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 September 30, 2003
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the transition period from ____________ to _____________
Commission File No. 0-11472
DONLAR CORPORATION
-----------------------------------------------------------------
(Exact name of small business issuer as specified in its charter)
Illinois 36-3683785
------------------------------- -----------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
6502 South Archer Road, Bedford Park, Illinois 60501
-------------------------------------------------------------
(Address of principal executive offices)
(708) 563-9200
------------------------------
(Issuer's telephone number)
---------------------------------------------------------------------
(Former name, former address and former fiscal year, if changed since
last report)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes [X] No [ ]
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 12, 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
The number of shares outstanding of the registrant's common stock as of October
31, 2003 was 20,793,360.
Transitional Small Business Disclosure Format (Check one): Yes [ ] No [X]
INDEX
PART I. FINANCIAL INFORMATION
1. Financial Statements
Condensed Balance Sheet as of September 30, 2003 1
Condensed Statements of Operations for
the three months and nine months ended September 30, 2002 and 2003 2
Condensed Statements of Cash Flows
for the nine months ended September 30, 2002 and 2003 3
Condensed Statement of Shareholders' Deficit
for the nine months ended September 30, 2003 4
Notes to Condensed Financial Statements 5
2. Management's Discussion and Analysis or Plan of Operation 10
3. Controls and Procedures 15
PART II. OTHER INFORMATION
1. Legal Proceedings 15
3. Defaults Upon Senior Securities 16
6. Exhibits and Reports on Form 8-K 16
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
DONLAR CORPORATION
CONDENSED BALANCE SHEET (UNAUDITED)
SEPTEMBER 30, 2003
ASSETS
Current assets
Cash $ 16,507
Receivables 429,896
Inventories, net 560,856
Prepaid expenses 86,217
-------------
Total current assets 1,093,476
Property and equipment, net 8,161,108
Patents 1,719,363
Other assets 225,173
-------------
$ 11,199,120
=============
LIABILITIES AND SHAREHOLDERS' DEFICIT
Current liabilities
Current portion of convertible debt $ 21,033,352
Accounts payable 691,297
Accrued expenses 4,793,467
-------------
Total current liabilities 26,518,116
Shareholders' deficit
Common stock, no par value 37,068,228
Senior convertible preferred stock, no par value 19,905,500
Additional paid-in capital 84,258,805
Accumulated deficit (156,551,529)
-------------
Total shareholders' deficit (15,318,996)
-------------
$ 11,199,120
=============
The accompanying notes are an integral part of this condensed statement.
DONLAR CORPORATION
CONDENSED STATEMENTS OF OPERATIONS (UNAUDITED)
For the three months For the nine months
ended September 30, ended September 30,
2003 2002 2003 2002
----------- ----------- ----------- -----------
Revenues $ 930,924 $ 915,919 $ 3,149,822 $ 2,808,005
Cost of revenue 666,231 658,817 2,199,061 2,268,876
Research and Development 145,908 141,952 454,740 412,104
Selling, general and administrative 406,687 637,543 1,673,391 1,667,086
----------- ----------- ----------- -----------
Total operating expenses 1,218,826 1,438,312 4,327,192 4,348,066
----------- ----------- ----------- -----------
Loss from operations (287,902) (522,393) (1,177,370) (1,540,061)
Other income (expense)
Interest expense (595,679) (1,193,208) (2,734,606) (4,170,904)
Debt conversion expense - - (2,579,527) (289,655)
Gain on disposal of fixed assets - - - 74,478
Other - 147,347 7,590 308,350
----------- ----------- ----------- -----------
Total other expense (595,679) (1,045,861) (5,306,543) (4,077,731)
----------- ----------- ----------- -----------
Loss before income taxes (883,581) (1,568,254) (6,483,913) (5,617,792)
Provision for income taxes - - - -
----------- ----------- ----------- -----------
Net loss before extraordinary item (883,581) (1,568,254) (6,483,913) (5,617,792)
Extraordinary loss on retirement of debt - - - (1,212,120)
----------- ----------- ----------- -----------
Net loss $ (883,581) $(1,568,254) $(6,483,913) $(6,829,912)
=========== =========== =========== ===========
Net loss per common share:
Basic: (0.04) (0.06) (0.31) (0.26)
Diluted: (0.04) (0.06) (0.31) (0.26)
Weighted average shares of common stock outstanding:
Basic 20,793,360 25,831,050 20,793,360 25,831,050
Diluted 20,793,360 25,831,050 20,793,360 25,831,050
The accompanying notes are an integral part of these condensed statements.
2
DONLAR CORPORATION
CONDENSED STATEMENTS OF CASH FLOWS (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30,
2003 2002
----------- -----------
Cash flows from operating activities
Net loss $(6,483,913) $(6,829,912)
Adjustments to reconcile net loss to net cash
used in operating activities
Extraordinary loss on retirement of debt - 1,212,120
Depreciation and amortization 797,608 818,475
Issuance of Common Stock for services - 23,787
Interest expense related to amortization of debt discount 59,751 1,122,981
Debt conversion expenses 2,579,527 289,655
Gain on disposal of fixed assets - (74,478)
Change in assets and liabilities
Receivables (121,376) (23,214)
Inventories 368,960 767,470
Prepaid expenses and other assets (90,485) 47,435
Accounts payable 420,500 (1,170,382)
Accrued expenses 2,434,432 2,596,605
----------- -----------
Net cash provided by (used in) operating activities (34,996) (1,219,458)
Cash flows from investing activities
Proceeds from sale of property and equipment - 103,942
Purchase of property and equipment (50,835) (136,046)
----------- -----------
Net cash used in investing activities (50,835) (32,104)
Cash flows from financing activities
Proceeds from issuance of convertible notes - 1,785,972
Principal repayments of notes payable - (263,000)
Proceeds from notes payable - 11,000
Deferred financing costs - (270,419)
----------- -----------
Net cash provided by financing activities - 1,263,553
----------- -----------
Net (decrease) increase in cash and cash equivalents (85,831) 11,991
Cash and cash equivalents at beginning of period 102,338 3,746
----------- -----------
Cash and cash equivalents at end of period $ 16,507 $ 15,737
=========== ===========
Supplemental disclosure of cash flow information:
Interest paid $ - $ 75,177
Income tax paid - -
The accompanying notes are an integral part of these condensed statements.
3
DONLAR CORPORATION
CONSOLIDATED STATEMENT OF SHAREHOLDERS' DEFICIT (UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, 2003
Series A
Common Stock Preferred stock
Shares Amount Shares Amount
---------- ----------- -----------------------
Begining Balance 25,831,050 $ 4,557,224 38,000,000 $32,511,004
Debt conversion - - - -
Cancellation of stock options - - - -
Disolution of Donlar Biosyntrex Corporation (5,037,690) 32,511,004 (38,000,000) (32,511,004)
Net loss - - - -
---------- ----------- ----------- -----------
Ending Balance 20,793,360 $37,068,228 - $ -
========== =========== =========== ===========
Senior Convertible Additional
Preferred stock paid-in Accumulated
Shares Amount capital Deficit Total
---------- ----------- ----------- ------------- ------------
Begining Balance - $ - $25,306,626 $ (94,661,576) $(32,286,722)
Debt conversion 19,905,500 19,905,500 8,878,766 - 28,784,266
Cancellation of stock options - - -
Disolution of Donlar Biosyntrex Corporation - - 50,073,413 (55,406,040) (5,332,627)
Net loss - - - (6,483,913) (6,483,913)
---------- ----------- ----------- ------------- ------------
Ending Balance 19,905,500 $19,905,500 $84,258,805 $(156,551,529) $(15,318,996)
========== =========== =========== ============= ============
The accompanying notes are an integral part of this condensed statement.
4
Notes to Condensed Financial Statements
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying unaudited condensed financial statements of Donlar
Corporation (the "Company") have been prepared in accordance with instructions
to Form 10-QSB and, therefore, do not include all information and footnotes
necessary for a fair presentation of financial position, results of operations
and cash flows in conformity with accounting principles generally accepted in
the United States of America. For further information refer to the Consolidated
Financial Statements and footnotes included in Donlar Corporation's Annual
Report on Form 10-KSB for the year ended December 31, 2002.
In management's opinion, the unaudited condensed financial statements
include all adjustments, consisting only of normal recurring adjustments except
as discussed below, which the Company considers necessary for a fair
presentation of the results for the period. Operating results for the period
presented are not necessarily indicative of the results that may be expected for
the entire year.
The accompanying unaudited condensed financial statements have been
prepared assuming that the Company will continue as a going concern. As of
September 30, 2003, the Company had an accumulated deficit of $156,551,529, a
shareholders' deficit of $15,318,996 and has had substantial recurring losses.
The operations of the Company have not achieved profitability and the Company
has relied upon financing from the sale of its equity securities, liquidation of
assets and debt financing to satisfy its obligations. In addition, as discussed
below under "Tennessee Farmers Loan Default," the Company is in default on
approximately $24.5 million of loans and accrued interest. These conditions
raise substantial doubt about the ability of the Company to continue as a going
concern. The unaudited condensed financial statements do not include any
adjustments that might result from the outcome of these uncertainties.
The Company's ability to continue as a going concern is subject to the
attainment of profitable operations, the obtaining of necessary funding from
outside sources or the sale of the Company, a merger with another company or
another strategic transaction. Management's plan with respect to continuing as a
going concern includes evaluating new products and markets, minimizing overhead
and other costs and seeking a strategic transaction. However, there can be no
assurance that management will be successful. See "Tennessee Farmers Loan
Default" for information concerning the Company's efforts to find a purchaser or
a source of private equity financing or a merger or other strategic partner.
EQUITY AND DEBT TRANSACTIONS
The shareholders of the Company and Donlar Biosyntrex Corporation
("Biosyntrex"), formerly the Company's majority owned subsidiary, approved the
merger of Biosyntrex with and into the Company at a shareholders meeting held at
the corporate offices in Bedford Park, Illinois on February 27, 2003, with the
Company being the surviving corporation. The merger was effective March 5, 2003.
Prior to the merger, the Company was principally a holding company for the
Biosyntrex common stock that it owned. The merger has not resulted, and is not
expected to result, in any significant change to the businesses operated by
Biosyntrex prior to the merger.
5
Pursuant to the agreement and plan of merger, each share of Biosyntrex
common stock (other than shares owned by the Company) converted into the right
to receive 0.25998836 shares of common stock of the Company and each share of
the Company's common and Series A preferred stock issued prior to the merger
(other than shares owned by certain shareholders who agreed to cancellation
pursuant to the restructuring plan described in Biosyntrex's and the Company's
joint information statement/prospectus) converted into the right to receive
0.48725820 shares of common stock of the Company. All outstanding warrants,
options or rights of any kind to acquire any shares of capital stock or other
securities of any kind from the Company or Biosyntrex were cancelled in the
merger except for the Company's principal lender's right to acquire shares of
the Company's common stock upon conversion of certain loans as described below
under "Restructuring Plan."
In connection with the merger, the Company implemented a restructuring
plan that resulted in the elimination of approximately $25.2 million of the
Company's liabilities and replaced these liabilities with equity securities,
principally senior convertible preferred stock. The restructuring plan is
described in more detail below under "Restructuring Plan."
Restructuring Plan
In early 2001, as a result of anticipated difficulties in servicing
debt and obtaining necessary additional funding, management of the Company began
to consider debt restructuring alternatives and sources of additional funding.
In May 2001, management of the companies met with Tennessee Farmers Life
Insurance Company, Willis Stein & Partners and Dr. Robert Martin, the Company's
three largest creditors, to discuss a restructuring plan. A restructuring plan
was ultimately agreed to that included the merger of Biosyntrex with and into
the Company and the following additional terms:
As part of the restructuring plan, on March 18, 2002 the Company
entered into a Bridge and Consolidated Term Loan Agreement with Tennessee
Farmers Life Insurance Company. Pursuant to the terms of the loan agreement, the
Company obtained a bridge loan facility in the amount of approximately $2.127
million to be used to refinance certain short term debt, provide working
capital, pay certain accounts payable creditors and pay expenses of the
restructuring and the merger (the "Term C Loan"). Approximately $1.85 million of
the Term C Loan was drawn down. In addition, the terms of existing loans to the
Company in the original principal amount of approximately $17.64 million were
restated in the total amount of $19.2 million reflecting the original amount of
the loans and accrued, unpaid interest thereon (the "Term A Loan" and "Term B
Loan"). Each of the loans is collateralized by substantially all of the assets
of the Company.
Loans under the Term C Loan bear interest at a rate of eleven percent
per annum with one half of such interest payable on a quarterly basis on the
last business day of March, June, September and December and the other half
payable at maturity on March 18, 2003. As discussed in further detail below
under "Tennessee Farmers Loan Default," the Company did not make the required
payment under the bridge loan facility on March 18, 2003.
The restated loans are divided into two loans (the Terms A and B
Loans). The first such loan is in the principal amount of approximately $10.18
million, bears interest at a rate of nine
6
percent per annum until March 18, 2003, at which time such interest is payable,
and thereafter bears interest at eleven percent per annum payable on a quarterly
basis on the last business day of March, June, September and December. The
principal balance of the loan is payable in equal quarterly installments of not
less than $222,500 commencing on March 31, 2003 and thereafter on the last
business day of March, June, September and December. Any remaining unpaid
principal and interest is payable on March 31, 2007. The Company did not make
the interest payment on March 18, 2003 or the interest and principal payments on
March 31, 2003, June 30, 2003 or September 30, 2003.
The second restated loan is in the principal amount of $9.0 million,
bears interest at a rate of one percent per annum, but neither interest nor
principal are payable until the first to occur of one of certain events
described in the loan agreement, the latest of which is March 18, 2005, after
which time the interest that has accrued is payable in full within thirty days
and thereafter is payable quarterly on the last business day of March, June,
September and December together with principal payments of not less than
$222,500. Any remaining unpaid principal and interest is payable on March 31,
2007.
Each of the loans under the loan agreement is convertible at the option
of the lender at any time prior to repayment into Company common stock. Loans
made under the Term C Loan convert at a rate of one share per $0.29 of
outstanding principal amount of the loans. The restated loans, the Term A and B
Loans, convert at a rate of one share per $0.68 of outstanding principal amount
of the loans. The maximum number of shares of Company common stock issuable upon
conversion of the loans is approximately 34.37 million. The conversion rates are
subject to antidilution protection. The holders of the loans have certain
registration rights with respect to the shares issuable upon conversion.
As part of the restructuring plan, the Company also reached agreements
with Willis Stein & Partners and its affiliate Star Polymers to (i) exchange
$9.0 million of original principal amount of notes plus accrued interest for
shares of a new series of Company senior convertible preferred stock with a
stated liquidation value of $9.0 million and convertible into approximately
13.23 million shares of Company common stock and (ii) exchange all of the
pre-merger Company equity securities held by Willis Stein/Star Polymers,
equaling approximately 20.28 million shares of Company common and preferred
stock, for 1.0 million shares of newly issued Company common stock. Willis
Stein/Star Polymers are not entitled to receive any other Company common stock
as a result of the merger. The foregoing exchange has been completed.
The Company also reached agreement with Dr. Robert Martin, a director
of the Company and, immediately prior to the merger, Biosyntrex, to (i) exchange
approximately $9.9 million of original principal amount of notes plus accrued
interest for shares of Company senior convertible preferred stock with a stated
liquidation value of $9.0 million and convertible into approximately 13.23
million shares of Company common stock, (ii) relinquish rights to receive
royalty payments from the Company equal to one percent of all sales during a ten
year period beginning in 2000 and surrender for cancellation all of the
pre-merger Company common and preferred stock held by him, equaling
approximately 16.56 million shares, in exchange for 5.0 million shares of newly
issued Company common stock and (iii) surrender for cancellation options and
warrants to purchase over 38 million shares of pre-merger Company common and
preferred stock at exercise prices ranging from $0.01 to $5.50 for a warrant to
purchase 3.0 million shares
7
of Company common stock for $0.68 per share. The foregoing exchange has been
completed. Dr. Martin also received 1,187,940 shares of Company common stock as
a result of the merger in exchange for the 4,569,000 shares of Biosyntrex common
stock that he owned.
To further eliminate debt from the balance sheet of the Company, the
Company reached agreements with all fifteen holders of approximately $1.9
million of original principal amount of notes issued in 1998 and 2000 to
exchange their notes for shares of Company senior convertible preferred stock in
an aggregate stated liquidation value equal to the total amount of the notes and
convertible into approximately 2.8 million shares of Company common stock. The
foregoing exchange has been completed.
As part of the restructuring plan, the Company has issued 465,000
shares of common stock to four creditors, Mr. Randy Olshen, Mr. Michael Acton,
Mr. Rudy Monnich and Mr. Charles Brodzki, in exchange for their forgiveness of
all debts and claims by them against the Company.
Mr. Olshen has a sales contract entitling him to a 20% commission on
sales of certain of Biosyntrex's products. Mr. Olshen agreed to the termination
of that contract in exchange for 80,000 shares of Company common stock.
Mr. Acton has a consulting contract entitling him to a consulting fee
of approximately $123,000. Mr. Acton agreed to exchange the approximately
$94,000 remaining due under that contract for 200,000 shares of Company common
stock.
Mr. Monnich has an outstanding account payable of approximately $11,000
and Mr. Brodzki has an outstanding note payable of approximately $50,000. They
agreed to forgive these amounts in exchange for 60,000 and 125,000 shares of
Company common stock, respectively.
As part of the restructuring plan, the Company has agreed to issue
approximately 1.6 million shares of common stock to Tennessee Rural Health
Improvement Association, which will represent approximately 7.8% of the
Company's outstanding common stock and 1.8% on a fully diluted basis and TFIC,
Inc., an affiliate of Tennessee Farmers, has agreed to surrender for
cancellation, without issuance to it of any Company common stock as a result of
the merger, approximately 3.85 million shares of Company common stock that it
owns. The Company common stock to be issued to Tennessee Rural Health is in
addition to the approximately 1.27 million shares of Company common stock to be
issued to Tennessee Rural Health as a result of the merger in exchange for the
approximately 2.6 million shares of Company common stock owned by it prior to
the merger. Tennessee Rural Health is a provider of health insurance and other
health benefits. It is affiliated with Tennessee Farm Bureau Federation which
owns approximately 7.5% of Tennessee Farmers Life Insurance Company.
The Company and Biosyntrex, as of December 31, 2002, collectively had
approximately $48.92 million of liabilities. The restructuring has eliminated
approximately $25.26 million of liabilities, substituting for it approximately
$20 million of senior convertible preferred stock and 465,000 shares of common
stock.
8
As a result of the foregoing agreements, 12.7 million shares of newly
issued Company common stock, representing 61.1% on an outstanding basis and
13.7% on a fully diluted basis, are being issued to the holders of preferred and
common stock of Biosyntrex (other than the Company) and the holders of preferred
and common stock of the Company (other than TFIC, Inc., Dr. Martin, Willis
Stein/Star Polymers, who are treated as specified above, and excluding the
approximately 1.6 million additional shares to be issued to Tennessee Rural
Health) in exchange for the pre-merger Company and Biosyntrex stock that they
owned. The 12.7 million shares of newly issued Company common stock has been
allocated between the former Company and Biosyntrex shareholders on the basis of
the respective ownership of Biosyntrex common stock by the Company on the one
hand, and all other shareholders of Biosyntrex, on the other hand.
Accordingly, 68% of the 12.7 million shares of newly issued Company
common stock, or 8.7 million shares, has been allocated to the pre-merger
Company shareholders (other than TFIC, Inc., Dr. Martin, Willis Stein/Star
Polymers with respect to their Company shares, who are treated as specified
above, and excluding the approximately 1.6 million additional shares to be
issued to Tennessee Rural Health) and 32%, or 4.0 million shares, has been
allocated to the pre-merger Biosyntrex shareholders (other than the Company,
whose shares were cancelled). As a result, and taking into account the
cancellation of certain shares as described above, each former holder of Company
preferred and common stock (other than the holders of cancelled shares) is
entitled to receive approximately 0.49 shares of newly issued Company common
stock for each share of pre-merger Company stock the holder owned, each former
holder of Biosyntrex common and Series B preferred stock (other than the
Company) is entitled to receive 0.26 shares of newly issued Company common stock
for each share of Biosyntrex stock the holder owned and each former holder of
Biosyntrex Series A preferred stock is entitled to receive one share of newly
issued Company common stock for each originally issued share of Series A
preferred stock the holder owned (excluding dividend shares). As a result of the
merger, the former shareholders of the Company (other than holders of cancelled
shares and excluding the approximately 1.6 million additional shares to be
issued to Tennessee Rural Health) will own 41.61% (9.36% on a fully diluted
basis) of Company common stock, and the former shareholders of Biosyntrex (other
than the Company) will own 19.48% (4.38% on a fully diluted basis) of such
common stock.
Tennessee Farmers Loan Default
The Company did not make a required payment to Tennessee Farmers on
March 18, 2003, March 31, 2003, June 30, 2003, or September 30, 2003 under the
loan agreement. The payment due on March 18, 2003 included $916,572 of accrued
but unpaid interest on the "Term A Loan," $116,546 of accrued but unpaid
interest on the "Term C Loan" and the principal amount of the "Term C Loan" in
the amount of approximately $1.85 million. In addition, a $42,540 commitment fee
for the "Term A Loan" was due on March 18, 2003 and was not paid by the Company.
Tennessee Farmers has informed the Company that it does not intend to exercise
its right under the loan agreement to convert the loans into Company common
stock or extend the terms of the loans. As a result of the payment default under
the loan agreement, Tennessee Farmers has the right to declare all amounts owed
under the loan agreement to be immediately due and payable. The total amount of
principal and accrued interest outstanding under the loans as of September 30,
2003 plus the commitment fee was $24,513,202. The
9
Company and Tennessee Farmers entered into a forbearance agreement as of March
18, 2003 providing that Tennessee Farmers will forbear until May 2, 2003 from
exercising any of its rights and remedies against the Company and its property,
subject to the terms and conditions of the forbearance agreement. Tennessee
Farmers extended the forbearance period until August 28, 2003. No further
extension has been granted and Tennessee Farmers has the right to call the loans
at any time.
Because Tennessee Farmers has been unwilling to extend the repayment
date for the loans or agree to convert the loans to Company common stock, the
Company is actively seeking to sell the Company or to find a source of private
equity financing or a merger or other strategic partner and has retained the
services of Lincoln Partners, LLC, an investment banker, to assist in that
effort.
Item 2. Management's Discussion and Analysis or Plan of Operation
Forward Looking Statements
This report and the documents incorporated by reference in this report
contain forward-looking statements. These forward-looking statements are based
on management's current expectations, estimates and projections about the
Company's industry, management's beliefs and certain assumptions made by the
Company. These statements are not guarantees of future performance and are
subject to certain risks, uncertainties and assumptions that are difficult to
predict. Therefore, the Company's actual results could differ materially from
those expressed or forecasted in any forward-looking statements as a result of a
variety of factors. The Company undertakes no obligation to update publicly any
forward-looking statements for any reason, even if new information becomes
available or other events occur in the future.
OVERVIEW
The Company's marketing, sales, distribution and administrative
operations are conducted from the Company's headquarters in Bedford Park,
Illinois, and its manufacturing operations are conducted from the Company's
Peru, Illinois facility. The Company's businesses are conducted through two
product lines:
- BioPolymers (performance chemicals business); and
- AgriSciences (agricultural business).
Historically, the Company began as a research and development company
to exploit the possibilities of developing, manufacturing and marketing a new
family of biodegradable polymers known as thermal polyaspartates (TPA). Although
there was no market at the time of the Company's inception for a new so-called
"green chemistry," the Company concluded that a market would develop if the
technology and products were available. It also determined that the development
of this technology and market would also require substantial capital.
10
It took about ten years and the use of extensive capital to reach the
point of commercialization whereby the Company's products and markets are
protected by a global intellectual property portfolio of patents. The products
are manufactured in a modern plant capable of producing high quality products at
low cost and are sold in a marketplace where the Company's TPA products can
compete on a cost/performance basis with conventional chemicals.
CRITICAL ACCOUNTING POLICIES
INVENTORIES
Inventories are stated at the lower of cost or market value, using the
first-in, first-out method.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost less accumulated
depreciation. Depreciation and amortization are determined using the
straight-line method over the estimated useful lives of the assets, which range
from 3 to 30 years. Expenditures for maintenance and repairs are expensed when
incurred and betterments are capitalized. Gains and losses on sale of property,
plant and equipment are reflected in operations.
The Company assesses the recoverability of its property and equipment
whenever adverse events or changes in circumstances or business climate indicate
that expected future undiscounted cash flows or their fair value may not be
sufficient to support recorded cash flows or their fair value may not be
sufficient to support recorded property and equipment. If impairment exists, the
carrying amount of property and equipment will be reduced to net realizable
value.
EARNINGS PER COMMON, COMMON EQUIVALENT AND REVERSE STOCK SPLITS
The computation of basic earnings per common share is based on the
weighted average number of common shares outstanding during the year.
The computation of diluted earnings per common share is based on the
weighted average number of common shares outstanding during the year plus common
stock equivalents, which would arise from the exercise of stock options and
warrants outstanding using the treasury stock method and the average market
price per share during the year. Common stock equivalents are not included in
the diluted earnings per share calculation when their effect is anti-dilutive.
REVENUE RECOGNITION
In accordance with SAB 101, sales of product are recognized upon
shipment of the product, which is when title transfers to the customer. The
Company maintains reserves for potential losses on receivables from its
customers, and such losses have generally not exceeded management's
expectations.
RESEARCH AND DEVELOPMENT EXPENSES
11
Research and development expenses include amounts paid to third-party
and related-party consultants for marketing, investment banking, and other
business advisory services, as well as costs related to the Company's product
research and development activities. Costs associated with research and
development of new products are expensed as incurred.
RECENT ACCOUNTING POLICY ADOPTION
In December 2002, the FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation---Transition and Disclosure---an amendment of FASB
Statement No. 123. This Statement amends SFAS No. 123, "Accounting for
Stock-based Compensation," to provide alternative methods of transition for a
voluntary change to the fair value method of accounting for stock-based employee
compensation. In addition, this Statement amends the disclosure requirements of
SFAS No. 123 to require more prominent disclosures in both the annual and
interim financial statements about the method of accounting for stock-based
employee compensation and the effect of the method on reported amounts. The
amendments to SFAS 123 in paragraphs 2(a)-2(e) of this Statement are effective
for financial statements for fiscal years ending after December 15, 2002. The
amendment to SFAS 123 in paragraph 2(f) of this Statement and the amendment to
Opinion 28 in paragraph 3 are effective for financial reports containing
condensed financial statements for interim periods beginning after December 15,
2002. The Company does not expect that adoption of this statement will have a
material effect on its results of operations or financial position.
Results of Operations
Comparison of the three months ended September 30, 2003 with the three
months ended September 30, 2002.
During the three months ended September 30, 2003, the Company had
revenues of $930,924, compared to $915,919 for the comparable three-month period
in 2002. The increase in revenues was due to growth in sales split into both the
oil field market and the agricultural market.
Cost of revenues was $666,231 for the three months ended September 30,
2003, compared to $658,817 for the same period in 2002. This increase in cost of
revenues is related to the increase in sales, partially offset by improvements
in production efficiency.
Research and development expense was $145,908 for the three months
ended September 30, 2003 compared to $141,952 for the same period in 2002. This
increase is related primarily to employee costs, travel expenses and outside
testing costs.
Selling, general and administrative costs were $406,687 for the three
months ended September 30, 2003 compared to $637,543 for the same period in
2002. The decrease is due to reduced compensation expenses in 2003 and due to
non-recurring costs in the 2002 period related to the Registration Statement on
Form S-4 preparation related to the Company's merger with its subsidiary, Donlar
Biosyntrex Corporation.
12
Interest expense decreased from $1,193,208 for the three-month period
ended September 30, 2002 to $595,679 for the three-month period ended September
30, 2003. This decrease was related to the exchange of debt for preferred stock
as part of the Company's restructuring plan, which was completed in the first
quarter of 2003.
The Company had a net loss of $883,581 for the three months ended
September 30, 2003 compared to a net loss of $1,568,254 for the same period in
2002. This decrease in the net loss was attributable primarily to the decrease
in selling, general and administrative expenses and interest expense in 2003.
Comparison of the nine months ended September 30, 2003 with the nine
months ended September 30, 2002
During the nine months ended September 30, 2003, the Company had
revenues of $3,149,822, compared to $2,808,005 for the comparable nine-month
period in 2002. The increase in revenues was due to growth in sales in the oil
field and agricultural markets.
Cost of revenues was $2,199,061 for the nine months ended September 30,
2003, compared to $2,268,876 for the same period in 2002. This decrease in cost
of revenues is related to improvements in production efficiency offset by raw
material dollar volume increases due to increased sales.
Research and development expense was $454,740 for the nine months ended
September 30, 2003 compared to $412,104 for the same period in 2002. This
increase is related primarily to employee costs, travel expenses and outside
testing costs.
Selling, general and administrative costs were $1,673,391 for the nine
months ended September 30, 2003 compared to $1,667,086 for the same period in
2002. The increase is nominal and reflects the costs of the Company's merger
with its subsidiary, Donlar Biosyntrex Corporation, over both the 2002 and 2003
periods, which was completed in the first quarter of 2003, the impact of the
cancellation of employee stock options in 2002 and expense control programs
implemented in 2003.
Interest expense decreased from $4,170,904 for the nine months ended
September 30, 2002 to $2,734,606 for the same period ended September 30, 2003.
This decrease was related to the exchange of debt for preferred stock as part of
the Company's restructuring plan that was completed in March 2003, offset in
part by increases in the interest rates of the Tennessee Farmers loans.
During the nine months ended September 30, 2003, the Company had a net
loss of $6,483,913 compared to a net loss of $6,829,912 for the nine months
ended September 30, 2002. This decrease in the net loss was attributable
primarily to sales increases and production efficiency improvements offset be
expenses related to the Company's merger with Donlar Biosyntrex Corporation and
the exchange of debt for preferred stock as part of the Company's restructuring
plan.
13
Liquidity and Capital Resources
Historically, the Company has been unable to finance its operations
from cash flows from operating activities. As of September 30, 2003, the Company
had cash of $16,507. In March of 2002, the Company obtained additional bridge
financing in connection with the restructuring of its debt, but has no other
plans for its continued financing. The Company did not repay its bridge
financing or make other required payments on its restructured debt in March 2003
or at any time thereafter. The payments due Tennessee Farmers in March 2003
consisted of $916,572 in interest and $222,500 in principal due on the restated
loans and $116,546 in interest, $42,540 in commitment fee and $1,849,217 in
principal due on the bridge financing. The total of the payments due in March
2003 was $3,019,600.
As a result of the Company's payment defaults, the entire amount of the
Tennessee Farmers debt in the amount of $24,513,202, including accrued interest,
is now due and payable. The Company and Tennessee Farmers entered into a
forbearance agreement effective as of March 18, 2003 providing that Tennessee
Farmers will forbear until May 2, 2003 from exercising any of its rights and
remedies against the Company and its property, subject to the terms and
conditions of the forbearance agreement. Tennessee Farmers extended the
forbearance period until August 28, 2003. No further extension has been granted
and Tennessee Farmers has the right to call the loans at any time.
Because Tennessee Farmers has been unwilling to extend the repayment
date for the loans or agree to convert the loans to Company common stock, the
Company is actively seeking to sell the Company or to find a source of private
equity financing or a merger or other strategic partner, and the Company has
retained an investment banking firm to assist in this effort.
In the first nine months of 2003, the Company had a net decrease in
cash and cash equivalents of $85,831, compared to a net increase in cash and
cash equivalents in the same period of 2002 of $11,991. The decrease in cash was
the result of higher expenses related to the merger, as well as decreased sales
in the final months of 2002.
The Company reduced its cash flows used in operations from $1,219,458
in the first nine months of 2002 to $34,996 in the same period in 2003, due to
working capital management programs implemented in 2003 and the payment of many
old payables in 2002 from the proceeds of the 2002 bridge loan from Tennessee
Farmers.
Cash flows used in investing activities increased to $50,835 in the
first nine months of 2003 from $32,104 in the same period in 2002. This increase
was due to a sale of certain assets in 2002.
Cash flows provided by financing activities in the first nine months of
2002 of $1,263,553 consisted primarily of the borrowing activity with the
Tennessee Farmers. There were no financing activities during the first nine
months of 2003.
14
Item 3. Controls and Procedures
Within 90 days prior to the date of filing of this report on Form
10-QSB, the Company carried out an evaluation, under the supervision and with
the participation of the Company's management, including its Chief Executive
Officer and Controller and Chief Accounting Officer, of the design and operation
of the Company's disclosure controls and procedures. Based on this evaluation,
the Company's Chief Executive Officer and Controller and Chief Accounting
Officer concluded that the Company's disclosure controls and procedures are
effective for gathering, analyzing and disclosing the information the Company is
required to disclose in the reports it files under the Securities Exchange Act
of 1934, within the time periods specified in the SEC's rules and forms. There
have been no significant changes in the Company's internal controls or in other
factors that could significantly affect internal controls subsequent to the date
of this evaluation.
PART II -- OTHER INFORMATION
Item 1. Legal Proceedings
On November 4, 2003, the Company reported on Form 8-K that Robert
Pietrangelo, the Company's Vice President for Sales and Marketing, resigned from
his positions with the Company on October 31, 2003, and delivered a letter to
the Company making significant allegations and demands which the Company
disputes. On November 10, 2003, Mr. Pietrangelo filed a Complaint against the
Company seeking declaratory judgments, injunctive and other relief in the
Circuit Court of Cook County, Illinois, County Department, Chancery Division.
In the Complaint, Mr. Pietrangelo alleges that the Company's
shareholders' approval of the merger of Donlar Biosyntrex Corporation, the
Company's former subsidiary, with and into the Company in February 2003
constituted a "Change of Control" under a Change of Control Agreement between
the Company and Mr. Pietrangelo, that as a result of the Company's removal of
certain duties from Mr. Pietrangelo's responsibilities, Mr. Pietrangelo had
"Good Reason" to resign as defined in the Change of Control Agreement and that
he is entitled to severance benefits including a severance payment equal to the
product of 2.9 multiplied by the sum of Mr. Pietrangelo's annual salary plus
certain other benefits and continuation of the health, disability and life
insurance maintained by the Company for executives for a period of one year from
the date of his resignation. Mr. Pietrangelo seeks a judgment declaring the
rights and liabilities of the parties under the Change of Control Agreement.
Specifically he seeks a judgment declaring that: (i) the Change of Control
Agreement superseded and replaced a prior Proprietary Information Agreement
signed by Mr. Pietrangelo; (ii) the merger described above constituted a "Change
of Control"; (iii) Mr. Pietrangelo had "Good Reason" to resign; (iv) Mr.
Pietrangelo is not bound by a non-competition covenant in the Change of Control
Agreement; and (v) the Company is obligated to provide Mr. Pietrangelo the
severance benefits provided in the Change of Control Agreement and pay his
attorneys' fees and costs of suit. Mr. Pietrangelo also seeks an award of
damages for the Company's alleged breach of the Change of Control Agreement.
In addition, Mr. Pietrangelo alleges his September 7, 2001 employment
agreement was extended until September 6, 2006, and that under the terms of the
employment agreement, there was an "Involuntary Termination" of Mr.
Pietrangelo's employment as a result of changes in
15
his duties, positions and responsibilities with the Company. He alleges that he
is entitled to the full remaining value of his employment agreement through
September 6, 2006. Mr. Pietrangelo seeks a judgment declaring the rights and
liabilities of the parties under the employment agreement, that his employment
agreement was extended through September 6, 2006 and that the changes in his
employment constituted an "Involuntary Termination" under the terms of the
employment agreement. Mr. Pietrangelo also seeks an award of damages for the
Company's alleged breach of the employment agreement.
The Company disputes Mr. Pietrangelo's allegations and intends to
defend the suit. The Company has not yet been served in this suit.
Item 3. Defaults Upon Senior Securities
The Company did not make a required payments to Tennessee Farmers Life
Insurance Company on March 18, 2003, March 31, 2003, June 30, 2003 or September
30, 2003 under the March 18, 2002 Bridge and Consolidated Term Loan Agreement.
The payment due on March 18, 2003 included $916,572 of accrued but unpaid
interest on the "Term A Loan," $116,546 of accrued but unpaid interest on the
"Term C Loan" and the principal amount of the "Term C Loan" in the amount of
approximately $1.85 million. In addition, a $42,540 commitment fee for the "Term
A Loan" was due on March 18, 2003 and was not paid by the Company. Tennessee
Farmers has informed the Company that it does not intend to exercise its right
under the loan agreement to convert the loans into Company common stock or
extend the terms of the loans. As a result of the payment defaults under the
loan agreement, Tennessee Farmers has the right to declare all amounts owning
under the loan agreement to be immediately due and payable. The total amount of
principal and accrued interest outstanding under the loans as of September 30,
2003 plus the commitment fee was $24,513,202. The Company and Tennessee Farmers
entered into a forbearance agreement as of March 18, 2003 providing that
Tennessee Farmers will forbear until May 2, 2003 from exercising any of its
rights and remedies against the Company and its property, subject to the terms
and conditions of the forbearance agreement. Tennessee Farmers extended the
forbearance period until August 28, 2003. No further extension has been granted
and Tennessee Farmers has the right to call the loans at any time.
Because Tennessee Farmers has been unwilling to extend the repayment
date for the loans or agree to convert the loans to Company common stock, the
Company is actively seeking to sell the Company or to find a source of private
equity financing or a merger or other strategic partner, and has retained
Lincoln Partners, LLC, an investment banking firm, to assist in this effort.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit No. Exhibit Description
- ----------- -------------------
2.1* Amended and Restated Agreement and Plan of Merger by and between
16
Donlar Corporation and Donlar Biosyntrex Corporation, dated as of June 7, 2002
3.1# Amended and Restated Articles of Incorporation of Donlar Corporation
3.2* Amendment to Articles of Incorporation of Donlar Corporation
3.3# Amended and Restated Bylaws of Donlar Corporation
4.1# Bridge and Consolidated Term Loan Agreement dated March 18, 2002, among Donlar
Corporation, Donlar Biosyntrex Corporation and Tennessee Farmers Life Insurance Company
4.2# Amendment dated May 31, 2002, to Bridge and Consolidated Term Loan Agreement dated March
18, 2002, among Donlar Corporation, Donlar Biosyntrex Corporation and Tennessee Farmers
Life Insurance Company
4.3# Letter Agreement dated March 18, 2002, among Donlar Corporation, Willis Stein &
Partners, L.P. and Star Polymers, L.L.C.
4.4# Letter Agreement dated February 25, 2002, between Donlar Corporation and Dr. Robert Gale
Martin
4.5# Form of Letter Agreement between Donlar Corporation and Holders 1998 and 2002 Notes
4.6* Certificate of Designations for Donlar Senior Convertible Preferred Stock
4.7# Second Limited Consent and Waiver to Bridge and Consolidated Term Loan Agreement By
Tennessee Farmers Life Insurance Company
4.8# Letter Agreement dated August 15, 2002, between Kamal Modir M.D. and Donlar Biosyntrex
4.9# Letter Agreement dated August 15, 2002, between Kenneth A. Hubbard and Donlar Biosyntrex
4.10# Letter Agreement dated August 23, 2002, between Peter LeDonne and Donlar Biosyntrex
4.11## Forbearance Agreement, dated as of March 18, 2003, between Donlar Corporation and Tennessee
Farmers Life Insurance Company
4.12** Second Amendment to Forbearance Agreement, dated as of July 14, 2003, between Donlar
Corporation and Tennessee Farmers Life Insurance Company
10.1# Change of Control Agreement dated December 24, 1998 between Donlar Corporation and Larry
Koskan
10.2# Change of Control Agreement dated December 24, 1998 between Donlar Corporation and Robert
Pietrangelo
10.3### Form of Employment Agreement dated September 7, 2001, between Biosyntrex and Robert
P. Pietrangelo
10.4### Form of Employment Agreement dated July 1, 1996, between Donlar and Larry Koskan
10.5# Office Lease Agreement made as of August 1, 1992 between Donlar Corporation and Illinois
Institute of Technology
10.6** Donlar Corporation 2003 Equity Incentive Plan
31.1 Certification of Chief Executive Officer and Chief Financial Officer
31.2 Certification of Controller and Chief Accounting Officer
32.1 Statement of Chief Executive Officer Pursuant to Section 1350 of Title 18 of the United
States Code
17
32.2 Statement of Controller and Chief Accounting Officer Pursuant to Section 1350 of Title 18
of the United States Code
- -------------------------------------------
# Incorporated by reference to the Company's Registration
Statement on Form S-4 filed on January 30, 2003.
## Incorporated by reference to the Company's Annual Report on
Form 10-KSB for 2003.
### Incorporated by reference to Biosyntrex's Annual Report on
Form 10-KSB for 2002.
* Incorporated by reference to the Company's Quarterly Report on
Form 10-QSB for the quarter ended March 31, 2003.
** Incorporated by reference to the Company's Quarterly Report on
Form 10-QSB for the quarter ended June 30, 2003.
(b) Reports on Form 8-K.
The Company filed one report on Form 8-K during the quarter ended
September 30, 2003. A report was filed on August 19, 2003 reporting the issuance
of a press release announcing the Company's second quarter results.
18
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.
DONLAR CORPORATION
Dated: November 13, 2003 By: /s/ Larry P. Koskan
--------------------------------
Larry P. Koskan, President and
Chief Executive Office
19