U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-QSB
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934: For the Quarterly Period Ended June 30, 1998
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the transition period from __________ to ____________.
Commission File Number 1-13012
H.E.R.C. PRODUCTS INCORPORATED
(Name of small business issuer as specified in its charter)
State of Incorporation: Delaware IRS Employer Identification Number: 86-0570800
2202 W Lone Cactus Drive #15
Phoenix, Arizona 85027
(Address of principal executive offices)
(602) 492-0336
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or
for such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days.
YES X NO
------- -------
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date.
Outstanding at
--------------
Class August 4, 1998
----- --------------
Common Stock, $.01 par value 11,470,588
Transitional Small Business Development Format:
YES _______ NO ______X___
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
Index To Consolidated Financial Statements
PART I. FINANCIAL INFORMATION Page No.
Consolidated Financial Statements:
Consolidated Balance Sheets
June 30, 1998 and December 31, 1997 3
Consolidated Statements of Operations
Three Months and Six Months Ended June 30, 1998 and 1997 4
Consolidated Statement of Stockholders' Equity
Six Months Ended June 30, 1998 5
Consolidated Statements of Cash Flows
Six Months Ended June 30, 1998 and 1997 6
Notes to Consolidated Financial Statements 7
Management's Discussion and Analysis of Financial
Condition and Results of Operations 9
PART II. OTHER INFORMATION
Item 2 - Changes in Securities 11
Item 5 - Other Information 11
Item 6 - Exhibits and Reports on Form 8-K 12
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
Consolidated Balance Sheets
June 30, December 31,
1998 1997
------------ ------------
(Unaudited)
Assets
Current Assets
Cash and cash equivalents $ 475,064 $ 135,396
Trade accounts receivable, net of allowance for
doubtful accounts of $20,646 and $36,205 respectively 577,773 166,751
Inventories, principally finished goods 158,729 87,738
Other receivables 17,231 11,963
Prepaid expenses 158,161 98,757
------------ ------------
Total Current Assets 1,386,958 500,605
------------ ------------
Property and Equipment
Property and equipment 1,140,705 1,057,470
Less accumulated depreciation 316,962 235,253
------------ ------------
Net Property and Equipment 823,743 822,217
------------ ------------
Other Assets
Patents, net of accumulated amortization of $97,039 and $93,789 respectively 58,450 62,642
Patents pending 92,210 71,146
Refundable deposits and other assets 109,364 93,021
Goodwill, net of accumulated amortization of $10,867 and $8,150 respectively 97,802 100,519
------------ ------------
Total Other Assets 357,826 327,328
------------ ------------
$ 2,568,527 $ 1,650,150
============ ============
Liabilities and Stockholders' Equity
Current Liabilities
Accounts payable $ 340,906 $ 583,571
Accrued wages 67,660 91,450
Current portion of notes payable 350,741 287,856
Net liabilities of discontinued operation 329,930 261,272
Other accrued expenses 293,795 110,928
------------ ------------
Total Current Liabilities 1,383,032 1,335,077
------------ ------------
Long-Term Liabilities
Notes payable, net of current portion 50,908 66,938
------------ ------------
Total Liabilities 1,433,940 1,402,015
------------ ------------
Stockholders' Equity
Common Stock, $0.01 par value; authorized 40,000,000 shares;
issued and outstanding 11,470,588 and 8,230,588 shares respectively 114,706 82,306
Additional paid-in capital 13,918,006 12,947,406
Accumulated deficit (12,898,125) (12,781,577)
------------ ------------
Total Stockholders' Equity 1,134,587 248,135
------------ ------------
$ 2,568,527 $ 1,650,150
============ ============
See accompanying notes to consolidated financial statements
3
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Operations
(Unaudited)
Three Months Ended June 30, Six Months Ended June 30,
1998 1997 1998 1997
---- ---- ---- ----
Sales $ 1,157,174 $ 744,266 $ 2,138,973 $ 1,549,810
Cost of Sales 610,011 692,795 1,101,049 1,263,577
------------ ------------ ------------ ------------
Gross Profit 547,163 51,471 1,037,924 286,233
Selling Expenses 147,102 229,776 283,195 489,129
General and Administrative Expenses 408,143 554,901 837,855 1,319,111
------------ ------------ ------------ ------------
Operating Loss (8,082) (733,206) (83,126) (1,522,007)
------------ ------------ ------------ ------------
Other Income (Expense)
Interest expense (32,605) (3,759) (57,396) (5,634)
Miscellaneous 997 5,862 1,377 23,769
Expenses relating to settlement of lawsuits (55,000) -- (55,000) --
Gain on sale of patent -- -- 77,597 --
------------ ------------ ------------ ------------
Total Other Income (Expense) (86,608) 2,103 (33,422) 18,135
------------ ------------ ------------ ------------
Loss from Continuing Operations (94,690) (731,103) (116,548) (1,503,872)
Income from Operations of Discontinued Segment -- 118,962 -- 40,856
------------ ------------ ------------ ------------
Net Loss (94,690) (612,141) (116,548) (1,463,016)
Non-Cash Dividend on Preferred Stock -- 10,707 -- 62,842
------------ ------------ ------------ ------------
Net Loss Allocable to Common Stockholders $ (94,690) $ (622,848) $ (116,548) $ (1,525,858)
============ ============ ============ ============
Loss Per Common Share - Basic & Diluted
- ---------------------------------------
Loss from Continuing Operations $ (0.01) $ (0.09) $ (0.01) $ (0.21)
Income from Operations of Discontinued Segment -- 0.01 -- 0.00
------------ ------------ ------------ ------------
Net Loss Per Common Share $ (0.01) $ (0.08) $ (0.01) $ (0.21)
Weighted Average Common Shares Outstanding 10,342,896 8,037,399 9,292,577 7,309,746
============ ============ ============ ============
See accompanying note to consolidated financial statements.
4
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
Consolidated Statement of Stockholders' Equity
(Unaudited)
Common Stock Additional
Paid-in Accumulated
Shares Amount Capital Deficit Total
------ ------ ------- ------- -----
Balance,
January 1, 1998 8,230,588 $ 82,306 $ 12,947,406 $(12,781,577) $ 248,135
Net loss -- -- -- (116,548) (116,548)
Warrants issued for services -- -- 3,600 -- 3,600
Issuance of shares of Common Stock 3,240,000 32,400 967,000 -- 999,400
---------- ------------ ------------ ------------ ------------
Balance,
June 30, 1998 11,470,588 $ 114,706 $ 13,918,006 $(12,898,125) $ 1,134,587
---------- ------------ ------------ ------------ ------------
See accompanying notes to consolidated financial statements.
5
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Unaudited)
Six Months Ended June 30,
1998 1997
---- ----
Cash Flows From Operating Activities
Net Loss $ (116,548) $(1,463,016)
----------- -----------
Adjustments to reconcile net loss to net cash
used in operating activities
Depreciation and amortization 164,874 138,000
Change in net liabilities of discontinued operation 68,658 --
Loss on sale or disposal of equipment 5,696 3,255
(Increase) decrease in assets
Trade accounts receivable (411,022) (281,444)
Inventories (70,991) 25,629
Other receivables (5,268) 3,058
Prepaid expenses (90,604) (69,800)
Other assets (54,346) 11,401
Increase (decrease) in liabilities
Accounts payable (242,665) 392,433
Accrued expenses 159,077 130,153
Other liabilities -- 226,798
----------- -----------
Total adjustments (476,591) 579,483
----------- -----------
Net cash used in operating activities (593,139) (883,533)
----------- -----------
Cash Flows From Investing Activities
Capital expenditures (98,562) (212,275)
Cash received from the sale of equipment 7,005 --
Expenditures related to patents and patents pending (21,891) (89,352)
----------- -----------
Net cash used in investing activities (113,448) (301,627)
----------- -----------
Cash Flows From Financing Activities
Proceeds from issuance of Common Stock 999,400 --
Proceeds from exercise of stock options -- 19,375
Proceeds from exercise of warrant -- 140,250
Proceeds from issuance of notes payable
and long-term debt 125,470 --
Private offering costs -- (30,393)
Principal payments under notes payable (78,615) (14,805)
----------- -----------
Net cash provided by financing activities 1,046,255 114,427
----------- -----------
Net increase (decrease) in cash and cash equivalents 339,668 (1,070,733)
Cash and cash equivalents at beginning of period 135,396 1,369,843
----------- -----------
Cash and cash equivalents at end of period $ 475,064 $ 299,110
=========== ===========
Supplemental Disclosures of Cash Flow Information
Cash paid during the period for interest $ 57,396 $ 7,423
During 1997, 1,714,101 shares of Common Stock were issued upon the conversion of 170,000 shares of Preferred Stock.
During 1997, certain adjustments were made to assets and liabilities acquired in the purchase of the 50% interest of
H.E.R.C. Consumer Products Company and, accordingly, goodwill was reduced by $22,673.
During 1997, inventory with a value of $211,685 was reclassified to property and equipment.
During 1998, the value attributed to warrants issued to prepay future expenses was $3,600.
See accompanying notes to consolidated financial statements.
6
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1 - Basis of Presentation
The unaudited consolidated financial statements are presented in accordance with
the requirements of Form 10-QSB and consequently do not include all of the
disclosures normally made in an annual Form 10-KSB filing. Accordingly, the
consolidated financial statements of H.E.R.C. Products Incorporated ("Company")
included herein should be reviewed in conjunction with the consolidated
financial statements and the accompanying footnotes included within the
Company's Form 10-KSB for the year ended December 31, 1997.
The consolidated financial statements have been prepared in accordance with the
Company's customary accounting practices and have not been audited. In the
opinion of management, the consolidated financial statements reflect all
adjustments necessary to report fairly the Company's financial position and
results of operations for the interim period. All such adjustments are normal
and recurring in nature. The interim consolidated results of operations are not
necessarily indicative of results to be expected for the year ending December
31, 1998.
NOTE 2 - Inventories
Inventories are stated at the lower of cost or market (net realizable value).
Cost is determined by various methods which approximate first-in, first-out.
NOTE 3 - Long Term Debt and Other Financing Arrangements
In September 1997, the Company closed on a five year term loan and borrowed
$250,000. Interest is payable monthly at an annual rate of 14%; principal
repayments are over 54 months and begin 6 months after take-down. In connection
with the closing of such loan, the Company issued two warrants to the lender,
each to purchase 62,500 shares of Common Stock at $1.18 (market price at
closing) and $1.475 (25% premium over market price at closing), respectively.
The Company may prepay the loan; certain fees and conditions, including the
issuance of two identical warrants, apply if prepayment is not made within two
years of takedown.
At June 30, 1998, the Company is not in compliance with certain covenants in the
loan agreement; accordingly, the total indebtedness is classified as a current
liability in the accompanying Consolidated Balance Sheets.
In October 1997, the Company concluded arrangements for a factoring facility
whereby 80% of a maximum of $600,000 in eligible receivables may be financed at
an effective annual interest rate of approximately 16%. The initial term of the
facility is two years which may be extended.
Substantially all of the Company's assets are pledged as security pursuant to
the above agreements.
7
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 4 - Stockholders' Equity
During the second quarter of 1998, the Company sold 3,240,000 shares of Common
Stock at $0.31 per share and received net proceeds of $999,400.
NOTE 5 - Discontinued Operation
During the fourth quarter of 1997, the Company determined that it would exit the
agricultural business and commenced efforts to dispose of its investment in its
wholly owned subsidiary, CCT Corporation, which is accounted for as a
discontinued operation in the accompanying financial statements. Accordingly,
the Consolidated Statements of Operations for the three months and six months
ended June 30, 1997 are reclassified.
8
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations
Forward-Looking Statements
- --------------------------
When used in this Form 10-QSB and in future filings by the Company with the
Securities and Exchange Commission ("SEC") , in the Company's press releases and
in oral statements made with the approval of an authorized executive officer of
the Company, the words or phrases "are expected", "the Company anticipates",
"will continue", "believe", "project", "estimated", "will enhance" or similar
expressions (including confirmations by an authorized executive officer of the
Company of any such expressions made by a third party with respect to the
Company) are intended to identify "forward-looking statements" within the
meaning of that term in Section 27A of the Securities Act of 1933, as amended
("the Act"), and Section 21E of the Securities Exchange Act of 1934 as amended.
Readers are cautioned not to place undue reliance on any such forward-looking
statements, each of which speak 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 currently anticipated or
projected. Such risks include, but are not limited to, (i) a history of losses,
accumulated deficit and periodically inadequate cash flow, (ii) the possible
need for additional financing, (iii) a competitive market for some of its
products, (iv) the need to expand its marketing program, (v) limited market
acceptance of its industrial products and (vi) dependence on a limited number of
customers. The Company has no obligation to publicly release the result of any
revisions which may be made to any forward-looking statements to reflect any
anticipated events or circumstances occurring after the date of such statements.
This discussion and analysis of financial condition and results of operations
should be read in conjunction with the unaudited consolidated financial
statements and the related disclosures included elsewhere herein.
Results of Operations
- ---------------------
Three Months Ended June 30, 1998 Compared to Three Months Ended June 30, 1997
- -----------------------------------------------------------------------------
Sales of $1,157,000 during the second quarter of 1998 are 55% ahead of
1997 second quarter sales of $744,000. The increase reflects substantial growth
in Industrial Products sales. Industrial Products sales were $862,000 and
$363,000 in 1998 and 1997 respectively. The increase in Industrial Products
revenue is attributable to the continuing expansion of the Company's marine ship
pipe line chemical cleaning services. The Company anticipates continued growth
in marine revenue for the remainder of the year and into 1999. Consumer Products
sales decreased from $381,000 in 1997 to $295,000 in 1998 due to increased
competition.
Consolidated gross margins were 47% and 7% in 1998 and 1997
respectively. Gross margin for Industrial Products of 53% in 1998 was a result
of increased revenue from marine ship cleaning. Consumer Products margin was 31%
in 1998 compared to 35% in 1997.
Gross profit increased from $51,000 in 1997 to $547,000 in 1998 because
a larger percentage of revenue came from the higher margin industrial work that
the company has been focussing on growing. Loss from continuing operations was
$95,000 in 1998 compared to $731,000 in 1997 because of a decrease of $229,000
in aggregate selling, general and administrative expenses combined with the
above increase in gross profit. The decrease in aggregate selling, general and
administrative expenses is a function of the Company's cost containment program
implemented in the third quarter of 1997. Net loss was $94,690 in 1998 compared
to $612,141 in 1997. The 1997 net loss includes income from operations of
discontinued segment of $118,962.
9
H.E.R.C. PRODUCTS INCORPORATED AND SUBSIDIARIES
Management's Discussion and Analysis of Financial
Condition and Results of Operations (Continued)
Six Months Ended June 30, 1998 Compared to Six Months Ended June 30, 1997
- -------------------------------------------------------------------------
Sales of $2,139,000 during the first half of 1998 are 38% ahead of 1997
sales of $1,550,000. Industrial Products sales were $1,460,000 and $542,000 in
1998 and 1997 respectively, reflecting an increase of 169%. The increase in
Industrial Products revenue is attributable to the continuing expansion of the
Company's marine ship pipe line chemical cleaning services. Consumer products
sales decreased from $1,008,000 in 1997 to $679,000 in 1998 due to increased
competition and loss of market share.
Consolidated gross margins were 49% and 18% in 1998 and 1997
respectively. Industrial Products margin increased to 59% because of the shift
in revenue from municipal potable water pipe cleaning to marine ship pipe line
cleaning, fire protection system cleaning and industrial chemical sales.
Consumer Products margin was 26% in 1998 compared to 27% in 1997.
Gross profit increased from $286,000 in 1997 to $1,038,000 in 1998
while aggregate selling, general and administrative expenses decreased by
$687,000 resulting in a loss from continuing operations of $117,000 in 1998
compared to $1,504,000 in 1997. The reduction in selling, general and
administrative expenses is directly attributable to the cost containment program
put into place in the third quarter of 1997. Net loss was $116,548 in 1998
compared to $1,463,016 in 1997. The 1997 net loss includes income from
operations of discontinued segment of $40,856.
Liquidity and Capital Resources
- -------------------------------
Cash and cash equivalents were $475,000 and $135,000 at June 30, 1998
and December 31, 1997 respectively while working capital was $4,000 compared to
a working capital deficit of $834,000 at those respective dates. The increase in
working capital is a function of the sale of Common Stock offset by the net
loss.
In the second quarter of 1998, the Company sold 3,240,000 shares of
Common Stock at $0.31 per share and received net proceeds of $999,400.
As of June 30, 1998 , the Company was not in compliance with certain
covenants pertaining to its term loan. However, all payments required to service
the debt have been made on a timely basis and the lender has taken no action to
accelerate repayment of principal.
Through the first half of 1998, the Company was able to generate cash
flow necessary to support its ongoing business. The Company instituted a cost
containment program for its selling, general and administrative expenses during
the third quarter of 1997 and will continue to look for ways to contain costs.
Management cannot assure that financial results for the balance of 1998 will
provide sufficient positive cash flow to fund ongoing operations.
Although the Company has sought to contain costs and its revenues have
improved during the first six months of 1998, the financial condition of the
Company may not be able to sustain operations on a current basis because of its
dependence on a limited industrial business which is relatively new. Moreover,
sales of its consumer products remain at low levels due to the competitiveness
of the business, the comparable cost and limited marketing resources of the
Company. The Company has required regular financings to continue its operations
and anticipates it may need further financing in the future. There can be no
assurance that the Company will be able to sell additional securities in the
future or borrow needed funds. Substantially all the assets of the Company are
pledged for its loan and receivables financings. To the extent that any future
financing involves the sale of the Company's equity securities, the interest of
the Company's then stockholders could be substantially diluted.
The Company has received notification from its provider of financial
and accounting software that such software is structured to accommodate the year
2000 and beyond.
10
PART II: OTHER INFORMATION
Item 2. Changes in Securities
Recent Sales of Unregistered Securities
During the second quarter of 1998, the Company sold 3,240,000 shares of Common
Stock at $0.31 per share pursuant to an exemption from registration under
Section 4(2) of the Securities Act of 1933 and received net proceeds of
$999,400.
During the second quarter of 1998, the Company issued to its employees, under
the 1996 Equity Performance Plan, options to purchase 208,500 shares of Common
Stock at the exercise price of $0.3125 per share pursuant to an exemption from
registration under Section 4(2) of the Securities Act of 1933 and received no
proceeds on the grants.
During the second quarter of 1998, the Company, upon cancellation of prior
options, granted repriced options to purchase 525,000 shares of Common Stock at
exercise prices ranging from $0.31 to $0.3125 per share pursuant to an exemption
from registration under Section 4(2) of the Securities Act of 1933 and received
no proceeds on the grants.
During the second quarter of 1998, the Company, upon cancellation of prior
warrants, granted repriced warrants to purchase 227,583 shares of Common Stock
at exercise prices ranging from $0.31 to $0.45 per share pursuant to an
exemption from registration under Section 4(2) of the Securities Act of 1933 and
received no proceeds on the grants.
Item 5. Other Information
Notice to Stockholders Regarding 1999 Annual Meeting of Stockholders:
Pursuant to Rule 14a-4 promulgated by the Securities and Exchange
Commission, stockholders are advised that the Company's management will be
permitted to exercise discretionary voting authority under proxies it solicits
and obtains for the Company's 1999 Annual Meeting of Stockholders with respect
to any proposal presented by a stockholder at such meeting, without any
discussion of the proposal in the Company's proxy statement for such meeting,
unless the Company receives notice of such proposal at its principal office in
Phoenix, Arizona not later than May 18, 1999.
11
Item 6. Exhibits and Reports on Form 8-K
Reports on Form 8-K: None
Exhibits
Regulation S-B
Exhibit No. Exhibit
- ---------------------------
(27) Financial Data Schedule
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Quarterly Report to be signed on its behalf by
the undersigned, thereunto duly authorized.
H.E.R.C. PRODUCTS INCORPORATED
------------------------------
(Registrant)
Date: August 13, 1998 By: /s/ S. Steven Carl
------------------------------------
S. Steven Carl
Chief Executive Officer
By: /s/ Michael H. Harader
------------------------------------
Michael H. Harader
Chief Accounting Officer
12