Re: Medifast, Inc.
Form 10-K for the Fiscal Year Ended December 31, 2006
Filed March 16, 2007
File No. 000-23016
Supplemental Response dated July 9, 2007
Dear Ms. Sifford:
We have reviewed your comments on Form 10-K and Form 10-K/A for the Fiscal Year Ended December 31, 2006 and 10-Q for the quarter ended March 31, 2007 and our responses are attached below. Medifast is responsible for the adequacy and accuracy of the disclosure in the filing. Staff comments or changes to disclosure in response to staff comments do not foreclose the Commission from taking any action with respect to the filing and we may not assert staff comments as a defense in any proceeding initiated by the Commission or any person under the federal securities laws of the United States.
Please fax any future correspondence to my personal fax number (410) 504-8179.
Sincerely, | |
Michael S. McDevitt | |
Chief Executive Officer and Chief Financial Officer |
Form 10-K filed March 16, 2007
Note 2 — Summary of Significant Accounting Policies, page 29
1. We note numerous discrepancies in your response letter filed on July 9, 2007. For example, in your response number 9 you present revised disclosure regarding goodwill and other intangible assets. Then, in your response number 10, you provide additional draft disclosure regarding goodwill and other intangible assets but eliminate some of the words that were added in number 9. Additionally, in number 10, your draft disclosure indicates that customer lists are being amortized over a period of 5 years, while your draft disclosure in number 11 indicates that customer lists are being amortized over a period of 5 to 7 years. Please use care when filing your amendment to provide disclosure that is accurate and clear and to avoid additional comments from us.
We note your response and will exercise due professional care when filing the amended 10-K/A for the year ended December 31, 2006.
2. We note your response to prior comment 13 in our letter dated June 19, 2007, where you state that you initially accounted for Customer List #1 as an indefinite-lived asset. It appears from your response that when you revised your policy to treat it as a 5-year asset, you considered this to he a change in an accounting estimate rather than an accounting error. We believe that your original assessment was an accounting error. It is our understanding that the customers on List #1 are people, not legal entities, and people do not have indefinite lives under any circumstances. Accordingly, restate your financial statements for 2005 and subsequent periods as necessary for this accounting error. If you believe that the adjustment would not be material, quantify the impact for us as to amounts and percentage of total assets, total operating expenses and net income for each fiscal quarter from the time of the error through the first quarter of 2007 and provide an analysis of non-qualitative factors described in SAB Topic I:N Also consider the provisions of SFAS 154 and SAB Topic 1:N.
We considered the Commissions comments and agree that revising the customer lists life represents an accounting error as defined in FASB 154 as “an error in recognition, measurement, presentation, or disclosure in financial statements resulting from mathematical mistakes, mistakes in the application of GAAP, or oversight or misuse of facts that existed at the time the financial statements were prepared. A change from an accounting principle that is not generally accepted to one that is generally accepted is a correction of an error.” As the accounting error is material, the Company will restate our financial statements to include the 2005 10-K, 2006 10-K, and 2007 10-Q filed May 10, 2007. Customer list #1 had a cost basis of $2,627,000 which results in amortization expense of $525,000 annually or $131,000 quarterly based on a 5-year life using the straight-line method. Customer list #1 is no longer considered impaired in 2006 as a result of the amortization expense taken in 2005. In 2006, amortization expense on customer list #1 was $650,000. This will be restated in the 2006 10-K/A to decrease amortization expense by $125,000. In Q1 of 2007, an additional $31,000 of amortization expense on customer list #1 will be reported in the restated Q1 2007 financial statements as amortization expense was originally $100,000 and it should have been $131,000. Please see comment #6 for the restated March 31, 2007 financial statements. See below for the restated financial statements, footnotes, and updated MD &A disclosures as a result of the restatement for the years ended December 31, 2005 and December 31, 2006.
10-KSB/A for the year-ended December 31, 2005
2
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As of December 31, 2005 and 2004
(Restated) | |||||||
2005 | 2004 | ||||||
ASSETS | |||||||
Current assets: | |||||||
Cash | $ | 1,484,000 | $ | 612,000 | |||
Accounts receivable-net of allowance for doubtful accounts | 984,000 | 1,063,000 | |||||
of $100,000 and $87,000 | |||||||
Inventory | 5,475,000 | 4,251,000 | |||||
Investment securities | 2,700,000 | 2,626,000 | |||||
Deferred compensation | 525,000 | 321,000 | |||||
Prepaid expenses and other current assets | 3,273,000 | 1,079,000 | |||||
Current portion of deferred tax asset | - | 19,000 | |||||
Total current assets | 14,441,000 | 9,971,000 | |||||
Property, plant and equipment - net | 9,535,000 | 8,698,000 | |||||
Trademarks and intangibles - net | 5,984,000 | 7,138,000 | |||||
Deferred tax asset, net of current portion | 100,000 | 91,000 | |||||
Other assets | 60,000 | 70,000 | |||||
TOTAL ASSETS | $ | 30,120,000 | $ | 25,968,000 | |||
LIABILITIES AND STOCKHOLDERS' EQUITY | |||||||
Current liabilities: | |||||||
Accounts payable and accrued expenses | $ | 2,263,000 | $ | 940,000 | |||
Income taxes payable | 899,000 | 674,000 | |||||
Dividends payable | - | 65,000 | |||||
Line of credit | 633,000 | 369,000 | |||||
Current maturities of long-term debt | 561,000 | 458,000 | |||||
Deferred tax liability - current | 90,000 | - | |||||
Total current liabilities | 4,446,000 | 2,506,000 | |||||
Other liabilities and deferred credits | |||||||
Long-term debt, net of current portion | 3,977,000 | 4,256,000 | |||||
Deferred tax liability - non-current | - | - | |||||
Total liabilities | 8,423,000 | 6,762,000 | |||||
Stockholders' Equity: | |||||||
Series B Convertible Preferred Stock; par value $1.00; | |||||||
600,000 shares authorized; 0 and 300,614 | |||||||
shares issued and outstanding | - | 301,000 | |||||
Series C Convertible Preferred Stock; stated value $1.00; | |||||||
1,015,000 shares authorized; 0 and 200,000 shares issued and outstanding | - | 200,000 | |||||
Common stock; par value $.001 per share; 20,000,000 shares authorized; | |||||||
12,782,791 and 11,001,070 shares issued and outstanding | 13,000 | 11,000 | |||||
Additional paid-in capital | 21,759,000 | 20,556,000 | |||||
Accumulated other comprehensive income (loss) | 282,000 | (39,000 | ) | ||||
Retained earnings (deficit) | 825,000 | (1,287,000 | ) | ||||
22,879,000 | 19,742,000 | ||||||
Less: cost of 210,902 and 78,160 shares of common stock in treasury | (1,075,000 | ) | (536,000 | ) | |||
Less: Unearned compensation | (107,000 | ) | |||||
Total stockholders' equity | 21,697,000 | 19,206,000 | |||||
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY | $ | 30,120,000 | $ | 25,968,000 |
The accompanying notes are an integral part of these consolidated financial statements
3
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31,
(Restated) | ||||||||||
2005 | 2004 | 2003 | ||||||||
Revenue | $ | 40,129,000 | $ | 27,340,000 | $ | 25,379,000 | ||||
Cost of sales | (10,161,000 | ) | (6,746,000 | ) | (6,825,000 | ) | ||||
Gross profit | 29,968,000 | 20,594,000 | 18,554,000 | |||||||
Selling, general, and administration | (26,419,000 | ) | (17,590,000 | ) | (14,956,000 | ) | ||||
Income from operations | 3,549,000 | 3,004,000 | 3,598,000 | |||||||
Other income (expense): | ||||||||||
Interest expense | (317,000 | ) | (245,000 | ) | (150,000 | ) | ||||
Interest income | 158,000 | 154,000 | 110,000 | |||||||
Other income (expense) | 15,000 | (7,000 | ) | - | ||||||
(144,000 | ) | (98,000 | ) | (40,000 | ) | |||||
Net income before provision for income taxes | 3,405,000 | 2,906,000 | 3,558,000 | |||||||
Provision for income taxes | (1,002,000 | ) | (1,159,000 | ) | (1,148,000 | ) | ||||
Net income | 2,403,000 | 1,747,000 | 2,410,000 | |||||||
Less: Preferred stock dividend requirement | (291,000 | ) | (18,000 | ) | (58,000 | ) | ||||
Net income attributable to common shareholders | $ | 2,112,000 | $ | 1,729,000 | $ | 2,352,000 | ||||
Basic earnings per share | $ | 0.17 | $ | 0.16 | $ | 0.25 | ||||
Diluted earnings per share | $ | 0.17 | $ | 0.14 | $ | 0.22 | ||||
Weighted average shares outstanding - | ||||||||||
Basic | 12,258,734 | 10,832,360 | 9,305,731 | |||||||
Diluted | 12,780,959 | 12,413,424 | 10,952,367 |
The accompanying notes are an integral part of these consolidated financial statements
4
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
Years Ended December 31,
(Restated) | ||||||||||
2005 | 2004 | 2003 | ||||||||
Cash flows from Operating Activities: | ||||||||||
Net income | $ | 2,403,000 | $ | 1,747,000 | $ | 2,410,000 | ||||
Adjustments to reconcile net income to net cash | ||||||||||
provided by operating activities from operations: | ||||||||||
Depreciation and amortization | 2,266,000 | 1,210,000 | 648,000 | |||||||
Realized (gain) loss on investment securities | 10,000 | 19,000 | (1,000 | ) | ||||||
Common stock issued for services | 150,000 | 93,000 | 207,000 | |||||||
Vesting of unearned compensation | 15,000 | - | - | |||||||
Net change in other accumulated comprehensive income (loss) | 321,000 | (14,000 | ) | - | ||||||
Provision for bad debts | 13,000 | - | - | |||||||
Deferred income taxes | 100,000 | 486,000 | 1,138,000 | |||||||
Changes in Assets and Liabilities: | ||||||||||
Decrease (increase) in accounts receivable | 65,000 | (422,000 | ) | (357,000 | ) | |||||
(Increase) in inventory | (1,225,000 | ) | (1,263,000 | ) | (1,729,000 | ) | ||||
(Increase) in prepaid expenses and other current assets | (2,194,000 | ) | (143,000 | ) | (687,000 | ) | ||||
(Increase) in deferred compensation | (204,000 | ) | - | (321,000 | ) | |||||
Decrease (increase) in other assets | 10,000 | (25,000 | ) | 44,000 | ||||||
Increase (decrease) in accounts payable and accrued expenses | 1,323,000 | (460,000 | ) | 525,000 | ||||||
Increase in income taxes payable | 160,000 | 674,000 | - | |||||||
Net cash provided by operating activities | 3,213,000 | 1,902,000 | 1,877,000 | |||||||
Cash Flows from Investing Activities: | ||||||||||
Sale (purchase) of investment securities, net | (84,000 | ) | 1,338,000 | (3,564,000 | ) | |||||
Purchase of building | - | (566,000 | ) | (1,823,000 | ) | |||||
Purchase of property and equipment | (1,672,000 | ) | (1,490,000 | ) | (1,309,000 | ) | ||||
Purchase of intangible assets | (276,000 | ) | (2,792,000 | ) | (2,458,000 | ) | ||||
Net cash (used in) investing activities | (2,032,000 | ) | (3,510,000 | ) | (9,154,000 | ) | ||||
Cash Flows from Financing Activities: | ||||||||||
Issuance of common stock, options and warrants | 66,000 | 7,000 | 6,722,000 | |||||||
Increase (decrease) in line of credit, net | 561,000 | 314,000 | (36,000 | ) | ||||||
Purchase of treasury stock | (452,000 | ) | - | - | ||||||
Proceeds from long-term debt | - | 475,000 | 2,669,000 | |||||||
Principal repayments of long-term debt | (473,000 | ) | (1,089,000 | ) | (346,000 | ) | ||||
Dividends paid on preferred stock | (11,000 | ) | (11,000 | ) | (45,000 | ) | ||||
Net cash provided by (used in) financing activities | (309,000 | ) | (304,000 | ) | 8,964,000 | |||||
NET INCREASE (DECREASE) IN CASH AND | ||||||||||
CASH EQUIVALENTS | 872,000 | (1,912,000 | ) | 1,687,000 | ||||||
Cash and cash equivalents - beginning of the year | 612,000 | 2,524,000 | 837,000 | |||||||
Cash and cash equivalents - end of year | $ | 1,484,000 | $ | 612,000 | $ | 2,524,000 | ||||
Supplemental disclosure of cash flow information: | ||||||||||
Interest paid | $ | 317,000 | $ | 245,000 | $ | 154,000 | ||||
Income taxes | $ | 1,983,000 | $ | - | $ | - | ||||
Supplemental disclosure of non cash activity: | ||||||||||
Conversion of preferred stock B and C to common stock | $ | 501,000 | $ | 170,000 | $ | 835,000 | ||||
Common stock for services | $ | 150,000 | $ | 93,000 | $ | 207,000 | ||||
Common stock for intangibles and fixed assets | $ | - | $ | - | $ | 1,949,000 | ||||
Conversion of debt to equity | $ | - | $ | 307,000 | $ | - | ||||
Preferred B and C Stock Dividends | $ | 287,000 | $ | 7,000 | $ | 18,000 | ||||
Line of credit converted to long-term debt | $ | 369,000 | $ | - | $ | - | ||||
Common stock issued for compensation to be earned upon vesting | $ | 122,000 | $ | - | $ | - |
The accompanying notes are an integral part of these consolidated financial statements.
5
NOTE F - TRADEMARKS AND INTANGIBLES
As of December 31, 2005 | As of December 31, 2004 | ||||||||||||
(Restated) | (Restated) | ||||||||||||
Gross Carrying | Accumulated | Gross Carrying | Accumulated | ||||||||||
Amount | Amortization | Amount | Amortization | ||||||||||
Customer lists | $ | 4,356,000 | $ | 1,398,000 | $ | 4,355,000 | $ | 394,000 | |||||
Non-compete agreements | 840,000 | 566,000 | 840,000 | 248,000 | |||||||||
Trademarks and patents | 1,979,000 | 121,000 | 1,703,000 | 12,000 | |||||||||
Goodwill | 894,000 | - | 894,000 | - | |||||||||
Total | $ | 8,069,000 | $ | 2,085,000 | $ | 7,792,000 | $ | 654,000 |
Amortization expense for the years ended December 31, 2005, 2004 and 2003 was as follows:
(Restated) | ||||||||||
2005 | 2004 | 2003 | ||||||||
Customer lists | $ | 1,004,000 | $ | 244,000 | $ | 127,000 | ||||
Non-compete agreements | 369,000 | 162,000 | 86,000 | |||||||
Trademarks and patents | 58,000 | - | 14,000 | |||||||
Total trademarks and intangibles | $ | 1,431,000 | $ | 406,000 | $ | 227,000 |
Amortization expense is included in selling, general and administrative expenses.
NOTE I - INCOME TAXES
Significant components of the income tax benefit for the years ended December 31 are as follows:
(Restated) | ||||||||||
2005 | 2004 | 2003 | ||||||||
Current: | ||||||||||
Federal | $ | 631,000 | $ | 600,000 | $ | 973,000 | ||||
State | 181,000 | 90,000 | 175,000 | |||||||
Total Current | 812,000 | 690,000 | $ | 1,148,000 | ||||||
Deferred: | ||||||||||
Federal | $ | 157,000 | $ | 408,000 | $ | - | ||||
State | 33,000 | 61,000 | - | |||||||
Total deferred | 190,000 | 469,000 | - | |||||||
Income tax expense | $ | 1,002,000 | $ | 1,159,000 | $ | 1,148,000 |
6
A reconciliation between the provision for income taxes calculated at the U.S. federal statutory income tax rate and the consolidated income tax benefit in the consolidated statements of income for the years ended December 31 is as follows:
(Restated) | ||||||||||
2005 | 2004 | 2003 | ||||||||
Provision at the U.S. federal statutory rate | $ | 1,102,000 | $ | 1,087,000 | $ | 973,000 | ||||
State taxes, net of federal benefit | 170,000 | 145,000 | 175,000 | |||||||
Intangible assets | (156,000 | ) | (73,000 | ) | - | |||||
Other temporary differences | (98,000 | ) | - | - | ||||||
Permanent differences | (16,000 | ) | - | - | ||||||
Income tax expense | $ | 1,002,000 | $ | 1,159,000 | $ | 1,148,000 |
Medifast, Inc.’s deferred income taxes reflect the net tax effect of temporary differences between the bases of assets and liabilities for financial reporting purposes and their bases for income tax purposes. Significant components of the Company’s deferred tax liabilities and assets as of December 31 are as follows:
(Restated) | |||||||
2005 | 2004 | ||||||
Deferred tax assets | |||||||
Net operating loss carryforwards | $ | - | $ | - | |||
Intangible assets | 100,000 | 110,000 | |||||
Accounts receivable | - | - | |||||
Inventory overhead and write downs | - | - | |||||
Section 263A | - | - | |||||
Total deferred tax assets | $ | 100,000 | $ | 110,000 | |||
Deferred Tax Liabilities | |||||||
Intangible assets | $ | - | |||||
Accounts receivable | (37,000 | ) | - | ||||
Inventory overhead and write downs | (53,000 | ) | - | ||||
Total deferred tax liabilities | $ | (90,000 | ) | $ | - |
The 2005 effective income tax rate of 29.4% differed from the federal statutory rate of 34% due to the amortization of intangible assets, timing differences for other temporary and permanent differences, and state income taxes.
7
NOTE R - RESTATEMENTS
The December 31, 2005 financial statements have been restated to recognize an additional $525,000 in amortization expense for a customer list acquired in December 2004. The Company originally assumed an indefinite life on the customer list. Per FASB 142, an estimated useful life for a customer list has to be assigned when the asset is placed into use. As a result, amortization expense should have commenced on January 1, 2005. Pre-tax income decreased by $525,000 from $3,930,000 to $3,405,000 for the year-ended December 31, 2005. Net income for the year ended December 31, 2005 decreased by $324,000 from $2,436,000 to $2,112,000 and retained earnings decreased from $1,149,000 to $825,000.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Selling, general and administrative (SG&A) expenses of $26,419,000 for 2005 were $8,829,000 more than the $17,590,000 in 2004, due to increased costs associated with the increased scale of the business. The Company increased its advertising and marketing expense by approximately $3.2 million to include additional print and web advertising as well as strategic testing of television advertising. Salaries and benefits increased by approximately $1.1 million, Take Shape for Life commissions increased by $1.4 million due to the sales increase in the network, office expenses increased by approximately $750,000, operating expenses increased by approximately $1 million, and other general and administrative expenses, which included items such as depreciation, amortization, charitable contributions, and property taxes increased by approximately $1.4 million.
In 2005, the Company realized a tax expense of $1,002,000, as compared to a tax expense of $1,159,000 in 2004. The decrease in tax expense is due to timing differences between book and tax purposes for intangible assets, and other temporary and permanent differences.
10-K/A for the year-ended December 31, 2006
8
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
As of December 31, 2006 and 2005
(Restated) | (Restated) | ||||||
2006 | 2005 | ||||||
ASSETS | |||||||
Current assets: | |||||||
Cash and cash equivalents | $ | 1,085,000 | $ | 1,484,000 | |||
Accounts receivable-net of allowance for doubtful accounts | 448,000 | 984,000 | |||||
of $100,000 | |||||||
Inventory | 8,255,000 | 5,475,000 | |||||
Investment securities | 1,540,000 | 2,700,000 | |||||
Deferred compensation | 673,000 | 525,000 | |||||
Prepaid expenses and other current assets | 2,599,000 | 3,273,000 | |||||
Note receivable - current | 174,000 | - | |||||
Current portion of deferred tax asset | 90,000 | - | |||||
Total current assets | 14,864,000 | 14,441,000 | |||||
Property, plant and equipment - net | 14,020,000 | 9,535,000 | |||||
Trademarks and intangibles - net | 5,874,000 | 5,984,000 | |||||
Deferred tax asset, net of current portion | 517,000 | 100,000 | |||||
Note receivable, net of current assets | 1,355,000 | - | |||||
Other assets | 47,000 | 60,000 | |||||
TOTAL ASSETS | $ | 36,677,000 | $ | 30,120,000 | |||
LIABILITIES AND STOCKHOLDERS' EQUITY | |||||||
Current liabilities: | |||||||
Accounts payable and accrued expenses | $ | 2,913,000 | $ | 2,263,000 | |||
Income taxes payable | 535,000 | 899,000 | |||||
Dividends payable | - | - | |||||
Line of credit | 1,256,000 | 633,000 | |||||
Current maturities of long-term debt | 548,000 | 561,000 | |||||
Deferred tax liability - current | - | 90,000 | |||||
Total current liabilities | 5,252,000 | 4,446,000 | |||||
Other liabilities and deferred credits | |||||||
Long-term debt, net of current portion | 3,509,000 | 3,977,000 | |||||
Deferred tax liability - non-current | - | - | |||||
Total liabilities | 8,761,000 | 8,423,000 | |||||
Stockholders' Equity: | |||||||
Preferred stock, $.001 par value (1,500,000 authorized, no shares issued and outstanding) | - | - | |||||
Common stock; par value $.001 per share; 20,000,000 shares authorized; | |||||||
13,631,898 and 12,782,791 shares issued and outstanding | 14,000 | 13,000 | |||||
Additional paid-in capital | 26,629,000 | 21,759,000 | |||||
Accumulated other comprehensive income | 334,000 | 282,000 | |||||
Retained earnings | 5,981,000 | 825,000 | |||||
32,958,000 | 22,879,000 | ||||||
Less: cost of 249,184 and 210,902 shares of common stock in treasury | (1,686,000 | ) | (1,075,000 | ) | |||
Less: Unearned compensation | (3,356,000 | ) | (107,000 | ) | |||
Total stockholders' equity | 27,916,000 | 21,697,000 | |||||
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY | $ | 36,677,000 | $ | 30,120,000 |
The accompanying notes are an integral part of these consolidated financial statements
9
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, | ||||||||||
(Restated) | (Restated) | |||||||||
2006 | 2005 | 2004 | ||||||||
Revenue | $ | 74,086,000 | $ | 40,129,000 | $ | 27,340,000 | ||||
Cost of sales | (18,237,000 | ) | (10,161,000 | ) | (6,746,000 | ) | ||||
Gross profit | 55,849,000 | 29,968,000 | 20,594,000 | |||||||
Selling, general, and administration | (48,468,000 | ) | (26,419,000 | ) | (17,590,000 | ) | ||||
Income from operations | 7,381,000 | 3,549,000 | 3,004,000 | |||||||
Other income (expense): | ||||||||||
Interest expense | (369,000 | ) | (317,000 | ) | (245,000 | ) | ||||
Interest income | 175,000 | 158,000 | 154,000 | |||||||
Other income (expense) | 276,000 | 15,000 | (7,000 | ) | ||||||
82,000 | (144,000 | ) | (98,000 | ) | ||||||
Income before provision for income taxes | 7,463,000 | 3,405,000 | 2,906,000 | |||||||
Provision for income taxes | (2,307,000 | ) | (1,002,000 | ) | (1,159,000 | ) | ||||
Net income | 5,156,000 | 2,403,000 | 1,747,000 | |||||||
Less: Preferred stock dividend requirement | - | (291,000 | ) | (18,000 | ) | |||||
Net income attributable to common shareholders | $ | 5,156,000 | $ | 2,112,000 | $ | 1,729,000 | ||||
Basic earnings per share | $ | 0.41 | $ | 0.17 | $ | 0.16 | ||||
Diluted earnings per share | $ | 0.38 | $ | 0.17 | $ | 0.14 | ||||
Weighted average shares outstanding - | ||||||||||
Basic | 12,699,066 | 12,258,734 | 10,832,360 | |||||||
Diluted | 13,482,894 | 12,780,959 | 12,413,424 |
The accompanying notes are an integral part of these consolidated financial statements
10
MEDIFAST, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOW
Years Ended December 31,
(Restated) | (Restated) | |||||||||
2006 | 2005 | 2004 | ||||||||
Cash flows from Operating Activities: | ||||||||||
Net income | $ | 5,156,000 | $ | 2,403,000 | $ | 1,747,000 | ||||
Adjustments to reconcile net income to net cash | ||||||||||
provided by operating activities from operations: | ||||||||||
Depreciation and amortization | 2,271,000 | 2,266,000 | 1,210,000 | |||||||
Realized (gain) loss on investment securities | (79,000 | ) | 10,000 | 19,000 | ||||||
Loss on sale of Consumer Choice Systems | 323,000 | - | - | |||||||
Common stock issued for services | 86,000 | 150,000 | 93,000 | |||||||
Vesting of unearned compensation | 509,000 | 15,000 | - | |||||||
Stock options vested during year | 40,000 | - | - | |||||||
Excess tax benefits from share-based payment arrangements | 16,000 | - | - | |||||||
Net change in other accumulated comprehensive income (loss) | 52,000 | 321,000 | (14,000 | ) | ||||||
Provision for bad debts | - | 13,000 | - | |||||||
Deferred income taxes | (597,000 | ) | 100,000 | 486,000 | ||||||
Changes in Assets and Liabilities: | ||||||||||
Decrease (increase) in accounts receivable | 379,000 | 65,000 | (422,000 | ) | ||||||
(Increase) in inventory | (3,138,000 | ) | (1,225,000 | ) | (1,263,000 | ) | ||||
(Increase) decrease in prepaid expenses and other current assets | 675,000 | (2,194,000 | ) | (143,000 | ) | |||||
(Increase) in deferred compensation | (148,000 | ) | (204,000 | ) | - | |||||
Decrease (increase) in other assets | 13,000 | 10,000 | (25,000 | ) | ||||||
Increase (decrease) in accounts payable and accrued expenses | 651,000 | 1,323,000 | (460,000 | ) | ||||||
Increase (decrease) in income taxes payable | (364,000 | ) | 160,000 | 674,000 | ||||||
Net cash provided by operating activities | 5,845,000 | 3,213,000 | 1,902,000 | |||||||
Cash Flows from Investing Activities: | ||||||||||
Sale (purchase) of investment securities, net | 1,237,000 | (84,000 | ) | 1,338,000 | ||||||
Purchase of building | - | - | (566,000 | ) | ||||||
Purchase of property and equipment | (5,557,000 | ) | (1,672,000 | ) | (1,490,000 | ) | ||||
Purchase of intangible assets | (2,427,000 | ) | (276,000 | ) | (2,792,000 | ) | ||||
Net cash (used in) investing activities | (6,747,000 | ) | (2,032,000 | ) | (3,510,000 | ) | ||||
Cash Flows from Financing Activities: | ||||||||||
Issuance of common stock, options and warrants | 795,000 | 66,000 | 7,000 | |||||||
Increase in line of credit, net | 623,000 | 561,000 | 314,000 | |||||||
Excess tax benefits from share-based payment arrangements | (14,000 | ) | - | - | ||||||
Purchase of treasury stock | (420,000 | ) | (452,000 | ) | - | |||||
Proceeds from long-term debt | - | - | 475,000 | |||||||
Principal repayments of long-term debt | (481,000 | ) | (473,000 | ) | (1,089,000 | ) | ||||
Dividends paid on preferred stock | - | (11,000 | ) | (11,000 | ) | |||||
Net cash provided by (used in) financing activities | 503,000 | (309,000 | ) | (304,000 | ) | |||||
NET INCREASE (DECREASE) IN CASH AND | ||||||||||
CASH EQUIVALENTS | (399,000 | ) | 872,000 | (1,912,000 | ) | |||||
Cash and cash equivalents - beginning of the year | 1,484,000 | 612,000 | 2,524,000 | |||||||
Cash and cash equivalents - end of year | $ | 1,085,000 | $ | 1,484,000 | $ | 612,000 | ||||
Supplemental disclosure of cash flow information: | ||||||||||
Interest paid | $ | 369,000 | $ | 317,000 | $ | 245,000 | ||||
Income taxes | $ | 3,403,000 | $ | 1,983,000 | $ | - | ||||
Supplemental disclosure of non cash activity: | ||||||||||
Common stock issued to executives over 6-year vesting period | $ | 3,373,000 | $ | - | $ | - | ||||
Common shares issued for options and warrants | $ | 591,000 | $ | - | $ | - | ||||
Options vested during period | $ | 40,000 | $ | - | $ | - | ||||
Conversion of preferred stock B and C to common stock | $ | - | $ | 501,000 | $ | 170,000 | ||||
Common stock for services | $ | 86,000 | $ | 150,000 | $ | 93,000 | ||||
Conversion of debt to equity | $ | - | $ | - | $ | 307,000 | ||||
Preferred B and C Stock Dividends | $ | - | $ | 287,000 | $ | 7,000 | ||||
Line of credit converted to long-term debt | $ | - | $ | 369,000 | $ | - | ||||
Common stock issued for compensation to be earned upon vesting | $ | - | $ | 122,000 | $ | - |
The accompanying notes are an integral part of these consolidated financial statements.
11
7. TRADEMARKS AND INTANGIBLES
As of December 31, 2006 | As of December 31, 2005 | ||||||||||||
(Restated) | (Restated) | (Restated) | (Restated) | ||||||||||
Gross Carrying | Accumulated | Gross Carrying | Accumulated | ||||||||||
Amount | Amortization | Amount | Amortization | ||||||||||
Customer lists | $ | 5,587,000 | $ | 1,969,000 | $ | 4,356,000 | $ | 1,398,000 | |||||
Non-compete agreements | 840,000 | 840,000 | 840,000 | 566,000 | |||||||||
Trademarks, patents, and copyrights | |||||||||||||
finite life | 1,557,000 | 210,000 | 920,000 | 121,000 | |||||||||
infinite life | 909,000 | - | 1,059,000 | - | |||||||||
Goodwill | - | 894,000 | - | ||||||||||
Total | $ | 8,893,000 | $ | 3,019,000 | $ | 8,069,000 | $ | 2,085,000 |
Amortization expense for the years ended December 31, 2006, 2005 and 2004 was as follows:
(Restated) | (Restated) | |||||||||
2006 | 2005 | 2004 | ||||||||
Customer lists | $ | 774,000 | $ | 1,004,000 | $ | 244,000 | ||||
Non-compete agreements | 273,000 | 369,000 | 162,000 | |||||||
Trademarks, patents, and copyrights | 152,000 | 58,000 | - | |||||||
Total trademarks and intangibles | $ | 1,199,000 | $ | 1,431,000 | $ | 406,000 |
On January 17, 2006 the Consumer Choice Systems division of the Company was sold which included the sale of $1,601,000 in gross intangible assets and $265,000 in accumulated amortization.
10. INCOME TAXES
Significant components of the income tax benefit for the years ended December 31 are as follows:
(Restated) | (Restated) | |||||||||
2006 | 2005 | 2004 | ||||||||
Current: | ||||||||||
Federal | $ | 1,073,000 | $ | 631,000 | $ | 600,000 | ||||
State | 327,000 | 181,000 | 90,000 | |||||||
Total Current | $ | 1,400,000 | $ | 812,000 | $ | 690,000 | ||||
Deferred: | ||||||||||
Federal | $ | 786,000 | $ | 157,000 | $ | 408,000 | ||||
State | 121,000 | 33,000 | 61,000 | |||||||
Total deferred | 907,000 | 190,000 | 469,000 | |||||||
Income tax expense | $ | 2,307,000 | $ | 1,002,000 | $ | 1,159,000 |
12
A reconciliation between the provision for income taxes calculated at the U.S. federal statutory income tax rate and the consolidated income tax benefit in the consolidated statements of income for the years ended December 31 is as follows:
(Restated) | (Restated) | |||||||||
2006 | 2005 | 2004 | ||||||||
Provision at the U.S. federal statutory rate | $ | 2,537,000 | $ | 1,102,000 | $ | 1,087,000 | ||||
State taxes, net of federal benefit | 371,000 | 170,000 | 145,000 | |||||||
Intangible assets | (297,000 | ) | (156,000 | ) | (73,000 | ) | ||||
Other temporary differences | - | (98,000 | ) | - | ||||||
Cost segregation study | (275,000 | ) | - | - | ||||||
Permanent differences | (29,000 | ) | (16,000 | ) | - | |||||
Income tax expense | $ | 2,307,000 | $ | 1,002,000 | $ | 1,159,000 |
Medifast, Inc.’s deferred income taxes reflect the net tax effect of temporary differences between the bases of assets and liabilities for financial reporting purposes and their bases for income tax purposes. Significant components of the Company’s deferred tax liabilities and assets as of December 31 are as follows:
(Restated) | (Restated) | ||||||
2006 | 2005 | ||||||
Deferred tax assets | |||||||
Intangible assets | $ | 480,000 | $ | 100,000 | |||
Accounts receivable | 37,000 | - | |||||
Inventory overhead and write downs | 49,000 | - | |||||
Deferred compensation | 41,000 | - | |||||
Total deferred tax assets | $ | 607,000 | $ | 100,000 | |||
Deferred Tax Liabilities | |||||||
Intangible assets | $ | - | |||||
Accounts receivable | - | (37,000 | ) | ||||
Inventory overhead and write downs | - | (53,000 | ) | ||||
Total deferred tax liabilities | $ | - | $ | (90,000 | ) |
The 2006 effective income tax rate of 30.9% differed from the federal statutory rate of 34% due to the amortization of intangible assets, a cost segregation study performed on fixed assets, as well as timing differences for other temporary and permanent differences, and state income taxes.
The 2005 effective income tax rate of 29.4% differed from the federal statutory rate of 34% due to the amortization of intangible assets, timing differences for other temporary and permanent differences, and state income taxes.
16. RESTATEMENT
The December 31, 2005 financial statements have been restated to recognize an additional $525,000 in amortization expense for a customer list acquired in December 2004. The Company originally assumed an indefinite life on the customer list. Per FASB 142, an estimated useful life for a customer list has to be assigned when the asset is placed into use. As a result, amortization expense should have commenced on January 1, 2005. Pre-tax income decreased by $525,000 from $3,930,000 to $3,405,000 for the year-ended December 31, 2005. Net income for the year ended December 31, 2005 decreased by $324,000 from $2,436,000 to $2,112,000 and retained earnings decreased from $1,149,000 to $825,000.
13
The December 31, 2006 financial statements have been restated to decrease amortization expense on customer lists by $125,000. Pre-tax income increased by $125,000 from $7,338,000 to $7,463,000 for the year-ended December 31, 2006. Net income for the year ended December 31, 2006 increased by $74,000 from $5,082,000 to $5,156,000 and retained earnings increased from $5,907,000 to $5,981,000.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Aside from the increase in advertising expense, selling, general, and administrative expenses increased by approximately $11.5 million. A few major expense categories attributed to the majority of the increase in expenses and were all directly related to our dramatic sales growth in 2006. Salaries and benefits increased by $3 million to support the 85% increase in sales. In addition, Take Shape for Life sales increased by 46% year-over-year which led to increased commission expense of $3.4 million that is completely variable in relation to sales growth. Another variable expense that rose by $800,000 with our sales growth was credit card processing fees. Currently, over 95% of the Company’s transactions are processed via credit card. Additional increases included an increase in office expense of $800,000, an increase in operating costs of $300,000, and an increase in sales expense of $400,000. Other expenses increased by $1.8 million, which included items such as depreciation, amortization, stock compensation expense, charitable contributions, and property taxes. To handle increased call volume, the Company began using an outsourced call center in April of 2006 which led to $1 million in additional expense as compared to prior year.
Income taxes: In the third quarter of 2006, the Company had a $1 million federal tax refund receivable. A portion of this refund was factored into the Company’s income tax provision, which lowered the estimated tax rate for 2006. In 2006, the Company recorded $2.3 million in income tax expense, which represents an annual effective rate of 31%. In 2005, we recorded income tax expense of $1 million, which reflected an estimated annual effective tax rate of 29.4 %. The Company anticipates a tax rate of approximately 36-39% in 2007. The benefit the Company received in 2006 from a large income tax refund receivable as a result a cost segregation study performed on our fixed assets is not expected to benefit future periods.
14
3. With regard to prior comment 13 in our letter dated June 19, 2007, tell us why you have failed to provide the converted-to-sale percentage for Customer Lists 3, 4 and 5, as we had requested. We note that you write "N/A" for each of these lists for each year in your response but do not explain why these figures are not applicable or not available. Also provide us a schedule showing, for each customer list separately, the cost of the asset, the amortization expense and impairment by year since acquisition, and the related revenues derived from the asset each year.
We caution you that if your historical experience indicates that a 5-year life is not reasonable for customer lists, we would expect that lives assigned to new and existing lists would be shorter. Additionally, we would expect that if your experience demonstrates that customer lists are more valuable in the first year than in subsequent years, your amortization method would reflect this for other lists as well. We note that you impaired List 1 in its second year, but you continued to believe that List 2 should be amortized straight-line over 5 years.
In prior comment 13, the converted-to-sale percentage was not provided on customer lists #3, #4, and #5 as they don’t relate to direct mailing and e-mail remarketing campaigns. We only use the converted-to-sale percentage as a key metric to assess the effectiveness of customer list #1 and customer list #2 as is common in the direct response marketing industry. Customer lists #3, #4, and #5 as described in previous comment 13 relate to customer lists acquired in previous business acquisitions. These lists, along with customer lists #1 and #2, are tested in the fourth quarter for impairment annually by comparing the undiscounted net cash flows associated with the related asset, over their remaining lives, in comparison to their respective carrying amounts. Please see the spreadsheet below for the revenue derived on an annual basis from each customer list. We acknowledge the Commissions comment in regards to using our historical experience in determining useful lives on current and future customer lists. At this time, our impairment testing has shown a 5-year life to be acceptable for our customer lists. As direct mailing and e-mail marketing is a newer form of advertising for the Company, we will continue to monitor customer lists #1 and #2 closely to ensure that the 5-year life is reasonable. At this time, the annual revenue derived from the lists in comparison to the carrying value supports the current amortization period and method of amortization.
The schedule below shows the cost, amortization expense, impairment, and revenues derived from our 5 customer lists. As discussed in comment #2 above, amortization expense on Customer List #1 has been restated to correct the accounting error for the years ended December 31, 2005, December 31, 2006, and for the quarter ended March 31, 2007. The tables are as follows:
15
Amort. | Amort. | Amort. | Amort. | Impair. | Amort. | Impair. | NBV | ||||||
Cost | Life | 2002 | 2003 | 2004 | 2005 | 2005 | 2006 | 2006 | 12/31/2006 | ||||
Customer List 1 | 12/04 | 2,627,000 | 60 | - | 300,000 | 350,000 | 1,977,000 | ||||||
Customer List 2 | 12/06 | 1,583,000 | 60 | - | - | 1,583,000 | |||||||
Customer List 3 | 12/03 | 150,000 | 36 | 30,000 | 30,000 | 60,000 | 30,000 | - | |||||
Customer List 4 | 10/02 | 477,000 | 84 | 23,000 | 68,000 | 68,000 | 68,000 | 68,000 | 182,000 | ||||
Customer List 5 | 11/03 | 750,000 | 60 | 25,000 | 150,000 | 150,000 | 150,000 | 275,000 | |||||
5,587,000 | |||||||||||||
23,000 | 93,000 | 248,000 | 248,000 | 60,000 | 548,000 | 350,000 | 4,017,000 |
AS RESTATED | |||||||||||||
Amort. | Amort. | Amort. | Amort. | Impair. | Amort. | Impair. | NBV | ||||||
2002 | 2003 | 2004 | 2005 | 2005 | 2006 | 2006 | 12/31/2006 | ||||||
Customer List 1 | 12/04 | 2,627,000 | 60 | 525,000 | 525,000 | 1,577,000 | |||||||
Customer List 2 | 12/06 | 1,583,000 | 60 | - | - | 1,583,000 | |||||||
Customer List 3 | 12/03 | 150,000 | 36 | 30,000 | 30,000 | 60,000 | 30,000 | - | |||||
Customer List 4 | 10/02 | 477,000 | 84 | 23,000 | 68,000 | 68,000 | 68,000 | 68,000 | 182,000 | ||||
Customer List 5 | 11/03 | 750,000 | 60 | 25,000 | 150,000 | 150,000 | 150,000 | 275,000 | |||||
5,587,000 | |||||||||||||
23,000 | 93,000 | 248,000 | 773,000 | 60,000 | 773,000 | - | 3,617,000 |
Revenues from Customer List | |||||||||||||
2002 | 2003 | 2004 | 2005 | 2006 | |||||||||
Customer List 1 | 12/04 | 2,627,000 | 60 | 2,784,000 | 2,386,000 | ||||||||
Customer List 2 | 12/06 | 1,583,000 | 60 | ||||||||||
Customer List 3 | 12/03 | 150,000 | 36 | 126,000 | 34,000 | 19,000 | |||||||
Customer List 4 | 10/02 | 477,000 | 84 | 7,332,000 | 4,892,000 | 3,940,000 | 4,549,000 | ||||||
Customer List 5 | 11/03 | 750,000 | 60 | 1,160,000 | 1,073,000 | 815,000 | |||||||
5,587,000 |
16
4. Upon amendment, revise your MD&A to discuss the $350,000 impairment charge for Customer List #1 which you tell us that you recorded in the first quarter of 2006. We note that this sum is equal to nearly 7% of your reported 2006 net income. We also note that in the first quarter of 2006, it was equal to nearly 21% of net income. It reduced operating profits by 10%, and discussions of the impairment were likewise omitted from your MD&A.
In comment #2 above, the Company restated its financial statements as a result of an accounting error. Having restated the error to recognize $525,000 in amortization expense on customer list #1 for the year ended December 31, 2005, we no longer consider the customer list to be impaired in the first quarter of 2006. Please see the revenues attributed to customer list #1 in relation to its carrying value for the year-ended December 31, 2006 on the table in comment #3 to support our decision.
Please see comment #6 below for the restated March 31, 2006 financial statements and intangible asset footnote. Originally, customer list #1 was impaired for $350,000 in the first quarter. However, the Company will now restate the financial statements to include the correct amortization expense amount of $131,000 which results in a $219,000 decrease in amortization expense for the quarter-ended March 31, 2006.
17
Form 10-Q filed May 10, 2007
General
5. We note your responses to prior comments 16, 17 and 19 in our letter dated June
19, 2007. Complying prospectively will not he sufficient, and it will be necessary for you to amend your Form 1 0-Q filed May 10, 2007, as quickly as possible after your Form 10-K amendment is filed. In your next response, provide your draft disclosure in response to prior comment 19.
We note your comment and will amend our Form 10-Q filed on May 10, 2007 to include responses to prior comments 16, 17, and 19. Please find our response to prior comment 19:
Overall, selling, general and administrative expenses increased by $1,662,000 in the first quarter of 2007 as compared to the first three months of 2006. The majority of the increase was due to advertising expense increasing by approximately $1.3 million as compared to the prior year. In prior year, the advertising proved more cost-effective due to a substantial editorial placement in a major consumer publication at no cost to the Company. Personnel expenses increased by approximately $400,000 compared to prior year as the Company hired additional expertise in critical areas in order to assist in future growth. This primarily includes IT, nutrition and product development, marketing, and Take Shape for Life. Take Shape commission expense, which is completely variable, in relation to sales, increased by approximately $100,000. Stock compensation expense increased by $208,000 as stock awards vested over 5 and 6 year terms for executives. The expense increases were offset by a decrease in office expense of approximately $50,000, a decrease in other expense, which includes items such as depreciation, amortization, bank charges, charitable contributions, and property taxes, of approximately $50,000 and the absence of a $323,000 loss resulting from the sale of the Consumer Choice Systems division in the first quarter of 2006.
Income taxes: For the first three months of 2007, we recorded $530,000 in income tax expense, which represents an annual effective rate of 28%. For the first three months of 2006, we recorded income tax expense of $1 million which reflected an estimated annual effective tax rate of 34%. The Company anticipates a tax rate of approximately 36-38% in 2007.
Net income: Net income was $1.4 million in the first three months of 2007 as compared to $2 million in the first three months of 2006, which reflected a decrease of $600,000, or 30%. The decrease in first quarter 2007 profit is primarily the result of an editorial placement in a major consumer magazine in the first quarter of 2006 which resulted in a material increase in sales and profits.
Note 4 — Goodwill and Other Intangible Assets, page 7
6. We note your response to prior comment 18 in our letter dated June 19, 2007.
Since the use of Customer List #2 began in the second month of the quarter, amortization expense should have been recorded according to your best estimate of asset life at that time for the second and third months of the quarter. Restate your financial statements and revise related disclosure accordingly.
We have restated our financial statements for the quarter-ended March 31, 2007 to include two months of amortization expense on Customer List #2. Customer list #2 had an original cost of $1,583,000 and will be amortized over 5 years straight-line. This results in amortization expense of $53,000 for February and March of 2007. In addition, $31,000 of additional amortization expense on Customer List #1 will be reported on the restated financial statements. Amortization expense of $100,000 was taken on Customer List #1 for the quarter-ended March 31, 2007, however, the correct amortization expense based on the original cost of $2,627,000 over a 5 year life using straight-line amortization should have been $131,000 resulting in the $31,000 difference. Please find the restated 2007 financial statements below. In addition, amortization expense for the period ended March 31, 2006 has been restated as described in comment #4 above. The updated March 31, 2007 MD&A is provided in comment #5 above.
18
MEDIFAST, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
March 31, 2007 | December 31, 2006 | ||||||
(Unaudited) | (Audited) | ||||||
ASSETS | |||||||
Current assets: | (Restated) | (Restated) | |||||
Cash | $ | 1,857,000 | $ | 1,085,000 | |||
Accounts receivable-net of allowance for doubtful accounts of $100,000 | 525,000 | 448,000 | |||||
Inventory | 8,707,000 | 8,255,000 | |||||
Investment securities | 1,414,000 | 1,540,000 | |||||
Deferred compensation | 798,000 | 673,000 | |||||
Prepaid expenses and other current assets | 3,483,000 | 2,599,000 | |||||
Note receivable - current | 174,000 | 174,000 | |||||
Deferred tax asset | 92,000 | 90,000 | |||||
Total Current Assets | 17,050,000 | 14,864,000 | |||||
Property, plant and equipment - net | 14,575,000 | 14,020,000 | |||||
Trademarks and intangibles - net | 5,817,000 | 5,874,000 | |||||
Deferred tax asset, net of current portion | 603,000 | 517,000 | |||||
Note receivable, net of current portion | 1,314,000 | 1,355,000 | |||||
Other assets | 53,000 | 47,000 | |||||
TOTAL ASSETS | $ | 39,412,000 | $ | 36,677,000 | |||
LIABILITIES AND STOCKHOLDERS' EQUITY | |||||||
Current liabilities: | |||||||
Accounts payable and accrued expenses | $ | 3,615,000 | $ | 2,913,000 | |||
Income taxes payable | 689,000 | 535,000 | |||||
Line of credit | 1,906,000 | 1,256,000 | |||||
Current maturities of long-term debt | 528,000 | 548,000 | |||||
Total current liabilities | 6,738,000 | 5,252,000 | |||||
Long-term debt, net of current portion | 3,392,000 | 3,509,000 | |||||
Total Liabilities | 10,130,000 | 8,761,000 | |||||
Stockholders' Equity: | |||||||
Common stock; par value $.001 per share; 20,000,000 authorized; | |||||||
13,643,998 and 12,782,791 shares issued and outstanding, respectively | 14,000 | 14,000 | |||||
Additional paid-in capital | 26,752,000 | 26,629,000 | |||||
Accumulated other comprehensive income | 348,000 | 334,000 | |||||
Retained Earnings | 7,354,000 | 5,981,000 | |||||
34,468,000 | 32,958,000 | ||||||
Less: cost of 274,184 and 210,902 shares of common stock in treasury | (1,994,000 | ) | (1,686,000 | ) | |||
Less: unearned compensation | (3,192,000 | ) | (3,356,000 | ) | |||
Total Stockholders' Equity | 29,282,000 | 27,916,000 | |||||
TOTAL LIABILITIES & STOCKHOLDERS' EQUITY | $ | 39,412,000 | $ | 36,677,000 |
19
MEDIFAST, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
Three Months Ended March 31, | |||||||
(Restated) | (Restated) | ||||||
2007 | 2006 | ||||||
(Unaudited) | (Unaudited) | ||||||
Revenue | $ | 20,089,000 | $ | 19,183,000 | |||
Cost of sales | 5,058,000 | 4,778,000 | |||||
Gross Profit | 15,031,000 | 14,405,000 | |||||
Selling, general, and administration | 13,117,000 | 11,455,000 | |||||
Income from operations | 1,914,000 | 2,950,000 | |||||
Other income/(expense) | |||||||
Interest expense | (95,000 | ) | (89,000 | ) | |||
Interest income | 33,000 | 98,000 | |||||
Other expense | 51,000 | 79,000 | |||||
(11,000 | ) | 88,000 | |||||
Net income before provision for income taxes | 1,903,000 | 3,038,000 | |||||
Provision for income tax (expense) | (530,000 | ) | (1,037,000 | ) | |||
Net income | 1,373,000 | 2,001,000 | |||||
Basic earnings per share | $ | 0.11 | $ | 0.15 | |||
Diluted earnings per share | $ | 0.10 | $ | 0.15 | |||
Weighted average shares outstanding - | |||||||
Basic | 12,899,543 | 12,965,518 | |||||
Diluted | 13,690,788 | 13,474,411 |
20
MEDIFAST, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended March 31, | |||||||
(Restated) | (Restated) | ||||||
2007 | 2006 | ||||||
(Unaudited) | (Unaudited) | ||||||
Cash flows from operating activities: | |||||||
Net income | $ | 1,373,000 | $ | 1,694,000 | |||
Adjustments to reconcile net income to net cash | |||||||
provided by operating activities from | |||||||
continuing operations: | |||||||
Depreciation and amortization | 786,000 | 759,000 | |||||
Realized (gain) loss on investment securities | 32,000 | (19,000 | ) | ||||
Loss on sale of Consumer Choice Systems | - | 323,000 | |||||
Common stock issued for services | 21,000 | 33,000 | |||||
Stock options vested during period | 77,000 | 18,000 | |||||
Excess tax benefits from share-based payment arrangements | 30,000 | (6,000 | ) | ||||
Vesting of unearned compensation | 164,000 | 15,000 | |||||
Net change in other comprehensive (loss) income | 14,000 | (55,000 | ) | ||||
Deferred income taxes | (88,000 | ) | (262,000 | ) | |||
Changes in assets and liabilities: | |||||||
(Increase) decrease in accounts receivable | (76,000 | ) | 79,000 | ||||
(Increase) decrease in inventory | (452,000 | ) | 46,000 | ||||
(Increase) decrease in prepaid expenses & other current assets | (885,000 | ) | 835,000 | ||||
(Increase) in deferred compensation | (125,000 | ) | (102,000 | ) | |||
Decrease in other assets | (6,000 | ) | (1,000 | ) | |||
Increase in accounts payable and accrued expenses | 701,000 | 652,000 | |||||
(Decrease) in deferred tax liability | - | (191,000 | ) | ||||
Increase (decrease) in income taxes payable | 154,000 | (416,000 | ) | ||||
Net cash provided by operating activities | 1,720,000 | 3,402,000 | |||||
Cash Flow from Investing Activities: | |||||||
(Purchase) sale of investment securities, net | 97,000 | (44,000 | ) | ||||
(Purchase) of property and equipment | (1,044,000 | ) | (763,000 | ) | |||
(Purchase) of intangible assets | (240,000 | ) | (150,000 | ) | |||
Net cash (used in) investing activities | (1,187,000 | ) | (957,000 | ) | |||
Cash Flow from Financing Activities: | |||||||
Issuance of common stock, options and warrants | 24,000 | 13,000 | |||||
(Repayment) of long-term debt, net | (137,000 | ) | (155,000 | ) | |||
Increase in line of credit | 650,000 | - | |||||
Decrease in note receivable | 41,000 | - | |||||
Excess tax benefits from share-based payment arrangements | (30,000 | ) | 6,000 | ||||
(Purchase) of treasury stock | (309,000 | ) | - | ||||
Net cash provided by (used in) financing activities | 239,000 | (136,000 | ) | ||||
NET INCREASE IN CASH AND | |||||||
CASH EQUIVALENTS | 772,000 | 2,309,000 | |||||
Cash and cash equivalents - beginning of the period | 1,085,000 | 1,484,000 | |||||
Cash and cash equivalents - end of period | $ | 1,857,000 | $ | 3,793,000 | |||
Supplemental disclosure of cash flow information: | |||||||
Interest paid | $ | 95,000 | $ | 89,000 | |||
Income taxes | $ | 464,000 | $ | 1,231,000 | |||
Supplemental disclosure of non cash activity: | |||||||
Common stock issued to executives over 6-year vesting period | $ | - | $ | 3,373,000 | |||
Common shares issued for options and warrants | $ | - | $ | 384,000 | |||
Options vested during period | $ | 77,000 | $ | 18,000 | |||
Common stock issued for services | $ | 21,000 | $ | 33,000 | |||
Line of credit converted to long-term debt | $ | - | $ | 369,000 |
See accompanying notes to condensed consolidated financial statements.
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As of March 31, 2007 | As of December 31, 2006 | ||||||||||||
(Restated) | (Restated) | (Restated) | (Restated) | ||||||||||
Gross Carrying | Accumulated | Gross Carrying | Accumulated | ||||||||||
Amount | Amortization | Amount | Amortization | ||||||||||
Customer lists | $ | 5,791,000 | $ | 2,207,000 | $ | 5,587,000 | $ | 1,969,000 | |||||
Non-compete agreements | 840,000 | 840,000 | 840,000 | 840,000 | |||||||||
Trademarks, patents, and copyrights | |||||||||||||
finite life | 1,592,000 | 268,000 | 1,557,000 | 210,000 | |||||||||
infinite life | 909,000 | 909,000 | |||||||||||
Total | $ | 9,132,000 | $ | 3,315,000 | $ | 8,893,000 | $ | 3,019,000 |
Amortization expense for the three months ended March 31, 2007 and 2006 was as follows:
(Restated) | (Restated) | ||||||
2007 | 2006 | ||||||
Customer lists | $ | 239,000 | 193,000 | ||||
Non-compete agreements | - | 97,000 | |||||
Trademarks and patents | 58,000 | 27,000 | |||||
Total Trademarks and Intangibles | $ | 297,000 | $ | 317,000 |
Amortization expense is included in selling, general and administrative expenses.
12. Restatements
The March 31, 2006 financial statements have been restated to decrease amortization expense on customer lists by $219,000. Pre-tax income increased by $219,000 for the quarter-ended March 31, 2006 from $2,819,000 to $3,038,000. Net income for the quarter-ended March 31, 2006 increased by $307,000 from $1,694,000 to $2,001,000 and retained earnings increased from $2,519,000 to $2,826,000.
The March 31, 2007 financial statements have been restated to increase amortization expense on customer lists by $84,000. Pre-tax income increased by $84,000 for the quarter-ended March 31, 2007 from $1,987,000 to $1,903,000. Net income for the quarter-ended March 31, 2007 decreased by $49,000 from $1,422,000 to $1,373,000 and retained earnings decreased from $7,403,000 to $7,354,000.
All of the above restatements are ready to be filed with the Securities and Exchange Commission upon final review and approval by the Commission. Our second quarter financial statements to be filed on August 9, 2007 will incorporate all the changes resulting from the restatements contained herein.
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