1
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2001
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE
ACT
For the transition period from to
------- --------
Commission file number 000-28469
PET QUARTERS, INC.
(Exact name of small business issuer as specified in its charter)
Arkansas 62-169-8524
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
720 E. Front Street, Lonoke, Arkansas 72086
(Address of principal executive offices)
(501) 676-9222
(Issuer's telephone number)
N/A
(Former name, former address and former fiscal year,
if changed since last report)
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS
Check whether the registrant filed all documents and reports required to be
filed by Section l2, 13 or 15(d) of the Exchange Act after the distribution of
securities under a plan confirmed by a court. Yes [ ] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: 22,607,757
Transitional Small Business Disclosure Format (Check one): Yes [ ] No [X]
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PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
The accompanying balance sheets of Pet Quarters, Inc. and Subsidiaries at March
31, 2001 and June 30, 2000, the statements of operations and cash flows for the
three and nine months ended March 31, 2001 and 2000 have been prepared by the
Company's management and they do not include all information and notes to the
financial statements necessary for a complete presentation of the financial
position, results of operations and cash flows in conformity with generally
accepted accounting principles. In the opinion of management, all adjustments
considered necessary for a fair presentation of the results of operations and
financial position have been included and all such adjustments are of a normal
recurring nature. The financial statements should be read in conjunction with
the financial statements included in the Company's Form 10-K filed with the
Securities and Exchange Commission for year ended June 30, 2000.
Operating results for the quarter ended March 31, 2001 are not necessarily
indicative of the results that can be expected for the year ending June 30,
2001.
PET QUARTERS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
March 31 JUNE 30
2001 2000
------------ ------------
(UNAUDITED)
ASSETS
Current assets:
Cash $ 20,958 $ 164,128
Accounts receivable 53,592 175,608
Inventories 1,237,207 1,674,002
Prepaid expenses 148,203 637,425
Land and building held for sale 500,000 500,000
Other current assets 145,348 151,177
------------ ------------
Total current assets 2,105,308 3,302,340
Property, plant and equipment:
Land -- --
Buildings and improvements 33,600 33,600
Furniture and equipment 732,201 596,038
------------ ------------
765,801 629,638
Less accumulated depreciation (198,290) (115,767)
------------ ------------
567,511 513,871
Goodwill, net of accumulated amortization and
impairment write-downs of $4,950,587 and
$2,162,156 at March 31, 2001
and June 30, 2000, respectively 11,265,531 17,524,514
Intangible assets, net of accumulated amortization 469,353 506,227
------------ ------------
Total assets $ 14,407,703 $ 21,846,952
============ ============
See Notes to Condensed Consolidated Financial Statements
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March 31 JUNE 30
2001 2000
------------ ------------
(UNAUDITED)
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 2,428,192 $ 2,904,205
Accrued expenses 920,588 546,412
Convertible debenture, net of discount 852,580 950,000
Notes payable to related parties 588,990 615,178
Short-term notes payable and current portion of long-term
notes and capital leases payable 1,695,000 125,763
------------ ------------
Total current liabilities 6,485,350 5,141,558
Long-term portion of notes and capital leases payable 250,000 260,936
------------ ------------
Total liabilities 6,735,350 5,402,494
Commitments and contingencies (Notes 1, 7 and 9)
Stockholders' equity:
Common stock, $.001 par value per share, 40,000,000
shares authorized; 22,207,757 and 18,147,783 shares
issued and outstanding at March 31, 2001 and June 30, 2000 22,210 18,148
Convertible preferred stock, $.001 par value per share,
10,000,000 shares authorized; 32,769 and 34,642 shares
issued and outstanding at March 31, 2001 and
June 30, 2000 33 35
Additional paid-in capital 35,575,396 33,109,661
Accumulated deficit (27,925,286) (16,586,531)
------------ ------------
7,672,353 16,541,313
Less unamortized stock compensation -- (96,855)
------------ ------------
Total stockholders' equity 7,672,353 16,444,458
------------ ------------
Total liabilities and stockholders' equity $ 14,407,703 $ 21,846,952
============ ============
See Notes to Condensed Consolidated Financial Statements
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PET QUARTERS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED MARCH 31, NINE MONTHS ENDED MARCH 31,
2001 2000 2001 2000
------------ ------------ ------------ ------------
Sales $ 3,297,180 $ 3,674,670 $ 10,818,915 $ 9,873,570
Cost of sales 2,576,552 2,631,636 7,945,501 6,744,788
------------ ------------ ------------ ------------
720,628 1,043,034 2,873,414 3,128,782
Operating expenses and costs:
Selling 979,993 511,886 2,418,976 1,483,788
Administrative and general 1,464,978 2,946,347 4,834,757 5,059,502
Depreciation and amortization 1,115,062 495,590 3,977,492 1,253,336
Impairment loss and write-down
of goodwill 2,435,237 2,435,237
Impairment loss and write-down
of land and building 400,000 400,000
------------ ------------ ------------ ------------
5,995,270 4,353,823 13,666,462 8,196,626
------------ ------------ ------------ ------------
Loss from operations (5,274,642) (3,310,789) (10,793,048) (5,067,844)
Other income (expense):
Interest expense (180,419) (141,207) (555,315) (402,737)
Bridge loan origination fee (651,671)
Troubled debt restructuring (1,339,461)
Interest income 518 9,607 7,033
------------ ------------ ------------ ------------
(179,901) (141,207) (545,708) (2,386,836)
------------ ------------ ------------ ------------
Loss before income tax benefit (5,454,543) (3,451,996) (11,338,756) (7,454,680)
Income tax benefit -- -- -- --
------------ ------------ ------------ ------------
Net loss $ (5,454,543) $ (3,451,996) (11,338,756) (7,454,680)
============ ============ ============ ============
Net loss per common share:
Basic $ (0.25) $ (0.28) $ (0.56) $ (0.65)
Diluted $ (0.25) $ (0.28) $ (0.56) $ (0.65)
Basic Shares 21,753,273 12,340,531 20,198,138 11,519,146
Diluted Shares 21,753,273 12,340,531 20,198,138 11,519,146
See Notes to Condensed Consolidated Financial Statements
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PET QUARTERS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
NINE MONTHS ENDED MARCH 31
2001 2000
------------- ------------
OPERATING ACTIVITIES
Net (loss) $ (11,338,756) $ (7,454,680)
Adjustments to reconcile net loss to net cash
used in operating activities
Depreciation 153,746 140,157
Amortization of goodwill 3,823,746 1,113,179
Amortization of loan origination fee -- 1,134,681
Amortization of discount on convertible
debenture 58,956 --
Warrant repricing expense 298,435 --
Convertible debt issued 626,452
Amortization of stock compensation 96,855 339,806
expense
Stock issued for services 388,600 778,652
Impairment loss and write-down of goodwill 2,435,237 --
Non-cash compensation -- 47,813
Bridge loan default penalty refinanced -- 230,000
Stock issued for Wellstone acquisition -- 557,453
Impairment loss and write down of land
and building 400,000
Stock issued for legal expenses 18,420
Changes in operating assets and liabilities,
net of acquisition:
Accounts receivable 122,016 (186,975)
Inventories 436,795 570,873
Prepaid expenses and other current assets 489,222 (273,616)
Accounts payable (476,013) (104,393)
Accrued expenses 374,176 154,656
Other assets 5,829 3,492
------------- ------------
Net cash used in operating activities (3,131,156) (1,904,030)
INVESTING ACTIVITIES
Acquisition of Humboldt, net of cash -- (4,448,454)
Purchases of property, plant, and equipment (170,512) (115,347)
Purchases and development of web site -- (120,241)
------------- ------------
Net cash used in investing activities (170,512) (4,684,042)
FINANCING ACTIVITIES
Proceeds from issuance of common stock 1,615,500 2,642,605
Proceeds net of payments from notes payable 1,542,998 4,020,790
------------- ------------
Net cash provided by financing activities 3,158,498 6,663,395
------------- ------------
Net increase (decrease) in cash (143,170) 75,323
Cash at beginning of period 164,128 37,726
------------- ------------
Cash at end of period $ 20,958 $ 113,049
============= ============
See Notes to Condensed Consolidated Financial Statements
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION AND NATURE OF BUSINESS
Pet Quarters, Inc. and subsidiaries (the "Company") was organized under the laws
of the state of Arkansas on May 22, 1997. The Company sells pet supplies to both
retail and wholesale customers through catalogs and e-commerce. In August 1999
the Company purchased Humboldt Industries whose primary business was catalog
sales. As a result of this acquisition, the Company has altered its approach by
combining a traditional catalog company that is migrating its customer base to
the Internet, and expanding its Internet-only customers through the catalog.
THE COMPANY HAS SOLD COMMON STOCK IN OFFERINGS THAT WERE EXEMPT FROM
REGISTRATION WITH THE SECURITIES AND EXCHANGE COMMISSION ("SEC"). THE COMPANY'S
COMMON STOCK IS CURRENTLY TRADED ON THE OTC BULLETIN BOARD.
BASIS OF PRESENTATION
We have prepared the accompanying condensed consolidated financial statements in
accordance with generally accepted accounting principles for interim financial
statements and with the instructions to Form 10-Q and Article 10 of Regulation
S-X. Accordingly, these financial statements do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements. The interim financial information is
unaudited, but reflects all adjustments consisting only of normal recurring
accruals which are, in our opinion, necessary for a fair presentation of the
results of operations for the interim periods. Our operating results for the
interim periods are not necessarily indicative of the results that may be
expected for us for the entire year because of seasonal and short-term
variations. For further information, you should refer to the consolidated
financial statements and related footnotes included in our Annual Report on Form
10-K for the year ended June 30, 2000.
CONSOLIDATION
The consolidated financial statements include the accounts of all wholly owned
subsidiaries, which include, PQ Acquisition Company, Inc. (the survivor of
Humboldt Industires acquisition), Wellstone Acquisition Corporation and
Allpets.com, Inc.
The consolidated financial statements include the accounts of the Company and
its wholly owned subsidiaries. All significant intercompany balances and
transactions have been eliminated in consolidation.
GOING CONCERN UNCERTAINTY
The accompanying consolidated financial statements have been presented in
conformity with generally accepted accounting principles, which contemplate
continuation of the Company as a going concern. However, the Company has a
significant working capital deficiency and has incurred operating losses since
its formation. Management believes that actions presently being taken will
provide for the Company to continue as a going concern. Such actions may include
but are not limited to utilizing the Equity Line of Credit (See Note 8), a
strategic partnership or acquisition that would provide the Company with the
necessary capital, or sale of certain assets. However, there are no assurances
that management will be able to secure additional equity capital or complete any
other strategic transactions that will permit the Company to meet its current
obligations and continue as a going conern.
INVENTORIES
Inventories are valued at the lower of cost, principally determined by the
first-in, first-out method, or market. Inventory at March 31, 2001 and 1999,
consists principally of pet with some craft supplies purchased for retail sale.
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PROPERTY, PLANT, AND EQUIPMENT
Property, plant and equipment are recorded at cost. Depreciation is computed
using the straight-line method over the estimated useful lives of the
depreciable assets, which is from five years for furniture and equipment and
thirty nine years for buildings and improvements. The land and building in
Lonoke, Arkansas is being held for sale. The land and building has been written
down to the expected net sales price and is not currently being depreciated.
Management has listed the property for sale with a real estate agent.
INCOME TAXES
The Company provides for income taxes based on the liability method. No benefit
for income taxes has been recorded related to net operating loss carry forwards
as realization of such benefits is not reasonably assured.
STOCK-BASED COMPENSATION
The company records stock based compensation using provisions of Accounting
Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued to
Employees, and the recent interpretation No. 44, Accounting for Certain
Transactions Involving Stock Compensation an Interpretation of APB Opinion No.
25. Generally such provisions require the company to recognize compensation cost
over the vesting period for the difference between the quoted market price of an
award at the measurement date, which is the later of the date of grant and the
date at which the amount and price of the award becomes fixed, and the purchase
or exercise price of the shares.
INTANGIBLE ASSETS
Intangible assets are amortized on a straight-line basis over their estimated
lives, ranging from 3 to 5 years. Intangible assets at March 31, 2001 and June
30, 2000, primarily consist of web site development costs and trademarks.
CONCENTRATION OF CREDIT RISK
The Company's services are provided primarily to customers throughout the United
States. The Company receives payment largely by customers' use of credit cards
for internet and catalog sales and, for sales by Humboldt to pet care
professionals and veterinarians, the Company performs ongoing credit evaluations
and generally does not require collateral. Historically, credit losses have been
within management's expectations.
REVENUE RECOGNITION
Revenue from product sales is recognized upon shipment of merchandise, net of an
allowance for estimated customer returns.
SHIPPING AND HANDLING
Fees received from shipping and handling activities are included as revenue.
Costs incurred for shipping and handling are included as a component of cost of
goods sold.
ADVERTISING COSTS
The Company expenses advertising costs, other than direct response advertising,,
as they are incurred. The Company accounts for catalog costs in accordance with
Statement of Position 93-7, "Reporting on Advertising Costs" in connection with
the marketing of their direct response product catalogs. The cost to produce
mail catalogs are amortized over the period of benefit, which is less than one
year using the ratio of current period revenue to the total current and
estimated future period revenues.
IMPAIRMENT OF ASSETS
The Company accounts for any impairment of its long-lived assets using Statement
of Financial Accounting Standards ("SFAS") No. 121, "Accounting for the
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Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of".
Under SFAS No. 121, impairment losses are recognized when information indicates
the carrying amount of long-lived assets, identifiable intangibles and goodwill
related to those assets will not be recovered through future operations or sale.
USE OF ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the amounts reported in the consolidated financial
statements and accompanying notes. Actual results could differ from those
estimates.
NOTE 2. EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted earnings per
share ("EPS"):
Three Months Ended Nine Months Ended
March 31, March 31,
2001 2000 2001 2000
------------- ------------- ------------- -------------
Numerator:
Net loss and numerator for basic
and diluted loss per share $ (5,454,543) $ (3,451,996) $ (11,338,756) $ (7,454,680)
============= ============= ------------- -------------
Denominator:
Denominator for basic earning
per share -- weighted-average
shares 21,753,273 12,340,531 20,198,138 11,519,146
============= ============= ------------- -------------
Effect of dilutive shares:
Employee Stock Options -- -- -- --
Warrants -- -- -- --
Contingent Shares -- -- -- --
------------- ------------- ------------- -------------
Denominator for diluted earnings
per share - adjusted weighted-
average shares and assumed
conversion 21,753,273 12,340,531 20,198,138 11,519,146
============= ============= ------------- -------------
Basic loss per share $ (0.25) $ (0.28) $ (0.56) $ (0.65)
============= ============= ------------- -------------
Diluted loss per share $ (0.25) $ (0.28) $ (0.56) $ (0.65)
============= ============= ------------- -------------
The effect of all potential common shares is anti-dilutive in the calculation of
diluted loss per share and therefore have been excluded from the calculation.
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NOTE 3. STOCK-BASED COMPENSATION
The Company's Board of Directors has given approval to the establishment of a
Management Incentive Plan (MIP) and an Employee Equity Participation Incentive
Plan (EEPIP) under which shares of the Company's stock are granted to employees.
The shares may be restricted for one year following the date of grant. During
the quarter ended March 31, 2001, the company granted 507,850 shares in options
at $0.078 per share. Additionally, 1,523,550 shares of common stock were granted
to executives and consultants of the Company. The vesting of these stock grants
is based on the Company achieving a closing share price of $0.15 and $0.20.
These options and shares were granted from the Employee Equity Participation
Incentive Plan. On April 17, 2001 the Board of Directors authorized an increase
in the authorized shares in the EEPIP plan from 2,000,000 to 2,500,000.
For the nine months ended March 31, 2001 and 2000 the Company recognized stock
compensation expense in the amount of $96,855 and $339,806 for stock grants made
to employees.
The Company has exchanged common stock, or common stock options for a variety of
services. The Company records the cost associated with these transactions in
accordance with FASB Statement 123 "Accounting for Stock Based Compensation".
The Company recorded $388,600 and $797,072 of stock compensation expense for the
nine months ended March 31, 2001 and 2000, respectively for stock and options
issued for services
NOTE 4. ACQUISITIONS
During the year ended June 30, 2000 the Company completed a number of
acquisitions accounted for using the purchase method of accounting for business
combinations. These acquisitions included:
HUMBOLDT AND MAPLEWOOD -- On August 1, 1999, the Company acquired 100% of the
outstanding stock of Humboldt Industries, Inc. for cash of $4,600,000 and the
issuance of 1,146,417 shares of common stock.
ALLPETS.COM -- On May 30, 2000 the Company acquired AllPets.com, Inc. through
the issuance of 3,652,785 shares of common stock and 1,105,250 stock options.
WELLSTONE ACQUISITION CORPORATION -- On March 6, 2000, the Company acquired all
of the outstanding stock of Wellstone Acquisition Corporation ("Wellstone") for
cash of $225,000 and the issuance of 130,208 share of common stock.
WERPETS.COM -- On April 27, 2000 the Company acquired WeRPets.com, Inc. through
the issuance of 703,316 shares of common stock.
CHARTENDURE -- On May 1, 2000 the Company acquired Chartendure, Ltd., a company
organized under the laws of the United Kingdom through the issuance of 400,000
shares of common stock.
Additional information about these acquisitions can be located in the notes to
the consolidated financial statements included in the Company's Form 10-K for
the year ended June 30, 2000.
As is further discussed in Note 9., goodwill arising in the accounting for the
WeRPets.com and Chartendure acquisitions have been written-off based on
Managements evaluation of impairment in accordance with SFAS 121.
NOTE 5. STOCKHOLDERS' EQUITY
PREFERRED STOCK
The Company is authorized to issue 10,000,000 shares of preferred stock. On May
9, 2000 the Company designated 50,000 share of preferred stock as Series A
Convertible Preferred Stock ("Series A Stock"), the Company subsequently issued
34,642 shares of Series A Stock for total consideration of $3,464,200,
consisting of $2,055,700 in cash and $1,408,500 as payment on the Bridge Loan.
The Series A Stock has certain terms, rights, and privileges. Additional
information
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about these terms, rights, and privileges can be located in the notes to the
consolidated financial statements included in the Company's Form 10-K for the
year ended June 30, 2000.
NOTE 6. NOTES AND CAPITAL LEASES PAYABLE
March 31 JUNE 30
2001 2000
(Unaudited)
----------- ----------
Short term line-of-credit agreement with a bank at an interest rate of 9.5%
This note is due on July 12, 2001 and is secured by the stock of PQ
Acquisition Corp, Inc. $ 1,450,000 $ -0-
Secured note to a Profit Sharing plan with an interest rate of 10%. Interest
payments are due quarterly and the note matures on November 22, 2001. If all
interests payments are made on a timely basis, the Company has the option of
extending the note for an additional year under the same terms. The note is
secured with the property
and land held for sale 200,000 -0-
Unsecured note payable to Pine Tree Management Corporation with variable
interest of prime minus 1% (8.5% at March 31, 2001), interest payable
quarterly beginning September 10, 1999 with $45,000 principal payment due
September 15, 2000 and 2001 45,000 90,000
Capital lease payable to a leasing company due in monthly installments of $5,096
until May 2003 with no stated interest rate. The lease is guaranteed by
a stockholder -0- 153,147
Capital lease payable to a leasing company due in monthly installments of $3,332
until December 2004 with no stated interest rate. The lease is guaranteed by
a stockholder -0- 143,552
Term note payable to an investor, due on December 1, 2002, with quarterly
Interest payments at an interest rate of 9%. This note is secured by a
subordinated position in the stock of PQ Acquisition Corporation and the
inventory of Humboldt Industries located in Hazleton, PA 250,000
------------ -----------
1,945,000 386,699
Less current portion 1,695,000 125,763
------------ -----------
$ 250,000 $ 260,936
============ ===========
Related party debt totaled $588,990 as of March 31, 2001.
NOTE 7. CONVERTIBLE DEBENTURE
On May 5, 2000, the Company borrowed $1,000,000 pursuant to the terms of a 6%
convertible debenture in order to retire a bridge loan. The debenture is
convertible, at the option of holder, into a minimum of 666,666 shares of the
Company's common stock at a rate of $1.50 per share or 85% of the average price
of the lowest three days during the last twenty-two days prior to notice of the
conversion.
In November 2000, this convertible debenture was renewed with a maturity date of
May 5, 2001 and its conversion price was lowered to $1.00 or 85% of the average
price of the lowest three trading days during the last twenty-two days prior to
notice of conversion. At the same time, 130,000 other warrants provided to the
lender were reduced to $1.00 from $4.65. In conjunction with the extension the
Company recorded a debt discount which is being amortized over the term of the
loan and $298,000 of expense related to the warrant repricing.
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On January 26, 2001, the debenture holder converted $117,942 of the debenture
into 723,793 shares of common stock and the principal balance was reduced to
$882,058. The Company has negotiated an extension of this debenture to July 5,
2001. On May 9, 2001 the Company received a conversion notice for 607,360 shares
of common stock. This conversion reduced the principal balance by $32,000. The
Company is currently working to register additional common stock with the
Securities and Exchange Commission in order to complete the most recent
conversion. The convertible debt holder may be due penalties if the Company
cannot timely deliver the registered shares.
NOTE 8. EQUITY LINE OF CREDIT AGREEMENT
On March 15, 2000, the Company entered into an equity line of credit agreement
with Splendid Rock Holdings, Ltd., whereby the Company may sell or "put", from
time to time, up to an aggregate of $25 million of common stock at a price equal
to 85% of the average market price of the common stock as defined by the Line of
Credit Agreement. The maximum dollar amount of shares that may be put is subject
to certain volume and timing restrictions.
Through March 31, 2001, the Company had issued 2,239,659 of shares of common
stock pursuant to this agreement for a total of $1,115,500.
In conjunction with this agreement the Company issued to Splendid Rock Holdings,
Inc. warrants to purchase up to 1,320,000 shares of common stock at an average
exercise price of $3.84. As currently structured, the Company will account for
the value of the warrants issued ($1,774,000) as a cost of the issuance of
common stock and, accordingly, this is not expected to impact future results of
operations.
NOTE 9. GOODWILL IMPAIRMENT LOSS
The Company recognizes the excess of acquisition costs over the fair values of
net assets acquired in business combinations as goodwill. Goodwill associated
with acquisitions is being amortized on a straight-line basis over its estimated
life, 2 to 5 years currently. The Company periodically evaluates the existence
of goodwill impairment on the basis of whether the goodwill is fully recoverable
from the projected undiscounted net cash flows of the related business unit. The
amount of goodwill impairment, if any, is measured based on the lower of
carrying amount or fair value.
The Company recorded goodwill in the amount of approximately $19.5 million in
2000 related to the acquisitions of Humboldt Industries, Inc., Chartendure Ltd.,
WeRPets.com and Allpets.com. On a quarterly basis the Company has reviewed the
recoverability of goodwill in accordance with FAS 121 in order to identify any
potential impairment that might require a revision to the estimated useful life
of the goodwill or indicate impairment.
During the 3rd quarter the Company determined that the unamortized goodwill in
the amount of $2,435,237 associated with the acquisitions of Chartendure and
WeRPets.com was impaired and should be written-off immediately.
Useful Goodwill Recorded at Unamortized
Life acquisition goodwill
------ -------------------- -----------
Chartendure 2 years $ 725,000 $ 483,333
WeRPets.com 3 years 2,500,000 1,951,904
----------- -----------
$ 3,225,000 $ 2,435,237
=========== ===========
A discussion of each acquired company and the reasons for the deemed impairment
follows:
Chartendure
On May 1, 2000 the Company acquired Chartendure, Ltd., a company organized under
the laws of the United Kingdom, for 400,000 shares of the Company's common
stock, valued at $725,000 on the date of acquisition. The acquisition was
accounted for as a purchase transaction and resulted in the recording of
approximately $725,000 of goodwill. Goodwill was being amortized over a two-year
life.
Chartendure was acquired due to existing relationships it had with various
veterinary organizations and other pet professionals in the United Kingdom and
throughout Europe. Through
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these relationships, Chartendure was planned to provide web site content
regarding pet care, feeding, and health issues for pet owners. The Company
intended to enter into contracts with these pet professionals to provide
continuous content for the web site. No assets were acquired in the acquisition
of Chartendure and the entire purchase price was assigned to goodwill.
Through February 2001 the Company had not fully executed on the plans noted
above. Due to a lack of financing, the Company has concluded it will not enter
into contracts with pet professionals from the UK for web site content until it
is adequately funded and the unamortized goodwill is not expected to provide any
potential revenues to the Company over the foreseeable future.
WeRPets.com
On April 27, 2000 the Company acquired WeRPets.com, Inc. for 703,316 shares of
the Company's common stock, valued at $2.5 million on the date of acquisition.
The acquisition was accounted for as a purchase transaction and resulted in the
recording of approximately $2.5 of goodwill. Goodwill was being amortized over a
three-year life.
WeRPets was acquired as an emerging online pet-related company that has
developed strong relationships with The Health Network and Galaxy.com
(www.galaxy.com). WeRPets also had an agreement to be the sole and exclusive pet
portal on www.galaxy.com and had the worldwide exclusive license to selected
content produced by The Health Network in HTML and streaming video formats.
Galaxy.com, intends to be a leading vertical Internet directory, providing fast,
contextually relevant searches of the Internet for numerous vertical markets,
including health, education, international, shopping, pets and more. The Company
also had employment agreements with two of the former owners. The Company is
required to pay Galaxy.com $8,667 per month as an advertising fee while traffic
from the site generates only minimal sales. No assets were acquired in the
acquisition of WeRPets.com and the entire purchase price was assigned to
goodwill.
Through February 2001 Pet Quarters had experienced very little traffic or sales
from their affiliation with galaxy.com. The Company is currently negotiating
with galaxy.com to either release Pet Quarters from their contract or amend it
to a performance based arrangement. No web content was acquired with the
acquisition of WeRPets.com. The remaining goodwill is not expected to provide
any future service potential to the Company.
Humboldt and Allpets.com Goodwill
Based on the recurring losses of the company and the recorded impairment of
Chartendure and WeRPets.com, management considered whether there were any
indicators of impairment of the goodwill associated with the acquisitions of
Humboldt and Allpets.com.
Management believes that the large customer base and reputation of Humboldt
supports the goodwill that was recorded related to the acquisition. Humboldt
also has a history of operating at a profit despite losses in the periods
subsequent to acquisition. Losses subsequent to the acquisition are due to
corporate salaries and other allocations accounted for under Humboldt.
Considering these factors, and also the five year useful life assigned to
Humboldt goodwill, Management does not believe that impairment of Humboldt
exists at March 31, 2001.
The Company believes that the goodwill related to Allpets.com is validated by
the fact that the all pets website has a large following and has increased
traffic to the Pet Quarters site. The allpets.com website consists of breed
information, veterinary information, and other resources for pet owners. The
Company has merged its website with Allpets.com to increase visitors to the Pet
Quarters site. Despite operating losses, the website is considered vital to the
company. Pet Quarters intends to change its corporate name to AllPets, Inc.
Management will continue to evaluate its long-term assets, goodwill and
intangibles for recoverability on a quarterly basis in accordance with Statement
of Financial Accounting Standards No. 121.
13
NOTE 10. OPERATING SEGMENTS
Prior to the purchase of Humboldt Industries effective August 1, 1999, the
Company operated in one segment -- internet sales of pet supplies. Beginning
August 1, 1999, the Company began, through the purchase of Humboldt Industries,
a catalog segment. Information on the operating segments for the three and nine
months ended March 31, 2001 and 2000 is as follows:
THREE MONTHS ENDED NINE MONTHS ENDED
March 31, March 31,
2001 2000 2001 2000
------------ ------------ ------------- ------------
Net Sales:
Internet $ 581,100 $ 173,973 $ 1,398,740 $ 435,170
Catalog 2,716,080 3,500,697 9,420,175 9,438,400
------------ ------------ ------------- ------------
Total $ 3,297,180 $ 3,674,670 $ 10,818,915 9,873,570
============ ============ ============= ============
Loss from operations:
Internet $ (4,309,244) $ (2,249,924) $ (7,943,687) $ (3,181,252)
Catalog (965,398) (660,865) (2,849,361) $ (1,486,592)
------------ ------------ ------------- ------------
Total $ (5,274,642) $ (2,910,789) $ (10,793,048) $ (4,667,844)
============ ============ ============= ============
Although the Company sells the same product at the same price to retail
customers through the internet and catalog segments, the means of selling is
different with the internet segment having the potential for a much broader
distribution with far more customers that can be reached through the traditional
catalog distribution. Revenues by geographical location of customer is not
practical to determine.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
MANAGEMENT'S DISCUSSION AND ANALYSIS
The following discussion and analysis contains some forward-looking statements,
which are based upon our plans, goals, and objectives for Pet Quarters, Inc. and
its management. Such statements are subject to various risks and uncertainties.
The most significant risk involves the Company's ability to obtain sufficient
cash and capital resources to operate its businesses. We have demand loans which
could require additional infusions of capital in order to make required
principal and interest payments. Our longer-term development plans also require
additional capital for completion. Consequently, the reader should consider that
such uncertainties and risks may cause actual results to vary materially from
the stated plans, goals, and objectives outlined below.
BALANCE SHEET DATA AS OF MARCH 31, 2001 COMPARED TO JUNE 30, 2000
Assets:
Assets: The total assets as of March 31, 2001 were $14,407,703 compared to
$21,846,952 as of June 30, 2000. This reflects in part the goodwill that was
written-down and amortized during the nine month period ended March 31, 2001. We
had current assets of $2,105,308 including inventories of $1,237,207, prepaid
expenses and other current assets of $293,551, accounts receivable of $53,592,
and land and building held for sale of $500,000 as of March 31, 2001 as compared
to current assets of $3,302,340 including inventories of $1,674,002, prepaid
expense and other current assets of $788,602, accounts receivable of $175,608
and building and land held for sale of $500,000 as of June 30, 2000. We have
listed with a real estate agent the land and building in Lonoke, Arkansas for
$650,000. The purchase of Humboldt Industries eliminated the original purpose of
the facility, and the Company is prepared to sell the Lonoke facility.
14
Goodwill, net of accumulated amortization, was $11,265,531 as of March 31, 2001
compared to $17,524,514 as of June 30, 2000. The decrease in goodwill reflects
the quarterly amortization of goodwill and the impairment loss and write-down of
goodwill associated with the acquisitions of WeRPets.com and Chartendure, Ltd
that was recorded during the quarter ended March 31, 2001. Goodwill is being
amortized on schedules that vary between three and five years. We continue to
invest in development of our e-commerce strategy and we believe the carrying
amount of goodwill at March 31, 2001 is appropriate. Management will continue to
evaluate goodwill for recoverability and impairment in accordance with FAS 121.
See Note 9 to the Condensed Consolidated Financial Statements for a further
discussion of the impairment loss and write-down recorded during the quarter
ended March 31, 2001.
Intangible assets, net of accumulated amortization, in the amount of $469,353 as
of March 31, 2001 include capitalized costs associated with our website as
compared to $506,227 as of June 30, 2000. These costs have been capitalized in
accordance with SOP 98-1.
Liabilities and stockholders equity:
Liabilities: Total liabilities of $6,735,350 are reflected as of March 31,
2001 as compared to total liabilities as of $5,402,494 as of June 30, 2000.
Current liabilities total $6,485,350 as of March 31, 2001 compared to $5,141,558
as of June 30, 2000. They include accounts payable of $2,428,192 as of March 31,
2001 compared to $2,904,205 as of June 30, 2000. Accrued expenses of $920,588 as
of March 31, 2001 compared with $546,412 as of June 30, 2000. We had notes
payable totaling $3,386,570, net as of March 31, 2001 including notes payable to
related parties of $588,990 and a $852,580 Convertible debenture, net of
discount, which has been extended to July 5, 2001. This compares
to $1,951,877 in notes and capital leases payable as of June 30, 2000. The
increase in notes payable is primarily attributable to the $1,450,000 line of
credit with a bank. See Note 6 to the Condensed Consolidated Financial
Statements. Related party notes payable in the amount of $329,989 are secured
with a subordinated position on the facility in Lonoke, Arkansas.
Stockholders equity: Common shares increased from 18,147,783 as of June 30, 2000
to 22,207,757, as of March 31, 2001. This increase for the quarter is the result
of the issuance of an additional 639,659 shares through our equity line of
credit and 723,793 shares were issued to the holder of the convertible debenture
resulting in a reduction of $117,942 in principal balance of the convertible
debenture. Total shareholder equity was $7,672,353 as compared to $16,444,458 as
of June 30, 2000. Total liabilities and stockholder's equity was $14,407,703, as
of March 31, 2001 as compared to $21,846,952 on June 30, 2000.
RESULTS OF OPERATIONS FOR THE QUARTER ENDED MARCH 31, 2001 COMPARED
WITH THE QUARTER ENDED MARCH 31, 2000
Sales: Sales decreased to $3,297,180 for the quarter ended March 31, 2001 from
$3,674,670 for the quarter ended March 31, 2000. This is a 10% decrease. The
short-fall resulted from an altered catalog mailing schedule from the prior year
quarter, a slowing economy, and difficult business environment. Internet sales
for the March 2001 quarter were $581,100 as compared to $173,973 in the March
2000 quarter, which is a 334% increase.
Cost of Sales: Cost of sales was $2,576,552 for the quarter ended March 31, 2001
compared to $2,631,636 for the quarter ended March 31, 2000. This is a 2%
decrease and is mostly the result of lower sales as compared to the same quarter
in the prior year and higher product costs.
Gross margin: Our gross margins declined to 22% for the quarter ended March 31,
2001 compared to 28% for the same period in 2000. The lower margins are a direct
result of our free shipping policy for online sales through our Allpets.com web
site, an increase in product costs for all divisions, and a difficult market
environment.
Selling expenses: Selling expenses of $979,993 for the quarter ended March 31,
2001 compared to $511,886 for the quarter ended March 31, 2000. The increase in
selling expenses is partially attributed to a revised catalog printing and
mailing schedule from the same quarter in 2000.
15
Administrative and general expenses decreased to $1,464,978 during the quarter
ended March 31, 2001 compared to $2,946,347 for the quarter ended March 31,
2000. This reflects a 49% decrease. Recently, we have reduced expenses in all
areas including payroll and the closing of the Nashville office. Many of the
positions and services performed in our Los Angeles office have been eliminated
or consolidated into our Pennsylvania location.
Depreciation and amortization expenses were $1,115,062 for the quarter ended
March 31, 2001 compared to $495,590 in the quarter ended March 31, 2000.
The increase is attributed to the amortization of goodwill for the Company's
acquired in March - May 2000. The goodwill associated with WeRPets.com and
Chartendure, Ltd., has been written-down for impairment loss and no further
goodwill amortization will be required for WeRPets.com and Chartendure, Ltd.
Impairment loss and write-down of goodwill for the quarter ended March 31, 2001
relates to the goodwill that arose in the accounting for the acquisitions of
WeRPets and Chartendure Ltd. in 2000. Management determined during the quarter
ended March 31, 2001 that an impairment loss had occurred in conformity with the
guidance of Statement of financial Accounting Standards No. 121.
Loss from operations was $5,274,642 for the quarter ended March 31, 2001 as
compared to a loss of $3,310,789 for the quarter ended March 31, 2000. The
impairment loss recorded during the quarter ended March 31, 2001 accounts for
$2,435,237 of this loss. Amortization of goodwill accounts for a significant
portion of the loss for both periods.
Interest expense was $180,419 for the quarter ended March 31, 2001 as compared
to $141,207 for the same period in 2000.
Income tax benefit: We currently have substantial net operating losses (NOL'S)
from inception through March 31, 2001. At this time, no income tax benefit has
been recognized since the recoverability of these NOL's is doubtful.
Net loss: We had a $5,454,543 loss for the quarter ended March 31, 2001 as
compared to a $3,451,996 loss for the quarter ended March 31, 2000. Non-cash
items include the goodwill amortization of Humboldt Industries and AllPets.com,
the impairment loss and write-down of goodwill for WeRPets.com and Chartendure,
Ltd., depreciation expense, and stock compensation expense and the interest
costs associated with the beneficial conversion component of the convertible
debenture.
Recent Events: The difficult market environment has impacted our ability to
attract significant capital and our ability to fully execute our business plan.
We have aggressively reduced expenses at all levels, which has resulted in a
significantly lower cost structure. We believe these expense reductions will not
materially affect our current business or impede its future growth; however,
they are necessary given current market conditions.
RESULTS OF OPERATIONS FOR THE NINE MONTHS ENDED MARCH 31, 2001 COMPARED
WITH THE NINE MONTHS ENDED MARCH 31, 2000
Sales: Sales for the nine-months were $10,818,915 as of March 31, 2001 compared
to $9,873,570 for the nine months ended March 31, 2000. This is a 10% increase.
Cost of sales was $7,945,501 as of March 31, 2001 compared to $6,744,788 as of
March 31, 2000. This is an 18% increase. Both sales and cost of sales for the
nine months ended March 31, 2000 included only eight months of results from
Humboldt since Humboldt was acquired effective July 1, 2000. Gross margin was
$2,873,414 as of March 31, 2001 as compared to $3,128,782 as of March 31, 2000.
This is an 8% decrease and reflects higher product costs from all divisions and
downward pressure on prices.
Operating expenses and costs total $13,666.462 for the nine months ended March
31, 2001 as compared to $7,796,626 for the nine months ended March 31, 2000.
$2,435,237 of this increase is due to the goodwill impairment loss and
write-down recorded during the quarter ended March 31, 2001. The remainder of
the increase is due to the expense associated with overhead from the
acquisitions made in the last year including the quarterly amortization of
goodwill and the additional overhead associated with these transactions.
Other income (expense): Total other expense decreased from $2,786,836 for the
nine months ended March 31, 2000 to $545,708 for the nine months ended March 31,
2001. The decrease is due to charges incurred in the prior year related to the
Bridge Loan.
16
Net Loss: Net loss increased to $11,338,756 for the nine months ended March 31,
2001 as compared to $7,454,680 for the nine months ended March 31, 2000. Net
loss per share decreased to ($0.56) for the nine months ended March 31, 2001 as
compared to ($0.65) for the nine months ended March 31, 2000.
LIQUIDITY AND CAPITAL RESOURCES
The difficult market environment has impacted our ability to attract significant
capital and our ability to fully execute our business plan. We have aggressively
reduced expenses at all levels, which has resulted in a significantly lower
costs. We believe these expense reductions will not significantly affect or
current business or impede its future growth; however, such reductions are
necessary given current market conditions. We expect negative cash flow from
operations to continue until revenues are increased. We believe an increase in
revenues will be accomplished through increased traffic to our web site and
through an increase in catalog sales.
We anticipate that we will need to raise additional capital in order to fund
operations over the near term. If we raise additional funds through the issuance
of equity or debt securities, such securities may have rights, preferences, or
privileges senior to the rights of our common stock and our Series A Convertible
Preferred Stock, and our stockholders may experience additional dilution. We
cannot be certain that additional financing will be available to us on
acceptable terms, or at all. At current prices of our common stock, we do not
believe that the Equity Line of Credit offers a viable source of capital without
significant dilution to our current stockholders.
PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
Pet Quarters is not currently involved in litigation other than matters
which are routine and incidental to the business.
ITEM 2. CHANGES IN SECURITIES.
a) There have been no material changes defining the rights of any class of
registered securities. During the quarter, the Company did extend a secured note
in the amount of $1,450,000 to July 12, 2001. The convertible debenture has been
extended to July 5, 2001.
b) Common stock issued by the Company during the third period was as
follows:
(1) 723,793 shares issued upon partial conversion of the convertible
preferred.
(2) 639,659 shares issued through our equity line of credit.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company has not submitted any matters to the stockholders during this
period.
ITEM 5. OTHER INFORMATION.
The Company has eliminated several positions and has reduced costs, which
has resulted in a significantly lower recurring expenses. Additionally, we have
eliminated or transferred most of the positions in our Los Angeles office to our
Pennsylvania facility and have closed the Nashville, Tennessee office.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
None.
17
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
PET QUARTERS, INC. (Registrant)
Date May 21, 2001 /s/ Steve Dempsey
------------------ --------------------------------------
Steve Dempsey, President
Date May 21, 2001 /s/ Gregg Rollins
------------------ --------------------------------------
Gregg Rollins, Chief Financial Officer