1
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-QSB
[X] Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarterly period ended April 30, 1996
OR
[ ] Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the transition period from________________to_______________
Commission file number:33-06827-LA
KCD HOLDINGS INCORPORATED
(Exact name of small business issuer as specified in its charter)
Nevada 95-4029439
----------------- -------------------------
(State or other jurisdiction of (I.R.S. employer
incorporation or organization number) identification number)
2835 Townsgate Road, Suite 110, Westlake Village, CA 91361
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (805) 494-6687
not applicable
(former, name, address, and former fiscal year, if changed since last report)
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 ___
State the number of shares outstanding of each of the Registrant's classes of
common equity, as of the latest practicable date.
Outstanding at
Class of Common Stock May 31, 1996
--------------------- ------------
$.002 par value 13,327,800
Transitional Small Business Disclosure Format Yes___ No X
Number of sequentially numbered pages in the document: 24
2
FORM 10-QSB
Securities and Exchange Commission
Washington, D.C. 20549
KCD HOLDINGS INCORPORATED
Index
PART 1 - FINANCIAL INFORMATION Page
----
Item 1. Financial Statements
Consolidated Balance Sheets at F-3
January 31, 1996 and April 30, 1996 (unaudited)
Consolidated Statements of Operations F-4
for the three months ended April 30, 1996 (unaudited)
and 1995 (unaudited)
Consolidated Statement of Stockholders' Investment (Deficit) F-5
for the three months ended April 30, 1996 (unaudited)
Consolidated Statement of Cash Flows F-6
for the three months ended April 30, 1996 (unaudited)
and 1995 (unaudited)
Notes to Consolidated Financial Statements F-7
Item 2. Management's Discussion and Analysis or Plan 16
of Operations.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 23
Item 6. Exhibits and Reports on Form 8-K 23
Signatures 24
3
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
KCD HOLDINGS INCORPORATED
CONSOLIDATED BALANCE SHEETS
ASSETS
APRIL 30, 1996 JANUARY 31, 1996
-------------- ----------------
(Unaudited)
CURRENT ASSETS:
Cash $1,547,323 $48,279
Accounts receivable, net 735,224 381,098
Accounts receivable - other 115,065 115,065
Inventory 644,519 864,547
Other 1,508 9,720
------------ ------------
Total current assets 3,043,639 1,418,709
------------ ------------
PROPERTY AND EQUIPMENT, net 171,878 184,357
------------ ------------
OTHER ASSETS:
Deposits 3,938 3,938
Intangibles, net 2,269 2,333
------------ ------------
Total other assets 6,207 6,271
------------ ------------
Total assets $3,221,724 $1,609,337
============ ============
LIABILITIES AND STOCKHOLDERS' INVESTMENT (DEFICIT)
CURRENT LIABILITIES:
Accounts payable $392,005 $836,484
Accrued expenses 226,478 224,011
Accrued advertising 144,978 173,417
Commissions payable 97,081 31,948
Royalties payable 150,515 150,515
Collateralized note payable-related party 635,250 621,018
Loans from stockholders 713,227 696,579
------------ ------------
Total current liabilities 2,359,534 2,733,972
------------ ------------
Commitments and contingencies (see Notes)
STOCKHOLDERS' INVESTMENT (DEFICIT)
Common stock, par value $.002 per share; 25,000,000 shares 26,506 33,204
authorized; issued and outstanding 13,252,800 as of April 30, 1996
and 16,602,000 as of January 31, 1996
Additional paid in capital 7,077,078 8,365,580
Accumulated deficit (5,202,163) (6,005,308)
Prepaid advertising and consulting fees (1,039,231) (3,518,111)
------------ ------------
Total stockholders' investment (deficit) 862,190 (1,124,635)
------------ ------------
Total liabilities and stockholders' investment (deficit) $3,221,724 $1,609,337
============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
4
KCD HOLDINGS INCORPORATED
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED APRIL 30, 1996 AND 1995
1996 1995
------------ -------------
(Unaudited) (Unaudited)
Net Revenues $1,116,259 $888,941
Cost of Goods Sold 306,216 219,610
------------ -------------
Gross Profit 810,043 669,331
------------ -------------
Operating Expenses:
Advertising 36,519 818,769
Selling and marketing 162,610 412,398
General and administrative 469,899 389,030
Royalties 0 135,042
------------ -------------
669,028 1,755,239
------------ -------------
Profit (Loss) from Operations 141,015 (1,085,908)
------------ -------------
Non-Operating Income(Expense)
Interest expense (31,609) (65,126)
Interest income -- 2,070
------------ -------------
(31,609) (63,056)
Litigation Settlements, net 765,482 --
Payments to Officer and Stockholder (70,143) --
------------ -------------
Profit (Loss) before Income Taxes 804,745 (1,148,964)
Provision for Income Taxes 1,600 1,600
------------ -------------
Net Profit (Loss) $803,145 ($1,150,564)
============ =============
Weighted Average Shares of
Common Stock Outstanding: 16,041,009 15,986,607
============ =============
Net Profit (Loss) per share: $0.05 ($0.07)
============ =============
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
5
KCD HOLDINGS INCORPORATED
CONSOLIDATED STATEMENT OF STOCKHOLDERS' INVESTMENT (DEFICIT)
FOR THE THREE MONTHS ENDED APRIL 30, 1996
Common Stock Total
---------------------------- Additional Accumulated Equity Stockholder's
Number of shares Par value Paid In Capital Deficit Reductions Investment (Deficit
---------------- --------- --------------- ----------- ---------- --------------------
Balance January 31, 1996 16,602,000 $33,204 $8,365,580 ($6,005,308) ($3,518,111) ($1,124,635)
Common stock retired,
advertising settlement (640,000) (1,280) (1,918,720) -- -- (1,920,000)
Common stock retired,
consulting services (155,200) (310) (1,047,290) -- -- (1,047,600)
Common stock retired,
satisfaction of loan (3,800,000) (7,600) -- -- -- (7,600)
Issuance of common stock
for other services 46,000 92 14,908 -- -- 15,000
Issuance of common stock
in private placements 1,200,000 2,400 1,662,600 -- -- 1,665,000
Net profit for three months
ended April 30, 1996 -- -- -- 803,145 -- 803,145
Reduction in prepaid
advertising and
consulting fees -- -- -- -- 2,478,880 2,478,880
Balance April 30, 1996 ---------- ------- ---------- ----------- ----------- ----------
(Unaudited) 13,252,800 26,506 7,077,078 (5,202,163) (1,039,231) 862,190
========== ======= ========== =========== =========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
6
KCD HOLDINGS INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED APRIL 30, 1996 and 1995
1996 1995
------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES: (Unaudited) (Unaudited)
Net Profit (Loss) $803,145 ($1,150,564)
Adjustments to reconcile Net Profit (Loss)
to Cash used in operating activities:
Depreciation and amortization 63,585 11,331
Stock issued for advertising and other services 15,000 135,000
Litigation settlement - stock retirement (539,762) --
------------- -------------
341,968 (1,004,233)
------------- -------------
(Increase) / decrease in current assets:
Accounts receivable, net (354,126) (343,756)
Inventory 220,028 (17,190)
Other current assets 8,212 (26,468)
Increase / (decrease) in current liabilities:
Accounts payable (444,479) 634,745
Accrued expenses 2,467 115,310
Accrued advertising (28,439) 646,291
Commissions payable 65,133 (39,548)
Royalties payable 0 45,042
------------- -------------
(531,204) 1,014,426
------------- -------------
Net cash provided by (used in) operating activities (189,236) 10,193
------------- -------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Loan receivable-officer and stockholder -- (604,626)
Deposits -- (3,938)
------------- -------------
Net cash used in investing activities -- (608,564)
CASH FLOWS FROM FINANCING ACTIVITIES:
Retirement of common stock (7,600) --
Proceeds from sale of common stock 1,665,000 --
Collateralized note payable-related party 14,232 --
Loans from stockholders 16,648 594,030
------------- -------------
Net cash provided by financing activities 1,688,280 594,030
NET INCREASE IN CASH 1,499,044 (4,341)
CASH, BEGINNING BALANCE 48,279 9,088
------------- -------------
CASH, ENDING BALANCE $1,547,323 $4,747
============= =============
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
7
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
1. DESCRIPTION OF BUSINESS AND BASIS OF PRESENTATION
KCD Holdings Incorporated (the "Company") is a Nevada corporation. The
Company, formerly Commonwealth Associates, Inc., was incorporated on February
13, 1986. The Company is a holding Company which operates primarily through
its wholly-owned subsidiary, KCD Incorporated ("KCD"), which became
incorporated in November 1993. The Company is a distributor and marketer of
technically advanced health products. The Company currently markets dietary
aid products under the name SeQuesterTM. These products are sold to national
drug and food chain retailers, wholesalers and mass merchandisers throughout
the United States using several of the nations largest food brokerage firms.
The accompanying consolidated financial statements of the Company and its
subsidiary have been prepared in accordance with generally accepted accounting
principles for interim financial information and with the instructions to Form
10-QSB. Certain notes and other information have been condensed or omitted
from the interim financial statements presented in this report. Accordingly,
they do not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. In the
opinion of management, the financial statements reflect all adjustments
considered necessary for a fair presentation. The results of operations for the
three months ended April 30, 1996 are not necessarily indicative of the results
to be expected for the full year. For further information, refer to the
financial statements and footnotes thereto included in the Company's Annual
Report on Form 10-KSB for the year ended January 31, 1996 as filed with the
Securities and Exchange Commission. All significant intercompany balances and
transactions have been eliminated in consolidation.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect amounts reported and disclosed in the financial statements and
related notes. Actual results could differ from those estimates.
Certain reclassifications were made to the 1995 consolidated financial
statements to conform with the 1996 consolidated financial statement
presentation.
On October 7, 1994, in connection with the issuance of 14,100,000 shares of its
common stock, $0.002 par value, 100,000 shares to the stockholders of the
Company and 14,000,000 shares to the stockholders of KCD, the Company acquired
100% of the ownership of KCD, as a reverse merger. The merger was accounted
for in a manner similar to a pooling-of-interests. KCD, which is engaged in
the business of marketing and distributing dietary aids, commenced its
operations in February 1994. For financial reporting purposes, the operations
of KCD have been included in the accompanying consolidated financial statements
since that date.
F-7
8
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(a) Revenue Recognition -- The Company recognizes revenue from
wholesalers, distributors and retailers at the time of shipment, net of sales
returns and allowances.
(b) Fair Value of Financial Instruments and Credit Risk -- The carrying
value of cash, notes and loans from stockholders, approximates their fair
values.
Significant customers accounting for 54% of revenues for the three months ended
April 30, 1996 include American Drug Stores 27%, Eckerd Drug 15% and Revco D.S.
Inc. 12%. Major customers accounting for 51% of revenues for the three months
ended April 30, 1995 include Wal-Mart Stores 33%, K-Mart Corp. 10% and Mark
Stevens (CVS Inc.) 8%. No significant customers have been lost during the
period since commencement of operations to date.
(c) Allowance for Doubtful Accounts -- In determining the allowance to be
maintained, management evaluates many factors including industry and historical
loss experience. The allowance for doubtful accounts is maintained at an
amount management deems adequate to cover estimated losses. The allowance for
doubtful accounts at January 31, 1996 and at April 30, 1996 was $52,163.
(d) Prepaid Advertising -- The Company expenses advertising costs as
incurred.
(e) Inventory -- Inventory is valued at the lower of cost or market value.
Cost is determined using the first-in, first-out method. Inventory consisted
of:
January 31, 1996 April 30, 1996
---------------- --------------
Product Units $ 704,741 $ 494,146
Packaging and Product Displays 153,578 145,685
Shipping Supplies 6,228 4,688
---------------- ----------------
$ 864,547 $ 644,519
================ ================
(f) Property and Equipment -- The Company records property and equipment
at cost and depreciates it over the useful life of the asset using the
straight-line method of depreciation. Renewals and betterments are capitalized
while repairs and maintenance are charged to expense. Estimated useful lives
are as follows:
Product Tooling 2 years
Machinery and Equipment 5-10 years
Furniture and Fixtures 5-10 years
Computer Equipment 5 years
Leasehold Improvements 5-10 years
F-8
9
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
(g) Income Taxes -- Deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases at enacted rates when such amounts are expected to be
realized or settled.
(h) Income (Loss) Per Common Share -- Income (Loss) per common share is
based on the weighted average number of common shares outstanding. Common
share equivalents have not been considered in determining the weighted average
number of shares outstanding as their effect would either be antidilutive or
result in no material dilution of earnings per share.
(i) Risks and Uncertainties -- In the normal course of business, the
Company is subject to certain risks and uncertainties as follows:
- The Company's primary source of revenue has been from a single
product, SeQuester(TM)1; however, the Company introduced two
new dietary aid products in December 1995 (SeQuester(TM)2 and
SeQuester(TM)3) and intends to introduce additional products
in 1996.
- The Company has a significant deficit and has incurred
substantial losses from operations for the period from
inception through January 31, 1996.
- The Company's products are subject to the rules and
regulations of the Federal Trade Commission.
- The Company provides its product on unsecured credit to most
of its customers, the majority of which are national retail
outlets.
(j) Variable Stock Purchase Agreements -- The Company has various
agreements with certain key employees which provide an option to purchase
common stock. Under these agreements, the Company has the right to repurchase
(at the original purchase price) any shares purchased by the employee. The
Company retains this repurchase right for a period of two years from the date
of purchase by the employee. The Company will recognize compensation expense
at the expiration of the repurchase period.
(k) Impact of Adoption of Recently Issued Accounting Standards -- In
October 1995, the Financial Accounting Standards Board issued "SFAS" No. 123,
"Accounting For Stock-based Compensation." The effective date of this
statement is for fiscal years beginning after December 15, 1995. The statement
will require the Company either to adopt SFAS No. 123 and recognize an expense
for stock compensation in the financial statements or continue accounting under
Accounting Principles Board Opinion No. 25, "Accounting For Stock Issued to
Employees" with additional pro forma footnote disclosure regarding the impact
on net earnings and net earnings per share had the Company adopted SFAS No.
123. The impact of adopting SFAS No. 123 to the Company has not yet been
determined.
F-9
10
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
3. REVENUES
In the normal course of business during the three month periods ended April 30,
1996 and 1995, the Company granted its customers a variety of discounts. The
discounts granted were as follows:
1996 1995
---- ----
Gross Revenues $ 1,240,742 $ 1,175,173
-------------- -------------
Discounts:
Refunds and Returns $ 13,882 $ 20,778
Introductory and Promotional 41,613 155,277
Co-op Advertising 49,299 98,409
Other 19,689 11,768
-------------- -------------
Total Discounts $ 124,483 $ 286,232
-------------- -------------
Net Revenues $ 1,116,259 $ 888,941
============== =============
Under the terms of sales to its customers, the Company will grant promotional
discounts on the gross invoice amount for qualified SeQuester(TM) product
advertising expenses incurred by that consumer. The total co-op advertising
discounts for the three months ended April 30, 1996 and 1995 were $49,299 and
$98,409 respectively.
4. PROPERTY AND EQUIPMENT
April 30, 1996 January 31, 1996
-------------- ----------------
Product Tooling $ 43,900 $ 43,900
Machinery and Equipment 79,280 79,280
Furniture and Fixtures 6,231 6,231
Computer Equipment 31,198 31,198
Leasehold Improvements 54,291 54,291
------------ ------------
214,900 214,900
Less: Accumulated Depreciation ( 43,022) ( 30,543)
------------ ------------
$ 171,878 $ 184,357
============ ============
5. LOAN RECEIVABLE FROM OFFICER AND STOCKHOLDER
On February 1, 1995 the Company agreed to loan Clark Holcomb, the President of
the Company at that time, up to the principal amount of $2,000,000 with
interest payable at the rate of 8% per annum on the
F-10
11
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
unpaid balance. The loan was payable on demand upon sixty days prior notice.
In consideration for the loan, Mr. Holcomb agreed and acted to retire 2,000,000
shares of the Company's common stock owned by him and further agreed to
personally guarantee and collateralize future borrowings by the Company up to
the principal balance of the loan. No salary was paid or accrued for Mr.
Holcomb for the twelve months ended January 31, 1996. As of January 31, 1996,
the balance of principal and interest receivable on this loan of $2,145,964
was determined to be uncollectible and was expensed during the twelve months
ended January 31, 1996. In April 1996, Mr. Holcomb retired 3,800,000 shares of
Company common stock personally owned by him in satisfaction of the Company's
outstanding loan receivable from him which was $2,223,638 at that date. An
additional $70,143 was expensed during the three months ended April 30, 1996.
6. LOANS PAYABLE TO STOCKHOLDERS AND COLLATERALIZED PROMISSORY NOTE
(a) On April 30, 1996, the Company owed stockholders the amount of
$713,227 including principal and interest. These loans are interest bearing,
at a rate of 9%, and have varying repayment terms over a one year period,
principally for the purpose of providing the Company with working capital.
(b) On October 17, 1995, the Company executed a promissory note for the
sum of $750,000, or the aggregate unpaid principal amount of advances up to the
sum of $750,000, with interest payable at 10% per annum on the outstanding
balance with a stockholder. The note, principal plus interest, is payable
based upon 50% of net collections from product sales with any remaining balance
due in full on or before October 17, 1996. The note is subject to a security
agreement which covers all of the accounts receivable, contract rights and
inventory of the Company. As of April 30, 1996, the balance of principal and
interest outstanding of this note was $635,250.
7. INCOME TAXES
No provision was made for Federal income tax since the Company has significant
net operating loss carryforwards. Through January 31, 1996, the Company
incurred net operating losses for tax purposes of approximately $2,815,000.
Differences between financial statement and tax losses consist primarily of
amortization, payments to an officer and stockholder, allowance for doubtful
accounts, certain interest expenses and termination of sub-chapter S status for
a subsidiary in connection with a merger in October, 1994. The net operating
loss carryforwards may be used to reduce taxable income through the year 2010.
The availability of the Company's net operating loss carryforwards are subject
to limitation if there is a change in ownership of more than 50% of the value
of the Company's stock. Net operating losses for the State of California are
approximately $1,395,000 and are generally available for use to reduce taxable
income through the year 2000. The provision for income taxes consists of the
California state minimum tax imposed on corporations.
F-11
12
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
Significant components of the Company's net deferred tax assets, as of January
31, 1996 are as follows:
Allowance for Doubtful Accounts $ 20,866
Net Operating Loss carry-forward 2,815,000
-----------
Gross Deferred Tax Assets 2,835,866
Valuation Allowance (2,835,866)
----------
Net Deferred Tax Asset $ -
===========
The Company's valuation allowance of $2,835,866, as of January 31, 1996 is
based on the Company's evaluation of the future realization of the deferred tax
assets.
8. CONTRACTS AND AGREEMENTS
(a) Advertising Agreement -- In May 1995, the Company entered into a one
year agreement with Premiere Radio Networks ("Premiere") for bartered
advertising in the amount of $1,000,000. As consideration for this
advertising, the Company issued 200,000 shares of restricted common stock to
Premiere. As of April 30, 1996, $530,187 of unused advertising is currently
available in connection with this agreement.
(b) Supply and Packaging Agreements -- In April 1996, the Company entered
into a five year supply agreement with a major manufacturer to provide dietary
supplements for resale within the United States and Canada. This agreement
also provides for exclusive rights to sell products to certain retail stores
and wholesalers. In addition, in April 1996, the Company entered into a five
year packaging agreement which covers a significant portion of the Company's
packaging requirements.
9. STOCKHOLDERS' INVESTMENT (DEFICIT)
(a) Common Stock -- During the three months ended April 30, 1996, the
Company (i) retired 640,000 shares of common stock in connection with
settlement of certain advertising litigation (ii), retired 155,200 shares of
common stock in connection with termination of a consulting agreement and (iii)
retired 3,800,000 shares of common stock in satisfaction of the Company's
outstanding loan from Clark Holcomb.
During the three months ended April 30, 1996, the Company issued 1,200,000
shares of common stock in a private placement and issued 46,000 shares of
common stock for other services.
In February 1996, the Company amended and restated its Consulting Agreement
and Stock Plan with a consultant, dated February 15, 1995 to extend the term of
such agreement for an additional three
F-12
13
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
(3) year period and agreed to issue up to an additional 300,000 shares of
Company common stock, with registration rights.
The Company has employment agreements with officers under which it is obligated
to issue up to an aggregate of 1,750,000 shares of Company common stock at a
purchase price of par value through June 1999. The shares are subject to
repurchase by the Company at par value for a period of two years from date of
purchase.
(b) Warrants -- The outstanding public warrants of the Company at April
30, 1996 are as follows:
Warrant Class Amount Outstanding Exercise Price
------------- ------------------ --------------
A 398,850 $0.50
B 488,600 0.75
C 488,600 1.00
---------
1,376,050
=========
Exercise of these warrants is subject to an effective registration statement
with the Securities and Exchange Commission. No warrants were exercised during
the twelve months ended January 31, 1996 or the three months ended April 30,
1996.
The Company has an additional 300,000 warrants outstanding to purchase common
stock at $2.50 per share. These warrants have a five year life and contain
certain registration rights.
10. LITIGATION
The Company is involved in several legal actions. In the opinion of the
management, the Company has adequate legal defenses with respect to these
actions, as noted below:
Charles McClendon vs. Clark M. Holcomb and KCD
Charles McClendon ("McClendon") filed a complaint on October 12, 1995 in the
Superior Court of the State of California for the County of Los Angeles against
Clark M. Holcomb and KCD Incorporated alleging breach of contract, fraud,
fraudulent misrepresentation, violation of California Corporate Securities Law,
money had and received and account stated. McClendon alleged that Holcomb
fraudulently breached a contract by and between McClendon and Holcomb pursuant
to which Holcomb agreed to sell shares of Interactive Medical Technologies Ltd.
("IMT") stock to McClendon. Plaintiff named KCD as the alter-ego of Holcomb.
McClendon is seeking damages in a sum in excess of $50,000 as well as
attorneys' fees, exemplary and punitive damages. It is the Company's position
that it has no obligation or liability to McClendon in connection with this
matter. The Company has filed an answer denying the allegations in the
complaint and intends to vigorously defend this action.
F-13
14
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
Federal Trade Commission
In August 1995, the Seattle Regional Office of the Federal Trade Commission
("FTC") advised the Company that the staff believes that the Company's fat
sequestrant product, which currently is marketed under the name
"SeQuester(TM)1", has been improperly represented in advertising claims, and
that the sequestrant product, when previously marketed by a prior licensor
under the name "Lipitrol", also was improperly represented in advertising
claims. The FTC staff has indicated that it is prepared to recommend that a
complaint be filed against a prior licensor, the Company and certain
individuals in connection with the foregoing. The Company presently is
discussing this matter with the FTC staff with the objective of settling the
matter. There is no assurance that a settlement will be reached or as to the
impact on the Company of any settlement, although it is presently believed that
any settlement may impact the advertising claims utilized in the marketing of
the sequestrant product until new clinical trials are completed and no
assurance can be made that any such settlement will not have a material adverse
effect on the Company.
KCD vs. Performance Financial Services, Inc. and Fed Funds, Incorporated
In January 1996, the Company filed a suit against Fed Funds, Incorporated and
Performance Financial Services, Inc. in the United States District Court for
the Eastern District of Virginia for unlawful conversion of Company funds held
under a factoring agreement in the amount of $136,608 plus compensatory damages
for interest and profits as well as punitive damages. A pre-trial conference
has currently been scheduled for July 1996.
EHI vs. KCD
In March 1996, Effective Health Inc. ("EHI"), a wholly-owned subsidiary of IMT,
filed an action against KCD in Los Angeles County Superior Court. This action
alleges causes of action against KCD for breach of the First Amended License
Agreement ("Amended License Agreement") by and between EHI and KCD, declaratory
relief and permanent injunction. The action is based upon the alleged failure
of KCD to pay royalties due pursuant to the Amended License Agreement and use
of advertising claims in connection with the sale of the licensed products
which were in excess of those which EHI authorized KCD to make. KCD has denied
all of the allegations in the complaint and, in April 1996, filed an answer and
cross-complaint. The cross-complaint is based on the Company's belief that
the patent for the licensed product under the Amended License Agreement does
not appear to infringe any of the Company's products, as set forth in the
Company's letter to IMT and EHI, dated February 29, 1996, which demanded
repayment of approximately $828,980 in royalties and licensing fees previously
paid and the return of 100,000 shares of the Company's common stock issued to
IMT thereunder. This cross-complaint names EHI and IMT, as well as Dr. Shell
and William Pelzer as former officers of IMT and alleges breach of contract,
breach of good faith and fair dealing, negligence, intentional
misrepresentation, negligent misrepresentation, conversion, securities fraud,
rescission, accounting and constructive trust. The Company has requested,
injunctive relief, damages and return of all Company stock issued and monies
paid to cross-defendants under the Amended License Agreement.
F-14
15
KCD HOLDINGS INCORPORATED
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JANUARY 31, 1996 AND APRIL 30, 1996
KCD Holdings, Incorporated vs. Peter D. Bistrian and Horowitz, Cutler & Beam
In December 1995, the Company entered into a Management Consulting Agreement
("Consulting Agreement") with Peter D. Bistrian Consulting, Inc. ("PBC") for
management and marketing consulting services. As compensation for the
foregoing consulting services PBC received 225,000 shares of the Company's
common stock (the "Consulting Shares"). The Company acted to register the
offer and sale of the Consulting Shares on Form S-8 which was filed in January
1996. In January 1996, the Company terminated the Consulting Agreement as a
result of PBC's use of the Company's confidential information for PBC's own
benefit. The Company requested in such notice of termination that PBC
immediately return the Consulting Shares for cancellation and that PBC
immediately cease and desist from trading in the Company's securities.
Notwithstanding the Company's notice it appears that PBC subsequently acted to
sell a substantial portion of the Consulting Shares in the open market and in
violation of a lock-up agreement prohibiting the sale of the Consulting Shares.
In an attempt to resolve this matter in an expeditious manner and to secure the
Consulting Shares for cancellation, the Company entered into a conditional
settlement agreement, contingent upon the return to the Company of all of the
Consulting Shares, in February 1996 which required PBC to deliver the
Consulting Shares to an escrow account maintained by the law firm of Horowitz,
Cutler & Beam ("HC&B") for delivery to the Company. In February 1996, HC&B
delivered 155,200 of the 225,000 Consulting Shares to the Company. In May of
1996, the Company filed a Complaint in the Superior Court of the State of
California for the County of Los Angeles against Peter D. Bistrian Consulting,
Inc.; Peter D Bistrian; Horowitz, Cutler & Beam; M. Richard Cutler; Gateway
Financial Group, Inc.; and Lisa Paige for breach of written contract; legal
malpractice; intentional misrepresentation; negligent misrepresentation;
securities fraud; creating a false market; conversion; constructive fraud;
breach of fiduciary duty; insider trading; breach of covenant of good faith and
fair dealing; and violation of the racketeer influenced and corrupt
organizations act.
Except as otherwise specifically indicated above, management believes that the
Company does not have any material liability for any lawsuits, settlements,
judgments or fees of defense counsel which have not been paid or accrued as of
April 30, 1996.
As there is no assurance that the Company will prevail in any of the foregoing
lawsuits, the Company may incur substantial expense in connection with this
litigation. Any unfavorable settlement or judgment against the Company, in
which the Company is a defendant, could have a material adverse effect upon the
financial condition and operational results of the Company.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
General
KCD Holdings Incorporated, formerly Commonwealth Associates, Inc., was
incorporated in the state of Nevada on February 13, 1986 ("the Company"). The
Company's activities from inception until 1993 consisted primarily of reviewing
possible business opportunities and acquisitions, and maintaining the business
entity. The Company had no operational activities from the fiscal years 1989
through 1993 and all expenses incurred were solely related to maintaining the
entity and reviewing potential business opportunities.
In October 1994, the Company entered into a Plan and Agreement of
Reorganization and acquired 100% of the issued and outstanding equity shares of
KCD Incorporated ("KCD"), a California corporation, which had commenced
operations in 1994. KCD became a wholly owned subsidiary of the Company. The
Company's activities to date have consisted primarily of the development, and
marketing of its fat sequestrant product, SeQuester(TM) 1.
The Company introduced an appetite suppressant (SeQuester(TM) 2) and a
chromium based dietary supplement (SeQuester(TM) 3) in addition to its fat
sequestrant product (SeQuester(TM) 1) in December 1995. Additional new health
products are scheduled for introduction in 1996, all under the trademark
SeQuester(TM). To date, the Company has not exploited the Canadian market for
SeQuester(TM) distribution. However, the Company has developed access to major
domestic retail, pharmacy and mass merchandiser chains in the United States.
The weight loss industry represents an estimated 1 billion dollars in
revenues. Millions of Americans begin diets every year and buy diet
supplements.
The primary target for the Company's SeQuester(TM) product line
appears to be relatively sophisticated females, 24 to 49 years old who are 10
to 20 pounds overweight, with a history of weight loss efforts. These women
are interested in products that are natural, sensible and effective in aiding
their struggle to lose unwanted fat. They understand that reduced caloric
intake is part of any effective weight loss plan and they are inclined to use
the product as directed.
Market leaders in the weight reduction industry include Dexatrim(TM)
and Acutrim(TM), with several additional smaller product marketers. However,
there are no other products available in wide spread distribution that
accomplish weight loss through the sequestration of dietary fat.
SeQuester(TM) 1 and 3 do not contain any diuretics, stimulants, or
drugs. SeQuester(TM) 2, an appetite suppressant, does not contain any caffeine,
diuretic, or sodium. SeQuester(TM) 2 is an FDA approved over-the-counter drug
formulation for appetite control to aid weight reduction, containing
Phenylpropanolamine Hydrochloride. Market research indicates that there is a
substantial market for dietary supplements that are natural, drug-free
products. All of the ingredients comprising the fat sequestrant product are
included in a published Food and Drug Administration guidelines for food
additives generally recognized as safe ("GRAS"). Therefore, the Company
believes that there is a tremendous possibility to assume the lead in the fat
sequestrant market, well ahead of any other
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participants who may attempt to enter the market. One of the ingredients in
SeQuester(TM) 3 Chromium, has been shown to regulate blood sugar levels as well
as function as an aid in weight control. Additionally in the formula,
L-Carnitine has been suggested to increase Basal Metabolic Rate which, in
effect, increases lipogenesis (fat metabolism).
Results of Operations
The Company commenced operations for the marketing and distribution of
SeQuester(TM) in the first calendar months of 1994. Certain costs and
necessary expenditures were incurred that have delayed results on sales, such
as sales travel calls and re-visits to wholesalers, brokers and retailers
across the nation, as well as a national media advertising campaign. It is now
clear that the effects of these efforts have brought the fat sequestrant
product to national attention and sales are growing at a substantial pace.
This growth occurred as a result of the efforts and work to date. The Company
believes this growth will continue.
For the three month period ended April 30, 1996 compared to the three month
period ended April 30, 1995:
Revenues are derived from sales of the dietary fat sequestrant
product, an appetite suppressant and a chromium based dietary supplement all
under the name SeQuester(TM). Gross Revenues for the three months ended April
30, 1996 increased to $1,240,742 from $1,175,173 for the three months ended
April 30, 1995.
Gross Revenues have been reduced for a variety of discounts to provide
Net Revenues of $1,116,259 for the three months ended April 30, 1996 and
$888,941 for the three months ended April 30, 1995 or a 26% increase. The
increase is attributed to a concerted marketing campaign in calendar year 1995,
introduction of new SeQuester(TM) products in December 1995 and a significant
increase in the number of retail outlets carrying the SeQuester(TM) products.
Three Months Ended
------------------
April 30, 1996 April 30, 1995
-------------- --------------
Gross Revenues $1,240,742 $1,175,173
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Discounts:
Refunds and Returns $ 13,882 $ 20,778
Introductory and Promotional 41,613 155,277
Co-op Advertising 49,299 98,409
Other 19,689 11,768
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Total Discounts $ 124,483 $ 286,232
---------- ----------
Net Revenues $1,116,259 $ 888,941
---------- ----------
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Gross Profits are comprised of Net Revenues less direct costs of
products, packaging and services. The Cost of Sales of the dietary products
for the three month period ended April 30, 1996 was $302,216 or 27% of Net
Revenues which provided a Gross Profit of $810,043 or 73% of Net Revenues. For
the three month period ended April 30, 1995 the Cost of Sales was $219,610 or
25% of Net Revenues, which provided a Gross Profit for the first three month
period of the previous year of $669,331 or 75% of Net Revenues. The decrease
in Gross Profit percent resulted from an increase in revenues from the new
SeQuester(TM) products which have a slightly lower gross profit margin.
Three Months Ended
April 30, 1996 April 30, 1995
-------------- --------------
$ % $ %
- - - -
Net Revenues 1,116,259 100 888,941 100
Cost of Goods Sold 306,216 27 219,610 25
------- -- ------- --
Gross Profit 810,043 73 669,331 75
======= == ======= ==
Advertising expenses consist of a multi-media advertising campaign
which included magazines, TV and radio, signage and other displays. Selling
and Marketing expenses consist of sales commissions and salaries, coupon
redemption, warehouse, freight, supplies and travel expenses. General and
administrative expenses consist of salaries and benefits of officers and staff,
accounting, legal and other professionals, rent and occupancy costs, factoring
commissions and fees, bad debt expense, travel expenses and other
administrative costs.
Advertising expense decreased to $36,519 for the three months ended
April 30, 1996 from $818,769 for the three months of 1995 as the Company placed
its marketing campaign on hold, pending completion of clinical trials and the
settlement of certain advertising litigation. A significant portion of the
1995 expense was paid by issuance of restricted shares of Company common stock.
In April 1996, the Company reached a settlement of the advertising litigation
which resulted in a gain of $845,482. The Company is currently evaluating its
marketing programs and anticipates a new advertising campaign commencing in the
second quarter of 1996.
Selling and Marketing expenses decreased to $162,610 for the three
months ended April 30, 1996 from $412,398 for the three months of 1995. The
Company experienced decreases in sales commissions due to a reduction in rates
for the 1996 period and decreases in coupon redemption and travel expenses.
General and Administrative expenses increased to $469,899 for the
three months ended April 30, 1996 from $389,030 for the same three months of
1995. The Company experienced increases in legal and accounting fees offset by
decreases in factoring fees and commissions in connection with accounts
receivable financing.
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No royalty expense was incurred for the three months ended April 30,
1996 compared with $135,042 for the same three months of 1995. Royalties had
been due under the terms of a license agreement which was terminated in March
1996.
Interest expense decreased to $31,609 for the three months ended April
30, 1996 from $65,126 for the three months of 1995. Interest expense for the
1996 period reflects a reduced rate of interest on short term loans from
stockholders.
In April 1996, the Company settled a certain advertising litigation
resulting in a gain of $845,482 and settled certain litigation, resulting in a
loss of $80,000, regarding a former sales broker in order to avoid the costs
inherent in defending the action.
In April 1996, Clark Holcomb resigned as a Director and President of
the Company and retired 3,800,000 shares of Company common stock personally
owned by him in satisfaction of the Company's outstanding loan receivable from
him in the amount of $2,223,638. As of January 31, 1996, the balance of
principal and interest receivable on this loan was $2,145,964 which was
expensed for the twelve months ended January 31, 1996. An additional $70,143
was expensed during the three months ended April 30, 1996.
The provision for income taxes is the minimum for State of California
Franchise taxes. No provision was made for Federal income tax since the
Company has significant net operating loss carryforwards.
The net profit for the three month period ended April 30, 1996 of
$803,145 was the result of profit from operations and a net gain from
settlement of litigation. The net loss for the three month period ended April
30, 1995 of $1,150,564 was incurred principally as a result of the significant
expenditures made by the Company for its multi-media advertising campaign and
initial introduction of the SeQuester(TM) products to major retail pharmacy and
mass merchandiser chains.
Net profit (loss) per common share was $0.05 for the three months
ended April 30, 1996 and ($0.07) for the three months ended April 30, 1995
based on the weighted average shares of common stock outstanding.
The Company believes that net losses for the period from inception
through January 31, 1996 are consistent with the initial development of the
Company, the major advertising campaign and its introduction of the
SeQuester(TM) product. The Company believes that the significant expenditures
for the multi-media advertising campaign will result in future revenues which
should enable the Company to continue profitable operations in 1996.
Liquidity and Capital Resources
Since inception, the Company has received capital for operations and
development from private investors in the Company's securities, issuance of
private party debt, loans from stockholders and financing from factors as well
as revenues from operations. Through January 31, 1996, revenues from
operations have been insufficient to satisfy operating expenses, product
development and legal
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costs. The Company, therefore has been dependent on private placement of
securities and loans from private investors and stockholders.
There are no assurances that private capital will continue to be
available or that revenues from operations will increase to meet the Company's
cash needs, particularly as these needs relate to funding manufacturing costs
and advertising campaigns and the development of new products which the Company
believes represents its most significant long-term growth opportunities.
As shown in the accompanying financial statements, the Company has
incurred net losses form inception to January 31, 1996 of $6,005,308 and
incurred a net profit of $803,145 during the three months ended April 30, 1996.
As of April 30, 1996, the Company's accumulated deficit was $5,202,163. The
management of the Company intends to continue to pursue various means of
obtaining additional working capital and long term equity.
Management anticipates continued growth of revenues from its fat
sequestrant product SeQuester(TM) 1 during 1996. The Company introduced an
appetite suppressant and a chromium based dietary supplement in December, 1995.
Additional new health products are scheduled for introduction in 1996 all under
the trademark SeQuester(TM).
For the fiscal year ended January 31, 1994, the Company had 545,500
shares issued and outstanding. During the year ended January 31, 1995 in the
acquisition of 100% of the outstanding common stock of KCD, the Company issued
14,100,000 shares of its common stock, $0.002 par value, 100,000 shares to the
stockholders of the Company and 14,000,000 shares to the stockholders of KCD.
The Company also issued 1,181,500 additional shares of common stock at various
prices during the year ended January 31, 1995.
During the twelve months ended January 31, 1996, the Company issued an
aggregate of 1,267,500 shares of restricted Company stock as consideration for
approximately $4,135,000 of advertising. In April 1996, the Company reached a
settlement of certain advertising litigation which resulted in return and
retirement of 640,000 of these previously issued shares.
In May, 1995 the Company issued 275,000 shares of common stock to a
consultant for services and cash consideration of $55,000.
The Company retired 2,000,000 shares of common stock previously held
by an officer and stockholder of the Company as partial consideration for a
loan by the Company to that officer.
In May 1995, the Company issued 100,000 shares of restricted common
stock to IMT as consideration for past due royalties and interest in the amount
of $217,243.
In January 1996, the Company issued 225,000 shares of common stock to
a consultant, for services which were subsequently terminated.
During the twelve months ended January 31, 1996, the Company issued an
aggregate of 172,500 shares of common stock for other services.
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During the twelve months ended January 31, 1996, the Company completed
private placements for an aggregate of 735,000 shares of restricted common
stock for cash consideration of $952,500.
In April 1996, the Company retired 155,200 shares of common stock in
connection with the termination of a consulting agreement and issued 46,000
shares of common stock for other services.
In April 1996, the Company issued 1,200,000 shares of common stock for
gross proceeds of approximately $1,800,000 in a private placement. Upon
completion of this financing, the Company agreed to issue to the placement
agent 300,000 warrants to purchase additional shares of common stock at $2.50
per share. These warrants have a five year life and contain certain
registration rights.
In connection with this financing, Clark Holcomb resigned as a
Director and President of the Company and agreed to manage the sales and
marketing programs on the following terms: (1) an annual base salary of
$100,000; (2) a sales incentive equal to 2% of net sales over the prior base
quarter; provided that, the Company has net income during the subject quarter;
and (3) an equity incentive equal to the sales incentive, and subject to the
same conditions, based on the average bid price during the subject quarter.
The Company will not increase the salaries of any of its officers or make any
loan to any officer, director or shareholder for a period of twelve months.
Clark Holcomb retired 3,800,000 shares of Company common stock personally owned
by him in satisfaction of the Company's outstanding loan receivable from him in
the amount of $2,223,638.
From February to October 1995, the Company factored a substantial
portion of its accounts receivable to accelerate cash flow for operations. An
agreement with the factor was terminated in October 1995, and the Company
executed a promissory note for the sum of $750,000, or the aggregate unpaid
principal amount of advances up to the sum of $750,000, with interest payable
at 10% per annum on the outstanding balance, with a current shareholder. The
note plus interest is payable based upon 50% of net collections from product
sales with any remaining balance due in full on or before October 17, 1996.
The note is subject to a security agreement which covers all of the accounts
receivable, contract rights and inventory of the Company. As of April 30,
1996, the balance of principal and interest outstanding of this note was
$635,250.
As of April 30, 1996, the Company's working capital position increased
from a negative $1,315,263 at January 31, 1996 to a positive $684,105 at April
30, 1996. Increases in current assets include increases in cash of $1,499,044
and accounts receivable of $354,126, offset by a decrease in inventory of
$220,028 and a decrease in other assets of $8,212. Changes in current
liabilities include decreases in accounts payable of $444,479 and accrued
advertising of $28,439. Increases in current liabilities include commissions
payable of $65,133, accrued expenses of $2,467, and notes payable and loans
from stockholders of $30,880. Current assets increased a net of $1,624,930 and
current liabilities decreased a net of $374,438 for the three month period
ended April 30, 1996, primarily as a result of the private placement completed
in April 1996. Cash flows from operations of $803,145 were increased by
non-cash charges for depreciation and amortization of $63,585 and issuance of
common stock for advertising and other expenses of $15,000 and were reduced by
retirement of stock of $539,762 in connection with settlement of advertising
litigation.
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The Company currently has no firm commitments for material capital
expenditures. The Company does not anticipate that future compliance with
existing environmental and occupational safety regulations will have a
significant impact on its financial condition or future operating results.
The Company does not believe that general inflation would have a
material effect on its operations.
Included in the Notes to the Interim Financial Statements and in this
Item 2. Management's Discussion and Analysis or Plan of Operation are certain
forward-looking statements reflecting the Company's current expectations.
Although the Company believes that its expectations are based on reasonable
assumptions, there can be no assurance that the Company's financial goals or
expectations will be realized. Numerous factors may affect the Company's
actual results and may cause results to differ materially from those expressed
in forward-looking statements made by the Company.
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PART II. OTHER INFORMATION
Item 1. - Legal Proceedings:
The Company is involved in several legal actions. For a description of this
litigation and certain other pending legal matters involving the Company refer
to the Company's Form 10-QSB - Part I for the three months ended April 30, 1996
which are incorporated herein by reference.
Item 6. - Exhibits and Reports on Form 8-K:
(b) On February 21, 1996, the Company filed two reports on Form
8-K, both of which reported under Item 5 of such forms.
On April 2, 1996, the Company filed a report on Form 8-K which
reported under Item 5 of such form.
On April 17, 1996, the Company filed a report on Form 8-K
which reported under Items 6 and 7 of such form.
On April 17, 1996, the Company filed a report on Form 8-K
which reported under Items 4 and 7 of such form.
On April 23, 1996, the Company filed two reports on Form 8-K,
both of which reported under Item 5 of such forms.
(27) Financial Data Schedule (included only in EDGAR filing).
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SIGNATURES
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.
KCD HOLDINGS INCORPORATED
(Registrant)
Dated June 12, 1996 By: /s/ Wellington A. Ewen
Wellington A. Ewen
President
Pursuant to the requirements of Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ Wellington A. Ewen President, Chief Financial Officer, June 12, 1996
- - ---------------------------------- and Director
Wellington A. Ewen
/s/ Bonnie L. Richards Vice President, Secretary, and Director June 12, 1996
- - ----------------------------------
Bonnie L. Richards
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