SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarter Ended April 30, 2003
Commission File No. 000-31797
VERMONT PURE HOLDINGS, LTD.
(Exact name of registrant as specified in its charter)
Delaware 03-0366218
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
Route 66; PO Box C; Randolph, VT 05060
(Address of principal executive offices) (Zip Code)
(802) 728-3600
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 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 [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Outstanding at
Class June 10, 2003
----- --------------
Common Stock, $.001 Par Value 21,271,536
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
INDEX
Page Number
Part I - Financial Information
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
as of April 30, 2003 (unaudited) and
October 31, 2002 3
Condensed Consolidated Statements of
Operations (unaudited) for the Three and Six
Months ended April 30, 2003 and 2002 4
Condensed Consolidated Statements of Cash
Flows (unaudited) for the Six Months ended
April 30, 2003 and 2002 5
Notes to Condensed Consolidated Financial
Statements (unaudited) 6-14
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of
Operations 15-22
Item 3. Quantitative and Qualitative Disclosures
About Market Risk 22-23
Item 4. Controls and Procedures 23-24
Part II - Other Information 25-30
Item 1. Legal Proceedings
Item 2. Changes in Securities
Item 3. Defaults upon Senior Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
Signatures and Certifications 31-36
2
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
April 30, October 31,
2003 2002
------------------ -----------------
(unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 1,265,214 $ 652,204
Accounts receivable - net 8,378,586 7,547,444
Inventories 3,951,143 4,067,740
Current portion of deferred tax asset 1,636,000 2,356,000
Other current assets 1,570,362 1,202,064
------------------ -----------------
TOTAL CURRENT ASSETS 16,801,305 15,825,452
------------------ -----------------
PROPERTY AND EQUIPMENT - net of accumulated depreciation 20,988,223 21,676,520
------------------ -----------------
OTHER ASSETS:
Goodwill 70,585,287 70,427,887
Other intangible assets - net of accumulated amortization 683,491 648,089
Deferred tax asset 851,000 479,000
Other assets 235,865 277,123
------------------ -----------------
TOTAL OTHER ASSETS 72,355,643 71,832,099
------------------ -----------------
TOTAL ASSETS $ 110,145,171 $ 109,334,071
================== =================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long term debt $ 2,672,111 $ 4,881,817
Accounts payable 4,376,848 3,508,062
Accrued expenses 2,022,118 2,640,226
Current portion of customer deposits 187,370 178,937
Unrealized loss on derivatives 599,958 842,898
------------------ -----------------
TOTAL CURRENT LIABILITIES 9,858,405 12,051,940
Long term debt, less current portion 48,446,132 46,539,557
Customer deposits 2,935,462 2,803,340
------------------ -----------------
TOTAL LIABILITIES 61,239,999 61,394,837
------------------ -----------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock - $.001 par value, 500,000
authorized shares, none issued and outstanding - -
Common stock - $.001 par value, 50,000,000
authorized shares, 21,271,536 shares and 21,235,927 shares
issued and outstanding at April 30, 2003 and at October 31, 2002,
repectively. 21,272 21,236
Additional paid-in capital 57,151,783 57,023,093
Accumulated deficit (7,667,925) (8,262,197)
Accumulated other comprehensive loss (599,958) (842,898)
------------------ -----------------
TOTAL STOCKHOLDERS' EQUITY 48,905,172 47,939,234
------------------ -----------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 110,145,171 $ 109,334,071
================== =================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three months ended April 30, Six months ended April 30,
---------------------------- ----------------------------
2003 2002 2003 2002
------------ ------------ ------------ ------------
(unaudited) (unaudited)
NET SALES $ 18,067,109 $ 17,530,696 $ 33,144,542 $ 32,222,859
COST OF GOODS SOLD 9,466,712 8,697,656 16,864,992 15,428,271
------------ ------------ ------------ ------------
GROSS PROFIT 8,600,397 8,833,040 16,279,550 16,794,588
------------ ------------ ------------ ------------
OPERATING EXPENSES:
Selling, general and administrative expenses 6,390,158 6,156,187 12,467,148 12,223,954
Advertising expenses 282,479 371,093 582,245 698,394
Amortization 42,416 58,051 78,349 116,102
------------ ------------ ------------ ------------
TOTAL OPERATING EXPENSES 6,715,053 6,585,331 13,127,742 13,038,450
------------ ------------ ------------ ------------
INCOME FROM OPERATIONS 1,885,344 2,247,709 3,151,808 3,756,138
------------ ------------ ------------ ------------
OTHER INCOME (EXPENSE):
Interest (1,061,900) (1,197,437) (2,149,074) (2,382,606)
Miscellaneous (13,272) 250 (9,461) 203,950
------------ ------------ ------------ ------------
TOTAL OTHER EXPENSE, NET (1,075,172) (1,197,187) (2,158,535) (2,178,656)
------------ ------------ ------------ ------------
INCOME BEFORE INCOME TAX EXPENSE 810,172 1,050,522 993,273 1,577,482
INCOME TAX EXPENSE 322,824 420,775 399,000 637,696
------------ ------------ ------------ ------------
NET INCOME $ 487,348 $ 629,747 $ 594,273 $ 939,786
============ ============ ============ ============
NET INCOME (LOSS) PER SHARE - BASIC $ 0.02 $ 0.03 $ 0.03 $ 0.04
============ ============ ============ ============
NET INCOME (LOSS) PER SHARE - DILUTED $ 0.02 $ 0.03 $ 0.03 $ 0.04
============ ============ ============ ============
WEIGHTED AVERAGE SHARES USED IN COMPUTATION - BASIC 21,271,536 21,078,419 21,265,602 21,074,639
============ ============ ============ ============
WEIGHTED AVERAGE SHARES USED IN COMPUTATION - DILUTED 21,678,293 22,174,053 21,845,098 22,167,145
============ ============ ============ ============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Six months ended April 30,
---------------------------
2003 2002
------------ ------------
(unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 594,273 $ 939,786
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation 2,487,819 2,103,936
Amortization 78,348 116,102
Change in deferred tax asset 348,000 -
Gain on disposal of property and equipment 12,011 (19,475)
Non cash compensation 38,997 52,400
Changes in assets and liabilities (net of effect of acquisitions):
Accounts receivable (1,362,142) (1,614,353)
Inventories 116,596 (292,226)
Other current assets (367,898) 1,404,791
Other assets (49,967) 193,260
Accounts payable 868,786 (472,999)
Accrued expenses 53,448 164,518
------------ ------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 2,818,271 2,575,740
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property, plant and equipment (1,890,171) (2,726,068)
Proceeds from sale of property and equipment 78,637 20,000
Cash used for acquisitions - net of cash acquired (180,325) (4,987,073)
------------ ------------
NET CASH USED IN INVESTING ACTIVITIES (1,991,859) (7,693,141)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from line of credit borrowings 1,866,433 3,865,706
Proceeds from debt 1,543,348 4,200,000
Principal payments line of credit (1,866,433) (2,240,706)
Principal payments of debt (1,846,479) (1,980,952)
Exercise of stock options - 272,613
Proceeds from sale of common stock 89,729 97,046
------------ ------------
NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES (213,402) 4,213,707
------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 613,022 (903,694)
CASH AND CASH EQUIVALENTS - beginning of year 652,204 1,099,223
------------ ------------
CASH AND CASH EQUIVALENTS - end of period $ 1,265,214 $ 195,529
============ ============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid for interest $ 2,173,846 $ 2,305,171
============ ============
Cash paid for income taxes $ 157,531 $ 719,556
============ ============
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
VERMONT PURE HOLDINGS, LTD. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements
have been prepared in accordance with Form 10-Q instructions and in the
opinion of management contain all adjustments (consisting of only
normal recurring accruals) necessary to present fairly the combined
condensed financial position, results of operations, and cash flows for
the periods presented. The results have been determined on the basis of
generally accepted accounting principles and practices of the United
States of America, applied consistently with the Annual Report on Form
10-K of Vermont Pure Holdings, Ltd. (the "Company") for the year ended
October 31, 2002.
Certain information and footnote disclosures normally included in
consolidated financial statements presented in accordance with
accounting principles generally accepted in the United States of
America have been condensed or omitted. The accompanying condensed
consolidated financial statements should be read in conjunction with
the condensed consolidated financial statements and notes thereto
incorporated by reference from the Company's Annual Report on Form 10-K
for the year ended October 31, 2002. The results of operations for the
interim periods are not necessarily indicative of the results to be
expected for the full year.
2. RECENT ACCOUNTING PRONOUNCEMENTS
On April 30, 2002, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 145,
"Rescission of FASB Statement No. 4, 44 and 64, Amendment of FASB
Statement No.13, and Technical Corrections." The rescission of SFAS
No.4, "Reporting Gains and Losses from Extinguishments," and SFAS
No.64, "Extinguishments of Debt made to Satisfy Sinking Fund
Requirements," which amended SFAS No.4, will affect income statement
classification of gains and losses from extinguishment of debt. SFAS
No.4 requires that gains and losses from extinguishment of debt be
classified as an extraordinary item, if material. Under SFAS No. 145,
extinguishment of debt is now considered a risk management strategy by
the reporting enterprise and the FASB does not believe it should be
considered extraordinary under the criteria in APB Opinion No.30,
"Reporting the Results of Operations-Reporting the Effects of Disposal
of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions," unless the debt extinguishment
meets the unusual in nature and infrequency of occurrence criteria in
APB Opinion No. 30. SFAS No. 145 is effective for fiscal years
beginning after May 15, 2002. With adoption of this pronouncement,
extinguishments of debt will be classified under the criteria in APB
Opinion No. 30.
6
In June 2002, the FASB issued SFAS No.146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 addresses
financial accounting and reporting for costs associated with exit or
disposal activities and nullified Emerging Issues Task Force Issue No.
94-3, "Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred
in a Restructuring)." SFAS No. 146 requires that a liability for a cost
associated with an exit or disposal activity be recognized when the
liability is incurred. A fundamental conclusion reached by the FASB in
this statement is that an entity's commitment to a plan, by itself,
does not create a present obligation to others that meets the
definition of a liability. SFAS No. 146 also establishes that fair
value is the objective for initial measurement of the liability. The
provisions of this statement are effective for exit or disposal
activities that are initiated after December 31, 2002, with early
application encouraged.
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure - an amendment of
FASB Statement No. 123." SFAS No. 148 amends SFAS No. 123, "Accounting
for Stock-Based Compensation," to provide alternative methods of
transition for a voluntary change to the fair value based method of
accounting for stock-based employee compensation. The Company has
adopted this pronouncement and is complying by continuing to apply
Accounting Principles Board Opinion No. 25 "Accounting for Stock Issued
to Employees," prominently disclosing the method of accounting for
stock based compensation in annual and interim financial statements,
and disclosing the effect of the method used on financial results.
The Company has elected to follow Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees." Pro-forma
information regarding net income and net income per share is presented
below as if the Company had accounted for its employee stock options
under the fair value method using SFAS No. 123, net of tax; such
pro-forma information is not necessarily representative of the effects
on reported net income for future years due primarily to option vesting
periods and to the fair value of additional options in future years.
Three Months Ended Six Months Ended
April 30, April 30,
2003 2002 2003 2002
------------ ------------ ------------ ------------
Net Income - As Reported $ 487,348 $ 629,747 $ 594,273 $ 939,786
Deduct: Fair Value of Options -
net of tax 93,875 90,405 139,891 293,429
------------ ------------ ------------ ------------
Pro Forma Net Income $ 393,473 $ 539,342 $ 454,382 $ 646,357
======= ======= ======= =======
Basic Net Income Per Share:
As Reported $ .02 $ .03 $ .03 $ .04
=== === === ===
Pro Forma $ .02 $ .03 $ .02 $ .03
=== === === ===
Diluted Net Income Per Share:
As Reported $ .02 $ .03 $ .03 $ .04
=== === === ===
Pro Forma $ .02 $ .02 $ .02 $ .03
=== === === ===
7
There were no stock options granted during the three month periods
ended April 30, 2003 and 2002. The Company did not recognize
compensation cost for the stock options granted during the six months
ended April 30, 2003 and 2002 because the exercise price equaled the
Company's stock price on the market at the date of grant. The weighted
average fair value of the options granted for the respective six month
periods, using the Black-Scholes option pricing model, was $1.70 and
$2.26, respectively.
Assumptions used for estimating the fair value of the option on the
date of grant under the Black-Scholes option pricing model are as
follows for the three and six month periods ending April 30, 2003 and
2002:
2003 2002
---- ----
Expected Dividend Yield 0% 0%
Expected Life 5 Years 5 Years
Risk free Interest Rate 5.7% 5.7%
Volatility 36% 53%
In April 2003, the Company's shareholders approved an increase in the
authorized numbers of shares to be issued from its 1998 Incentive and
Non-Statutory Stock Option Plan from 1,500,000 to 2,000,000.
In November 2002, the FASB issued FASB Interpretation No. 45 ("FIN
45"), "Guarantor's Accounting and Disclosure Requirements for
Guarantees, Including Indirect Guarantees of Indebtedness of Others".
FIN 45 requires that upon issuance of a guarantee, the guarantor must
recognize a liability for the fair value of the obligation it assumes
under that guarantee. FIN 45 also requires additional disclosures by a
guarantor in its interim and annual financial statements about the
obligations associated with guarantees issued. The disclosure
requirements are effective for financial statements of interim or
annual periods ending after December 15, 2002. The recognition and
measurement provisions are effective on a prospective basis to
guarantees issued or modified after December 31, 2002. The Company
adopted this pronouncement during the quarter. The Company did have any
transactions requiring disclosure under this pronouncement for the
reported periods.
In January 2003, the FASB issued FASB Interpretation No. 46 ("FIN 46"),
"Consolidation of Variable Interest Entities". FIN 46 provides guidance
on the identification of entities for which control is achieved through
means other than through voting rights, variable interest entities, and
how to determine when and which business enterprises should consolidate
variable interest entities. This interpretation applies immediately to
variable interest entities created after January 31, 2003. It applies
in the first fiscal year or interim period beginning after June 15,
2003, to variable interest entities in which an enterprise holds a
variable interest that it acquired before February 1, 2003. The
adoption of this interpretation is not expected to have a material
impact on the Company's consolidated financial statements.
In April 2003, FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." The statement amends
and clarifies financial accounting and reporting for derivative
instruments, including certain derivative instruments embedded in other
contracts and for hedging activities under FAS 133. FAS 149 is
effective for contracts entered into or modified after June 30, 2003
except for the provisions that were
8
cleared by the FASB in prior pronouncements. The Company is currently
assessing the financial impact of adopting FAS 149 in fiscal year 2003.
On May 15, 2003, the FASB issued SFAS 150, "Accounting for Certain
Financial Instruments with Characteristics of Both Liabilities and
Equity". SFAS 150 establishes standards for how an issuer classifies
and measures certain financial instruments with characteristics of both
liabilities and equity. It requires that an issuer classify a financial
instrument that is within its scope as a liability (or an asset in some
circumstances). SFAS 150 affects the issuer's accounting for three
types of freestanding financial instruments.
* Mandatorily redeemable shares, which the issuing company is obligated
to buy back in exchange for cash or other assets.
* Instruments that do or may require the issuer to buy back some of its
shares in exchange for cash or other assets; includes put options and
forward purchase contracts.
* Obligations that can be settled with shares, the monetary value of
which is fixed, tied solely or * predominantly to a variable such as a
market index, or varies inversely with the value of the issuers'
shares.
SFAS 150 does not apply to features embedded in a financial instrument
that is not a derivative in its entirety. Most of the guidance in SFAS
150 is effective for all financial instruments entered into or modified
after May 31, 2003, and otherwise is effective at the beginning of the
first interim period beginning after June 15, 2003. The Company has not
yet completed its analysis of SFAS 150; however, it believes that it is
currently substantially in compliance with the requirements of SFAS
150.
3. SEGMENTS
The Company prepares detailed information to evaluate its operations on
a segment basis. It accounts for the business in three separate
segments, "Retail", "Retail-Gallons" and "Home and Office". The Retail
- Gallons segment is a new segment being reported for the six month
period ending April 30, 2003.
The segments are identifiable based on the types of products and their
distribution channels.
Retail - Characterized by the sale of water in small, portable
containers that are constructed from clear polyethylene terephthalate
PET plastic. Bottle sizes range from 8 oz. to 1.5 L. These products are
sold to wholesale beverage distributors, supermarkets and convenience
stores.
Retail - Gallons - Characterized by the sale of water in medium-sized,
portable containers that are constructed from HDPE plastic. Bottle
sizes range from 1 gallon to 2.5 gallon. These products are sold to
supermarket chains. The Company has this product packed by other
companies and there is a different distribution pattern from other
retail products as well as a distinct retail customer base.
9
Home and Office - Characterized by the sale of five-gallon reusable
bottles of water and rental of water coolers delivered by the Company's
trucks and employees, and other products that are sold through this
distribution channel which are ancillary to the primary product, such
as office refreshments.
The Company allocates costs directly when possible and uses various
applicable allocation methods to allocate shared costs. There are no
inter-segment revenues for the periods reported.
For the three months ended April 30,
Home & Office Retail Retail - Gallons Total
------------- ------ ---------------- -----
(000's $) 2003 2002 2003 2002 2003 2002 2003 2002
------- ------- ------- ------- ------- ------- ------- -------
Sales 11,923 11,927 5,378 5,084 766 520 18,067 17,531
Cost of Goods Sold 4,844 4,514 4,013 3,804 610 379 9,467 8,697
------- ------- ------- ------- ------- ------- ------- -------
Gross Profit 7,079 7,413 1,365 1,280 156 141 8,600 8,834
Operating Expenses 5,229 5,144 1,399 1,325 87 116 6,715 6,585
------- ------- ------- ------- ------- ------- ------- -------
Operating Income (Loss) 1,850 2,269 (34) (45) 69 25 1,885 2,249
Interest (Expense) (765) (862) (262) (257) (35) (78) (1,062) (1,197)
Other Income (Loss) 10 (23) (13)
------- ------- ------- ------- ------- ------- ------- -------
Income (Loss) Before Taxes 1,095 1,407 (319) (302) 34 (53) 810 1,052
======= ======= ======= ======= ======= ======= ======= =======
For the six months ended April 30,
Home & Office Retail Retail - Gallons Total
------------- ------ ---------------- -----
(000's $) 2003 2002 2003 2002 2003 2002 2003 2002
------- ------- ------- ------- ------- ------- ------- -------
Sales 23,441 23,482 8,572 8,221 1,131 520 33,144 32,223
Cost of Goods Sold 9,668 8,980 6,315 6,069 882 379 16,865 15,428
------- ------- ------- ------- ------- ------- ------- -------
Gross Profit 13,773 14,502 2,257 2,152 249 141 16,279 16,795
Operating Expenses 10,461 10,486 2,510 2,436 157 116 13,128 13,038
------- ------- ------- ------- ------- ------- ------- -------
Operating Income (Loss) 3,312 4,016 (253) (284) 92 25 3,151 3,757
Interest (Expense) (1,548) (1,715) (531) (589) (70) (78) (2,149) (2,382)
Other Income 14 (23) 204 (9) 204
------- ------- ------- ------- ------- ------- ------- -------
Income (Loss) Before Taxes 1,778 2,301 (807) (669) 22 (53) 993 1,579
======= ======= ======= ======= ======= ======= ======= =======
4. DEBT
During the six months ended April 30, 2003 the Company borrowed
approximately $1,900,000 from its working capital line of credit with
Webster Bank. As of April 30, 2003 there was no outstanding obligation
under this facility. In addition, letters of credit totaling
10
$636,264 secured by the line were issued on the Company's behalf,
reducing the availability of the line by that amount.
Senior Debt Refinancing
On March 5, 2003 the Company refinanced its credit facility with
Webster Bank and other participants. The new credit facility refinanced
$28.5 million of existing senior debt, provides a working capital line
of $6.5 million for a term of two years, and makes available up to $15
million to be used for acquisitions and the partial repayment of the
outstanding 12% subordinated notes. Of the $15 million, up to $10
million is available for acquisitions in the Company's Home and Office
delivery segment, and up to $5 million is available for the repayment
of subordinated debt if the Company is able to achieve specified
financial performance targets in fiscal year 2003. If the targets are
not met, there would be no further scheduled principal payments on the
subordinated debt until 2008 when the full senior facility is due.
The new agreement amortizes the payback of the existing debt over five
years and amortizes the payback of the new acquisition debt for three
years after the first two years. During the first two years, interest
only is paid on a monthly basis for amounts drawn down for acquisitions
and sub-debt repayment. The operating line of credit will be renewed
for two years for a total of $6,500,000. Interest on all borrowings
will be tied to the Company's performance but start off at the 30 day
LIBOR plus 200 basis points.
Use of the proceeds related to acquisitions and retirement of sub-debt
are restricted by the Company's attainment of certain covenants,
requirements, and projections.
Compliance with Financial Covenants of the Company's Bank Agreement
The Company's Loan and Security agreement requires that it be in
compliance with certain financial covenants at the end of each fiscal
quarter. The Company was in compliance with all of its financial
covenants at the end of the second quarter.
5. COMPREHENSIVE INCOME
The following table summarizes the computations reconciling net income
to comprehensive income for the three months ended April 30, 2003:
Three Months Ended Six Months Ended
April 30, April 30,
2003 2002 2003 2002
------------ ------------ ------------ ------------
Net Income $ 487,348 $ 629,747 $ 594,273 $ 939,786
Other Comprehensive Income
Unrealized gain on derivatives designated as
cash flow hedges. 146,628 95,523 242,940 257,268
------------ ------------ ------------ ------------
Comprehensive Income $ 633,976 $ 725,270 $ 837,213 $ 1,197,054
============ ============ ============ ============
11
6. STOCK
Stock Issued to Directors
The Company issued 9,285 and 12,105 of its common shares to Directors
in lieu of cash for board fees in the first six months of fiscal years
2003 and 2002, respectively. Shares were issued based on the market
price on the date of issuance.
Employee Stock Purchase Plan
On June 15, 1999 the Company's stockholders approved the "Vermont Pure
Holdings, Ltd. 1999 Employee Stock Purchase Plan." On January 1, 2001,
employees commenced participation in the plan. The total number of
common shares issued under this plan during the six months ended April
30, 2003 was 26,325.
7. OPERATING LEASES
The Company's operating leases consist of trucks, office equipment and
rental property.
Future minimum rental payments over the terms of various lease
contracts are approximately as follows:
For the fiscal year ending October 31,:
2004 $1,702,000
2005 1,480,000
2006 1,186,000
2007 959,000
Thereafter 1,770,000
----------
Total $7,097,000
----------
8. INVENTORIES
Inventories consisted of the following:
April 30, October 31,
2003 2002
---- ----
Raw Materials $1,196,612 $1,289,553
Finished Goods 2,754,531 2,778,187
---------- ----------
Total Inventory $3,951,143 $4,067,740
========== ==========
9. SHIPPING & HANDLING COSTS
The Company classifies shipping and handling costs as a component of
selling, general and administrative expenses. Shipping and handling
costs were approximately $894,000 and
12
$662,000 for the six months, and $284,000 and $237,000 for the three
months ending April 30, 2003, and 2002, respectively. The Company does
not charge these costs to its customers.
10. EARNINGS PER SHARE AND WEIGHTED AVERAGE SHARES
The Company considers outstanding in-the-money stock options as
potential common stock in its calculation of diluted earnings per share
and uses the treasury stock method to calculate the applicable number
of shares. The following calculation provides the reconciliation of the
denominators used in the calculation of basic and fully diluted
earnings per share:
Three Months Ended Six Months Ended
April 30, April 30,
2003 2002 2003 2002
----------- ----------- ----------- -----------
Net Income $ 487,348 $ 629,747 $ 594,273 $ 939,786
----------- ----------- ----------- -----------
Denominator:
Basic Weighted Average Shares
Outstanding 21,271,536 21,078,419 21,265,602 21,074,639
Effect of Stock Options 406,757 1,095,634 579,496 1,092,506
----------- ----------- ----------- -----------
Diluted Weighted Average Shares
Outstanding 21,678,293 22,174,053 21,845,098 22,167,145
----------- ----------- ----------- -----------
Basic Earnings Per Share $ .02 $ .03 $ .03 $ .04
=========== =========== =========== ===========
Diluted Earnings Per Share $ .02 $ .03 $ .03 $ .04
=========== =========== =========== ===========
11. CONTINGENCY
Litigation Settlement
On July 27, 2000 the Company filed a lawsuit in Vermont Federal
District Court against Descartes Systems/Endgame Solutions for
non-performance under a professional services agreement. In the suit,
the Company alleged that the vendor did not adequately perform the
services rendered in connection with approximately $500,000 of unpaid
billings. Descartes filed a motion to dismiss the case arguing that the
Vermont Federal District Court is not the proper jurisdiction due to
the fact that Descartes is located in Ontario Canada and that the case
should be arbitrated there. In an order dated April 11, 2001, the
District Court granted Descartes' Motion to dismiss the case. In
September 2002, the parties agreed to limit damages to $200,000 for the
Company and $400,000 to Descartes and agreed to binding arbitration. In
January 2003, the Company agreed to pay $50,000 to Descartes in full
settlement of the litigation. In conjunction with the settlement, the
parties released each other from any further liability in the case. A
gain of $150,000 was recognized in the first quarter of 2003 since the
Company had set up a reserve for settlement of the suit that
13
exceeded the final amount paid. The gain has been included as a
reduction of selling, general and administrative expenses.
12. SUBSEQUENT EVENTS
Interest Rate Hedge
On June 11, 2003, the Company entered into an interest rate "swap"
agreement with Webster Bank in the notional amount of $10 million. The
underlying debt for this agreement is the loan and security agreement
with the bank (see footnote 4). The "swap" agreement fixes the interest
rate for the notional amount for three years at 1.74% plus the interest
rate spread defined by the agreement, currently 2%.
Tax Audit
The Company is currently undergoing a routine audit by the Internal
Revenue Service related to federal income tax for its Crystal Rock
subsidiary. Currently, there is no reliable estimate to indicate what
the results of this audit will be.
14
PART I - Item 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis should be read in conjunction with the
financial statements and notes thereto as filed in our Annual Report on Form
10-K for the year ended October 31, 2002 as well as the condensed consolidated
financial statements and notes contained herein.
Forward-Looking Statements
When used in the Form 10-Q and in our future filings with the Securities and
Exchange Commission, the words or phrases "will likely result," "we expect,"
"will continue," "is anticipated," "estimated," "project," "outlook," or similar
expressions are intended to identify "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. We caution
readers not to place undue reliance on any such forward-looking statements, each
of which speaks only as of the date made. Such statements are subject to certain
risks and uncertainties that could cause actual results to differ materially
from historical earnings and those presently anticipated or projected. Among
these risks are water supply and bottling capacity constraints in the face of
significant growth, dependence on outside distributors, and reliance on
commodity price fluctuations as they influence raw material pricing. We have no
obligation to publicly release the result of any revisions which may be made to
any forward-looking statements to reflect anticipated or unanticipated events or
circumstances occurring after the date of such statements.
Results of Operations
For the Three Months Ended April 30, 2003 (Second Quarter)
Sales - Sales for the second quarter of fiscal year 2003 were $18,067,000
compared to $17,531,000 for the same period of fiscal year 2002, an increase of
$536,000, or 3%.
Sales for the home and office segment for the second quarter of fiscal 2003 were
$11,923,000 compared to $11,927,000 for the corresponding period of fiscal year
2002, a decrease of $4,000. The relatively flat sales for the quarter are
reflective of a sluggish economy, particularly in our core southern New England
market. The economic environment has resulted in lower market demand and
increased competitive pressure for products in this segment. This resulted in
lower prices and volume for water related products. Of the total home and office
segment sales for the quarter, water sales totaled $5,886,000, a 1% decrease
from the same period a year ago, equipment rental totaled $2,123,000, a 2%
decrease over the same period a year ago, and sales of coffee and other products
totaled $3,914,000, a 3% increase compared to the same period a year ago. The
increase in these ancillary product sales reflects a recovery to more normal
sales patterns compared to a year ago.
Sales of water in the one-gallon size have increased significantly over the last
year. We introduced the product to satisfy the needs of new private label PET
customers. Because the product has
15
different production and distribution and a distinct retail customer base, the
inclusion of this business into the retail reporting segment has noticeably
altered the quantitative reporting of the segment in the past year.
Consequently, we have chosen to report results for the one-gallon size in a
separate segment. Sales for this segment were $766,000 for the second quarter of
fiscal year 2003 compared to $520,000 for the same period a year ago, an
increase of $246,000. The increase is attributable to increased demand and new
customers.
Sales for the retail segment, which included both private label and branded
products, for the second quarter of fiscal 2003 were $5,378,000 compared to
$5,084,000 for the corresponding period of fiscal year 2002, an increase of
$294,000 or 6%. For the second quarter of the fiscal year, sales of private
label brands increased 36% compared to the second quarter a year ago. The
increase is attributable to the strength of market share for private label
brands in the category as well as the addition of new accounts. In our branded
business, the increasingly competitive nature of the branded retail business and
limited distribution options resulted in significantly lower sales for our
brands. Sales of the Vermont Pure and Hidden Spring brands decreased 43% and
11%, respectively, compared to the second quarter a year ago. Average selling
prices of retail-size products for the second quarter decreased 12% compared to
the corresponding period in fiscal year 2002. The decrease in average selling
price was primarily attributable to price competition in the category. Sales
volume, in cases, increased 31% for the second quarter over the same period last
year.
Cost of Goods Sold/Gross Profit - For the second quarter of fiscal year 2003,
cost of goods sold was $9,467,000 compared to $8,698,000 for the same period in
fiscal 2002, an increase of $769,000, or 9%. Gross profit for the second quarter
was $8,600,000 compared to $8,833,000 for the corresponding period a year ago, a
decrease of $233,000, or 3%. The decrease in gross profit is primarily the
result of lower sales for our higher margin products as well as higher cost of
sales. As a percentage of sales, gross profit for the second quarter was 48% in
2003 and 50% in 2002. The decrease in the percentage is a result of a higher
sales mix of retail-size products and a lower gross profit rate on those
products.
Gross profit for the home and office segment was $7,079,000, or 59% of sales, in
the second quarter of fiscal 2003 compared to $7,413,000, or 62% of sales, for
the comparable period in 2002. The decrease in gross profit for the home and
office segment is attributable to lower sales of our higher margin water-
related products. The lower sales of these products were a result of both lower
sales volume and average selling prices. In addition, increased cost of sales
lowered margins. Increases in insurance and employee benefits and higher service
costs associated with maintaining a consistent customer base with lower sales
volume per customer contributed significantly to higher costs during the
quarter.
Gross profit for the retail gallon segment increased to $156,000 in the second
quarter of fiscal 2003 from $141,000 in the corresponding period a year ago as a
result of higher sales volume. However, a decrease in average selling prices due
to competitive pressures caused gross margin as a percentage of sales to
decrease to 20% from 27% for the respective quarters.
Gross profit for the retail segment was $1,365,000, or 25% of sales, in the
second quarter of fiscal 2003 compared to $1,280,000, or 25% of sales, for the
comparable period in 2002. The increase in gross profit for the retail segment,
in absolute terms, was the result of higher sales volume, while
16
gross profit, as a percentage of sales, stayed the same in light of lower
average selling prices, a direct result of the competitive environment.
Operating Expenses - For the second quarter of fiscal year 2003, compared to the
corresponding period in fiscal year 2002, total operating expenses were
$6,715,000 and $6,585,000, respectively, an increase of $130,000, or 2%.
Selling, general and administrative expenses ("SG&A") increased by $234,000, or
4%, for the second quarter compared to the corresponding period a year ago. Home
and office SG&A expenses increased $164,000, or 3% and SG&A expenses in the
retail segments increased $70,000, or 5%. The increase in SG&A expenses was
primarily due to increased retail sales for the period resulting in higher
freight and warehouse costs, increased sales personnel in the home and office
segment and administrative costs. Increased administrative costs include
insurance and employee benefits that are reflective of the market for those
products as well as legal and accounting costs related to increased regulation
for public companies.
Advertising and promotional expenses decreased $89,000, or 24%, during the first
quarter of 2002 compared to the corresponding period a year earlier. Promotion
and advertising costs in the home and office and retail segments decreased
$34,000 and $55,000 compared to the same period a year ago, respectively. The
decrease reflects the limited retail distribution opportunities (discussed
above) for our branded products and an increase in the direct sales effort in
the home and office segment.
For the second quarter of fiscal year 2003, amortization decreased $16,000 for
the same period a year ago. The decrease was a result of the expiration of the
term of certain agreements associated with acquisitions in prior years. All
amortization is accounted for in the home and office segment.
Income from Operations - Income from operations for the second quarter of fiscal
2003 was $1,885,000 as compared to $2,248,000 for the corresponding period last
year, a decrease of $363,000 or 16%. The decrease in income is attributable to
lower operating margins. Income from operations in the home and office segment
decreased to $1,850,000 in the second quarter of 2003 from $2,269,000 in the
second quarter of 2002 primarily due to lower sales prices and volume, and
higher cost of sales. Income from operations in the retail-gallons segment
increased to $69,000 in the second quarter of 2003 compared to income of $25,000
in the second quarter of 2002 as a result of higher sales volume for the period.
The loss from operations in the retail segment decreased to $34,000 in the
second quarter of 2003 compared to $45,000 in the second quarter of 2002 as a
result of the net effect of higher sales volume but lower average selling prices
for the period.
Other Income/Expense - Interest expense decreased $135,000 to $1,062,000 in the
second quarter of fiscal 2003 from $1,197,000 in the second quarter of fiscal
year 2002. The decrease in interest expense was a result of significantly lower
market interest rates on the variable rate senior debt. There was $13,000 of
miscellaneous expense in the quarter related to losses on sales of miscellaneous
assets.
Income Before Income Taxes - Net income before taxes for the second quarter of
fiscal year 2003 was $810,000 compared to net income before taxes of $1,051,000
for the corresponding period last year. The decrease of $241,000 is due to the
fact that lower interest charges did not offset the effect of lower operating
margins.
17
Income Tax/Net Income - Income tax expense was accrued at an effective rate of
40% for the second quarter of 2003 and 2002 resulting in tax expense of $323,000
and $421,000, respectively. Net income for the quarter was $487,000, or $02 per
share (basic and diluted) in 2003 compared to $630,000, or $03 per share (basic
and diluted) in 2002, a decrease of $143,000, or $.01 per share.
For the Six Months Ended April 30, 2002 (First Half)
Sales - Sales for the first half of fiscal year 2003 were $33,144,000 compared
to $32,223,000 for fiscal year 2002, an increase of $921,000, or 3%.
Sales for the home and office segment for the first half of fiscal 2003 were
$23,441,000 compared to $23,482,000 for the corresponding period of fiscal year
2002, a decrease of $41,000. The small decrease in sales is attributable to the
decrease in average selling prices and volume for water-related products which
did not offset the increase in the sales of other products. Of the total home
and office segment sales for the six month period, water sales totaled
$11,334,000, a decrease of 1% from the same period a year ago, equipment rental
was $4,270,000, a decrease of 2% from the same period a year ago and sales of
coffee and other products were $7,837,000, an increase of 2% compared to the
same period a year ago. The decrease in water-related sales is a result of lower
sales volume due to economic conditions and lower average selling prices due to
competition in the marketplace. The increase in other products compares to a
particularly poor corresponding period last year.
Sales for the retail gallon segment increased to $1,131,000 in the first half of
fiscal 2003 from $520,000 in the corresponding period a year ago, an increase of
$611,000. The increase is attributable to the fact that we did not start selling
this line of products until the second quarter of fiscal year 2002, higher
demand, and new customers.
Sales for the retail segment for the first half of fiscal year 2003 were
$8,572,000 compared to $8,221,000 for the corresponding period of fiscal year
2002, an increase of $351,000 or 4%. For the first half of the fiscal year,
sales of private label brands increased 36% compared to the same period a year
ago. Growth of private label brands reflects both new account acquisitions and
market share gain by the established customer base during the period. Sales of
the Vermont Pure and Hidden Spring brands decreased 47% and 7%, respectively,
compared to the first half a year ago. The decrease is related to the
increasingly competitive nature of the branded retail business and limited
distribution options in our core markets. Average selling prices of retail-size
products for the first half of fiscal year 2003 decreased 9% compared to the
corresponding period in fiscal year 2002. The decrease in average selling price
was primarily attributable to increased competition. Sales volume, in cases,
increased 26% in the first half of fiscal 2003 compared to the corresponding
period last year.
Cost of Goods Sold/Gross Profit - For the first half of fiscal year 2003, cost
of goods sold was $16,865,000 compared to $15,428,000 for the same period in
fiscal 2003, or an increase of 9%. Gross profit for the first half was
$16,279,000 compared to $16,795,000 for the corresponding period a year ago, a
decrease of $516,000, or 3%. As a percentage of sales, gross profit for the
first half of fiscal year 2003 was 49% in 2003 and 52% in 2002. The decrease in
gross profit is primarily the
18
result of lower sales of higher margin products, decrease in average selling
prices, and higher costs.
Gross profit for the home and office segment was $13,773,000, or 59% of sales,
in the first half of fiscal 2003 compared to $14,502,000, or 62% of sales, for
the comparable period in 2002. The decrease in gross profit for the home and
office segment is attributable to lower sales of our higher margin water-
related products. The lower sales of these products were a result of both lower
sales volume and average selling prices. In addition, increased cost of sales
lowered margins. The increase in cost of sales is attributable to higher
insurance and employee benefit costs, higher costs related to the reorganization
of production and distribution in the upstate New York region, and higher
service costs associated with maintaining a consistent customer base with lower
sales volume per customer.
Gross profit for the retail gallon segment increased to $249,000 in the second
quarter of fiscal 2003 from $141,000 in the corresponding period a year ago as a
result of higher sales. The higher gross margin is attributable to higher sales.
However, a decrease in average selling prices due to competitive pressures
caused gross margin as a percentage of sales to decrease to 22% from 27% for the
respective quarters.
Gross profit for the retail segment was $2,257,000, or 26% of sales, in the
first half of fiscal 2003 compared to $2,152,000, or 26% of sales, for the
comparable period in 2002. The increase in gross profit was the result of higher
sales volume, while gross profit, as a percentage of sales, did not change as
the result of lower average selling prices. We have continued to gain cost
efficiencies from higher sales volume and lower product costs through raw
material savings resulting in lower product costs. However, these improvements
have been mitigated by increases in such things as energy, PET resin, insurance,
and employee benefits.
Operating Expenses - For the first half of fiscal year 2003 compared to the
corresponding period in fiscal year 2002, total operating expenses were
$13,128,000 and $13,038,000, respectively, an increase of $90,000. Selling,
general and administrative expenses ("SG&A") increased by $243,000, or 2%, for
the first half of fiscal year 2003 compared to the same period last year. SG&A
expenses for home and office increased $86,000, or 1%, for the first half
compared to the corresponding period a year ago. The increase in SG&A for home
and office was related to an increase in sales personnel. Also included in the
home and office segment, is a gain of $150,000 which resulted from the
settlement of a lawsuit with a former software provider. The gain was derived
from reversal of the unused portion of a reserve for settlement of the suit.
SG&A expenses for the retail segments increased $157,000, or 7%. The increase
was a result of higher freight and warehouse costs related to increased sales.
Advertising and promotional expense decreased $116,000, or 17%, during the first
half of 2003 compared to the corresponding period a year earlier. The increase
was primarily due to a decline in advertising in the retail segment as result of
a higher mix of private label products. Advertising costs in the home and office
segment decreased $37,000, or 9% for the first half compared to a year ago.
Promotion and advertising for the retail segment decreased $79,000 in the period
compared to a year ago, a 28% decrease. There is no advertising or promotion
expense in the retail-gallons segment.
19
For the first half of fiscal year 2003, amortization decreased $38,000 to
$78,000 from $116,000 for the same period a year ago. The decrease was a result
of the expiration of the term of certain agreements associated with acquisitions
in prior years. All amortization is accounted for in the home and office
segment.
Income from Operations - Income from operations for the first half of fiscal
year 2003 was $3,152,000 as compared to $3,757,000 for the corresponding period
last year, a decrease of $605,000, or 16%. The decrease is primarily due to the
lower operating margins. Income from operations in the home and office segment
decreased to $3,312,000 in the first half of 2003 from $4,016,000 in the first
half of 2002 primarily because of lower sales volume and prices. Income from
operations in the retail-gallons segment increased to $92,000 in the first half
of 2003 compared to income of $25,000 in the first half of 2002. The increase in
this segment is due to higher sales volume in the period. The loss from
operations in the retail segment decreased to $253,000 in the first half of 2003
compared to a loss of $284,000 in the first half of 2002 as a result of the net
effect of higher sales volume but lower average selling prices for the period.
Other Income/Expense - Interest expense decreased $234,000 to $2,149,000 during
the first half of fiscal 2003 from $2,383,000 in the first half of fiscal year
2002. The decrease in interest expense was a result of lower interest rates on
variable rate senior debt and operating line of credit. Miscellaneous expenses
were recorded in the first half of 2003 for losses on the sale of miscellaneous
assets. In the first half of 2002, $204,000 was recognized from the sale of a
trademark, net of legal expenses incurred for the transaction.
Income Before Income Taxes - Net income before taxes for the first half of
fiscal year 2003 was $993,000 compared to net income before taxes of $1,577,000
for the corresponding period last year. The decrease of $584,000 is attributable
to the fact that lower interest charges did not offset the effect of lower
operating margins.
Income Tax/Net Income - Income tax expense was accrued at an effective rate of
40% for the first half of fiscal year 2003 and 2002 resulting in tax expense for
the respective periods of $399,000 and 638,000. Net income for the first half of
fiscal 2003 was $594,000, or $.03 per share (basic and diluted) compared to
$940,000, or $04 per share (basic and diluted) in the first half of 2002, an
increase of $346,000, $.01 per share.
Liquidity and Capital Resources
On March 5, 2003 we refinanced our credit facility with Webster Bank and other
participants. The new credit facility refinanced $28.5 million of existing
senior debt, provided a working capital line of $6.5 million for a term of two
years, and makes available up to $15 million to be used for acquisitions and the
partial repayment of our outstanding 12% subordinated notes. Of the $15 million,
up to $10 million is available for acquisitions in our Home and Office delivery
segment, and up to $5 million is available for the repayment of subordinated
debt if we are able to achieve specified financial performance targets in fiscal
year 2003. If the targets are not met, there would be no further scheduled
principal payments on the subordinated debt until 2008 when the full senior
facility is paid.
20
As of April 30, 2003 we had working capital of $6,943,000 compared to $3,774,000
on October 31, 2002, an increase of $3,169,000. The increase in working capital
was a result of refinancing our debt. The refinancing improved working capital
in two ways. First, it extended the amortization of the term loan, lowering
payments in the earlier years, and thereby reclassifying less debt as current.
Second, it rolled the existing line of credit balance into the term loan,
thereby reclassifying it as long term debt. Increases in accounts receivable are
reflective of the seasonal upturn in the retail segment of the business in the
second quarter.
The line of credit balance was $1,500,000 at the time of the refinancing. We
borrowed up to $1,800,000 from our operating line of credit as a source of cash
during the six month period to fulfill operating and capital needs. As of April
30, 2003, there was no outstanding balance on the operating line of credit.
Subsequent to that date we borrowed $500,000 for an acquisition in our home and
office segment. There is $636,000 committed for letters of credit on the
operating line. During the first half of 2003, we paid $1,846,000 for scheduled
debt repayments to Webster Bank. We were in compliance with all of our financial
covenants as of April 30, 2003.
On June 11, 2003, we entered into an interest rate "swap" agreement with Webster
Bank in the notional amount of $10 million. The underlying debt for this
agreement is the new credit facility with Webster Bank described above. The
"swap" agreement fixes the interest rate for the notional amount for three years
at 1.74% plus the interest rate spread defined by the agreement, currently 2%.
This brings the total amount of our senior debt with fixed "swap" rates to $26
million though $12 million is scheduled to convert back to variable rates within
the next 12 months.
Lower debt service requirements for the new financing arrangement will provide
more cash in future periods. We expect that cash on hand and the cash generated
from future operations combined with the operating line of credit with Webster
Bank will provide sufficient capital for routine operations and growth in the
future. However, no assurance can be given that this will be the case and that
adequate financing at reasonable interest rates will be secured if more cash is
needed.
We have reduced our deferred tax asset by $348,000 to reflect our utilization of
net operating losses to offset taxes that would have been payable for the
period. We have reduced the current portion and increased the long term portion
of our deferred tax asset to reflect current estimates of future utilization.
This leaves a total deferred tax asset of $2,487,000 as of April 30, 2003.
We used $1,890,000 for equipment purchases, mostly coolers, brewers, bottles and
racks related to home and office distribution. Capital spending is lower than
the corresponding period in fiscal 2002 because of the bottling line installed
last year.
We continue to pursue an active program of evaluating acquisition opportunities
in our existing home and office markets. If the right opportunities become
available, we anticipate using our capital resources and financing from outside
sources to complete desirable acquisitions.
Recent economic conditions have provided both opportunities and challenges. As
noted, poor economic conditions resulted in decreased sales in the home and
office segment. Continued negative economic changes in the northeastern United
States may adversely affect our financial results in the
21
future. Inflation has had no material impact on our performance. Since we have
relied on debt to finance our acquisition strategy, low market interest rates
have significantly reduced our interest costs. While interest rates are expected
to stay low in the immediate future and until economic conditions improve, and
we have fixed more of our debt, we will continue to be exposed to market rates.
See item 3 for a discussion of interest rate risk.
PART I - Item 3
QUANTITIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risks relating to our operations result primarily from changes in
interest rates and commodity prices.
INTEREST RATE RISKS
We use interest rate "swap" agreements to curtail variable interest rate risk.
On November 3, 2000, we entered into a swap agreement with Webster Bank to fix
$8,000,000 of our long term debt at 8.82% interest for three years. On April 2,
2001, we entered into a swap agreement with Webster Bank to fix an additional
$4,000,000 of our long term debt at 8.53% interest for three years. On July 24,
2001, we entered into a swap agreement with Webster Bank to fix an additional
$4,000,000 of our long term debt at 7.25% interest for three years. On June 11,
2003, we entered into an interest rate swap agreement with Webster Bank for $10
million. The agreement fixes the interest rate for that portion of our senior
debt for three years at 3.74%. The swaps are fixed at these rates based on the
current applicable margin of 2% under our loan and security agreement with
Webster Bank. Under the agreement, the applicable margin can range, based on our
financial performance, from 1.25% to 2.25%.
As of June 11, 2003, we had approximately $2,300,000 of long term debt subject
to variable interest rates. Under the loan and security agreement with Webster
Bank, we paid interest at a rate of LIBOR plus a margin of 1.5% through March 5,
2003. The margin was adjusted to 2% on March 5, 2003 based on the new financing
arrangement with Webster Bank. A hypothetical 100 basis point increase in the
LIBOR rate would result in an additional $12,000 of interest expense on an
annualized basis.
In aggregate, at our current applicable margin, we have $26,000,000 of debt
covered by swaps at 6.6% over the next four months. Currently, this is above
market rates though the agreements are based on three year rate projections. In
November, 2003 and April, 2004 the oldest of our outstanding swaps mature. If
interest rates remain stable the termination of these agreements will lower our
interest costs whether the debt is fixed again or left variable. The swaps are
intended to stabilize our cash flow and expenses but ultimately may cost more or
less in interest than if we had carried all of our debt at a variable rate over
the swap term. Our new financing arrangement requires us to fix at least half of
our outstanding senior debt.
22
COMMODITY PRICE RISKS
Plastic - PET
In December 2002, we executed a new four year agreement with our bottle
supplier. The contract allows the vendor to pass-on to us any resin price
increases. These prices are related to supply and demand market factors for PET
and, to a lesser extent, the price of petroleum, an essential component of PET.
A hypothetical resin price increase of $.05 per pound, or 7% at current prices,
would result in an approximate price increase per bottle of $.002 or, at current
volume levels, $200,000 a year.
Coffee
The cost of our coffee purchases are dictated by commodity prices. We enter into
contracts to mitigate market fluctuation of these costs by fixing the price for
certain periods. Currently we have fixed the price of our anticipated supply
through September 2003 at "green" prices ranging from $.57-$.74 per pound. We
are not insulated from price fluctuations beyond that date. At our existing
sales levels, an increase in pricing of $.10 per pound would increase our total
cost for coffee $75,000. In this case, competitors that had fixed pricing might
have a competitive advantage.
Fuel
We own and operate vehicles to deliver product to customers. The cost of fuel to
operate these vehicles fluctuates over time. We have entered into a contract
fixing the cost for 25% of the total fuel anticipated to be purchased during
fiscal 2003. The contract fixes fuel costs for the year (spread evenly) at an
average base cost before additives and taxes of $0.85 per gallon. Based on
consumption in 2002, a $0.10 increase per gallon in fuel cost would result in an
increase to operating costs of $50,000.
We also pay for fuel indirectly by hiring carriers to deliver product though we
do not have contracts with them. While the impact of a change in prices is less
predictable because of the absence of a contractual arrangement, we know that
fuel prices affect freight rates. Based on experience and estimates, we
anticipate that a $.10 per gallon increase in fuel costs would result in
additional freight cost of approximately $25,000 per year.
Recent geopolitical events have caused increases in fuel prices that have
increased the Company's costs in the first and second quarters of 2003. As
mentioned above, the increase in the cost of petroleum related products also
increases the cost of PET bottles that the Company purchases. If fuel prices
stay elevated for a prolonged period of time, no assurance can be given that the
Company will be able to effectively pass these increased costs to its customers.
PART I - Item 4.
CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures
Within the 90 days prior to the date of this report, we carried out an
evaluation, under the supervision and with the participation of management,
including the Chairman and Chief
23
Executive Officer and the Chief Financial Officer, of the effectiveness of the
design and operation of our "disclosure controls and procedures," which are
defined under SEC rules as controls and other procedures of a company that are
designed to ensure that information required to be disclosed by a company in the
reports that it files under the Exchange Act is recorded, processed, summarized
and reported within required time periods. Based upon that evaluation, the
Chairman and Chief Executive Officer and Chief Financial Officer concluded that
our disclosure controls and procedures were effective.
(b) Changes in Internal Controls
There were no significant changes in our internal controls or other factors that
could significantly affect these controls subsequent to the date of their
evaluation.
24
PART II - Other Information
Item 1 - Legal Proceedings
None.
Item 2 - Changes in Securities
(a) None.
(b) None.
(c) None.
Item 3 - Defaults upon Senior Securities
None.
Item 4 - Submission of Matters to a Vote of Security Holders
On April 10, 2003, we held our annual stockholders meeting at 1:30 p.m.
at the American Stock Exchange in New York, New York. There were two
matters of business requiring a stockholder vote, election of directors
and a proposal to amend the 1998 Incentive and Non-Statutory Stock
Option Plan.
A total of 19,978,036 votes were cast and the following directors were
elected to one year terms with the corresponding vote tally:
Withhold
For Authority
--- ---------
Timothy G. Fallon 19,799,564 178,472
Henry E. Baker 19,799,816 178,220
Peter K. Baker 19,798,628 179,408
Phillip Davidowitz 19,797,470 180,566
Robert C. Getchell 19,829,816 148,220
Carol R. Lintz 19,829,816 148,220
David R. Preston 19,829,816 148,220
Ross Rapaport 19,799,816 178,220
Norman E. Rickard 19,829,816 148,220
Beat Schlagenhauf 19,829,816 148,220
A total of 19,978,036 votes were cast and it was decided to amend the
1998 Incentive and Non-Statutory Stock Option Plan as proposed in
Exhibit A our definitive proxy statement dated March 10, 2003. The
amendments increase the number of shares covered by the plan from
1,500,000 to 2,000,000, extend the exercise period for options granted
following the meeting date, and provide for additional methods of
exercise for all options under the plan.
25
The vote tally was as follows:
Number of Votes For: 19,435,836
Number of Votes Against: 403,131
Number of Votes Abstaining: 139,069
Number of "Non-Votes": 1,293,500
Item 5 - Other Information
None.
Item 6 - Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit
Number Description
- ------ -----------
2.1 Agreement and Plan of Merger and Contribution by and among Vermont
Pure Holdings, Ltd., Crystal Rock Spring Water Company, VP Merger
Parent, Inc., VP Acquisition Corp., and the stockholders named
therein, dated as of May 5, 2000. (Incorporated by reference to
Appendix A to the Form S-4 Registration Statement filed by Vermont
Pure Holdings, Ltd., f/k/a VP Merger Parent, Inc., File No.
333-45226, on September 6, 2000 (the "S-4 Registration
Statement").)
2.2 Amendment to Agreement and Plan of Merger and Contribution by and
among Vermont Pure Holdings, Ltd., Crystal Rock Spring Water
Company, VP Merger Parent, Inc., VP Acquisition Corp., and the
stockholders named therein, dated as of August 28, 2000.
(Incorporated by reference to Exhibit 2.1 of the S-4 Registration
Statement.)
2.3 Amendment to Agreement and Plan of Merger and Contribution by and
among Vermont Pure Holdings, Ltd., Crystal Rock Spring Water
Company, VP Merger Parent, Inc., VP Acquisition Corp. and the
stockholders named therein, dated as of September 20, 2000.
(Incorporated by reference to Exhibit 2.2 of the Report on Form
8-K filed by the Company on October 19, 2000 (the "Merger 8-K").)
3.1 Certificate of Incorporation of the Company. (Incorporated by
reference to Exhibit B to Appendix A to the Proxy Statement
included in the S-4 Registration Statement.)
3.2 Certificate of Amendment of Certificate of Incorporation of the
Company filed October 5, 2000. (Incorporated by reference to
Exhibit 4.2 of the Merger 8-K.)
26
Exhibit
Number Description
- ------ -----------
3.3 By-laws of the Company. (Incorporated by reference from Exhibit
3.3 to Form 10-Q for the Quarter ended July 31, 2001.)
4.1 Registration Rights Agreement among the Company, Peter K. Baker,
Henry E. Baker, John B. Baker and Ross Rapaport. (Incorporated by
reference to Exhibit 4.6 of the Merger 8-K.)
10.1* 1993 Performance Equity Plan. (Incorporated by reference from
Exhibit 10.9 of Registration Statement 33-72940.)
10.2* 1998 Incentive and Non-Statutory Stock Option Plan, as amended.
(Incorporated by reference to Appendix A to the Definitive Proxy
Statement dated March 10, 2003.)
10.3* 1999 Employee Stock Purchase Plan. (Incorporated by reference to
Exhibit A of the 1999 Proxy Statement of Vermont Pure Holdings,
Ltd.)
10.4* Employment Agreement between the Company and Timothy G. Fallon.
(Incorporated by reference to Exhibit 10.13 of the S-4
Registration Statement.)
10.5* Employment Agreement between the Company and Bruce S. MacDonald.
(Incorporated by reference to Exhibit 10.14 of the S-4
Registration Statement.)
10.6* Employment Agreement between the Company and Peter K. Baker.
(Incorporated by reference to Exhibit 10.15 of the S-4
Registration Statement.)
10.7* Employment Agreement between the Company and John B. Baker.
(Incorporated by reference to Exhibit 10.16 of the S-4
Registration Statement.)
10.8* Employment Agreement between the Company and Henry E. Baker.
(Incorporated by reference to Exhibit 10.17 of the S-4
Registration Statement.)
10.9 Lease of Buildings and Grounds in Watertown, Connecticut from the
Baker's Grandchildren Trust. (Incorporated by reference to Exhibit
10.22 of the S-4 Registration Statement.)
10.10 Lease of Grounds in Stamford, Connecticut from Henry E. Baker.
(Incorporated by reference to Exhibit 10.24 of the S-4
Registration Statement.)
10.11 Lease of Building in Stamford, Connecticut from Henry E. Baker.
(Incorporated by reference to Exhibit 10.23 of the S-4
Registration Statement.)
27
Exhibit
Number Description
- ------ -----------
10.12 Loan and Security Agreement between the Company and Webster Bank,
M &T Bank, Banknorth Group, and Rabobank dated March 5, 2003.
(Incorporated by reference to Exhibit 10.12 of Form 10-Q for the
quarter ended January 31, 2003.)
10.13 Form of Term Note from the Company to Webster Bank and
participants dated March 5, 2003. (Incorporated by reference to
Exhibit 10.12 of Form 10-Q for the quarter ended January 31,
2003.)
10.14 Amended and Restated Subordinated Promissory Note from the Company
to Henry E. Baker dated March 5, 2003. (Incorporated by reference
to Exhibit 10.12 of Form 10-Q for the quarter ended January 31,
2003.)
10.15 Amended and Restated Subordinated Promissory Note from the Company
to Joan Baker dated March 5, 2003. (Incorporated by reference to
Exhibit 10.12 of Form 10-Q for the quarter ended January 31,
2003.)
10.16 Amended and Restated Subordinated Promissory Note from the Company
to John B. Baker dated March 5, 2003. (Incorporated by reference
to Exhibit 10.12 of Form 10-Q for the quarter ended January 31,
2003.)
10.17 Amended and Restated Subordinated Promissory Note from the Company
to Peter K. Baker dated March 5, 2003. (Incorporated by reference
to Exhibit 10.12 of Form 10-Q for the quarter ended January 31,
2003.)
10.18 Amended and Restated Subordinated Promissory Note from the Company
to Ross S. Rapaport, Trustee, dated March 5, 2003. (Incorporated
by reference to Exhibit 10.12 of Form 10-Q for the quarter ended
January 31, 2003.)
10.19 Subordination and Pledge Agreement from Henry E. Baker to Webster
Bank dated March 5, 2003. (Incorporated by reference to Exhibit
10.12 of Form 10-Q for the quarter ended January 31, 2003.)
10.20 Subordination and Pledge Agreement from Joan Baker to Webster Bank
dated March 5, 2003. (Incorporated by reference to Exhibit 10.12
of Form 10-Q for the quarter ended January 31, 2003.)
10.21 Subordination and Pledge Agreement from John B. Baker to Webster
Bank dated November 1, 2001. (Incorporated by reference to Exhibit
10.12 of Form 10-Q for the quarter ended January 31, 2003.)
28
Exhibit
Number Description
- ------ -----------
10.22 Subordination and Pledge Agreement from Peter K. Baker to Webster
Bank dated March 5, 2003. (Incorporated by reference to Exhibit
10.12 of Form 10-Q for the quarter ended January 31, 2003.)
10.23 Subordination and Pledge Agreement from Ross S. Rapaport, Trustee,
to Webster Bank dated March 5, 2003. (Incorporated by reference to
Exhibit 10.12 of Form 10-Q for the quarter ended January 31,
2003.)
10.24*** Agreement between Vermont Pure Springs, Inc. and
Zuckerman-Honickman Inc. dated December 12, 2002. (Incorporated by
reference to Exhibit 10.24 of Form 10-K for the year ended October
31, 2002.)
10.25 Form of Acquisition/Capital Line of Credit Note from the Company
to Webster Bank and participants dated March 5, 2003.
(Incorporated by reference to Exhibit 10.12 of Form 10-Q for the
quarter ended January 31, 2003.)
10.26 Form of Revolving Line of Credit Note from the Company to Webster
Bank and participants dated March 5, 2003. (Incorporated by
reference to Exhibit 10.12 of Form 10-Q for the quarter ended
January 31, 2003.)
10.27*** Form of Indemnification Agreements, dated November 1, 2002,
between the Company and the following Directors and Officers:
Henry E. Baker
John B. Baker
Peter K. Baker
Phillip Davidowitz
Timothy G. Fallon
Robert C. Getchell
David Jurasek
Carol R. Lintz
Bruce S. MacDonald
David R. Preston
Ross S. Rapaport
Norman E. Rickard
Beat Schlagenhauf
(Incorporated by reference to Exhibit 10.27 of Form 10-K for
the year ended October 31, 2002.)
29
Exhibit
Number Description
- ------ -----------
10.28 Waiver from Webster Bank in reference to the debt service coverage
covenant for the period ending January 31, 2002 pursuant to the
Amended and Restated Loan and Security Agreement and extension to
the Amended and Restated Line of Credit Note between the Company
and Webster Bank. (Incorporated by reference to Exhibit 10.12 of
Form 10-Q for the quarter ended January 31, 2003.)
99.1 Certification of Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley act of 2002.
99.2 Certification of Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley act of 2002.
* Relates to compensation
** Certain portions of this exhibit have been omitted pursuant to a request for
confidential treatment filed with the Securities and Exchange Commission.
*** The form contains all material information concerning the agreement and the
only differences are the name and the contact information of the director or
officer who is party to the agreement.
(b) Reports on Form 8-K
A Report on Form 8-K was filed on May 12, 2003 to announce a
change of independent accountants from Grassi & Co., CPAS, P.C. to
Marcum & Kliegman LLP.
A Report on 8-K was filed on March 17, 2003 in conjunction with
the press release announcing our financial results for the first
quarter of fiscal year 2003.
30
SIGNATURE
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
Dated: June 16, 2003
Randolph, Vermont
VERMONT PURE HOLDINGS, LTD.
By: /s/ Bruce S. MacDonald
----------------------
Bruce S. MacDonald
Vice President, Chief Financial Officer
(Principal Accounting Officer and Principal
Financial Officer)
31
CERTIFICATION
PURSUANT TO SECTION 302
OF THE
SARBANES-OXLEY ACT OF 2002
I, Timothy G. Fallon, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Vermont Pure Holdings,
Ltd.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: June 16, 2003
/s/ Timothy G. Fallon
- ---------------------
Timothy G. Fallon
Chief Executive Officer
32
CERTIFICATION
PURSUANT TO SECTION 302
OF THE
SARBANES-OXLEY ACT OF 2002
I, Bruce S. MacDonald, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Vermont Pure Holdings,
Ltd.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly report
is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: June 16, 2003
/s/ Bruce S. MacDonald
- ----------------------
Bruce S. MacDonald
Chief Financial Officer
33
Vermont Pure Holdings, Ltd.
Quarterly Report on Form 10-Q
for the Quarter Ended April 30, 2003
Exhibits Filed Herewith
Exhibit
Number Description
- ------ -----------
99.1 Certification of Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley act of 2002.
99.2 Certification of Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley act of 2002.
34