversion included accrued and unpaid dividends on the
preferred converted in the amount of $312.85.
On May 24, 2002, we issued 15,000 shares of common stock to The Keshet Fund LP,
upon the conversion of 157 shares of Series G Convertible Preferred, at a
conversion price of $0.1680. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $449.88.
On May 29, 2002, we issued 652,178 shares of common stock to Amro International,
S.A, upon the conversion of 9,642 shares of Series D Convertible Preferred, at a
conversion price of $0.168. The conversion included accrued and unpaid dividends
on the preferred converted in the amount of $13,146.
On May 29, 2002, we issued 652,178 shares of common stock to Esquire Trade &
Finance, Inc., upon the conversion of 9,642 shares of Series D Convertible
Preferred, at a conversion price of $0.168. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $13,146.
On May 30, 2002, we issued 652,178 shares of common stock to Austinvest Anstalt
Balzers, upon the conversion of 9,642 shares of Series D Convertible Preferred,
at a conversion price of $0.168. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $13,146.
On June 13, 2002, we issued 10,000 shares of common stock to The Keshet Fund LP,
upon the conversion of 126 shares of Series G Convertible Preferred, at a
conversion price of $0.1627. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $366.70.
On June 13, 2002, we issued 10,000 shares of common stock to The Keshet Fund LP,
upon the conversion of 130 shares of Series G Convertible Preferred, at a
conversion price of $0.1680. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $381.12.
On June 17, 2002, we received sufficient consents to file an amended certificate
of incorporation, which increased our authorized common stock from 20,000,000 to
50,000,000 shares.
II-4
On June 17, 2002, we issued 30,000 shares of its Series I 8% convertible
preferred stock and warrants for 2,000,000 shares at $0.50 per share,
exercisable within three years from issue, to two sophisticated and accredited
investors, pursuant to Rule 506, Regulation D and Section 4(2) of the Securities
Act of 1933. The conversion of the preferred into common stock shall be at a per
common share conversion price of 75% of the average of the three lowest closing
bid prices for the thirty day period immediately preceding conversion. The
conversion price is subject to a maximum of $0.50 per share and a minimum of
$0.30 per share, which minimum conversion price shall govern for the 270 days
immediately following the issue date of the Series I preferred shares. The
minimum conversion price shall be extended indefinitely upon the occurrence of
certain defined events, including the effectiveness of a registration statement
for the resale of the common stock underlying the preferred and a trading price
of our common stock at $0.50 or higher for fifteen consecutive days. We have the
ability to compel the exercise of the warrants in tranches of not more than
500,000 warrants each, if the trading price of our common stock equals or
exceeds $1.00 for thirty consecutive trading days and a registration statement
for the underlying common is effective. The Series I convertible preferred stock
and warrants were priced at $10.00 per unit, and resulted in gross cash proceeds
of $300,000, less expenses of $12,000.
On June 18, 2002, we agreed to extend the expiration dates of warrants issued in
connection with our Series D and F preferred until June 17, 2005 and to reduce
the exercise price of certain of those warrants to $1.00. In consideration for
this warrant modification, the holders of two promissory notes executed by us
aggregating $100,000, dated November 6 and 7, 2001, respectively, agreed to
extend the maturity dates of the notes to December 31, 2002. In addition, the
holders of our Series D and F preferred stock agreed to waive all potential
penalties associated with the Series D and F preferred, including the
abandonment of a certain SB-2 registration statement filed in connection with
the resale of the common stock underlying the Series D and F preferred. Below is
a table containing the warrant modifications.
WARRANT COMMON UNMODIFIED
ISSUE SHARES UPON PURCHASE
WARRANTHOLDER (Series) DATE EXERCISE PRICE
---------------------- ------- ----------- ---------- ----------
Austinvest Anstalt Balzers (D) 3-9-99 16,250 $2.96
Austinvest Anstalt Balzers (D) 4-23-99 8,125 $2.96
Austinvest Anstalt Balzers (D) 2-1-00 422,500 $0.625*
Austinvest Anstalt Balzers (F) 4-7-00 1,000,000 $1.00
Austinvest Anstalt Balzers (F) 10-13-00 38,259 $0.9825*
Esquire Trade & Finance, Inc. (D) 3-9-99 16,250 $2.96
Esquire Trade & Finance, Inc. (D) 4-23-99 8,125 $2.96
Esquire Trade & Finance, Inc. (D) 2-1-00 422,500 $0.625*
Esquire Trade & Finance, Inc. (F) 4-7-00 1,000,000 $1.00
Esquire Trade & Finance, Inc. (F) 10-13-00 38,259 $0.9625*
Libra Finance, S.A . (F) 4-7-00 1,600,000 $0.84*
Amro International, S.A. (D) 2-1-00 455,000 $0.625*
Amro International, S.A. (F) 4-7-00 1,000,000 $1.00
Amro International, S.A. (F) 10-13-00 38,259 $0.9625*
Amro International, S.A. (D) 3-9-99 17,500 $2.96
Amro International, S.A. (D) 4-23-99 8,750 $2.96
----------
* Exercise price not adjusted
On June 19, 2002, we issued 33,333 shares of restricted common stock to
Tradersbloom Limited, as a finder fee in connection with the issuance of our
Series I preferred stock. Tradersbloom Limited is a sophisticated and accredited
investor.
On June 19, 2002, we issued 66,667 shares of restricted common stock to Libra
Finance, S.A., as a finder fee in connection with the issuance of our Series I
preferred stock. Libra Finance, S.A. is a sophisticated and accredited investor.
II-5
On June 21, 2002, we issued 10,000 shares of common stock to The Keshet Fund LP,
upon the conversion of 135 shares of Series G Convertible Preferred, at a
conversion price of $0.1760. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $402.29.
On July 1, 2002, the Company issued 500,000 shares of common stock to Esquire
Trade & Finance, Inc., upon the conversion of 8,250 shares of Series D
Convertible Preferred, at a conversion price of $0.165. The conversion did not
include accrued and unpaid dividends on the preferred converted.
On July 1, 2002, the Company issued 500,000 shares of common stock to Austinvest
Anstalt Balzers, upon the conversion of 8,250 shares of Series D Convertible
Preferred, at a conversion price of $0.165. The conversion did not include
accrued and unpaid dividends on the preferred converted.
On July 23, 2002, the Company issued 475,000 shares of common stock to The
Keshet Fund LP, upon the conversion of 6,172 shares of Series G Convertible
Preferred, at a conversion price of $0.1680. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $18,083.72.
On July 23, 2002, the Company issued 475,000 shares of common stock to Keshet
LP, upon the conversion of 6,172 shares of Series G Convertible Preferred, at a
conversion price of $0.1680. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $18,083.72.
On September 26, 2002, the Company issued 154,171 shares of common stock to Amro
International, SA, upon the conversion of 2,500 shares of Series D Convertible
Preferred, at a conversion price of $0.187. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $3,830.
On September 26, 2002, the Company issued 396,053 shares of common stock to Amro
International, SA, upon the conversion of 7,108 shares of Series D Convertible
Preferred, at a conversion price of $0.208. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $11,299.
On September 30, 2002, the Company issued 100,000 shares of non-voting Series J
Convertible Preferred stock, having a stated value of $10.00 per Preferred J
share, and common stock warrants to Mid-Am Capital, L.L.C. ("Mid-Am") for the
aggregate purchase price of $1,000,000. Each preferred share is convertible to
40 shares of the Company's common stock of at a per common share conversion
price of $0.25, representing 4,000,000 shares of common stock underlying the
preferred. The issued warrants entitle the holder to purchase 25 shares of
common stock for each share of Series J Convertible Preferred stock issued at an
exercise price of $0.40 per common stock share, representing 2,500,000 shares of
common stock underlying the warrants. The warrants are exercisable for a
five-year period . The blended per share price for the common stock underlying
the preferred and the warrants is $0.307; the September 30, 2002 closing market
trading price was $0.29 per share. This private offering was made to Mid-Am, an
accredited investor, pursuant to Rule 506 of Regulation D and Section 4(2) of
the Securities Act of 1933.
The common stock issued by the Company in the fourth quarter 2002 resulted from
conversions by the holders of Series F and G convertible preferred stock. The
common stock and the preferred converted were issued to sophisticated and
accredited investors, who had appropriate access to information concerning the
Company's operations and financial condition in a rule 506 private offering.
Holders of the Series F and G preferred can convert such equity into common
shares at 75% of the average of the three lowest bid trading prices of the
Company's common shares measured during a 20 day lookback period.
On November 8, 2002, the Company issued 160,112 shares of common stock to
Austinvest Anstalt Balzers, upon the conversion of 2,642 shares of Series F
Convertible Preferred, at a conversion price of $0.165. The Series F preferred
does not include dividends.
On November 8, 2002, the Company issued 160,112 shares of common stock to
Esquire Trade & Finance, Inc., upon the conversion of 2,642 shares of Series F
Convertible Preferred, at a conversion price of $0.165. The Series F preferred
does not include dividends.
II-6
On November 18, 2002, the Company issued 26,000 shares of common stock to
Nesher, Ltd., upon the conversion of 377 shares of Series G Convertible
Preferred, at a conversion price of $0.1963. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $1,333.92.
On November 18, 2002, the Company issued 11,240 shares of common stock to
Talbiya B. Investments, Ltd., upon the conversion of 163 shares of Series G
Convertible Preferred, at a conversion price of $0.1963. The conversion included
accrued and unpaid dividends on the preferred converted in the amount of
$577.16.
On November 18, 2002, the Company issued 10,000 shares of common stock to
Nesher, Ltd., upon the conversion of 145 shares of Series G Convertible
Preferred, at a conversion price of $0.1963. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $515.68.
On November 18, 2002, the Company issued 6,000 shares of common stock to Talbiya
B. Investments, Ltd., upon the conversion of 87 shares of Series G Convertible
Preferred, at a conversion price of $0.1963. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $309.67.
On November 18, 2002, the Company issued 8,000 shares of common stock to The
Keshet Fund LP, upon the conversion of 116 shares of Series G Convertible
Preferred, at a conversion price of $0.1963. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $413.25.
On November 18, 2002, the Company issued 14,440 shares of common stock to
Keshet, LP, upon the conversion of 208 shares of Series G Convertible Preferred,
at a conversion price of $0.1960. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $747.92.
On November 18, 2002, the Company issued 6,000 shares of common stock to Keshet,
LP, upon the conversion of 93 shares of Series G Convertible Preferred, at a
conversion price of $0.2093. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $332.70.
On November 20, 2002, the Company issued 2,000,000 shares of common stock to
Amro International, SA, upon the conversion of 39,200 shares of Series F
Convertible Preferred, at a conversion price of $0.1960. The Series F preferred
does not include dividends.
On November 27, 2002, the Company issued 16,000 shares of common stock to
Keshet, LP, upon the conversion of 257 shares of Series G Convertible Preferred,
at a conversion price of $0.2093. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $931.69.
On November 27, 2002, the Company issued 15,000 shares of common stock to
Keshet, LP, upon the conversion of 273 shares of Series G Convertible Preferred,
at a conversion price of $0.2480. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $994.59.
On December 24, 2002, the Company issued 8,000 shares of common stock to The
Keshet Fund LP, upon the conversion of 144 shares of Series G Convertible
Preferred, at a conversion price of $0.2467. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $534.17.
On December 24, 2002, the Company issued 45,000 shares of common stock to
Nesher, LP, upon the conversion of 750 shares of Series G Convertible Preferred,
at a conversion price of $0.2293. The conversion included accrued and unpaid
dividends on the preferred converted in the amount of $2,815.26.
On December 24, 2002, the Company issued 90,000 shares of common stock to
Keshet, LP, upon the conversion of 1,501 shares of Series G Convertible
Preferred, at a conversion price of $0.2293. The conversion included accrued and
unpaid dividends on the preferred converted in the amount of $5,630.52.
On December 24, 2002, the Company issued 45,000 shares of common stock to
Talbiya B. Investments, Ltd, upon the conversion of 750 shares of Series G
Convertible Preferred, at a conversion price of $0.2293. The conversion included
accrued and unpaid dividends on the preferred converted in the amount of
$2,815.26.
II-7
On January 2, 2003 the Company granted options for 100,000 shares of common
stock to Mr. Toulan pursuant to an employment contract. These options vested
immediately, expire on December 30, 2007 and have an exercise price of $0.40 per
share.
On January 2, 2003 the Company granted options for 100,000 shares of common
stock to Mr. Toulan pursuant to an employment contract. These options vest on
December 31, 2003, expire on December 30, 2008 and have an exercise price of
$0.40 per share.
On January 2, 2003 the Company granted options for 100,000 shares of common
stock to Mr. Toulan pursuant to an employment contract. These options vest on
December 31, 2004, expire on December 30, 2009 and have an exercise price of
$0.40 per share.
On February 4, 2003, the Company issued 30,000 shares of common stock to Keshet,
LP, upon the conversion of 480 shares of Series G Convertible Preferred, at a
conversion price of $0.1960. The conversion included accrued and unpaid
dividends on the preferred converted.
On February 21, 2003, the Company issued 50,000 shares of non-voting Series J 8%
Convertible Preferred stock, having a stated value of $10.00 per Preferred J
share, and common stock warrants to Mid-Am Capital, L.L.C. ("Mid-Am") for the
aggregate purchase price of $500,000. Each preferred share is convertible to 40
shares of the Company's common stock of at a per common share conversion price
of $0.25, representing 2,000,000 shares of common stock underlying the
preferred. The issued warrants entitle the holder to purchase 33.33 shares of
common stock for each share of Series J Convertible Preferred stock issued at an
exercise price of $0.30 per common stock share, representing 1,666,667 shares of
common stock underlying the warrants. The warrants are exercisable for a
five-year period. The February 21, 2003 closing market trading price was $0.23
per share. This private offering was made to Mid-Am, an accredited investor,
pursuant to Rule 506 of Regulation D and Section 4(2) of the Securities Act of
1933.
On April 14, 2003, the Company issued 50,000 shares of common stock to Keshet,
LP, upon the conversion of 596 shares of Series G Convertible Preferred, at a
conversion price of $0.148. The conversion included accrued and unpaid dividends
on the preferred converted.
On April 22, 2003, the Company issued 50,000 shares of common stock to The
Keshet Fund, LP, upon the conversion of 595 shares of Series G Convertible
Preferred, at a conversion price of $0.148. The conversion included accrued and
unpaid dividends on the preferred converted.
On May 22, 2003, the Company issued 100,000 shares of common stock to Keshet,
LP, upon the conversion of 607 shares of Series G Convertible Preferred, at a
conversion price of $0.076. The conversion included accrued and unpaid dividends
on the preferred converted.
On May 22, 2003, the Company issued 100,000 shares of common stock to The Keshet
Fund, LP, upon the conversion of 607 shares of Series G Convertible Preferred,
at a conversion price of $0.076. The conversion included accrued and unpaid
dividends on the preferred converted.
On May 29, 2003, the Company issued 50,000 shares of non-voting Series J 8%
Convertible Preferred stock, having a stated value of $10.00 per Preferred J
share, and common stock warrants to Mid-Am Capital, L.L.C. ("Mid-Am") for the
aggregate purchase price of $500,000. Each preferred share is convertible to 50
shares of the Company's common stock of at a per common share conversion price
of $0.20, representing 2,500,000 shares of common stock underlying the
preferred. The issued warrants entitle the holder to purchase 40 shares of
common stock for each share of Series J Convertible Preferred stock issued at an
exercise price of $0.25 per common stock share, representing 2,000,000 shares of
common stock underlying the warrants. The warrants are exercisable for a
five-year period. The May 22, 2003 closing market trading price was $0.22 per
share. In addition, the following adjustments were made to prior issued Warrants
for the purpose of facilitating future fund raising by the Company arising out
of the exercise of the Warrants by Holder. The Purchase Price, as defined in the
Warrants No. 1 and 2, has been reduced to $0.25, subject to further adjustment
as described in the Warrants. The Warrant Stock provided for in Warrant No.1 has
been increased by 1,500,000 shares. The Warrant Stock provided for in Warrant
No. 2 has been increased by 333,333 shares. The Expiration Date, as defined in
the respective Warrants, remains as stated. The aforementioned adjustments
resulted in a total of 6,000,000 shares of common stock underlying Warrant No. 1
and Warrant No. 2. Those warrants were valued using the Black-Scholes model as
of May 22, 2003. No adjustments resulted from that valuation. The trading price
Call Option trigger set forth in Section 9 (b) of the Warrants has been reduced
from $1.75 to $0.75 per share. This private offering was made to Mid-Am, an
accredited investor, pursuant to Rule 506 of Regulation D and Section 4(2) of
the Securities Act of 1933.
II-8
On August 12, 2003, the Company issued 1,200,000 shares of common stock upon the
conversion of 6,542 shares of Series G Convertible Preferred. The conversions
were based upon notices of conversion received in June and July 2003, and was
delayed in order to determine the accuracy of the conversion variables contained
in the respective notices of conversion. The conversion-based issuances of
common were as follows:
o The Company issued 200,000 shares of common stock to Keshet, LP,
upon the conversion of 1,209 shares of Series G Convertible
Preferred, at a conversion price of $0.076. The conversion included
accrued and unpaid dividends on the preferred converted.
o The Company issued 200,000 shares of common stock to The Keshet
Fund, LP, upon the conversion of 1,209 shares of Series G
Convertible Preferred, at a conversion price of $0.076. The
conversion included accrued and unpaid dividends on the preferred
converted.
o The Company issued 150,000 shares of common stock to The Keshet
Fund, LP, upon the conversion of 773 shares of Series G Convertible
Preferred, at a conversion price of $0.0653. The conversion included
accrued and unpaid dividends on the preferred converted.
o The Company issued 250,000 shares of common stock to Keshet, LP,
upon the conversion of 1,289 shares of Series G Convertible
Preferred, at a conversion price of $0.0653. The conversion included
accrued and unpaid dividends on the preferred converted.
o The Company issued 200,000 shares of common stock to Talbiya B.
Investments, Ltd., upon the conversion of 1,031 shares of Series G
Convertible Preferred, at a conversion price of $0.0653. The
conversion included accrued and unpaid dividends on the preferred
converted.
o The Company issued 200,000 shares of common stock to Nesher. Ltd.,
upon the conversion of 1,031 shares of Series G Convertible
Preferred, at a conversion price of $0.0653. The conversion included
accrued and unpaid dividends on the preferred converted.
On September 15, 2003, the Company issued 213,750 shares of common stock to
Michael Willms, upon the conversion of 7,500 shares of Series H Convertible
Preferred, at the fixed conversion price of $0.40. The conversion included
accrued and unpaid dividends on the preferred converted.
On September 29, 2003, the Company issued 70,938 shares of common stock to The
Dennis H. Willms Irrevocable Trust, Michael Willms, Trustee, upon the conversion
of 2,500 shares of Series H Convertible Preferred, at the fixed conversion price
of $0.40. The conversion included accrued and unpaid dividends on the preferred
converted.
To obtain funding for our ongoing operations, we entered into a Subscription
Agreement with two accredited investors in November 2003 for the sale of (i)
$400,000 in convertible debentures, (ii) class A warrants to buy 2,000,000
shares of our common stock and (iii) class B warrants to buy 10,000,000 shares
of common stock. In connection with this financing, we paid a finders fee to an
accredited investor, which included (i) 400,000 shares of common stock, (ii)
class A warrant to purchase 2,000,000 shares of common stock and (iii) 10% of
the proceeds received by us in connection with the exercise of the class B
warrants, which is payable in shares of common stock at the rate of one share of
common stock for every ten shares of common stock actually issued upon exercise
of the class B warrants.
In April 2004, we entered into a Subscription Agreement with two
accredited investors for the sale of (i) $500,000 in convertible debentures and
(ii) warrants to buy 3,000,000 shares of our common stock. In connection with
this financing, we paid a fee in the amount of $50,000 in the form of a
convertible debentures.
II-9
The debentures issued in connection with the April 2004 financing bear interest
at 10%. The principal on the notes is due in equal monthly installments
commencing on November 1, 2004 until October 1, 2005. On October 1, 2005, all
principal and interest shall become due. In the event that our common stock has
a closing price in excess of $.20 for the five days preceding the monthly
payment, then, within our discretion, the monthly payment may be deferred. and
the notes are convertible into our common stock at $0.10 per share.
Marvel License
On February 1, 2004, we entered into a license agreement with Marvel
Enterprises, Inc. In consideration for the use of proprietary information, we
issued Marvel 750,000 shares of our common stock and a common stock purchase
warrant to purchase 750,000 shares of our common stock. The warrants have an
exercise price of $.10 per share for the first year and, upon the occurrence of
certain conditions tied to the royalty performance under the license, can be
extended for an additional year with an exercise price of $.14 per share.
June 2004
In June 2004, we entered into a Subscription Agreement with Longview Fund,
LP, Alpha Capital Aktiengesellschaft, Whalehaven Funds Limited and Stonestreet
Limited Partnership for the issuance of convertible 10% notes in the aggregate
amount of $800,000 and five-year "A" warrants for the purchase of, in the
aggregate, 3,200,000 shares of common stock, at $0.25 per share, and five-year
"B" warrants for the purchase of, in the aggregate, 8,000,000 shares of common
stock, at $2.00 per share. In addition, in a separate private placement, Mid-Am
Capital L.L.C. invested $500,000 in exchange for convertible 10% notes,
5,000,000 "A" warrants and 2,000,000 "A" warrants, which had identical terms to
that of the other investors. In consideration for the investors providing us
with additional financing in the aggregate amount of $550,000 in October 2004,
we subsequently amended the exercise price to $.15 for the "A" warrants and to
$.125 for the "B" warrants issued to Longview Fund, LP, Alpha Capital
Aktiengesellschaft, Whalehaven Funds Limited and Stonestreet Limited
Partnership. The notes are convertible into shares of common stock of the
Company at $0.10 per common share. The notes are payable in twelve equal monthly
installments, commencing January 1, 2005. The installment payments consist of
principal and a "premium" of 20% of the principal paid per installment. We have
the option to defer such payment until the note's maturity date on December 1,
2005, if our common stock trades above $0.20 for the five trading days prior to
the due date of an installment payment.
The investors have contractually agreed to restrict their ability to
convert or exercise their warrants and receive shares of our common stock such
that the number of shares of common stock held by them and their affiliates
after such conversion or exercise does not exceed 9.99% of the then issued and
outstanding shares of common stock.
October 2004
On October 29, 2004, we entered into Subscription Agreements with Longview
Fund, LP, Alpha Capital Aktiengesellschaft, Whalehaven Funds Limited and
Stonestreet Limited Partnership for the issuance of convertible 10% notes in the
aggregate amount of $550,000 and five-year "C" warrants for the purchase of, in
the aggregate, 2,200,000 shares of common stock, at $0.15 per share, and the
repricing of five-year "A" warrants, issued June 30, 2004 for the purchase of,
in the aggregate, 3,200,000 shares of common stock, from $0.25 to $0.15 per
share. The notes are convertible into shares of common stock at $0.10 per common
share. The notes are payable in twelve equal monthly installments, commencing
May 1, 2005. The installment payments consist of principal and a "premium" of
20% of the principal paid per installment. We have the option to defer such
payment until the note's maturity date on April 30, 2006, if our common stock
trades above $0.15 for the five trading days prior to the due date of an
installment payment and the underlying common stock is registered. In connection
with this transaction, we issued additional notes, without attached warrants, in
the aggregate amount of $27,500 to Gem Funding, LLC, Bi-Coastal Consulting
Corp., Stonestreet Limited Partnership and Libra Finance, S.A upon identical
terms as the principal notes, as a finder's fee, and paid $12,500 in legal fees.
The common stock underlying all notes and warrants carry registration rights.
II-10
The investors have contractually agreed to restrict their ability to
convert or exercise their warrants and receive shares of our common stock such
that the number of shares of common stock held by them and their affiliates
after such conversion or exercise does not exceed 9.99% of the then issued and
outstanding shares of common stock.
December 2004
In December 2004, we entered into Subscription Agreements with Momona
Capital Corp. and Ellis International Ltd. for the issuance of convertible 10%
notes in the aggregate amount of $400,000 and five-year "C" warrants for the
purchase of, in the aggregate, 800,000 shares of common stock, at $0.15 per
share The notes are convertible into shares of common stock at $0.10 per common
share. The notes are payable in twelve equal monthly installments, commencing
May 1, 2005. The installment payments consist of principal and a "premium" of
20% of the principal paid per installment. We have the option to defer such
payment until the note's maturity date on April 30, 2006, if our common stock
trades above $0.15 for the five trading days prior to the due date of an
installment payment and the underlying common stock is registered. In connection
with this transaction, we issued additional notes, without attached warrants, in
the aggregate amount of $10,000 to Momona Capital Corp. and Ellis International
Ltd. upon identical terms as the principal notes, as a finder's fee. The common
stock underlying all notes and warrants carry registration rights.
The investors have contractually agreed to restrict their ability to
convert or exercise their warrants and receive shares of our common stock such
that the number of shares of common stock held by them and their affiliates
after such conversion or exercise does not exceed 9.99% of the then issued and
outstanding shares of common stock.
YEAR ENDED DECEMBER 31, 2005
Quarter Ended March 31, 2005
New Financing: January 2005 Convertible Notes . On January 31, 2005, we
closed a funding transaction with Longview Fund, LP, Longview Equity Fund, LP,
Longview International Equity Fund, LP, Alpha Capital Aktiengesellschaft and
Whalehaven Funds Limited, five institutional accredited investors, for the
issuance and sale to the Subscribers of up to $2,300,000 of principal amount of
promissory notes convertible into shares of our common stock, and Warrants to
purchase shares of common stock at 100% coverage of the common stock issuable in
accordance with the principal amount of the notes. One Million One Hundred Fifty
Thousand Dollars ($1,150,000) of the purchase price was paid on the initial
closing date, and One Million One Hundred Fifty Thousand Dollars ($1,150,000) of
the purchase price will be payable within five (5) business days after the
actual effectiveness of an SB-2 Registration Statement as defined in the
Subscription Agreement. The initial closing notes were at prime plus 4% interest
in the aggregate amount of $1,150,000, plus five-year Warrants for the purchase
of, in the aggregate, 9,200,000 shares of common stock, at the lesser of (i)
$0.16, or (ii) 101% of the closing bid price of the Common Stock as reported by
Bloomberg L.P. for the OTC Bulletin Board for the trading day preceding the
Closing Date. The notes are convertible into shares of our common stock at
$0.125 per common share. Conversions are limited to a maximum ownership of 9.99%
of the underlying common stock at any one time. The notes have a maturity date
two years from closing and are payable in twelve equal monthly installments,
commencing June 1, 2005. The installment payments consist of principal equal to
1/20th of the initial principal amount which, subject to certain conditions
concerning trading volume and price, can be paid in cash at 103% of the monthly
installment, or common stock or a combination of both. The notes have an
acceleration provision upon the change in a majority of the present Board of
Directors except as the result of the death of one or more directors, or a
change in the present CEO. In connection with this transaction, we issued
restricted common stock in the aggregate amount of 460,000 shares plus the
aggregate cash amount of $57,500 for due diligence fees to the investors in this
transaction. We issued the Convertible Promissory Note and the underlying common
stock upon conversion to an accredited investor, pursuant to a Regulation D
offering. The underlying common stock is now registered pursuant to a Form SB-2
registration statement declared effective August 2, 2005.
November 2003 Convertible Notes. We converted $25,000 of our November 2003
Convertible Promissory Notes into 549,340 shares of common stock pursuant to a
notice of conversion from Gamma Opportunity Capital Partners LP, at a fixed
conversion price of $0.05. The conversion included $2,467 of accrued and unpaid
interest on the converted amount. We issued the underlying common stock upon
conversion pursuant to a Form SB-2 registration statement, declared effective on
August 3, 2004.
II-11
April 2004 Convertible Notes. We converted $99,999 of our April 2004
Convertible Promissory Notes into 1,141,387 shares of common stock pursuant to
notices of conversion from Longview Fund LP, at a fixed conversion price of
$0.10. The conversions included $14,138 of accrued and unpaid interest. We
issued the underlying common stock upon conversion pursuant to our SB-2
registration statement, declared effective on August 3, 2004.
June 2004 Convertible Notes. We converted $41,666 of our June 2004
Convertible Promissory Notes into 430,327 shares of restricted common stock
pursuant to a notice of conversion from Longview Fund LP, at a fixed conversion
price of $0.15. The conversion included $22,822 of accrued and unpaid interest.
We issued the Convertible Promissory Note and the underlying common stock upon
conversion to an accredited investor, pursuant to a Regulation D offering. The
underlying common stock is now registered pursuant to a Form SB-2 registration
statement declared effective April 18, 2005.
Quarter Ended June 30, 2005
New Financing: April 2005 Convertible Note. On April 21, 2005, we closed a
funding transaction with Alpha Capital Aktiengesellschaft for the issuance of a
convertible 10% note in the aggregate amount of $300,000. The promissory note is
convertible into shares of common stock of the Company at $0.20 per common
share. Conversions are limited to a maximum ownership of 9.99% of the Company's
common stock at any one time. The note has an October 31, 2005 maturity and is
payable in five equal monthly installments, commencing June 1, 2005. The
installment payments consist of principal (equal to 1/5th of the initial
principal amount) plus accrued interest. Installments can be paid in cash or
common stock valued at the average closing price of the Company's common stock
during the five trading days immediately preceding the relevant installment due
date. The Company has repriced Class B Warrants issued on June 30, 2004 from
$2.00 per share to $0.125 per share and issued restricted common stock in the
aggregate amount of 93,750 shares for finder's fees to a third-party to
facilitate this transaction. The Company has the right to prepay the promissory
note by paying to the holder cash equal to 120% of the principal to be prepaid
plus accrued interest. The notes have an acceleration provision upon the change
in a majority of the present Board of Directors except as the result of the
death of one or more directors or a change in the present CEO of the Company.
The common stock underlying the note and the finder's fee common stock have
"piggy back" registration rights. We issued the convertible note and finder's
fee common stock to accredited investors, pursuant to a Regulation D offering.
New Financing: May 2005 Convertible Notes On May 23, 2005, we closed a
funding transaction (the "May '05 Transaction") with Longview Fund, LP,
Whalehaven Funds Limited, Ellis International Ltd., and Osher Capital Corp.,
four institutional accredited investors, for the issuance and sale to the
Subscribers of Five Hundred Thousand Dollars ($500,000) of principal amount of
promissory notes convertible into shares of our common stock and Warrants to
purchase shares of common stock at 100% coverage of the common stock issuable in
accordance with the principal amount of the notes. This May '05 Transaction was
a part of a January 23, 2005 funding transaction for an aggregate of Two Million
Three Hundred Thousand Dollars ($2,300,000), One Million One Hundred Fifty
Thousand Dollars ($1,150,000) of which was paid on the initial closing date, and
One Million One Hundred Fifty Thousand Dollars ($1,150,000) of which (the
"Second Tranche") was to be payable within five (5) business days after the
actual effectiveness of an SB-2 Registration Statement covering the aggregate
transaction, as defined in the Subscription Agreement. The May '05 Transaction
for Five Hundred Thousand Dollars ($500,000) is a partial interim closing of the
Second Tranche, which occurred prior to the anticipated effectiveness of the
SB-2 Registration Statement covering the aggregate transaction. Contemporaneous
with the May '05 Transaction, we agreed to a modification of the January 23,
2005 aggregate transaction for the substitution of Ellis International Ltd. and
Osher Capital Corp. in the place of Alpha Capital Aktiengesellschaft, one of the
original investors. The May '05 Transaction convertible notes are at prime plus
4% interest in the aggregate amount of $500,000, plus five-year Warrants for the
purchase of, in the aggregate, 4,000,000 shares of common stock, at an exercise
price of $0.129. The notes are convertible into shares of our common stock at
$0.125 per common share. Conversions are limited to a maximum ownership of 9.99%
of the underlying common stock at any one time. The notes have a maturity date
two years from closing and are payable in twelve equal monthly installments,
commencing June 1, 2005. The installment payments consist of principal equal to
1/20th of the initial principal amount which, subject to certain conditions
concerning trading volume and price, can be paid in cash at 103% of the monthly
installment or common stock or a combination of both. The notes have an
acceleration provision upon the change in a majority of the present Board of
Directors except as the result of the death of one or more directors, or a
change in the present CEO. In connection with this transaction, we issued
restricted common stock in the aggregate amount of 200,000 shares plus the
aggregate cash amount of $25,000 for due diligence fees to Longview Fund, LP,
Gem Funding LLC, Ellis International Ltd., and Osher Capital Corp. in this
transaction. The Second Tranche of the January 23, 2005 aggregate transaction,
now in the amount of $650,000, remains outstanding and will be triggered by the
effectiveness of the pending SB-2 registration statement.
II-12
Conversions: November 2003 Convertible Notes. We converted $50,000 of our
November 2003 Convertible Promissory Note into 1,106,740 shares of common stock
pursuant to a notice of conversion from Gamma Opportunity Capital Partners LP,
at a fixed conversion price of $0.05. The conversion included $5,337 of accrued
and unpaid interest. We issued the underlying common stock upon conversion
pursuant to a Form SB-2 registration statement, declared effective on August 3,
2004.
Warrant Exercise: November 2003 Warrant. We issued 1,000,000 shares of
common stock to Gamma Opportunity Capital Partners LP pursuant to the exercise
of a Warrant issued in connection with the November 2003 financing transaction,
and received $50,000 in warrant exercise payments. The shares of common stock
underlying the warrant were issued pursuant to a Form SB-2 shelf registration
statement, declared effective by the SEC on August 3, 2004.
Warrant Exercise: April 2004 Warrant. We issued 1,500,000 shares of common
stock to Longview Fund LP pursuant to the exercise of a Warrant issued in
connection with the April 2004 financing transaction, and received $225,000 in
warrant exercise payments. The shares of common stock underlying the warrant
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on August 3, 2004.
Conversions: June 2004 Convertible Notes. We converted $528,573 of our
June 2004 Convertible Promissory Notes into 5,633,039 shares of common stock
pursuant to notices of conversion from Longview Fund LP, Gem Funding LLC,
Whalehaven Capital Fund Limited, Stonestreet Limited Partnership and Bi-Coastal
Consulting Corp. at a fixed conversion price of $0.10. The conversion included
$33,689 of accrued and unpaid interest. We issued the common stock upon
conversion pursuant to a Form SB-2 registration statement declared effective by
the Securities and Exchange Commission on April 18, 2005.
Warrant Exercise: June 2004 Warrant. We issued 2,200,000 shares of common
stock to Longview Fund LP, Whalehaven Capital Fund Limited and Stonestreet
Limited Partnership pursuant to the exercise of Warrants issued in connection
with the June 2004 financing transaction, and received $309,000 in warrant
exercise payments. The shares of common stock underlying the warrants were
issued pursuant to a Form SB-2 shelf registration statement, declared effective
by the SEC on April 18, 2005.
Conversions: October 2004 Convertible Notes. We converted $446,250 of our
October 2004 Convertible Promissory Notes into 4,718,514 shares of common stock
pursuant to notices of conversion from Longview Fund LP, Gem Funding LLC,
Whalehaven Capital Fund Limited, Stonestreet Limited Partnership and Bi-Coastal
Consulting Corp. at a fixed conversion price of $0.10. The conversion included
$25,602 of accrued and unpaid interest. We issued the common stock upon
conversion pursuant to a Form SB-2 registration statement declared effective by
the Securities and Exchange Commission on April 18, 2005.
Warrant Exercise: October 2004 Warrant. We issued 1,700,000 shares of
common stock to Longview Fund LP, Whalehaven Capital Fund Limited and
Stonestreet Limited Partnership pursuant to the exercise of Warrants issued in
connection with the October 2004 financing transaction, and received $248,700 in
warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on April 18, 2005.
Conversions: December 2004 Convertible Notes. We converted $210,000 of our
December 2004 Convertible Promissory Notes into 2,176,706 shares of common stock
pursuant to notices of conversion, to Momona Capital Corp. and Ellis
International Ltd Inc., at a fixed conversion price of $0.10 per share. The
conversion included $7,450 of accrued and unpaid interest. We issued the
underlying common stock upon conversion pursuant to a Form SB-2 registration
statement, declared effective on April 18, 2005.
II-13
Warrant Exercise: December 2004 Warrant. We issued 500,000 shares of
common stock to Momona Capital Corp. and Ellis International Ltd Inc., pursuant
to the exercise of Warrants issued in connection with the December 2004
financing transaction, and received $72,500 in warrant exercise payments. The
shares of common stock underlying the warrants were issued pursuant to a Form
SB-2 shelf registration statement, declared effective by the SEC on April 18,
2005.
Conversions: January 2005 Convertible Notes. We converted $534,304 of our
January 2005 Convertible Promissory Notes into 4,461,685 shares of restricted
common stock pursuant to notices of conversion, to Longview Fund LP, Longview
Equity Fund LP and Longview International Equity Fund LP at a fixed conversion
price of $0.125 per share. We issued the Convertible Promissory Note and the
underlying common stock upon conversion to an accredited investor, pursuant to a
Regulation D offering. The underlying common stock is now registered pursuant to
a Form SB-2 registration statement declared effective August 2, 2005.
Conversions: Series F Convertible Preferred. We converted 31,134 shares of
our Series F Convertible Preferred, having a stated value of $311,340 into
2,903,839 shares of common stock pursuant to notices of conversion, to
Austinvest Anstalt Balzers and Esquire Trade & Finance Inc. We issued the Series
F Convertible Preferred and the underlying common stock upon conversion to
accredited investors, pursuant to a Regulation D offering and Rule 144(k).
Conversions: Series H Convertible Preferred. We converted 100,000 shares
of our Series H Convertible Preferred, having a stated value of $1,000,000 into
2,500,000 shares of common stock pursuant to notices of conversion, to four
individual and two institutional investors. We issued the Convertible Preferred
and the underlying common stock upon conversion to accredited investors,
pursuant to a Regulation D offering and Rule 144(k).
Conversions: Series I Convertible Preferred. We converted 20,000 shares of
our Series I Convertible Preferred, having a stated value of $200,000 into
2,354,808 shares of common stock pursuant to a notice of conversion, to Alpha
Capital AG. We issued the Convertible Preferred and the underlying common stock
upon conversion to accredited investors, pursuant to a Regulation D offering and
Rule 144(k).
Warrant Exercise: Series I Warrant. We issued 1,333,333 shares of
restricted common stock to Alpha Capital AG, pursuant to the exercise of
Warrants issued in connection with the Series I financing transaction, and
received $133,333 in warrant exercise payments. The shares of common stock
underlying the warrants are now registered pursuant to a Form SB-2 shelf
registration statement, declared effective by the SEC on August 2, 2005.
Private Placements. On May 17, 2005 we issued the aggregate of 27,500
restricted shares of the Company's common stock, with a recorded value of
$4,950, to eleven product sales brokers as a bonus for the performance of
services for the Company. We issued the restricted common stock pursuant to
Section 4(6) of the Securities Act of 1933, which provides an exemption from the
registration requirements of the Act for transactions not involving a public
offering.
S-8 Registration. On April 14, 2005 and April 18, 2005, we issued 750,000
and 250,000 shares, respectively, of our common stock to Geoffrey Eiten, for
services rendered for strategic business planning. These shares were part of
1,500,000 shares of the Company's common stock registered under a Form S-8
registration statement filed December 23, 2004.
Warrant Issue. On June 20, 2005, we issued one year Warrant to Marvel
Enterprises Inc. to purchase 1,000,000 shares of our common stock a $0.05 per
share. This Warrant was issued in connection with the execution of a License
Agreement with Marvel for the United States, Canada and Mexico. We issued the
Warrant pursuant to Section 4(6) of the Securities Act of 1933, which provides
an exemption from the registration requirements of the Act for transactions not
involving a public offering.
Quarter Ended September 30, 2005
II-14
Warrant Exercise: Series D Warrant. We issued 696,042 shares of common
stock to Longview Fund LP, Longview Equity Fund LP, Longview International
Equity Fund LP and Esquire Trade & Finance Inc., pursuant to the cashless
exercises of warrants for 763,750 shares of common stock. We issued the Warrants
and the underlying common stock upon exercise to accredited investors, pursuant
to a Regulation D offering and Rule 144(k).
Conversions: Series F Convertible Preferred. We converted 19,133 shares of
our Series F Convertible Preferred, having a stated value of $191,330 into
804,752 shares of common stock pursuant to notices of conversion to Amro
International, SA. We issued the Series F Convertible Preferred and the
underlying common stock upon conversion to accredited investors, pursuant to a
Regulation D offering and Rule 144(k).
Warrant Exercise: Series F Warrant. We issued 3,345,417 shares of common
stock to Austinvest Anstalt Balzers and Esquire Trade & Finance Inc. and Libra
Finance, SA., pursuant to the cashless exercise of warrants for 3,676,518 shares
of common stock. We issued the Warrants and the underlying common stock upon
exercise to accredited investors, pursuant to a Regulation D offering and Rule
144(k).
Conversions: Series H Convertible Preferred. We converted 1,000 shares of
our Series H Convertible Preferred, having a stated value of $10,000 into 25,000
shares of common stock pursuant to notices of conversion, to one individual
investor. We issued the Convertible Preferred and the underlying common stock
upon conversion to accredited investors, pursuant to a Regulation D offering and
Rule 144(k).
Conversions: Series I Convertible Preferred. We converted 10,000 shares of
our Series I Convertible Preferred, having a stated value of $100,000 into
656,953 shares of common stock pursuant to a notice of conversion, to
Tradersbloom Limited. The conversion included $24,000 of accrued and unpaid
interest. We issued the Convertible Preferred and the underlying common stock
upon conversion to accredited investors, pursuant to a Regulation D offering and
Rule 144(k).
Conversions: April 2004 Convertible Notes. We converted $250,000 of our
April 2004 Convertible Promissory Notes into 2,808,219 shares of common stock
pursuant to notices of conversion from Osher Capital Inc., Ellis International
Ltd Inc. and Alpha Capital AG. The conversion included $3,082 of accrued and
unpaid interest on the converted amount. We issued the underlying common stock
upon conversion pursuant to a Form SB-2 registration statement, declared
effective on August 4, 2004.
Conversions: June 2004 Convertible Notes. We converted $250,000 of our
June 2004 Convertible Promissory Notes into 2,796,575 shares of common stock
pursuant to notices of conversion from Alpha Capital AG at a fixed conversion
price of $0.10. The conversion included $29,657 of accrued and unpaid interest
on the converted amount. We issued the common stock upon conversion pursuant to
a Form SB-2 registration statement declared effective by the Securities and
Exchange Commission on April 18, 2005.
Conversions: October 2004 Convertible Notes. We converted $125,000 of our
October 2004 Convertible Promissory Notes into 1,342,808 shares of common stock
pursuant to notices of conversion from Alpha Capital AG at a fixed conversion
price of $0.10. The conversion included $9,280 of accrued and unpaid interest on
the converted amount. We issued the common stock upon conversion pursuant to a
Form SB-2 registration statement declared effective by the Securities and
Exchange Commission on April 18, 2005.
Warrant Exercise: December 2004 Warrant. We issued 300,000 shares of
common stock to Momona Capital Corp. pursuant to the exercise of Warrants issued
in connection with the December 2004 financing transaction, and received $30,000
in warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on April 18, 2005.
Conversions: January 2005 Convertible Notes. We converted $500,071 of our
January 2005 Convertible Promissory Notes into 4,186,644 shares of restricted
common stock pursuant to notices of conversion, to Longview Fund LP, Longview
Equity Fund LP and Longview International Equity Fund LP at a fixed conversion
price of $0.125 per share. The conversion included $23,260 of accrued and unpaid
interest on the converted amount. We issued the common stock upon conversion
pursuant to a Form SB-2 registration statement declared effective by the
Securities and Exchange Commission on August 2, 2005.
II-15
Warrant Exercise: January 2005 Warrant. We issued 7,200,000 shares of
common stock to Whalehaven Capital Fund Limited, Longview Fund LP, Longview
Equity Fund LP and Longview International Equity Fund LP pursuant to the
exercise of Warrants issued in connection with the January 2005 financing
transaction, and received $720,000 in warrant exercise payments. The shares of
common stock underlying the warrants were issued pursuant to a Form SB-2 shelf
registration statement, declared effective by the SEC on August 2, 2005.
Conversions: April 2005 Convertible Notes. We converted $300,000 of our
April 2005 Convertible Promissory Note into 1,556,438 shares of restricted
common stock pursuant to notices of conversion, to Alpha Capital AG at a fixed
conversion price of $0.20 per share. The conversion included $11,288 of accrued
and unpaid interest on the converted amount. We issued the common stock upon
conversion pursuant to a Form SB-2 registration statement declared effective by
the Securities and Exchange Commission on August 2, 2005.
Conversions: May 2005 Convertible Notes. We converted $475,000 of our May
2005 Convertible Promissory Notes into 4,141,270 shares of restricted common
stock pursuant to notices of conversion, to Whalehaven Capital Fund Limited,
Ellis International Ltd, Longview Fund LP and Osher Capital Corp. The conversion
included $9,317 of accrued and unpaid interest on the converted amount. We
issued the common stock upon conversion pursuant to a Form SB-2 registration
statement declared effective by the Securities and Exchange Commission on August
2, 2005.
Warrant Exercise: May 2005 Warrant. We issued 4,000,000 shares of common
stock to Whalehaven Capital Fund Limited, Ellis International Ltd, Longview Fund
LP and Osher Capital Corp. pursuant to the exercise of Warrants issued in
connection with the January 2005 financing transaction, and received $400,000 in
warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on August 2, 2005.
New Financing: August 2005 Convertible Notes On August 18, 2005, we closed
a funding transaction (the "August '05 Transaction") with Longview Fund, LP,
Longview Equity Fund, LP and Longview International Equity Fund, LP, three
institutional accredited investors, for the issuance and sale to the Subscribers
of Six Hundred Fifty Thousand Dollars ($650,000) of principal amount of
promissory notes convertible into shares of our common stock and Warrants to
purchase shares of common stock at 100% coverage of the common stock issuable in
accordance with the principal amount of the notes. This August'05 Transaction
was a part of a January 23, 2005 funding transaction for an aggregate of Two
Million Three Hundred Thousand Dollars ($2,300,000). The August '05 Transaction
is the Second Tranche of the January '05 transaction, which occurred upon the
effectiveness of the SB-2 Registration Statement covering the aggregate
transaction. The August'05 Transaction convertible notes are at prime plus 4%
interest in the aggregate amount of $650,000, plus five-year Warrants for the
purchase of, in the aggregate, 5,200,000 shares of common stock, at an exercise
price of $0.129. The notes are convertible into shares of our common stock at
$0.125 per common share. Conversions are limited to a maximum ownership of 9.99%
of the underlying common stock at any one time. The notes have a maturity date
two years from closing and are payable in twelve equal monthly installments. The
installment payments consist of principal equal to 1/20th of the initial
principal amount which, subject to certain conditions concerning trading volume
and price, can be paid in cash at 103% of the monthly installment, or common
stock or a combination of both. The notes have an acceleration provision upon
the change in a majority of the present Board of Directors except as the result
of the death of one or more directors, or a change in the present CEO. In
connection with this transaction, we issued restricted common stock in the
aggregate amount of 260,000 shares plus the aggregate cash amount of $32,500 for
due diligence fees to Longview Fund companies. We issued the equity equivalents,
the underlying common stock upon conversion and the finders' fee common stock
pursuant to a Form SB-2 registration statement declared effective by the
Securities and Exchange Commission on August 2, 2005.
On September 30, 2005, we prepaid $250,000 of the aggregate $650,000 of
the August '05 Transaction notes, as follows: $57,692 to Longview Fund, LP,
$144,231 to Longview Equity Fund, LP and $ $48,077 to Longview International
Equity Fund, LP. The holders of these notes waived the prepayment premium in
lieu of their retention of warrants attached to August '05 Transaction.
Conversions: August 2005 Convertible Notes. We converted $91,217 of our
August 2005 Convertible Promissory Notes into 743,750 shares of restricted
common stock pursuant to a notice of conversion, to Longview Fund LP, at a fixed
conversion price of $0.125 per share. The conversion included $1,752 of accrued
and unpaid interest on the converted amount. We issued the common stock upon
conversion pursuant to a Form SB-2 registration statement declared effective by
the Securities and Exchange Commission on August 2, 2005.
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Warrant Exercise: August 2005 Warrant. We issued 5,200,000 shares of
common stock to Longview Fund LP, Longview Equity Fund LP and Longview
International Equity Fund LP pursuant to the exercise of Warrants issued in
connection with the August 2005 financing transaction, and received $520,000 in
warrant exercise payments. The shares of common stock underlying the warrants
were issued pursuant to a Form SB-2 shelf registration statement, declared
effective by the SEC on August 2, 2005.
Private Placements. On August 3, 2005 we issued 500,000 restricted shares
of our common stock to Geoffrey Eiten, for services rendered for strategic
business planning. We issued the restricted common stock pursuant to Section
4(6) of the Securities Act of 1933, which provides an exemption from the
registration requirements of the Act for transactions not involving a public
offering.
On August 29 and September 19, 2005 we issued the aggregate of 1,000,000
restricted shares of our common stock to National Financial Communications Corp.
pursuant to the exercise of Warrants issued in connection with a consulting
agreement for services rendered for strategic business planning. We issued the
restricted common stock pursuant to Section 4(6) of the Securities Act of 1933,
which provides an exemption from the registration requirements of the Act for
transactions not involving a public offering.
On September 19, 2005, we issued 450,000 restricted shares of our common
stock to Alpha Capital AG, an accredited investor, in a sale not involving a
public offering at a price of $1.00 per share. We issued the common stock
pursuant to a Regulation D offering.
Warrant Issue. On August 31, 2005, we issued a three year Warrant to
Coca-Cola Enterprises Inc. to purchase 30,000,000 shares of our common stock a
$0.36 per share. During the first 18 months of the exercise period, the Company
has the option to "call" the exercise of up to 10,000,000 shares of common stock
issuable upon exercise of the Warrant, upon the Company's satisfaction of
certain conditions, including a trading price of not less than $1.08 per share
for 20 consecutive trading days. This Warrant was issued in connection with the
execution of a Master Distribution Agreement on August 31, 2005. We issued the
Warrant pursuant to Section 4(6) of the Securities Act of 1933, which provides
an exemption from the registration requirements of the Act for transactions not
involving a public offering. The Company will record an $11,900,000 net charge
in deferred distribution costs for the issuance of a three year warrant to
Coca-Cola Enterprises to purchase of 30,000,000 shares of our common stock in
connection with the Master Distribution Agreement. The Company will recognize
that cost as a selling expense over the 10-year term of the agreement.
Quarter Ended December 31, 2005
On November 28, 2005, we closed a funding transaction with 13 accredited
institutional investors, for the issuance and sale of 40,500,000 shares of our
common stock for a purchase price of $20,250,000. In addition, we also issued
five-year warrants for the purchase of an additional 15,187,500 shares of common
stock at an exercise price of $0.80 per share. The securities are restricted and
have been issued pursuant to an exemption to the registration requirements of
Section 5 of the Securities Act of 1933 for "transactions of the issuer not
involving any public offering" provided in Section 4(2) of the Act and pursuant
to a Regulation D offering. In connection with this financing, we issued common
stock purchase warrants to purchase 1,012,500 shares of common stock at an
exercise price of $.50 per share and 304,688 shares of common stock at an
exercise price of $.80 per share to SG Cowen & Co., LLC, who acted as placement
agent for this financing.
The shares of common stock and the shares of common stock underlying the
warrants carry registration rights that obligate us to file a registration
statement within 45 days from closing and have the registration statement
declared effective within 120 days from closing.
All of the above offerings and sales were deemed to be exempt under rule
506 of Regulation D and Section 4(2) of the Securities Act of 1933, as amended.
No advertising or general solicitation was employed in offering the securities.
The offerings and sales were made to a limited number of persons, all of whom
were accredited investors, or business associates of Bravo! Brands Inc., and
transfer was restricted by Bravo! Brands Inc. in accordance with the
requirements of the Securities Act of 1933. In addition to representations by
the above-referenced persons, we have made independent determinations that all
of the above-referenced persons were accredited or sophisticated investors, and
that they were capable of analyzing the merits and risks of their investment and
that they understood the speculative nature of their investment. Furthermore,
all of the above-referenced persons were provided with access to our Securities
and Exchange Commission filings.
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Warrant Exercise: June 2004 Warrant. In December 2005, we issued 2,500,000
shares of common stock to Alpha Capital AG pursuant to the exercise of a "B"
Warrant issued in connection with the June 2004 financing transaction and
received $250,000 in warrant exercise payments. The shares of common stock
underlying the warrants were issued pursuant to a Form SB-2 shelf registration
statement, declared effective by the SEC on April 18, 2005.
On March 31, 2005, we received notices of exercise for and issued 1,000,000
shares of common stock as provided in our June 2004 A Warrant and 500,000 shares
of our October 2004 C Warrant. The shares of common stock underlying these
Warrants were registered pursuant to a registration statement declared effective
April 18, 2005.
On November 28, 2005, we closed a funding transaction with 13 accredited
institutional investors, for the issuance and sale of common stock for a
purchase price of $20,250,000. We also issued five-year warrants for the
purchase of an additional 15,187,500 shares of common stock at an exercise price
of $0.51 per share to these investors. In addition, in July 2006, we entered
into a letter agreement with each of the accredited institutional investors
pursuant to which we issued additional five-year warrants to purchase an
aggregate of 8,809,276 shares of common stock exercisable at an exercise price
of $0.51 per share (the "Additional November 2005 Warrants") as a result of the
trigger of certain anti-dilution provisions. In December 2006, as a result of
the anti dilution provisions being triggered, the number of shares exercisable
upon exercise of the Additional November 2005 Warrants was increased to
14,318,478 and the exercise price was adjusted to $0.32. In addition, we issued
common stock purchase warrants to purchase 437,500 shares of common stock,
exercisable at a price of $0.32 per share, to two finders (the "Finders
Warrants"). This prospectus relates to the resale of the shares of common stock
underlying the Additional November 2005 Warrants and the Finders Warrants.
YEAR 2006
On April 13, 2006, we issued 457,125 shares of common stock pursuant to a notice
of conversion of interest and premium associated with our June 2004 convertible
note. The common stock underlying this note was registered pursuant to a
registration statement declared effective on April 18, 2005.
On April 17, 2006, we issued 807,692 shares of common stock underlying our
Series F Warrant for 1,000,000 shares to an accredited investor. The shares of
common stock underlying the Warrant were issued pursuant Regulation D.
On April 21, 2006, we issued 437,500 shares of common stock to an accredited
investor pursuant to notices of conversion of our April, June and October 2004
convertible notes. The common stock underlying these notes was registered
pursuant to a registration statement declared effective on August 3, 2004 and
April 18, 2005, respectively.
On April 21, 2006, we issued 196,078 shares of our common stock in a private
placement, pursuant to Section 4(2) of the Securities Act of 1933, to an
accredited investor.
On April 28, 2006 we issued 1,500,000 shares of common stock underlying our
April 2004 Warrant. The shares of common stock underlying the Warrant were
registered pursuant to a registration statement declared effective on August 3,
2004.
On May 12, 2006, we issued $2,500,000, six-month-term, 10% notes payable plus
detachable warrants to purchase 1,500,000 shares of our common stock with a
strike price of $0.80 for a period of five-years. Net proceeds from this
financing transaction amounted to $2,235,000. The holder has the option to
redeem the notes for cash in the event of defaults and certain other contingent
events, including events related to the common stock into which the instrument
is convertible, registration and listing (and maintenance thereof) of our common
stock and filing of reports with the Securities and Exchange Commission (the
"Default Put"). We evaluated the terms and conditions of the notes and warrants
and determined that (i) the Default Put required bifurcation because it did not
meet the "clearly and closely related" criteria of FAS 133 and (ii) the warrants
did not meet all of the requisite conditions for equity classification under FAS
133. As a result, the net proceeds from the arrangement were first allocated to
the Default Put ($87,146) and the warrants ($901,665) based upon their fair
values, because these instruments are required to be initially and subsequently
carried at fair values. These instruments will be carried in our balance sheet
following the financing under the classification, Derivative Liabilities and
adjusted to fair value. The warrants and shares of common stock underlying the
warrants and notes were issued to two accredited investors in a private
placement exempt from registration under the Securities Act of 1933 pursuant
Regulation D.
On May 16, 2006, we issued 2,000,000 shares of common stock pursuant to an
exercise of a warrant associated with our January 2005 convertible note
financing. The common stock underlying this warrant was registered pursuant to a
registration statement declared effective by the Securities and Exchange
Commission on August 2, 2005.
II-18
On June 7, 2006, we issued 101,100 shares of common stock pursuant to a
conversion of our May 2005 convertible note. The shares of common stock
underlying the convertible note were issued pursuant to a registration statement
declared effective by the Securities and Exchange Commission on August 2, 2005.
On June 23, 2006, we issued 2,000,000 shares of common stock pursuant to an
exercise of a warrant associated with our November 2003 convertible notes
financing. The common stock underlying this warrant was registered pursuant to a
registration statement declared effective by the Securities and Exchange
Commission on August 3, 2004.
On July, 6, 2006, we issued 83,121 shares of our common stock in a private
placement, pursuant to Section 4(2) of the Securities Act of 1933, to an
accredited investor.
On July, 14, 2006, we issued 436,388 shares of common stock upon the cashless
exercise of a warrant associated with our Series D convertible preferred stock.
These shares were issued to an accredited investor pursuant to Regulation D and
Section 4(2) of the Securities Act of 1933.
On July 14, August 14 and August 31, 2006, we issued, in the aggregate, 275,000
shares of common stock pursuant to a conversion of our Series H preferred stock.
The shares of common stock underlying the preferred were issued pursuant to
Regulation D.
On July, 19, 2006, we issued 1,008,065 shares of common stock upon the cashless
exercise of a warrant associated with our Series H convertible preferred stock.
These shares were issued to an accredited investor pursuant to Regulation D and
Section 4(2) of the Securities Act of 1933.
On July 26, 2006, we entered into a Securities Purchase Agreement with five
accredited institutional investors, for the issuance and sale of $30 million in
senior convertible notes that are due in January 2010. Under the terms of the
financing, we sold $30 million in senior convertible notes, of which $15 million
(the "Initial Notes") were released upon closing and $15 million (the
"Additional Notes") were released from escrow in November 2006. The Initial
Notes carry a 9% annual coupon, payable quarterly, and were initially
convertible into shares of common stock at $0.70 per share. The Additional Notes
carry a 9% annual coupon, payable quarterly, and were initially convertible into
shares of common stock at $0.70 per share and then subsequently to $0.51 per
share. In addition, the Additional Notes also provide that, from and after
October 10, 2006 through December 15, 2006, the holder may require us to redeem
at such holder's option any portion of the holder's Additional Note in cash at a
price equal to 125% of the amount redeemed (the "Holder Optional Redemption").
In the event that such holder does not exercise the Holder Optional Redemption,
the holder's right to any such optional redemptions shall terminate; provided,
however, that once a holder delivers such a request, its right to deliver a
subsequent request shall terminate.
We also issued to the investors series A warrants to purchase 13,178,571 shares
of common stock initially exercisable at $0.73 per share (the "Series A
Warrants") that expire in July 2011 and series B warrants to purchase 43,392,856
shares of common stock initially exercisable at $0.73 per share (the "Series B
Warrants") that expire in July 2011. We have the option to redeem the Initial
Notes and the Amended Notes at a date earlier than maturity (the "Company
Redemption"). If we exercise the Company Redemption, the holders will have the
right to exercise the Series B Warrants and receive common shares to which these
contingent warrants are indexed. Absent our exercise of the Company Redemption
to redeem the Initial Notes and/or the Additional Notes, the holders have no
right to exercise the Series B Warrants.
Pursuant to a Registration Rights Agreement between our company and the
investors, also dated July 26, 2006, we agreed to prepare and file a
registration statement covering the resale of the shares issuable upon the
conversion of the senior convertible notes and exercise of the warrants. We
agreed to file this resale registration statement by the later to occur of (i)
August 26, 2006 and (ii) 15 days following the effectiveness of the Form SB-2
filed by our company on December 21, 2005, but in no event later than October
10, 2006. If, among other things, (a) we fail to file the resale registration
statement within the period described above, which we were unable to do, or (b)
we fail to cause the resale registration statement to be effective by the SEC
within 60 days following the date we file the resale registration statement, or
within 90 days, if there is a review of the resale registration statement by the
SEC, we will be obligated to pay to each investor, as partial relief, on the
date of such failure, an amount in cash equal to .75% of the aggregate purchase
price paid by such investor for the notes and the warrants. We will be further
obligated to pay, as partial relief, an amount in cash equal to 1.5% of the
aggregate purchase price paid by such investor for the notes and the warrants on
every thirtieth day that such failure continues (prorated for partial periods).
II-19
On August 31, 2006, we entered into Amendment Agreements with respect to the
July 26, 2006 $30 million senior convertible notes transaction described above.
Pursuant to the Amendment Agreements, the investors each agreed to release us
from the events of default that occurred under the terms of the Initial Notes
and Additional Notes as a result of our late filing of our Form 10-QSB for the
quarterly period ended June 30, 2006. We agreed, in consideration for such
releases, to exchange the Additional Notes for amended and restated notes (the
"Amended and Restated Notes").
The terms of the Amended and Restated Notes differ from the terms of the
Additional Notes in certain regards. The conversion price applicable was reduced
from $0.70 to $0.51. We also granted the Holder Optional Redemption as discussed
above.
On December 29, 2006, we entered into Amendment and Exchange Agreements (the
"December Amendment") with these investors. Pursuant to the December Amendment,
each of the investors agreed to release our company from the events of default
that occurred under the terms of the Initial Notes and Additional Notes as a
result of our late filing of its Form 10-QSB for the quarterly period ended June
30, 2006. Each of the investors waived any events of default in the Amended and
Restated Additional Notes relating to our failure to pay the Holder Optional
Redemption. Further, we agreed to capitalize the $3,750,000 redemption premium
(which represents a 25% premium on the $15,000,000 principal amount of the
Additional Notes) with respect to the investors' right to compel redemption
pursuant to the Holder Redemption. Also, in connection with the December
Amendment, the investors' right to compel redemption by exercise of the Holder
Redemption has been terminated.
In consideration for each of the investors entering into the December Amendment,
we agreed to amend and restate the terms of the Initial Notes, the Additional
Notes, the Series A Warrants and the Series B Warrants. The conversion price of
the Initial Notes and the Additional Notes has been reduced to $0.32. The
exercise price of the Series A Warrants and the Series B Warrants was reduced to
$0.34.
On August 24, 2006, we issued 168,937 shares of common stock pursuant to a
conversion of our May 2005 convertible note. The shares of common stock
underlying the convertible note were issued pursuant to a registration statement
declared effective by the Securities and Exchange Commission on August 2, 2005.
On September 13 2006, we issued, in the aggregate, 161,527 shares of common
stock pursuant to a conversion of our Series F preferred stock. The shares of
common stock underlying the preferred were issued pursuant to Regulation D.
On September28, 2006, we issued 4,000,000 shares of common stock pursuant to a
conversion of our November 2003 convertible note. The shares of common stock
underlying the convertible note were issued pursuant to a registration statement
declared effective by the Securities and Exchange Commission on August 3, 2004.
On September28, 2006, we issued 1,000,000 shares of common stock pursuant to a
conversion of our June 2004 convertible note. The shares of common stock
underlying the convertible note were issued pursuant to a registration statement
declared effective by the Securities and Exchange Commission on April 18, 2005.
II-20
ITEM 27. EXHIBITS.
The following exhibits are included as part of this Form SB-2. References
to "the Company" in this Exhibit List mean Bravo! Brands Inc., a Delaware
corporation.
Exhibit
No. Title of Document
3.1 Articles of Incorporation (1)
3.2 Amended Articles (name change) (1)
3.3 Restated Bylaws China Peregrine Food Corporation (1)
3.4 Amended Articles (name change and increase in authorized shares of
common stock) (20)
4.1 Preferred, Series B Designation (1)
4.2 Preferred, Series F Designation (2)
4.3 Preferred, Series G Designation (3)
4.4 Preferred, Series H Designation (6)
4.5 Preferred, Series I Designation (7)
4.6 Preferred, Series J Designation (8)
4.7 Preferred, Series K Designation (10)
4.8 Subscription Agreement dated November 2003 entered with Gamma
Opportunity Capital Partners, LP (11)
4.9 Class A Common Stock Purchase Warrant issued to Gamma Opportunity
Capital Partners, LP (11)
4.10 Class B Common Stock Purchase Warrant issued to Gamma Opportunity
Capital Partners, LP (11)
4.11 Convertible Note issued to Gamma Opportunity Capital Partners, LP
dated November 2003 (11)
4.12 Class A Common Stock Purchase Warrant issued to Libra Finance, S.A.
(11)
4.13 Subscription Agreement dated November 2003 entered with MID-AM
CAPITAL, L.L.C. (11)
4.14 Class A Common Stock Purchase Warrant issued to MID-AM CAPITAL,
L.L.C. (11)
4.15 Class B Common Stock Purchase Warrant issued to MID-AM CAPITAL,
L.L.C. (11)
4.16 Convertible Note issued to MID-AM CAPITAL, L.L.C. dated November
2003 (11)
4.17 Subscription Agreement dated April 2, 2004 entered with Alpha
Capital Aktiengesellschaft and Longview Fund LP (11)
4.18 Convertible Note issued to Alpha Capital Aktiengesellschaft dated
April 2004 (11)
II-21
4.19 Convertible Note issued to Longview Fund LP dated April 2004 (11)
4.20 Common Stock Purchase Warrant issued to Alpha Capital
Aktiengesellschaft dated April 2004 (11)
4.21 Common Stock Purchase Warrant issued to Longview Fund LP dated April
2004 (11)
4.21 Subscription Agreement entered by and between the Company and Mid-AM
Capital LLC dated June 2004 (12)
4.22 Convertible Note issued to Mid-AM Capital LLC dated June 2004 (12)
4.23 Common Stock Purchase Warrant A issued to Mid-AM Capital LLC dated
June 2004 (12)
4.24 Common Stock Purchase Warrant B issued to Mid-AM Capital LLC dated
June 2004 (12)
4.25 Subscription Agreement entered by and between the Company and Alpha
Capital, Longview Fund LP, Stonestreet Limited Partnership,
Whalehaven Funds Limited and Gamma Opportunity Capital Partners LP
dated June 2004 (12)
4.26 Form of Common Stock Purchase A issued to Alpha Capital, Longview
Fund LP, Stonestreet Limited Partnership, Whalehaven Funds Limited
and Gamma Opportunity Capital Partners LP dated June 2004 (12)
4.27 Form of Common Stock Purchase B issued to Alpha Capital, Longview
Fund LP, Stonestreet Limited Partnership, Whalehaven Funds Limited
and Gamma Opportunity Capital Partners LP dated June 2004 (12)
4.28 Form of Convertible Note issued to Alpha Capital, Longview Fund LP,
Stonestreet Limited Partnership, Whalehaven Funds Limited and Gamma
Opportunity Capital Partners LP dated June 2004 (12)
4.29 Subscription Agreement entered by and between the Company and Alpha
Capital, Longview Fund LP, Stonestreet Limited Partnership and
Whalehaven Funds Limited dated October 2004 (12)
4.30 Form of Common Stock Purchase C issued to Alpha Capital, Longview
Fund LP, Stonestreet Limited Partnership and Whalehaven Funds
Limited dated October 2004 (12)
4.31 Form of Convertible Note issued to Alpha Capital, Longview Fund LP,
Stonestreet Limited Partnership, Whalehaven Funds Limited and Gamma
Opportunity Capital Partners LP dated October 2004 (12)
4.32 Subscription Agreement entered by and between the Company and Momona
Capital Corp. and Ellis International Ltd. dated December 2004 (12)
4.33 Form of Common Stock Purchase C issued to Momona Capital Corp. and
Ellis International Ltd. dated December 2004 (12)
4.34 Form of Convertible Note issued to Momona Capital Corp. and Ellis
International Ltd. dated December 2004 (12)
4.35 Subscription Agreement entered by and between the Company and
Longview Fund, LP, Longview Equity Fund, LP, Longview International
Equity Fund, LP, Alpha Capital Aktiengesellschaft and Whalehaven
Funds Limited dated January 2005 (13)
4.36 Form of Convertible Note issued in January 2005(13)
II-22
4.37 Form of Common Stock Purchase Warrant issued in January 2005 (13)
4.38 Modification Agreement entered by and between the Company and
Longview Fund, LP, Longview Equity Fund, LP, Longview International
Equity Fund, LP, Alpha Capital Aktiengesellschaft and Whalehaven
Funds Limited dated May 2005 (13)
4.39 Subscription Agreement entered by and between the Company and Alpha
Capital Aktiengesellschaft dated April 2005 (13)
4.40 Form of Convertible Note issued in April 2005(13)
4.41 Form of Securities Purchase Agreement with 13 institutional
investors in connection with November 28, 2005 $20,250,000 financing
(16)
4.42 Form of Stock Purchase Warrant in connection with November 28, 2005
$20,250,000 financing (16)
4.43 Securities Purchase Agreement for the August 2006 financing (17)
4.44 Registration Rights Agreement for the August 2006 financing (17)
4.45 Form of Initial Senior Convertible Note for the August 2006
financing (17)
4.46 Form of Additional Senior Convertible Note for the August 2006
financing (17)
4.47 Form of Series A Warrant for the August 2006 financing (17)
4.48 Form of Series B Warrant for the August 2006 financing (17)
4.49 Form of Amendment Agreement for the August 2006 financing (18)
4.50 Form of Amended and Restated Note (18)
4.51 Form of Amendment and Exchange Agreement dated December 29, 2006
(21)
4.52 Form of Amended and Restated Initial Note dated December 29, 2006
(21)
4.53 Form of Amended and Restated Additional Note dated December 29, 2006
(21)
4.54 Form of Series A Replacement Warrant dated December 29, 2006 (21)
4.55 Form of Series B Replacement Warrant dated December 29, 2006 (21)
5.1 Sichenzia Ross Friedman Ference LLP Opinion and Consent (15)
10.1 Warner Bros China License Agreement (5)
10.2 Warner Bros China License Agreement (modified) (5)
10.3 Warner Bros. U.S. License Agreement (5)
10.4 Warner Bros. Mexico License Agreement (6)
10.5 Warner Bros. Canada License Agreement (6)
10.6 MoonPie License Agreement (10)
10.7 Marvel License Agreement (10)
10.8 SADAFCO Production Agreement (10)
10.9 Real Estate Lease Amendment Extending Term (10)
10.10 Coca-Cola Enterprises Master Distribution Agreement (14)
II-23
10.11 Oman National Dairy Products Co. Ltd. Production Agreement (14)
10.12 Marvel Enterprises License (Middle East) (14) 10.13 Bravo! - HP Hood
Contract Packaging Agreement (19)
21.1 Subsidiaries (6)
21.2 Subsidiaries Articles of Association (6) China Premium Food
Corporation (Shanghai) Co., Inc.
23.1 Consent of Lazar Levine & Felix LLP (filed herewith).
23.2 Consent of legal counsel (see Exhibit 5.1).
----------
(1) Filed with Form 10SB/A First Amendment
(2) Filed with Form 10QSB for 3-31-99
(3) Filed with Form 10QSB for 6-30-99
(4) Filed with Form 10K-SB for 12-31-99
(5) Filed with Form 10QSB for 6-30-00
(6) Filed with Form SB-2/A Second Amendment
(7) Filed with Form SB-2/A Third Amendment
(8) Filed with Form 10K-SB 2001
(9) Filed with Form 8K filed October 2, 2002
(10) Filed with Form 10-KSB for 12-31-03
(11) Filed with Form SB-2 filed June 4, 2004
(12) Filed with the Form SB-2 filed on January 19, 2005
(13) Filed with the Form SB-2 filed on June 10, 2005
(14) Filed with the Form 10-QSB for the quarter ended September 30, 2005
(15) Filed with the Form SB-2 filed on December 21, 2005
(16) Filed with the Form 8-K filed November 28, 2005
(17) Filed with the Form 8-K filed August 2, 2006
(18) Filed with the Form 8-K filed September 5, 2006
(19) Filed with the Form 8-K filed October 2, 2006
(20) Filed with Form SB-2/A Registration Statement filed on November 1, 2006
(21) Filed with Form 8-K filed on December 29, 2006
ITEM 28. UNDERTAKINGS.
The undersigned registrant hereby undertakes to:
(1) File, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement to:
(i) Include any prospectus required by Section 10(a)(3) of the Securities Act of
1933, as amended (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. Notwithstanding the foregoing, any increase or decrease in volume of
securities offered (if the total dollar value of the securities offered would
not exceed that which was registered) and any deviation from the low or high end
of the estimated maximum offering range may be reflected in the form of
prospectus filed with the Commission pursuant to Rule 424(b) under the
Securities Act if, in the aggregate, the changes in volume and price represent
no more than a 20% change in the maximum aggregate offering price set forth in
the "Calculation of Registration Fee" table in the effective 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.
II-24
(3) File a post-effective amendment to remove from registration any of the
securities that remain unsold at the end of the offering.
(4) For purposes of determining any liability under the Securities Act, treat
the information omitted from the form of prospectus filed as part of this
registration statement in reliance upon Rule 430A and contained in a form of
prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4) or 497(h)
under the Securities Act as part of this registration statement as of the time
it was declared effective.
(5) For determining any liability under the Securities Act, treat each
post-effective amendment that contains a form of prospectus as a new
registration statement for the securities offered in the registration statement,
and that offering of the securities at that time as the initial bona fide
offering of those securities.
Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, or otherwise, the 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 the payment by the 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
registrant will, unless in the opinion of its 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.
Each prospectus filed pursuant to Rule 424(b) as part of a registration
statement relating to an offering, other than registration statements relying on
Rule 430B or other than prospectuses filed in reliance on Rule 430A, shall be
deemed to be part of and included in the registration statement as of the date
it is first used after effectiveness. Provided, however, that no statement made
in a registration statement or prospectus that is part of the registration
statement or made in a document incorporated or deemed incorporated by reference
into the registration statement or prospectus that is part of the registration
statement will, as to a purchaser with a time of contract of sale prior to such
first use, supersede or modify any statement that was made in the registration
statement or prospectus that was part of the registration statement or made in
any such document immediately prior to such date of first use.
II-25
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 of filing on Form SB-2 and authorizes this registration
statement to be signed on its behalf by the undersigned, in the City of North
Palm Beach, State of Florida, on December 29, 2006.
BRAVO! BRANDS INC.
By: /s/ Roy G. Warren
---------------------------------
Roy G. Warren, CEO
In accordance with the requirements of the Securities Act of 1933, this
registration statement was signed by the following persons in the capacities and
on the dates stated.
Name Title Date
--------------------- ----------------------------------- -----------------
/s/Stanley Hirschman Chairman and Director December 29, 2006
---------------------
Stanley Hirschman
/s/Roy G. Warren Director and CEO December 29, 2006
---------------------
Roy G. Warren
/s/Arthur W. Blanding Director December 29, 2006
---------------------
Arthur W. Blanding
/s/Robert Cummings Director December 29, 2006
---------------------
Robert Cummings
/s/Phillip Pearce Director December 29, 2006
---------------------
Phillip Pearce
/s/John McCormack Director December 29, 2006
---------------------
John McCormack
/s/Gerald L. Bos Director December 29, 2006
---------------------
Gerald L. Bos
/s/Tommy Kee Chief Accounting Officer December 29, 2006
---------------------
Tommy Kee
/s/Roy D. Toulan Vice President, Corporate Secretary December 29, 2006
--------------------- and General Counsel
Roy D. Toulan
/s/Jeffrey Kaplan Chief Financial Officer December 29, 2006
---------------------
Jeffrey Kaplan
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