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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For quarterly period ended March 31, 2000
Commission File Number 0-22619
VALUESTAR CORPORATION
(Exact name of registrant as specified in its charter)
Colorado 84-1202005
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(State or other jurisdiction of (I.R.S. Empl. Ident. No.)
incorporation or organization)
360-22nd Street, #210, Oakland, California 94612
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(Address of principal executive offices) (Zip Code)
(510) 808-1300
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(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
YES _X_ NO ___
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date:
Common Stock, $.00025 par value 15,242,059
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(Class) (Outstanding at April 28, 2000)
Transitional Small Business Disclosure Format (check one): YES ___ NO _X_
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VALUESTAR CORPORATION
INDEX
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited):
Consolidated Balance Sheets as of March 31, 2000 and
June 30, 1999 3
Consolidated Statements of Operations for the three
and nine months ended March 31, 2000 and 1999 4
Consolidated Statements of Cash Flows for the nine
months ended March 31, 2000 and 1999 5
Notes to Interim Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 12
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 18
Item 2. Changes in Securities 18
Item 3. Defaults upon Senior Securities 19
Item 4. Submission of Matters to a Vote of Security Holders 19
Item 5. Other Information 19
Item 6. Exhibits and Reports on Form 8-K 19
SIGNATURES 20
2
VALUESTAR CORPORATION
CONSOLIDATED BALANCE SHEETS
(Unaudited)
ASSETS
March 31, June 30,
2000 1999
------------ ------------
CURRENT ASSETS
Cash $ 10,533,486 $ 270,149
Receivables 388,844 409,806
Inventory 22,771 4,008
Prepaid expenses 213,903 59,446
------------ ------------
Total current assets 11,159,004 743,409
PROPERTY AND EQUIPMENT 2,422,441 501,605
DEFERRED COSTS 60,433 100,839
INTANGIBLE AND OTHER ASSETS 84,536 194,130
------------ ------------
Total assets $ 13,726,414 $ 1,539,983
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable $ 996,576 461,825
Accrued liabilities and other payables 256,194 189,759
Deferred revenues 55,160 27,430
Note payable - shareholder 295,000 280,000
Current portion of capitalized leases 42,423 30,018
Current portion of long-term debt 506,485 1,032,664
------------ ------------
Total current liabilities 2,151,838 2,021,696
CAPITAL LEASE OBLIGATIONS, net of current portion 100,709 113,541
LONG-TERM DEBT, net of current portion 114,397 1,795,438
------------ ------------
Total liabilities 2,366,944 3,930,675
STOCKHOLDERS' EQUITY
Preferred stock, $.00025 par value; 5,000,000 shares authorized:
500,000 shares designated Series A Convertible, with 225,000
shares issued and outstanding at March 31, 2000 (liquidation
preference of $10.00 per share) 56 --
800,000 shares designated Series B Convertible, with 688,586
shares issued and outstanding at March 31, 2000 (liquidation
preference of $17.50 to $30.00 per share, see note 8) 172 --
Common stock, $.00025 par value; 50,000,000 shares
authorized, 14,500,123 and 9,374,132 shares issued
and outstanding, respectively 3,625 2,344
Additional paid-in capital 29,331,155 6,485,373
Unearned stock-based compensation (98,917) --
Subscribed common stock 837,150 --
Accumulated deficit (18,713,771) (8,878,409)
------------ ------------
Total stockholders' equity 11,359,470 (2,390,692)
------------ ------------
Total liabilities and stockholders' equity $ 13,726,414 $ 1,539,983
============ ============
<FN>
See accompanying notes to interim consolidated financial statements.
</FN>
-3-
VALUESTAR CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Nine Months Ended
March 31, March 31,
2000 1999 2000 1999
------------ ------------ ------------ ------------
REVENUES $ 478,750 $ 693,485 $ 1,670,878 $ 1,769,753
------------ ------------ ------------ ------------
OPERATING EXPENSES
Cost of revenues 195,072 259,966 1,022,711 710,570
Selling 1,163,815 474,183 2,432,509 1,184,126
Marketing and promotion 957,917 221,422 1,737,337 650,334
Product and content development 1,664,051 -- 2,845,531 --
General and administrative 565,517 405,323 1,378,349 1,225,417
Stock-based compensation 66,250 -- 142,083 --
------------ ------------ ------------ ------------
4,612,622 1,360,894 9,558,520 3,770,447
------------ ------------ ------------ ------------
LOSS FROM OPERATIONS (4,133,872) (667,409) (7,887,642) (2,000,694)
------------ ------------ ------------ ------------
OTHER INCOME (EXPENSE)
Interest income 118,900 -- 144,234 --
Interest expense - cash (71,724) (94,271) (286,463) (230,339)
Non-cash interest and financing costs (945,296) -- (1,678,236) --
Miscellaneous (3,578) 3,690 (4,378) (1,709)
------------ ------------ ------------ ------------
(901,698) (90,581) (1,824,843) (232,048)
------------ ------------ ------------ ------------
NET LOSS $ (5,035,570) $ (757,990) $ (9,712,485) $ (2,232,742)
============ ============ ============ ============
NET LOSS AVAILABLE TO COMMON
STOCKHOLDERS (NOTE 11) $(13,866,280) $ (757,990) $(43,509,253) $ (2,232,742)
============ ============ ============ ============
LOSS PER COMMON SHARE $ (1.17) $ (0.08) $ (4.19) $ (0.25)
============ ============ ============ ============
WEIGHTED AVERAGE OF COMMON SHARES
OUTSTANDING 11,873,812 9,159,173 10,380,824 8,841,258
============ ============ ============ ============
<FN>
See accompanying notes to interim consolidated financial statements.
</FN>
-4-
VALUESTAR CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended
March 31,
2000 1999
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CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (9,712,485) $ (2,232,742)
Adjustments to reconcile net loss to net
cash used by operating activities:
Depreciation 307,798 51,961
Amortization of intangible assets 174,076 --
Amortization of bond discount 1,491,936 30,850
Change in allowance for doubtful accounts (3,783) --
Other non-cash interest 12,224 23,695
Stock-based compensation 142,083 60,000
Changes in:
Receivables 24,745 (60,125)
Inventory (18,763) 15,064
Prepaid expenses (154,457) (6,169)
Deferred costs 40,406 52,527
Intangibles and other assets (64,482) --
Accounts payable 534,751 364,385
Accrued liabilities and other payables 66,435 86,861
Deferred revenues 27,730 6,495
------------ ------------
Net cash used by operating activities (7,131,786) (1,607,198)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES
Property and equipment acquisitions (2,198,634) (118,836)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from sale of preferred stock, net of issuance cost 12,935,255 --
Proceeds from sale of common stock, net of issuance cost 5,645,635 597,875
Proceeds from subscribed common stock 837,150 --
Proceeds from debt 250,000 2,445,000
Payments on capital leases (30,427) (7,657)
Payments on debt (43,856) (6,975)
------------ ------------
Net cash provided by financing activities 19,593,757 3,028,243
------------ ------------
NET INCREASE IN CASH 10,263,337 1,302,209
CASH, beginning of period 270,149 398,604
------------ ------------
CASH, end of period $ 10,533,486 $ 1,700,813
============ ============
SUPPLEMENTAL CASH-FLOW INFORMATION
Cash paid during the year for:
Interest $ 214,739 $ 175,794
Non-cash investing and financing activities:
Stock, options and warrants issued for services 241,000 60,000
Warrants issued for other assets -- 40,000
Accrued dividends on Series A Preferred Stock 122,877 --
Warrants issued in connection with Series B preferred stock 400,000 --
Equipment acquired under capital leases 30,000 125,303
8% Secured Notes converted to Series B Stock 1,000,000 --
Shareholder advances converted to Series B Stock 250,000 --
12% notes converted upon warrant exercise 625,000 --
6% Convertible Notes and interest converted to equity 546,274 --
8% Secured Notes converted upon warrant exercise 1,450,000 --
12% subordinated notes converted upon warrant exercise 31,250 --
<FN>
See accompanying notes to interim consolidated financial statements.
</FN>
-5-
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 2000
1. OPERATIONS
The Company, a Colorado corporation, conducts its operations through ValueStar,
Inc., a wholly-owned subsidiary. ValueStar, Inc. was incorporated in California
in 1991, and is a rating company that has developed business certification marks
including ValueStar Certified(R) - - the symbol of high customer satisfaction.
ValueStar's ratings enable consumers to quickly determine the best local service
providers. The Company is expanding its ratings and creating a new proprietary
rating database of credential content on a large number of service providers in
the United States.
The Company currently generates revenues by rating local service companies in
300 industries; certifying highly rated businesses; and selling ancillary
materials and services. The Company communicates information about rated service
and professional firms to consumers through various media including its Internet
Web site (www.valuestar.com) and the ValueStar Report, a bi-annual publication.
The Company's revenues are primarily from rating and certification fees, and are
recognized when all related services are provided to the business customer.
Rating services include a verification of credential information and a customer
satisfaction research survey of prior customers and the delivery of a research
report. Services associated with certification include an orientation on
becoming a ValueStar Certified business and the delivery of certification
materials and manuals. Businesses must reapply for certification each year.
Sales of marketing materials and Web advertising and other services are
recognized as materials are shipped or over the period services are rendered.
The Company operates in eight market regions in the United States. In early
December 1999, in all market regions except Northern California, the Company
changed from a fixed certification and rating fee to a percentage based fee. The
Company also began collecting and aggregating a database of credential data on
many service providers throughout the United States. The Company is entering
into agreements with rated companies providing for the payment of a commission
fee based on the value of transactions conducted with buyers registered with the
Company. The Company is developing the systems to register buyers and monitor
transactions. Until this system is operating and buyers are registered, the
Company is not collecting fees and does not anticipate any significant revenues
from these seven markets. The Company continues to charge a fixed certification
fee in its Northern California market region.
Costs incurred in printing and distributing the Company's ValueStar Report
consumer publication published in January and July, and any related revenues are
recognized upon publication.
2. STATEMENT PRESENTATION
The accompanying unaudited interim financial statements have been prepared in
accordance with generally accepted accounting principles for interim financial
information. They do not include all information and footnotes required by
generally accepted accounting principles. The interim financial statements and
notes thereto should be read in conjunction with the Company's audited financial
statements and notes thereto for the year ended June 30, 1999.
The interim consolidated financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and satisfaction of
liabilities in the normal course of business. The Company has experienced
recurring losses from operations and the use of cash from operations.
Management's plan is to market and promote its existing program and develop new
rating content for consumers to achieve revenue growth and, ultimately,
profitable operations. Future financing may not be available and it is unlikely
cash flows from operations will be sufficient to enable the Company to meet its
future obligations. The Company could be forced to reduce its level of
operations and this would have a material adverse impact on the Company's
operations. These interim consolidated financial statements do not give effect
to any adjustments which would become necessary should the Company be unable to
continue as a going concern and therefore be required to realize its assets and
discharge its liabilities in other than the normal course of business and at
amounts different from those reflected in the accompanying interim consolidated
financial statements.
In the opinion of management, the interim financial statements reflect all
adjustments of a normal recurring nature necessary for a fair statement of the
results for interim periods. Operating results for the nine month period ended
March 31, 2000 are not necessarily indicative of the results that may be
expected for the year ending June 30, 2000.
6
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 2000
3. PRODUCT AND CONTENT DEVELOPMENT COSTS
Prior to the current fiscal year, development expenses associated with the
design, development and testing of programs and services have not been material.
In the first quarter of fiscal 2000, the Company commenced the design,
development and testing of a new Internet initiative using existing and newly
developed data on service businesses. This initiative consists of developing a
proprietary database of credential data on the majority of service businesses in
the United States and developing an Internet-based system that generates
commissions from transactions between buyers and sellers. The credential data
includes information on licensing, insurance, legal and finance, company
profiles and related data important to buyers. Service providers with verified
credentials become rated and are also eligible to earn ValueStar's top rating by
passing a customer satisfaction research survey of prior customers. During the
third quarter the Company continued to develop computer and related systems to
support this new initiative. Product and content development expenses are being
charged to operations as incurred. These expenses include costs of developing
systems and creating the content.
4. INVENTORY
Inventory is recorded at the lower of cost (using the first-in first-out method
of accounting) or market. Inventory consists of brochures and related materials
for resale.
5. DEFERRED COSTS
All direct costs related to marketing and advertising the ValueStar
certification to businesses and consumers are expensed in the period incurred,
except for direct-response advertising costs, which are capitalized and
amortized over the expected period of future benefits. Deferred costs are
periodically evaluated to determine if adjustments for impairment are necessary.
6. NOTE PAYABLE - SHAREHOLDER
The Company is obligated pursuant to a 15% unsecured subordinated note to a
company related to a shareholder/director in the principal amount of $300,000
due June 30, 2000.
7. LONG-TERM DEBT
Long-term debt at March 31, 2000, consists of the following:
12% Notes; principal of $68,750; unsecured; interest is paid
monthly, with a balloon principal payment due in March
2001; net of unamortized note discount of $1,364 $ 67,386
12% Subordinated Notes: principal of $375,000; unsecured:
interest is paid monthly, with a balloon principal payment
due in June 2000; net of unamortized note discount of
$2,523 372,477
15% Equipment Note due to related party; due in monthly
installments of principal and interest of $2,022 to
maturity in August 2003; secured by equipment and software 64,562
15% Equipment Note due to related party; due in monthly
installments of principal and interest of $5,055 to
maturity in June 2002; secured by equipment and software 116,457
---------
620,882
Less current portion 506,485
---------
$ 114,397
The Company's $2,450,000 of 8% Senior Secured Notes Payable ("Senior Notes")
were exchanged for equity securities during the nine months ended March 31,
2000. In connection with a $1,000,000 principal reduction of the Senior Notes in
December 1999 the Company accelerated the amortization of the related note
discount by $563,126. In connection with the reduction of the $1,450,000
principal balance of the Senior Notes in March 2000 the Company amortized the
balance of the note discount of $741,022 and amortized $153,333 of other
previously capitalized finance costs. Likewise on the reduction in the 12%
Subordinated Notes by $625,000 from the exercise of warrants, the Company
accelerated the amortization of the related note discount by $7,982. These
amortization accelerations increased non-cash expenses by $571,108 for the
second quarter and $894,355 in the third quarter.
7
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 2000
8. STOCKHOLDERS' EQUITY
The following table summarizes equity transactions during the nine months ended
March 31, 2000:
Preferred Stock Common Stock Additional
--------------------------- -------------------------- Paid-In
Shares Amount Shares Amount Capital
----------- ----------- ---------- ----------- -----------
Balance July 1, 1999 -- -- 9,374,132 $ 2,344 $ 6,485,373
Issuance of Series A Convertible
Preferred Stock, net of issuance
costs of $40,000 225,000 56 -- -- 2,209,944
Accrued 8% dividends on Series A
Preferred Stock -- -- -- -- 122,877
Issuance of Series B Convertible
Preferred Stock, net of issuance
costs of $75,000 and value assigned
to warrants granted of $400,000 688,586 172 -- -- 11,575,083
Value assigned to warrants granted
in connection with Series B Stock -- -- -- -- 400,000
Stock issued on conversion of 6%
convertible notes and interest -- -- 546,274 136 546,138
Stock issued on exercise of warrants
reducing 12% subordinated notes -- -- 500,000 125 624,875
Stock issued on exercise of warrants
reducing 12% notes 25,000 6 31,244
Stock issued on exercise of warrants
retiring 8% Senior Secured Notes 1,977,382 494 1,449,506
Sale of stock at $5.85 per unit for cash,
consisting of one share and one warrant
for each ten shares, net of issuance
costs of $25,000 663,000 166 3,853,384
Stock issued on exercise of warrants
for cash -- -- 1,355,000 339 1,743,411
Stock issued on exercise of options
for cash 59,335 15 48,320
Unearned stock-based compensation -- -- -- -- 241,000
Amortization of stock-based
compensation -- -- -- -- --
Subscribed stock -- -- -- -- --
Net loss -- -- -- -- --
----------- ----------- ---------- ----------- -----------
Balance March 31, 2000 913,586 $ 228 14,500,123 $ 3,625 $29,331,155
=========== =========== =========== =========== ===========
Unearned Subscribed
Stock-Based Common Accumulated
Compensation Stock Deficit Total
------------ ------------ ------------ ------------
Balance July 1, 1999 -- -- $ (8,878,409) $ (2,390,692)
Issuance of Series A Convertible
Preferred Stock, net of issuance
costs of $40,000 -- -- -- 2,210,000
Accrued 8% dividends on Series A
Preferred Stock -- -- (122,877) --
Issuance of Series B Convertible
Preferred Stock, net of issuance
costs of $75,000 and value assigned
to warrants granted of $400,000 -- -- -- 11,575,255
Value assigned to warrants granted
in connection with Series B Stock -- -- -- 400,000
Stock issued on conversion of 6%
convertible notes and interest -- -- -- 546,274
Stock issued on exercise of warrants
reducing 12% subordinated notes -- -- -- 625,000
Stock issued on exercise of warrants
reducing 12% notes -- -- -- 31,250
Stock issued on exercise of warrants
retiring 8% Senior Secured Notes -- -- -- 1,450,000
Sale of stock at $5.85 per unit for cash,
consisting of one share and one warrant
for each ten shares, net of issuance
costs of $25,000 -- -- -- 3,853,550
Stock issued on exercise of warrants
for cash -- -- -- 1,743,750
Stock issued on exercise of options
for cash -- -- 48,335
Unearned stock-based compensation (241,000) -- --
Amortization of stock-based
compensation 142,083 -- 142,083
Subscribed stock -- 837,150 -- 837,150
Net loss -- -- (9,712,485) (9,712,485)
------------ ------------ ------------ ------------
Balance March 31, 2000 $ (98,917) $ 837,150 $(18,713,771) $ 11,359,470
============ ============ ============ ============
During the first quarter the Company issued 225,000 shares of Series A
Convertible Preferred Stock, par value $.00025 ("Series A Stock") for cash of
$10 per share for gross proceeds of $2,250,000. Dividends of 8% per annum
compounded are payable in additional shares of Series A Stock. The dollar amount
of Series A Stock is convertible into shares of common stock at a conversion
price equal to $2.00 per share, and are automatically converted on the
occurrence of certain events. The Series A Stock has certain antidilution and
registration rights, has a liquidation preference of $10 per share plus accrued
and unpaid dividends, and has voting rights equal to the number of common shares
into which it is convertible. In addition, as long as there are at least 100,000
shares of Series A Stock outstanding, then the holders are entitled to elect one
member of the Company's Board of Directors.
In connection with the Series A Stock financing the Company incurred legal and
related costs of $40,000. At March 31, 2000 the Series A Stock was convertible
into 1,186,438 shares of common stock.
In December 1999 and January 2000 the Company issued 688,586 shares of Series B
Convertible Preferred Stock, par value $.00025 ("Series B Stock") at $17.50 per
share for gross proceeds of $12,050,255. A total of $1,000,000 of the Company's
outstanding 8% Senior Secured Notes and $250,000 of shareholder advances were
converted into 71,429 of these shares of Series B Convertible Stock.
8
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 2000
8. STOCKHOLDERS' EQUITY (Cont'd)
The dollar amount of Series B Stock is convertible into shares of common stock
at a conversion price equal to $1.75 per share, and are automatically converted
on the occurrence of certain events. The Series B Preferred Stock has certain
antidilution and registration rights. The Series B Stock has a liquidation
preference, after payment of the preferential amount for the Series A Stock, of
$17.50 per share. Thereafter the holders of Series B Stock, on an as-converted
basis, and the holders of common stock, shall be paid pro-rata, from remaining
assets until the holders of Series B Stock shall have received an aggregate
preference price of $30.00 per share. Holders of Series B Stock are entitled to
receive non-cumulative dividends at an annual rate of 8% only when and if
declared by the Board of Directors. However no cash dividends shall be paid to
common stock holders unless a like cash dividend amount has been paid to holders
of Series B Stock on an as-converted basis. As long as there are at least
200,000 shares of Series B Stock outstanding, then the holders are entitled to
elect two members of the Company's Board of Directors.
In connection with the Series B Stock financing the Company incurred legal and
related costs of $75,000. The Company also issued a warrant to purchase 75,000
shares of common stock at $2.50 per share until December 2004 as a placement
fee. The value assigned to the warrant was $400,000. At March 31, 2000 the
Series B Stock was convertible into 6,885,860 shares of common stock.
In March 2000 the Company issued 663,000 shares of common stock in a unit
financing at $5.85 per unit ("585 Units") for gross proceeds of $3,878,550. For
each ten units purchased, the Company granted investors a warrant to purchase
one share of common stock at $5.85 per share resulting in warrants on 66,300
shares of common stock. The Company incurred legal and related costs of $25,000.
Subsequent to March 31, 2000, on April 4, 2000, the Company issued an additional
647,087 of 585 Units at $5.85 per share for gross proceeds of $3,785,458. A
total of 462,757 units were issued for cash and 184,320 units were issued in
exchange for call proceeds of certain warrants by the Company (see Note 9). A
total of $837,150 of these second closing funds were received prior to March 31,
2000 and are recorded as subscribed common stock at March 31, 2000.
9. STOCK OPTIONS AND WARRANTS
Stock Options
The Company has reserved 250,000 shares of common stock for each of its 1992 ISO
Plan and 1992 NSO Plan, 300,000 shares of common stock for the 1996 Stock Option
Plan and 1,250,000 shares of common stock for the 1997 Stock Option Plan. The
Company has also reserved shares and granted options on 871,600 shares outside
of the option plans as of March 31, 2000. The following table summarizes option
activity for the period ended March 31, 2000:
Weighted Average Weighted
Shares Exercise Price Average Life
------ -------------- ------------
Outstanding July 1, 1999 1,111,100 $ 0.78 2.49
Granted 1,947,922 $ 4.98
Canceled (437,499) $ 3.09
Exercised (59,335) $ 0.81
Expired (15,000) $ 0.50
---------
Outstanding March 31, 2000 2,547,188 $ 3.60 3.37
---------
Exercisable at March 31, 2000 968,172 $ 0.99
=========
Subsequent to March 31, 2000 a total of 17,467 options were exercised providing
proceeds of $8,467.
9
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 2000
9. STOCK OPTIONS AND WARRANTS (Cont'd)
Warrants
At March 31, 2000 the Company had the following stock purchase warrants
outstanding each exercisable into one common share:
Number Exercise Price Expiration Date
------ -------------- ---------------
25,000 $1.25 March, 2001
187,500(1) $1.25 September, 2002
20,000(1) $1.25 December, 2002
66,300(2) $5.85 March, 2003
50,000 $1.75 May, 2003
12,500(3) $2.00 April, 2003
350,000(1) $1.00 December, 2003
152,728 $1.375 March, 2004
30,000(1) $1.50 March, 2004
75,000 $2.50 December, 2004
77,382 $1.00 March, 2009 (A Warrants)
231,132(4) $1.00 March, 2009 (C Warrants)
---------
1,277,542
(1) These warrants are callable at a stock price of $5.00 per share subject to
certain conditions.
(2) These warrants are callable at a stock price of $15.00 per share subject to
certain conditions.
(3) These warrants are callable at a stock price of $4.50 per share subject to
certain conditions.
(4) These warrants may be repurchased by the Company at $6.00 per share until
March 31, 2004 subject to certain conditions.
In connection with the sale of the Senior Notes on March 31, 1999 (see note 7)
the noteholders were granted warrants to purchase an aggregate of 1,527,250
shares of Common Stock of the Company at an exercise price of $1.00 per share
("A Warrants"), warrants to purchase an aggregate of 527,514 shares of Common
Stock at a nominal per share exercise price of $0.00025 ("B Warrants") and
warrants to purchase an aggregate of 231,132 shares of Common Stock at an
exercise price of $1.00 per share ("C Warrants"). The C Warrants or underlying
shares of Common Stock could be repurchased by the Company at $6.00 per share
(less any unpaid exercise price) on an all or none basis until March 31, 2004 as
long as the Company is not in default with respect to the Senior Notes or
related agreements.
In March 2000 the noteholders applied the $1,450,000 principal balance of the
Senior Notes towards the exercise of the 527,514 B Warrants and 1,449,868 A
Warrants. The Company agreed, in connection with the Senior Note cancellation,
to call the C Warrants effective April 4, 2000 and the holders agreed to apply
the proceeds of the call towards the purchase of 585 Units (see Note 8). On
April 4, 2000 the holders of the C Warrants converted the net call proceeds of
$5.00 per share, $1,155,660 in the aggregate, into 77,382 shares of common stock
(A Warrant exercise) and 184,320 units of the 585 Unit financing. The call of
the C Warrants and issuance of the 585 Units was on a cashless basis.
Subsequent to March 31, 2000, in connection with the second closing of the 585
Unit financing, the Company issued 64,713 warrants exercisable at $5.85 per
share exercisable until April 4, 2003. In connection with this second closing
the Company also issued a warrant to purchase 50,000 shares of common stock at
$10.00 per share until April 2003 and a warrant to purchase 30,000 shares of
common stock at $5.85 per share until April 2005. Also subsequent to March 31,
2000 the Company issued a warrant to purchase 22,802 shares of common stock at
$6.14 per share until April 11, 2005 in connection with lease financing (see
Note 14).
10. INCOME TAXES
At March 31, 2000 a valuation allowance has been provided to offset the net
deferred tax assets as management has determined that it is more likely than not
that the deferred tax asset will not be realized. The Company has for federal
income tax purposes net operating loss carryforwards of approximately $8 million
which expire through 2019 of which certain amounts are subject to limitations
under the Internal Revenue Code, as amended.
10
VALUESTAR CORPORATION
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
March 31, 2000
11. LOSS PER COMMON SHARE
Loss per common share is computed using the weighted average number of common
shares outstanding. Since a loss from operations exists, a diluted earnings per
common share number is not presented because the inclusion of common stock
equivalents in the computation would be antidilutive. Common stock equivalents
associated with warrants, stock options and preferred stock, which are
exercisable into approximately 10.3 million shares of common stock at March 31,
2000 could potentially dilute earnings per share in future periods.
The provisions of the Series A Stock provide for cumulative 8% dividends payable
in additional shares of preferred stock and provide, upon conversion, a similar
accretion whether or not such dividends have been declared by the Board of
Directors. This amount increases the net loss available to common stockholders.
Net loss available to common stockholders was also increased by $24,888,181 in
computing net loss per share for the second quarter and $8,785,710 in the third
quarter by an imputed deemed dividend from a discount provision included in the
Series B Stock providing for a conversion price less than the market price on
the date of issuance. The imputed dividend is not a contractual obligation on
the part of the Company to pay such imputed dividend.
Net loss available to common stockholders is computed as follows:
Three Months Ended Nine Months Ended
March 31, March 31,
2000 1999 2000 1999
------------ ------------ ------------ ------------
Net loss $ (5,035,570) $ (757,990) $ (9,712,485) $ (2,232,742)
Imputed Series B stock dividend based on discount
provision (8,785,710) -- (33,673,891) --
Accrued dividends on Series A Stock (45,000) -- (122,877) --
------------ ------------ ------------ ------------
Net loss available to common stockholders $(13,866,280) $ (757,990) $(43,509,253) $ (2,232,742)
============ ============ ============ ============
12. RECENT ACCOUNTING PRONOUNCEMENTS
The Financial Accounting Standards Board has issued SFAS No. 133 "Accounting for
Derivative Instruments and Hedging Activities." SFAS No. 133 is effective for
fiscal years beginning after June 15, 2000, and requires companies to record
derivatives on the balance sheet as assets or liabilities, measured at fair
market value. Gains or losses resulting from changes in the values of those
derivatives are accounted for depending on the use of the derivative and whether
it qualifies for hedge accounting. The key criterion for hedge accounting is
that the hedging relationship must be highly effective in achieving offsetting
changes in fair value or cash flows. The Company does not expect the adoption of
SFAS No. 133 to have a material effect on the Company's consolidated financial
statements.
13. YEAR 2000 COMPLIANCE
The Company has not experienced any material Year 2000 problems in its computer
systems or operations. Prior to December 31, 1999 the Company had assessed its
exposure with respect to Year 2000 technology compliance as limited. Although
the Company, or companies with which it does business, could experience latent
Year 2000 problems, management does not expect any interruption in normal
business activities. The costs of Year 2000 compliance have not been material.
14. SUBSEQUENT EVENTS
In addition to the subsequent stock, option and warrant transactions described
in Notes 8 and 9, on April 19, 2000 the Company received proceeds of $1,278,737
from a leasing institution in connection with a software and equipment leasing
commitment of $2 million. These funds financed software, equipment and related
costs incurred by the Company prior to March 31, 2000.
11
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
THE FOLLOWING DISCUSSION INCLUDES FORWARD-LOOKING STATEMENTS WITH RESPECT TO THE
COMPANY'S FUTURE FINANCIAL PERFORMANCE. ACTUAL RESULTS MAY DIFFER MATERIALLY
FROM THOSE CURRENTLY ANTICIPATED AND FROM HISTORICAL RESULTS DEPENDING UPON A
VARIETY OF FACTORS, INCLUDING THOSE DESCRIBED BELOW AND IN THE COMPANY'S ANNUAL
REPORT ON FORM 10-KSB FOR THE YEAR ENDED JUNE 30, 1999.
Overview
We are a provider of branded rating content on local service businesses. As an
infomediary we enhance online and offline commerce between buyers and sellers of
services by offering ratings enabling buyers to quickly determine the best local
service providers. Our ratings (ValueStar Certified(R) and other marks in
development) are provided on the Internet at www.valuestar.com, in print in our
ValueStar Report, through promotions by, and buyer interactions with, rated
businesses.
In the first quarter of fiscal 2000, capitalizing on our expertise in customer
satisfaction research and ratings, we commenced the design, development and
testing of an expanded Internet initiative. This initiative consists of (a)
developing proprietary content and ratings on a large number of service
providers in the United States, and (b) developing an Internet-based system that
generates commissions from transactions driven by the content. The content being
developed includes credential information such as licensing, insurance, legal
and finance, company profiles and related information. During the current fiscal
year we have expended significant resources (approximately $2.8 million) to
generate database information and develop computer and related systems for this
new service. The goal of our development is to position ValueStar as the
dominant rating system for local service providers.
In addition to creating proprietary content on America's service companies, we
are also developing strategic relationships to provide data and to increase the
distribution of ValueStar's branded rating content:
o In January 2000 we entered into a strategic data alliance with Experian, a
leading provider of global information solutions. This alliance provides
financial and legal status on local service businesses as a part of our
content development. We will provide Experian with the results of our
branded proprietary research on local service businesses for distribution
to their clients.
o In February 2000 we entered into an alliance with OurHouse.com an online
destination providing quality, home improvement products, services and
how-to information. This one-year alliance provides OurHouse.com access to
ValueStar's database of rated companies and creates an opportunity for
OurHouse.com suppliers to be rated by ValueStar.
We have established an eight person business development team to develop other
alliances and relationships to expand our content, add highly rated service
providers, extend our brand and distribute our ratings to consumers and other
buyers of local services.
Our present operations are conducted in eight market regions in the United
States. In December 1999, in all markets except Northern California, we changed
from a fixed certification and rating fee to a percentage based fee based on the
value of future transactions between buyers registered with us and participating
companies rated and authorized by us. We are currently developing the systems to
register buyers and monitor transactions. Until this system is operating, we do
not anticipate any significant revenues from these markets. We will continue to
incur selling costs and rating costs associated with enrolling participating
service providers in our program. We believe this investment will accelerate the
launch of our new program by allowing us to have a number of verified and
authorized service companies already enrolled by the time we launch our
transaction fee system. We continue to charge a fixed certification fee in
Northern California but expect to also change this market to the new program at
a later date, not yet determined.
Our plan is to have the systems to monitor, record and collect on a transaction
basis during the second half of calendar year 2000. However unknown technical
issues and barriers could arise that could delay implementation or preclude us
from executing this plan. In such an event we may be required to revert to a
fixed fee basis.
Our present revenues are generated primarily from research and rating fees paid
by new and renewal businesses, certification fees from qualified applicants and
renewals and from the sale of information products and services. An important
aspect of our business model is the recurring nature of revenues from businesses
renewing their certification. In the future we expect a majority of our revenues
to be derived from commissions from transactions between registered buyers and
sellers of local services.
12
Currently our fixed certification fees range from $995 to approximately $2,000
depending on business size. They are recognized as revenue when material
services or conditions relating to the certification have been performed. The
material services are the delivery of certification materials along with an
orientation and the material condition is the execution of the certification
agreement specifying the conditions and limitations on using the certification.
Research and rating fee revenue, ranging up to $570, is deferred until the
research report is delivered. Sales of marketing materials and Web advertising
and other services are recognized as materials are shipped or over the period
services are rendered. From time to time we provide discounts, incentives from
basic pricing and payment terms on fees.
We expense research and rating costs as incurred. Costs incurred in printing and
distributing our ValueStar Report publication for buyers, currently published in
January and July, and any related revenues are recognized upon publication.
Accordingly, the costs and revenues from this publication impact the revenues
and costs in our first and third fiscal quarters.
Certain direct-response advertising costs are deferred and amortized over the
expected period of future benefits, approximately 60 days. These costs, which
relate directly to targeted new business solicitations, primarily include
targeted direct-response advertising programs consisting of direct telemarketing
costs. No indirect costs are included in deferred advertising costs. Costs
incurred for other than specific targeted customers, including general marketing
and promotion expenses, are expensed as incurred. Deferred costs are
periodically evaluated to determine if adjustments for impairment are necessary.
Since inception, we have been growing, developing and changing our business and
have incurred losses in each year. At March 31, 2000, we had an accumulated
deficit of $18.5 million. There can be no assurance of future profitability.
Changing Revenue Model
Our current business revenue model, similar to other membership based
organizations, is predicated on a growing number of certified businesses and
maintaining high renewal rates. Certified businesses that renew contribute
higher gross margins than new applicants due to reduced sales and rating costs.
As discussed above we are migrating to a transaction based revenue model where
our business will be predicated on creating and maintaining a growing number of
registered buyers and sellers transacting commerce in local services.
Considerable portions of our operations are engaged towards the solicitation of
new service and professional business applicants and we incur substantial costs
towards this activity. We expect that these will continue to be significant
costs in the future. During the nine months ended March 31, 2000 we also
incurred significant product, system and database development costs consisting
of (a) capturing and verifying credential data on a large number of service
companies in the United States (our proprietary content), (b) developing systems
to store, monitor and update this content, (c) developing systems to register
consumers and (d) developing systems to monitor and generate commissions based
on transactions between buyers and sellers of local services. We expect these
product, system and content development costs to continue at high levels during
the balance of fiscal 2000 and early fiscal 2001. After our content databases
are developed, we will incur costs to maintain and update the data on an ongoing
basis. Exact amounts and timing of these expenditures and costs are subject to a
variety of factors and are not currently determinable by management.
Future operations will be impacted by changes in cost structure and elections
regarding new product development, advertising, promotions and growth rates. We
have recently increased numbers of sales, marketing, development and support
personnel. Rapid growth, due to the nature of our operations, is expected to
contribute to continued operating losses in the foreseeable future.
At March 31, 2000 we had 2,005 certified businesses. At March 31, 2000, we also
had 1,137 (1,068 new and 34 renewal) business customers in the application and
rating phase. The total represents approximately 130 days of sales to new
businesses. Northern California business customers in the rating phase are
expected to represent approximately $190,000 of revenues that should be
recognized in the fourth quarter of fiscal 2000 (generally analogous to
backlog).
Results of Operations
Revenues. Revenues consist of certification and rating fees from new and renewal
business applicants, sale proceeds from information materials and premium
listings in our ValueStar Report and on our Web site, and other ancillary
revenues. We reported total revenues of $1,670,878 for the nine months ended
March 31, 2000, a 5% decrease from revenues of $1,769,753 for the first nine
months of the prior year. In early December 1999 we ceased charging and
collecting fixed certification fees in seven markets outside of Northern
California and commenced enrolling highly rated businesses in our
13
transaction-based program providing for future commissions. Accordingly since
December we have obtained revenues only from the Northern California market
region. We do not expect revenues from other market regions until our
transaction system is fully developed and successfully operating.
During the nine months ended March 31, 2000, certification fees accounted for
75% of revenue, compared to 74% for the first nine months of the prior year.
Revenues for the three months ended March 31, 2000 were $478,750 compared to
$693,485 reported in the comparable prior period. The decline of $214,735 is
attributable primarily to the change in our revenue model described above with
the third quarter revenues being only from the Northern California market
region.
We reported approximately $124,000 in brochure and other revenue, $190,000 for
premium Web and ValueStar Report listings and $105,000 in rating fees for the
first nine months of the year. This compares to $92,000, $214,000 and $161,000
respectively for the first nine months of the prior year. Brochure revenue is up
35% from the prior year due to aggressive efforts in this area and an increase
in the number of qualified service providers. Revenues for premium web listings
and the ValueStar Report are down 11% from the same period last year due to a
shift in management focus toward brochure sales and introductory free listings
for certified firms in new markets. Rating fees are down 34% because of an
increase in rating discounts to new customers offered during the current period
and free ratings in the seven market regions.
Our revenues can vary from quarter to quarter due to (a) the changes being made
to our revenue model, (b) the impact of revenues from upgraded profiles in the
semi-annual ValueStar Report, (c) seasonality, (d) effectiveness of sales
methods and promotions, (e) levels of expenditures targeted at prospective
businesses, (f) the numbers of certificate holders up for renewal, (g) renewal
rates, (h) pricing policies, (i) customer passing and sign-up rates (j) timing
of completion of research and ratings, and (k) other factors, some of which are
beyond our control.
Cost of Revenues. Cost of revenues consists primarily of rating costs incurred
for performing customer satisfaction research on business applicants for those
businesses which are charged a fixed certification fee, costs related to
verifying insurance and complaint status for these same businesses, Web site
operating costs and costs of information products. Cost of revenues totaled
$1,022,711 and represented 61% of sales during the nine months ended March 31,
2000. This is an increase from 41% for the nine months ended March 31, 1999.
Rating costs totaled $195,072 for the three months ended March 31, 2000 or 41%
of revenues compared to $259,966 and 38% of revenues for the third quarter of
the prior year. The increase in the current year is attributable primarily to
increased staffing and related costs from expanding our rating department to
handle increased volume in anticipation of the transaction-based system. Cost of
revenues may vary significantly from quarter to quarter both in amount and as a
percentage of sales. We expect to incur significant continued costs of rating
businesses without corresponding levels of revenues until we are able to launch
our transaction-based systems. In future quarters the costs of rating and
certifying businesses may exceed our revenues.
Rating costs estimated at $530,000 have been included in product and content
development costs for those businesses being added to our content database in
the seven markets in which we are not currently generating revenues. We believe
the advance rating of businesses under transaction-based contracts in these
market regions is a strategic investment in new content. We believe it is
necessary to have a base of rated service companies available in key markets as
we prepare to launch our transaction-based systems in the second half of
calendar 2000.
Selling Costs. Selling costs consist primarily of personnel costs for outside
sales consultants interacting with customers and direct marketing costs
including lead generation and telemarketing costs. Selling costs for the nine
months ended March 31, 2000, were $2,432,509, or 146% of revenues, compared to
$1,184,126, or 67% of revenues for the first nine months of the prior year. In
fiscal 1999 we commenced rating businesses in seven new market regions and we
continue to incur increased selling costs associated with startup of these new
regions compared to the more mature Northern California market. Selling costs
for the third quarter totaled $1,163,815 or 243% of revenues representing an
increase from the $474,183 or 68% for the prior period. The significant increase
in selling costs during the most recent periods (nine months and third quarter)
reflect in part the costs associated with selling businesses in seven regions
late in the second quarter and in the third quarter without corresponding fixed
rating and certification fees. Other than direct targeted telemarketing costs,
we expense selling costs as incurred.
Similar to rating and certification costs described above, we expect to incur
significant continued selling costs to attract new businesses without
corresponding levels of revenues until we are able to launch our
transaction-based systems. In future quarters the costs of selling may continue
to exceed aggregate revenues until we achieve a higher base of revenues. We also
expect selling costs as a percentage of revenues will vary in future periods,
resulting from levels of future revenues, variances in renewal rates, the effect
of new sales promotions and costs thereof, timing of research and rating
completions,
14
level and percentage of fixed selling costs, the number of new market regions
opened and other factors, some beyond our control.
Marketing and Promotion Expenses. Marketing and promotion expenses aggregated
$1,737,337, or 104% of revenues during the first nine months of fiscal 2000,
compared to $650,334, or 37% of revenues for the prior period. Marketing and
promotion expenses for the third quarter were $957,917 compared to $221,422 for
the prior year's third quarter. Included in marketing and promotion expenses are
printing and distribution costs of our ValueStar Report publication targeted at
buyers. Printing and distribution costs were $333,000 in the first nine months
of fiscal 2000 compared to $265,000 in the prior year's first nine months, as we
printed and distributed more copies with additional pages. Most of these costs
are incurred in the first and third quarter of each fiscal year. During the
first nine months of fiscal 2000, we expended $593,000 on paid advertising
targeted at expanding consumer awareness of ValueStar. Paid advertising of
$150,000 was employed in the prior year's first nine months. These increased
costs reflect management decisions to increase advertising over prior year
levels and advertising rate inflation in general. During the first nine months
of fiscal 2000, we expended $120,000 on promotions which was comparable to the
prior year. Generally, the first and third fiscal quarters have increased costs
because our ValueStar Report publication is printed and distributed during these
quarters. Also, we generally expend less advertising in our second fiscal
quarter (fourth calendar quarter) due to higher media rates associated with the
holiday season.
Marketing and promotion expenses are subject to significant variability based on
decisions regarding the timing and size of distribution of our ValueStar Report
and decisions regarding paid advertising, public relations and market and brand
awareness efforts. We anticipate continuing to make significant expenditures on
marketing and promotion efforts to support a growing business base but
anticipate these costs will decrease as an annual percentage of revenues when
and as revenues grow. However, amounts and percentages on a quarterly basis may
vary significantly.
Product and Content Development Expenses. In prior years development expenses
associated with the design, development and testing of our programs and services
have not been material. In the first quarter of fiscal 2000 we commenced the
design, development and testing of an expanded Internet initiative using
existing and new content. During the nine months ended March 31, 2000 we
expended $2,845,531 on new program development and segregated these costs as
product and content development costs. Third quarter product development costs
were $1,664,051, an increase from the $907,611 in the second quarter of this
fiscal year. The major component of product development costs during the nine
months were compensation and related costs of $1,780,000. We expect, subject to
adequate financing, that product and content development expenses will increase
in the fourth quarter due to increased numbers of personnel and the use of
outside branding, computer and system consultants employed to develop our
transaction-based system. Future levels of product development costs will depend
on many factors not currently estimable by management.
General and Administrative Expenses. General and administrative expenses consist
primarily of expenses for finance, office operations, administration and general
and executive management activities, including legal, accounting and other
professional fees. They totaled $1,378,349 or 82% of revenues for the nine
months ended March 31, 2000, compared to $1,225,417 or 69% of revenues for the
prior year's first nine months. General and administrative costs in the third
quarter were $565,517, an increase from the $405,323 for the third quarter of
the prior period. The major increases during the nine months are an increase in
occupancy costs of $353,000 due to additional personnel and expanded office
facilities. Management anticipates that general and administrative costs will
continue to exceed prior period levels due to increased personnel added to
support growth and increased general computer, operating, occupancy and
corporate costs.
We incurred $142,083 of stock-based compensation during the nine months ended
March 31, 2000 resulting from non-employee options compared to $60,000 for the
prior comparable period which resulted from warrants issued for services. We use
stock options, warrants and other forms of non-cash equity compensation from
time to time to provide incentives to employees, directors and consultants and
others and to preserve cash resources.
We incurred interest expense for the nine months ended March 31, 2000 of
$1,964,699 that included $286,463 of cash interest and $1,678,236 of non-cash
amortization of bond discount, paid-in-kind interest and amortized financing
costs. Included in the $1,678,236 of non-cash interest and financing costs are
$1,312,130 of lump sum amortization resulting from the early payoff of debt and
$153,333 of lump sum amortization of capitalized financing costs associated with
senior debt converted to common stock. Interest for the prior comparable period
was $230,339 with the increase, other than lump sum amortization, resulting from
increased amounts of debt in the current period over the prior years' period.
Net Loss. We had a net loss of $9,712,485 for the nine months ended March 31,
2000, compared to a loss of $2,232,742 for the nine months ended March 31, 1999.
Our increased loss is attributable to (a) increased rating and selling costs
resulting
15
from the expansion of personnel to new market regions and for non-revenue
accounts, (b) increased marketing and promotion costs due to increased market
regions, (c) product and content development costs in the current period, (d)
the commencement in the seven market regions outside of Northern California of
enrolling businesses in our transaction-based model instead of charging fixed
certification fees and (e) increased general and administrative costs associated
with additional management and support for new market regions. We anticipate we
will continue to experience operating losses until we achieve a critical mass
base of revenues. Future quarterly results will be greatly impacted by future
decisions regarding new markets, advertising and promotion expenditures,
launching of new products and services and growth rates. Achievement of positive
operating results will require that we obtain a sufficient base of revenues to
support our operating and corporate costs. There can be no assurance we can
achieve a profitable base of operations.
The loss available to common stockholders for the nine months ended March 31,
2000 of $43,509,253 includes $33,673,891 of deemed dividends due to the Series B
Preferred Stock being convertible at a discount to the market price on the date
of issuance and $122,877 of accrued dividends on Series A Convertible Preferred
Stock. The imputed dividend is not a contractual obligation on our part to pay
such imputed dividend. Management believes the Series B financing, which was
negotiated when the stock was at lower levels and includes two strategic
institutional investors which are assisting the Company in its growth plans and
new Internet initiative, has allowed the Company to finance development of the
new initiative.
Liquidity and Capital Resources
Since we commenced operations, we have had significant negative cash flow from
operating activities. Our negative cash used by operating activities was $7.1
million for the nine months ended March 31, 2000. At March 31, 2000, we had
working capital of $9 million. For the nine months ended March 31, 2000, our
negative cash flow from operating activities was due primarily to our continued
operating losses, losses in the seven market regions in which we are not
currently collecting revenues, addition of new executive management and
investment in new products, content and business growth. At March 31, 2000, our
net accounts receivables were $388,844 representing approximately 64 days of
revenues and an annualized turnover ratio of approximately 5.7 times. This is
the same as the 64 days of revenues and turnover of approximately 5.7 times at
June 30, 1999. We believe that 60 to 90 days revenues in receivables is
reasonable based on the nature of our business and the terms we provide
certifying companies on certain fees. At March 31, 2000, we have not experienced
and we do not anticipate any significant accounts receivable recoverability
problems.
We have financed our operations primarily through the sale of equity and debt
financing. In July and August 1999, we sold $2.25 million of Series A preferred
stock for cash. In December and January we raised $10.8 million in cash from the
Sale of Series B preferred stock with an additional $1,250,000 of Series B
preferred stock converted from debt. In March we obtained $3.9 million from the
sale of common stock with warrants. During the nine months ended March 31, 2000
we also obtained $1.8 million from the exercise of warrants and options for
cash. These funds are being used for operations and product and content
development. Subsequent to March 31, 2000 we obtained $2.7 million cash from the
sale of additional shares of common stock with warrants and $1.3 million of
lease financing for software and equipment previously purchased by cash. We have
no commitments for future investments. In the past, shareholders and debt
holders, including from time to time directors, have advanced funds and at times
some have converted debt funds to equity financing on terms of new forms of
financing. There can be no assurance that we can continue to finance our
operations through existing or new investors or from other sources. There can be
no assurance that shareholders or directors or others will provide any future
financing to ValueStar.
Other than cash on hand of $10,533,486 at March 31, 2000, net accounts
receivable of $388,844, and the funds received subsequent to March 31, 2000
described above and approximately of $0.7 million of leasing credit, we have no
material unused sources of liquidity at this time. We expect to incur
significant additional operating losses in future fiscal quarters as a result of
continued operations, product and content development expenditures and
investments in growth. The timing and amounts of these expenditures and the
extent of operating losses will depend on many factors, some of which are beyond
our control.
Based on the most recent quarter's level of operating expenditures, and assuming
no revenues from our transactions based system, we believe we will require a
minimum of $5 million of additional capital to finance operations during the
next twelve months. Our actual results could differ significantly from prior
expenditures and, therefore, we may require a greater or lesser amount of
additional operating funds for the next twelve months. We are incurring
significant costs to develop systems and the content for our new Internet
initiative. Many of these costs are non-recurring and the timing and amount of
such expenditures is generally controllable by management. Management has not
determined the level of planned future expenditures which will depend in part on
decisions on the rate of growth, availability of additional funding and other
factors including some beyond the control of management.
16
Management also believes, but there can be no guarantee, that it could curtail
and/or delay certain expenditures and modify operations such that existing cash
could finance operations for the next twelve months.
We estimate that we will require approximately $3 million of software and
equipment during the next twelve months to support our expanded operations and
new products and services. We are seeking additional lease financing to pay for
some of these capital costs. To finance our planned endeavors or more rapidly
implement our transaction revenue system, we may require additional financing.
Should required and/or additional funds not be available or planned operations
not meet our expectations, we may be required to curtail or scale back staffing,
product and content development, advertising, marketing expenditures and general
operations. We may also have to curtail the number of market regions in which we
operate. There can be no assurance that additional future funding will be
available to us or on what terms. Potential sources of funds include exercise of
warrants and options, loans from existing shareholders or other debt financing
or additional equity offerings.
New Accounting Pronouncements and Issues
The Financial Accounting Standards Board has issued new pronouncements as
discussed in the footnotes to our interim financial statements. As discussed in
the notes to our interim financial statements, the implementation of these new
pronouncements is not expected to have a material effect on our financial
statements.
On September 28, 1998, the SEC issued a press release and stated that the "SEC
will formulate and augment new and existing accounting rules and interpretations
covering revenue recognition, restructuring reserves, materiality, and
disclosure;" for all publicly-traded companies. In response on December 3, 1999
the SEC issued Staff Accounting Bulletin No. 101 - Revenue Recognition in
Financial Statements (SAB No. 101) which summarizes certain of the SEC staff's
views in applying generally accepted accounting principles to revenue
recognition in financial statements. Our practices have been consistently
applied since our initial filing and review by the SEC in 1997. We do not
believe the interpretations outlined in SAB No. 101 impact our accounting for
certification revenue. However there can be no assurance, given the uncertainty
in this area, that the SEC staff may not take a contrary position. Any potential
changes could have a material impact on the manner in which we recognize
certification revenue. Any such changes would have no effect on reported cash
flow or the underlying economic value of our certification business.
Year 2000 Readiness Disclosure
We are aware of the issues associated with the programming code in existing
computer systems because of the Year 2000. The "Year 2000" problem is concerned
with whether computer systems properly recognize date sensitive information
connected with year changes to 2000. Systems that do not properly recognize such
information can generate erroneous data or cause a system to fail. To date, we
have not experienced any Year 2000 problems in our computer systems or
operations. However, other companies, including us, could experience latent Year
2000 problems.
We have identified the following areas that could be impacted by the Year 2000
issue. They are (a) our products, (b) internally used systems and software, (c)
products or services provided by key third parties, and (d) the inability of
certifying businesses and prospective customers to process business transactions
relating to certifying revenue and product sales.
While we are not currently aware of any internal or external Year 2000 failures
impacting our operations, we continue to monitor the compliance of our major
customers, suppliers and vendors. We believe that third-party relationships upon
which we rely represent the greatest risk with respect to the Year 2000 issue,
because we cannot guarantee that third parties have adequately assessed and
addressed their Year 2000 compliance issues in a timely manner. As a
consequence, we can give no assurances that issues related to Year 2000 will not
have a material adverse effect on our future results of operations or financial
condition.
To date, there have been no material direct out-of-pocket costs associated with
our Year 2000 compliance effort. Maintenance or modification costs are expensed
as incurred, while the costs of new computers or software are capitalized and
amortized over the respective useful life.
Should we not be completely successful in mitigating internal and external Year
2000 risks, the likely worst case scenario could be a system failure causing
disruptions of operations, including, among other things, a temporary inability
to process transactions, deliver certifications and products, send invoices or
engage in similar normal business activities at our office or with our vendors
and suppliers. We currently do not have any contingency plans with respect to
potential Year 2000 failures of our suppliers or customers and at the present
time we do not intend to develop one. If these failures occur, depending
17
upon their duration and severity, they could have a material adverse effect on
our business, results of operations and financial condition.
The information set forth above under this caption "Year 2000 Readiness
Disclosure" relates to our efforts to address the Year 2000 concerns regarding
our (a) operations, (b) products and technologies licensed or sold to third
parties and (c) major suppliers and customers. Such statements are intended as
Year 2000 Statements and Year 2000 Readiness Disclosures and are subject to the
"Year 2000 Information Readiness Act."
Tax Loss Carryforwards
As of June 30, 1999, we had approximately $8 million of federal tax loss
carryforwards. These losses create a deferred tax asset. We have recorded a
valuation allowance to reduce the net deferred tax asset to zero because, in our
assessment, it is more likely than not that the deferred tax asset will not be
realized. There may also be limitations on the utilization of tax loss
carryforwards to offset any future taxes.
Forward-Looking Statements and Business Risks
This Form 10-QSB includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended and Section 21E of the
Securities Exchange Act of 1934, as amended. The words "anticipate," "believe,"
"expect," "plan," "intend," "project," "forecasts," "could" and similar
expressions are intended to identify forward-looking statements. All statements
other than statements of historical facts included in this Form 10-QSB regarding
our financial position, business strategy, budgets and plans and objectives of
management for future operations are forward-looking statements. Although we
believe that the expectations reflected in such forward-looking statements are
reasonable, no assurance can be given that actual results may not differ
materially from those in the forward-looking statements herein for reasons
including the effect of competition, the level of sales and renewal
certifications, marketing, product development and other expenditures, economic
conditions, the legislative and regulatory environment and the condition of the
capital and equity markets.
Readers are cautioned to consider the specific business risk factors described
in our annual report on Form 10-KSB for the fiscal year ended June 30, 1999 and
not to place undue reliance on the forward-looking statements contained herein,
which speak only as of the date hereof. We undertake no obligation to publicly
revise forward-looking statements to reflect events or circumstances that may
arise after the date hereof.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
None
Item 2. Changes in Securities and Use of Proceeds
(a) None
(b) None
(c) The following is a description of equity securities sold by the Company
during the third fiscal quarter ended March 31, 2000 that were not
registered under the Securities Act:
1. On January 18, 2000 the Company completed the private offering and
sale of 171,429 shares of Series B Convertible Preferred Stock, par
value $0.00025 ("Series B Stock"), at $17.50 per preferred share
(each share of which is initially convertible into ten shares of
common stock). These shares were sold on the same terms and
conditions as the 517,157 shares of Series B Stock sold by the
Company in December 1999 as reported in the Company's Form 10-QSB
for December 31, 1999. The aggregate gross proceeds of $3,000,000
were from one strategic investor, TMCT Ventures.
The Series B Stock was sold to TMCT Ventures without an underwriter
or cash commission. The securities were offered and sold without
registration under the Securities Act of 1933, as amended (the
"Act"), in reliance upon the exemption provided by Section 4(2)
thereunder and/or Regulation D, Rule
18
506 and appropriate legends were placed on the Series B Stock and
will be placed on the shares of common stock issuable upon
conversion unless registered under the Act prior to issuance.
The descriptions of the above Series B transaction is qualified in
its entirety by the full text of the agreements filed as exhibits
to the Company's Form 8-K dated December 13, 1999.
2. On March 24, 2000 the Company completed the first closing of a
private offering and sale of 663,000 units. Each unit consisted of
one share of common stock at $5.85 per share and one warrant for
each ten shares ("585 Unit"), each warrant granting the right to
purchase one common share at $5.85 for a period of three years.
Warrants for an aggregate of 66,300 shares of common stock were
issued. The aggregate proceeds were $3,878,550 and will be used for
working capital.
In connection with the sale of the 585 Units, the Company entered
into an Investors Rights Agreement with the __ investors providing
the investors with certain piggyback registration rights.
While the securities were sold by the Company without an
underwriter or cash commission, the Company upon the second closing
of an additional 647,087 units on April 4, 2000 issued to an
outside financial advisor warrants to purchase an aggregate of
30,000 shares of common stock at an exercise price of $5.85 per
share until April 4, 2005 and issued the lead investor, in
consideration of guaranteeing the purchase of a minimum of
1,000,000 units, warrants to purchase an aggregate of 50,000 shares
of common stock at an exercise price of $10.00 per share until
April 4, 2003.
All of the securities were offered and sold without registration
under the Securities Act of 1933, as amended (the "Act"), in
reliance upon the exemption provided by Section 4(2) thereunder
and/or Regulation D, Rule 506 and appropriate legends were placed
on the shares of common stock and warrants and will be placed on
the shares of common stock issuable upon exercise of the warrants
unless registered under the Act prior to issuance.
The descriptions of the 585 Unit financing is qualified in its
entirety by the full text of the agreements files as exhibits to
this quarterly report.
(d) None
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
None
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
4.29.1 First Amended ValueStar Corporation Investor Rights Agreement
dated as of March 24, 2000 between the Company and certain
Series A, Series B and 585 Unit Investors
4.31 Form of Securities Purchase Agreement dated as of March 24, 2000
between the Company and 585 Unit Investors
4.32 Form of Stock Purchase Warrant dated as of March 24, 2000
between the Company and 585 Unit Investors
10.18 Non-Qualified Stock Option Agreement dated as of January 28,
2000 between the Company and Robert Sick.
10.19 Non-Qualified Stock Option Agreement dated as of January 28,
2000 between the Company and Robert Sick.
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10.20 Incentive Stock Option Agreement dated as of January 28, 2000
between the Company and Robert Sick.
27 Financial Data Schedule
(b) Reports on Form 8-K:
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, Registrant
has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
VALUESTAR CORPORATION
Date: May 3, 2000 By: /s/ JAMES A. BARNES
-----------------------
James A. Barnes
Secretary and Treasurer
(Principal Financial Officer and duly
authorized to sign on behalf of the
Registrant)
20