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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended June 30, 2002
[ ] Transition Report Pursuant to 13 or 15(d) of the Securities Exchange Act
of 1934
For the transition period from __________ to __________
Commission file number 0-27839
EMPYREAN BIOSCIENCE, INC.
(EXACT NAME OF SMALL BUSINESS ISSUER AS SPECIFIED IN ITS CHARTER)
Delaware 86-0973095
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
23800 Commerce Park Road, Suite A, Cleveland, Ohio 44122
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
Issuer's telephone number (216) 360-7900
(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 [ ]
As of August 5, 2002, the registrant had 72,940,133 shares of common stock
outstanding.
Transitional Small Business Disclosure Format (Check one): Yes [ ] No [X]
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PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
EMPYREAN BIOSCIENCE, INC.
CONDENSED BALANCE SHEETS
(IN THOUSANDS EXCEPT SHARE AMOUNTS)
June 30, December 31,
2002 2001
-------- --------
(unaudited) (audited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 2 $ 106
Accounts receivable, net of reserves of $2 in 2002 and $23 in 2001 23 77
Prepaid expenses and current deferred financing costs 552 24
Inventory, net of reserves of $66 in 2002 and $51 in 2001 72 173
-------- --------
Total current assets 649 380
LONG-TERM ASSETS:
Long-term deferred financing costs 81 149
Equipment 11 17
-------- --------
Total assets $ 741 $ 546
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable $ 763 $ 767
Accrued compensation 908 516
Accrued sales promotion and advertising 40 67
Accrued interest 51 8
Accrued guarantee fees 1,000 --
Other accrued liabilities 103 42
Short-term debt 1,248 1,250
Short-term convertible notes, net of original issue discount of $4 71 --
Short-term portion of long-term convertible notes and debentures, net of
original issue discount of $10 279 --
-------- --------
Total current liabilities 4,463 2,650
LONG-TERM LIABILITIES:
Convertible notes and debentures, net of original issue discount of $20 in 819 1,142
2002 and $49 in 2001
STOCKHOLDERS' EQUITY (DEFICIT):
Preferred stock, authorized 10,000,000 shares, $.0001 par value -- --
Par value of common stock, authorized 90,000,000 shares, $.0001 par value;
issued and outstanding (2002: 71,364,392; 2001: 57,054,402) 7 6
Paid-in capital in excess of par value 34,597 34,437
Notes receivable from officers and directors (2,100) (2,235)
Accumulated deficit (37,045) (35,454)
-------- --------
Total stockholders' deficit (4,541) (3,246)
-------- --------
Total liabilities and stockholders' deficit $ 741 $ 546
======== ========
See accompanying notes to financial statements
1
EMPYREAN BIOSCIENCE, INC.
CONDENSED STATEMENTS OF OPERATIONS
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
----------------------- -----------------------
JUNE 30, JUNE 30, JUNE 30, JUNE 30,
2002 2001 2002 2001
-------- -------- -------- --------
Net revenues $ 11 $ 221 $ 15 $ 510
Cost of sales 2 86 100 241
-------- -------- -------- --------
Gross profit 9 135 (85) 269
Selling, general and administrative 410 597 871 1,762
-------- -------- -------- --------
Loss from operations (401) (462) (956) (1,493)
Interest expense (572) (554) (665) (620)
Interest income 4 15 9 25
Other, net (1) -- 21 (10)
-------- -------- -------- --------
Other income (expense) (569) (539) (635) (605)
-------- -------- -------- --------
Net loss $ (970) $ (1,001) $ (1,591) $ (2,098)
======== ======== ======== ========
Basic and diluted loss per share $ (0.01) $ (0.02) $ (0.02) $ (0.04)
======== ======== ======== ========
Weighted average number of shares
outstanding 70,134 49,207 64,964 48,104
======== ======== ======== ========
See accompanying notes to financial statements
2
EMPYREAN BIOSCIENCE, INC.
CONDENSED STATEMENT OF STOCKHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS)
(UNAUDITED)
Paid-In Notes
Common Stock Capital in Receivable
------------------------- Excess of from Officers/ Accumulated
Shares Par Value Par Value Directors Deficit Total
-------- -------- -------- --------- -------- --------
Balances, January 1, 2002 57,054 $ 6 $ 34,437 $ (2,235) $(35,454) $ (3,246)
Stock options and warrants 1,062 -- 36 -- -- 36
exercised with cash
Common stock issued upon 9,025 1 133 -- -- 134
conversion of principal and
interest of convertible notes and
debentures
Common stock issued for cash 4,285 -- 54 -- -- 54
Fair value of option and warrant -- -- 54 -- -- 54
grants
Common stock issued for trade 143 -- 3 -- -- 3
payables
Cancellation of shares and notes (205) -- (135) 135 -- --
Intrinsic value of conversion -- -- 15 -- -- 15
options in convertible notes and
debentures issued
Net loss -- -- -- -- (1,591) (1,591)
-------- -------- -------- -------- -------- --------
Balances, June 30, 2002 71,364 $ 7 $ 34,597 $ (2,100) $(37,045) $ (4,541)
======== ======== ======== ======== ======== ========
See accompanying notes to financial statements
3
EMPYREAN BIOSCIENCE, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
Six months ended
-----------------------
June 30, June 30,
2002 2001
------- -------
Cash flows from operating activities:
Net cash used by operating activities $ (326) $(1,693)
Cash flows from financing activities:
Issuance of common stock 54 51
Exercise of options and warrants for cash 36 --
Proceeds of short-term debt -- 798
Payments of short-term debt (2) --
Net proceeds of convertible notes and debentures 140 915
Payments of convertible notes and debentures (6) --
------- -------
Net cash provided by financing activities 222 1,764
------- -------
Net increase (decrease) in cash and cash equivalents (104) 71
Cash and cash equivalents at beginning of period 106 34
------- -------
Cash and cash equivalents at end of period $ 2 $ 105
======= =======
See accompanying notes to financial statements
4
EMPYREAN BIOSCIENCE, INC.
NOTES TO FINANCIAL STATEMENTS
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 1 - BASIS OF PRESENTATION
The financial information included herein for the three months and six
months ended June 30, 2002 and 2001, and the financial information as of
June 30, 2002, is unaudited. These financial statements have been prepared
in accordance with accounting principles generally accepted in the United
States of America ("US GAAP") for interim financial information and the
instructions to Rule 10-01 of Regulation S-X. Accordingly, they do not
include all of the information and footnotes required by US GAAP for
complete financial statements. However, such information reflects all
adjustments, consisting of normal recurring adjustments, which are, in the
opinion of management, necessary for the fair presentation of the financial
position, results of operations and cash flows for the interim periods. The
interim financial statements and the notes thereto should be read in
conjunction with the annual audited financial statements and footnotes
thereto included in the Company's Annual Report on Form 10-KSB for the year
ended December 31, 2001. The results of operations for the interim periods
presented are not necessarily indicative of the results to be expected for
the full year.
NOTE 2 - RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS
On January 1, 2002, the Company adopted the provisions of Emerging Issues
Task Force Issue No. 00-25. Accordingly, retail discounting and certain
sales incentives historically included in selling, general and
administrative expenses are now included as reductions to net sales. Prior
period amounts have been reclassified for comparative purposes. This change
had no impact on the Company's net loss.
NOTE 3 - GOING CONCERN
The accompanying financial statements have been prepared in conformity with
generally accepted accounting principles, which contemplate continuation of
the Company as a going concern. However, the Company has sustained
substantial losses from operations in recent years and has deficits in both
working capital and stockholders' equity.
As a result, recoverability of a major portion of the recorded asset
amounts shown in the accompanying balance sheet is dependent upon continued
operations of the Company, which in turn are dependent upon the Company's
ability to meet its financing requirements on a continuing basis and to
succeed in its future operations. The financial statements do not include
any adjustments relating to the recoverability and classification of
recorded asset amounts or amounts and classification of liabilities that
might be necessary should the Company be unable to continue in existence.
The Company does not have existing capital resources or credit lines
available that are sufficient to fund its operations and capital
requirements as presently planned over the next twelve months. In November
2000, the Company entered into a one-year, $1,000 revolving line of credit
from a bank, secured by the guarantees of several officers and directors
and their spouses, which guarantees in turn are secured by the assets of
the Company. This line of credit has been renewed several times, with the
most recent renewal in April 2002 being for a term of nine months.
In March 2001, the Company obtained an additional 120-day, $250 line of
credit from a bank, secured by the guarantee of a director and a company
wholly-owned by the director. This line of credit has been renewed several
times, with the most recent renewal in April 2002 being for an additional
nine-month term.
The Company is actively pursuing additional funds through the issuance of
either debt or equity instruments. However, such funds may not be available
on favorable terms or at all. In addition, the Company's ability to secure
new equity financing is limited by the absence of authorized shares of
common stock available for issuance. Stockholder approval to increase the
number of authorized shares of common stock is required before any new
equity financing can be raised. Given the generally difficult economic
climate and the Company's history of losses, management believes that
raising the additional equity or debt financing needed to fund ongoing
operations will be
5
EMPYREAN BIOSCIENCE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 3 - GOING CONCERN (CONTINUED)
difficult. The Company formerly had a relationship with Gruntal & Co. LLC
("Gruntal"), whose assets were subsequently acquired by Ryan, Beck & Co.,
LLC ("Ryan Beck"), to assist in pursuing a merger, strategic partnership,
acquisition or a sale of a portion or all of the Company. This relationship
terminated near coincident with the acquisition of Gruntal by Ryan Beck.
The Company is now utilizing the services of another investment bank to
assist in pursuing the same objectives. Absent these alternatives or an
infusion of working capital, it is unlikely that the Company will be able
to continue its business.
NOTE 4 - SHORT-TERM DEBT
In November 2000, the Company entered into a one-year, $1,000 revolving
line of credit with a bank, secured by the guarantees of several officers
and directors of the Company and their spouses, which in turn are secured
by the assets of the Company. In return for their guarantees, the Company
granted these officers and directors, collectively, 450 shares of the
Company's common stock with a fair value of $169, which was amortized over
the term of the loan agreement. In December 2001, this line of credit and
the guarantees were renewed for additional three-month terms, and in April
2002, this line of credit and the guarantees were renewed for additional
nine-month terms. As consideration for the extension of the guarantees, in
May 2002, the Company awarded the guarantors stock and cash compensation
totaling $800, all of which remains unpaid, which will be amortized over
the remaining term of the loan agreement. Borrowings under the line of
credit bear interest at a rate equal to the bank's prime rate plus 1/2%. As
of June 30, 2002, borrowings of $998 were outstanding under the line of
credit and the applicable interest rate was 5.25%.
In March 2001, the Company obtained an additional 120-day, $250 line of
credit from a bank, secured by the guarantees of a Company director and a
company wholly-owned by the director. As consideration for the guarantees,
the Company granted the director's wholly-owned company 113 shares of the
Company's common stock with a fair value of $39, which was amortized over
the term of the loan agreement. In July 2001, September 2001, December
2001, and April 2002, this bank line of credit and the guarantees were
extended for additional terms with the April 2002 extension being for a
nine-month term. As consideration for the extension of the guarantees in
July 2001, the Company granted the director's wholly-owned company 56
shares of the Company's common stock with a fair value of $13, which was
amortized over the term of the loan agreement. As consideration for
subsequent extensions of the guarantees, in May 2002, the Company awarded
the guarantors stock and cash compensation totaling $200, all of which
remains unpaid, which will be amortized over the remaining term of the loan
agreement. Borrowings under the line of credit bear interest at a rate
equal to the bank's prime rate plus 1%. As of June 30, 2002, borrowings of
$250 were outstanding under this line of credit and the applicable interest
rate was 5.75%.
NOTE 5 - CONVERTIBLE DEBT
In April 2001, the Company issued convertible debentures in an aggregate
principal amount of $40 to three unrelated investors. The debentures mature
in April 2006 and bear interest at a 4% annual rate. At the Company's
option, interest on the debentures is payable in cash or common stock at
maturity and the debentures are redeemable at any time for 125% of the
outstanding principal amount plus unpaid interest. At the option of the
holders, the debentures are convertible into common stock at a conversion
price equal to the lower of $0.434 or 80% of the average five lowest
closing bid prices of the common stock for the twenty trading days
immediately preceding the conversion date. In addition, the placement agent
for the transaction received a warrant to purchase 8 shares of common stock
at an exercise price of $0.468 with a fair value of $3. Issuance expenses
of $8 and the fair value of the warrant are being amortized over the term
of the debentures. The intrinsic value of the embedded conversion option,
valued at $18, was amortized over the three-month period prior to the date
that the debentures were first exercisable. In the quarter ended June 30,
2002, 333 shares of common stock were issued upon the conversion of $2 of
the principal of the note. At June 30, 2002, a principal amount of $17 and
accrued interest of $1 were outstanding under the debentures, which were
convertible into 3,799 shares of common stock.
6
EMPYREAN BIOSCIENCE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 5 - CONVERTIBLE DEBT (CONTINUED)
In June 2001, the Company issued a two-year, 8% $1,000 convertible note and
a warrant to purchase 333 shares of common stock at an exercise price of
$0.27 to an unrelated investor. Interest on the note is payable quarterly
in cash or common stock, at the option of the Company. At the option of the
investor, the note is convertible into common stock at a conversion price
equal to the lower of $0.1773 or 80% of the average of the three lowest
closing prices of the common stock for the sixty trading days immediately
preceding the conversion date. In March 2002, in conjunction with the
issuance of an additional convertible note, the conversion price on $29 of
the principal amount of the Note and the exercise price of the warrant were
reduced to $0.005. Two officers and directors of the Company and a company
wholly-owned by a third director pledged their beneficially owned holdings
of the Company's common stock as security for the Company's registration
obligations under a subscription agreement with the investor (which
registration obligations were subsequently fulfilled). As consideration for
the pledge of their shares, the Company granted the officers and directors
and one director's wholly-owned company an aggregate of 450 shares of the
Company's common stock with a fair value of $99. The share grants and other
issuance expenses totaling $218 and the fair value of the warrant of $71
are being amortized over the term of the note. The intrinsic value of the
embedded conversion option, valued at $425, was expensed in the quarter in
which the note was issued. In the quarter ended June 30, 2002, no shares of
common stock were issued pursuant to the conversion of principal or accrued
interest on the note. The Company is presently unable to make cash interest
payments and lacks an adequate number of authorized common shares to issue
stock in payment of interest. As a result, the Company has not remitted the
interest amount due as of June 30, 2002. At June 30, 2002, a principal
amount of $289 and accrued interest of $11 were outstanding under the note,
which were convertible into 62,501 shares of common stock.
In August 2001, the Company issued a two-year, 8% $250 convertible note and
a warrant to purchase 83 shares of common stock at an exercise price of
$0.236 to the same unrelated investor. Interest on the note is payable
quarterly in cash or common stock, at the option of the Company. At the
option of the investor, the note is convertible into common stock at a
conversion price equal to the lower of $0.1573 or 80% of the average of the
three lowest closing prices of the common stock for the sixty trading days
immediately preceding the conversion date. Issuance expenses totaling $31
and the fair value of the warrant of $13 are being amortized over the term
of the note. The intrinsic value of the embedded conversion option, valued
at $49, was expensed in the quarter ended September 30, 2001. The Company
is presently unable to make cash interest payments and lacks an adequate
number of authorized common shares to issue stock in payment of interest.
As a result, the Company has not remitted the interest amount due as of
June 30, 2002. At June 30, 2002, a principal amount of $250 and accrued
interest of $17 were outstanding under the note, which were convertible
into 54,258 shares of common stock.
In October 2001, the Company issued a two-year, 5% $250 convertible note
and a warrant to purchase 83 shares of common stock at an exercise price of
$0.123 to the same unrelated investor. Interest on the note is payable
quarterly in cash or common stock, at the option of the Company. At the
option of the investor, the note is convertible into common stock at a
conversion price equal to the lower of $0.08 or 80% of the average of the
three lowest closing prices of the common stock for the sixty trading days
immediately preceding the conversion date. The Company is also required to
use the proceeds of its customer accounts receivable to repay the note. In
February 2002, the Company ceased remitting funds received from its
customer accounts receivable and is presently not in compliance with that
provision of the note. Issuance expenses totaling $29 and the fair value of
the warrant of $8 are being amortized over the term of the note. The
intrinsic value of the embedded conversion option, valued at $86, was
expensed in the quarter ended December 31, 2001. The Company is presently
unable to make cash interest payments and lacks an adequate number of
authorized common shares to issue stock in payment of interest. As a
result, the Company has not remitted the interest amount due as of June 30,
2002. At June 30, 2002, a principal amount of $174 and accrued interest of
$4 were outstanding under the note, which were convertible into 37,009
shares of common stock.
7
EMPYREAN BIOSCIENCE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 5 - CONVERTIBLE DEBT (CONTINUED)
In November 2001, the Company issued a two-year, 5% $136 convertible note
and a warrant to purchase 45 shares of common stock at an exercise price of
$0.224 to the same unrelated investor. Interest on the note is payable
quarterly in cash or common stock, at the option of the Company. At the
option of the investor, the note is convertible into common stock at a
conversion price equal to the lower of $0.0813 or 80% of the average of the
three lowest closing prices of the common stock for the sixty trading days
immediately preceding the conversion date. The Company is also required to
use the proceeds of certain customer accounts receivable to repay the note.
Issuance expenses totaling $16 and the fair value of the warrant of $7 are
being amortized over the term of the note. The intrinsic value of the
embedded conversion option, valued at $155, was expensed in the quarter
ended December 31, 2001. The Company is presently unable to make cash
interest payments and lacks an adequate number of authorized common shares
to issue stock in payment of interest. As a result, the Company has not
remitted the interest amount due as of June 30, 2002. At June 30, 2002, a
principal amount of $122 and accrued interest of $3 were outstanding under
the note, which were convertible into 26,076 shares of common stock.
In December 2001, the Company issued a two-year, 5% $200 convertible note
and a warrant to purchase 67 shares of common stock at an exercise price of
$0.101 to the same unrelated investor. Interest on the note is payable
quarterly in cash or common stock, at the option of the Company. At the
option of the investor, the note is convertible into common stock at a
conversion price equal to the lower of $0.0660 or 80% of the average of the
three lowest closing prices of the common stock for the sixty trading days
immediately preceding the conversion date. Issuance expenses totaling $22
and the fair value of the warrant of $5 are being amortized over the term
of the note. The intrinsic value of the embedded conversion option, valued
at $57, was expensed in the quarter ended December 31, 2001. The Company is
presently unable to make cash interest payments and lacks an adequate
number of authorized common shares to issue stock in payment of interest.
As a result, the Company has not remitted the interest amounts due as of
June 30, 2002. At June 30, 2002, a principal amount of $200 and accrued
interest of $5 were outstanding under the note, which were convertible into
42,774 shares of common stock.
In March 2002, the Company issued a two-year, 5% $75 convertible note to
the same unrelated investor. Interest on the note is payable quarterly in
cash or common stock, at the option of the Company. At the option of the
investor, the note is convertible into common stock at a conversion price
equal to the lower of $0.0216 or 80% of the average of the three lowest
closing prices of the common stock for the sixty trading days immediately
preceding the conversion date. Issuance expenses totaling $10 and the
intrinsic value of the embedded conversion option, valued at $15 are being
amortized over the term of the note. The Company is presently unable to
make cash interest payments and lacks an adequate number of authorized
common shares to issue stock in payment of interest. As a result, the
Company has not remitted the interest amount due as of June 30, 2002. At
June 30, 2002, a principal amount of $75 and accrued interest of $1 were
outstanding under the note, which were convertible into 15,826 shares of
common stock.
In May 2002, the Company issued convertible notes in an aggregate principal
amount of $75 and warrants to purchase 750 shares of common stock at an
exercise price of $0.0099 to two unrelated investors. The notes mature six
months from the date of issuance and bear interest at a 10% annual rate.
Additionally, if a transaction for the sale of the Company or its assets is
completed prior to the maturity date of the notes, the holders will receive
bonus interest totaling $38. At the option of the investors, the notes are
convertible at maturity into common stock at a conversion price of $0.0099.
The fair value of the warrants of $5 is being amortized over the term of
the notes. At June 30, 2002, a principal amount of $75 and accrued interest
of $1 were outstanding under the notes.
The Company presently does not have a sufficient number of authorized but
unissued shares of common stock available to reserve for shares it may be
required to issue upon the conversion of its outstanding convertible notes
and debentures and its warrants and options. In April 2002, the holder of
six of the notes waived its requirement that the Company reserve from its
authorized but unissued shares of common stock that number of shares which
would be
8
EMPYREAN BIOSCIENCE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 5 - CONVERTIBLE DEBT (CONTINUED)
necessary to enable the holder to convert each of its notes at the then
applicable conversion price and the warrants at their then applicable
exercise price with the exception of those shares that are registered under
the Company's Registration Statement on Form SB-2 which was declared
effective July 3, 2001 but remain unissued. This waiver was granted solely
for the purpose of permitting the Company to issue shares of stock to
certain officers and directors to allow them to make further investments in
the Company that will help the Company's cash situation. The waiver expires
upon the earlier of (i) 90 days from the grant of the waiver, (ii) approval
by the Company's stockholders of an increase in the number of authorized
shares of common stock, or (iii) a reverse split of the Company's common
stock, the effect of which (ii) or (iii) would permit the Company to
reserve the required number of shares of common stock. At June 30, 2002,
238,722 shares of common stock issuable upon the conversion of principal
and interest on convertible notes and warrants were exempted from
reservation by this waiver.
The shares issuable upon the conversion of the notes and debentures were
not included in the computation of diluted loss per share for the periods
presented because to do so would have been antidilutive.
NOTE 6 - LEGAL PROCEEDINGS
The Company is a defendant in an action that was filed by Optima Holding
Co., Ltd. and Mercury Technology Corp. on July 28, 1998 in the Circuit
Court of the Eleventh Judicial District, Dade County, Florida. This action
alleges that the Company tortiously interfered with Optima and Mercury's
contractual relationship with International Bioscience Corporation ("IBC").
Optima and Mercury claim that they had prior rights to the IBC formulation
and products and that the Company induced IBC to breach that agreement.
Optima and Mercury have requested an unspecified amount of damages against
the Company. In two separate actions that have now been consolidated with
the first action in the same court, IBC has requested a declaratory
judgment that IBC properly terminated its development and distribution
contract with Optima and Mercury, and IBC sued various individuals of
Optima and/or Mercury for fraudulent inducement and civil theft. Optima and
Mercury also seek injunctive relief to prevent IBC and its managers and
directors from allowing IBC to have further dealings with the Company. If
the Company is not successful in this action, it could lose the right to
market, sell or manufacture its hand sanitizer and first-aid antiseptic
lotion and towelette products and other products currently under
development. Should any court judgment be entered precluding the Company's
rights to the products, IBC has agreed to secure its obligations to the
Company by granting it the highest priority perfected security interest IBC
is permitted to assign in IBC's rights in commercializing the products in
the United States.
The Company is also a defendant in an action that was filed by Kaye,
Scholer LLP, the Company's former legal counsel, on October 24, 2001 in the
Supreme Court of the State of New York, County of New York. The action
alleges that the Company breached a contract and seeks damages of
approximately $93 plus interest and attorneys fees. The Company is
presently engaged in settlement discussions with the plaintiff.
The Company is the plaintiff in an action that was filed against The
Coleman Company, Inc. on December 27, 2001 in the United States District
Court, Northern District of Ohio, Eastern Division to recover damages in an
unspecified amount caused by Coleman's actions in disparaging the Company's
business and tortiously interfering with its current and prospective
business relationships and contracts. In its complaint, the Company alleges
that Coleman has attempted to take business away from the Company by
directly approaching its customers, making false statements about it and
the status of its license, and offering to sell directly to those
customers, bypassing the Company. In addition, the complaint alleges that
Coleman and its agents have unreasonably delayed in providing approvals to
the Company for packaging and labeling associated with the products for the
2002 sales program. In light of the damages the Company incurred as a
result of Coleman's actions, the Company withheld the $80 final payment of
the annual minimum royalty for 2001. In response, Coleman served notice to
the Company in January 2002 that the license agreement was being terminated
and the Company has halted sales of Coleman(R) branded product. Coleman
also filed
9
EMPYREAN BIOSCIENCE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 6 - LEGAL PROCEEDINGS (CONTINUED)
motions to dismiss the Company's complaint and in lieu of dismissal, to
transfer the venue of the case to the North District of Kansas. In April
2002, the court refused to dismiss the case but granted the motion to
transfer venue. In addition, in March 2002, Coleman filed a complaint
against the Company in District Court, The Eighteenth Judicial District,
Sedgwick County, Kansas, Civil Department, seeking payment of the remaining
annual minimum royalty for 2001 and claiming damage to its business
relations resulting from alleged false and injurious statements made by the
Company to others regarding Coleman.
The Company and seven of its directors and officers and former directors
and officers are defendants in a class action lawsuit filed in United
States District Court, Northern District of Ohio on July 24, 2002 alleging
violations of securities laws. The Company believes the suit is without
merit and will defend itself vigorously.
NOTE 7 - STOCKHOLDERS' EQUITY
The Company's authorized preferred stock consists of 10,000 shares, $.0001
par value. No preferred stock has been issued.
The Company has granted options to purchase common stock to employees,
officers, directors, lenders, and persons providing services to the
Company. The Company has also granted warrants to lenders, investors, and
service providers. For options granted to non-employees, the Company
recognizes consulting or interest expense equal to the fair value of the
options. At June 30, 2002, 6,787 options and warrants were exercisable at a
weighted average price of $0.36 per share.
A summary of the status of stock options and warrants as of June 30, 2002,
and changes during the six months ended on that date is presented below.
OPTIONS WARRANTS
--------------------------------- -----------------------------------
WEIGHTED WEIGHTED
AVERAGE AVERAGE
EXERCISE EXERCISE
NUMBER PRICE NUMBER PRICE
------ ----- ------ -----
Outstanding at January 1, 2002 7,126 $ .61 2,139 $ .14
Granted 150 .05 1,250 .02
Exercised (500) .01 (562) .05
Expired (1,670) .66 (1,094) .43
-------------- ------ --------------- ------
Outstanding at June 30, 2002 5,056 $ .46 1,733 $ .04
============= ====== ============== ======
Stock options and warrants were not included in the computation of diluted
loss per share for the periods presented because to do so would have been
antidilutive.
10
EMPYREAN BIOSCIENCE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 8 - REVENUES
Net revenues are comprised of the following:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30,
--------------------------- -------------------------
2002 2001 2002 2001
---- ---- ---- ----
Product sales 11 121 15 410
Distribution rights - 100 - 100
----- ---- ----- ----
Net revenues 11 221 15 510
NOTE 9 - LICENSES AND ROYALTIES
The Company entered into an agreement on August 9, 2000 with International
Bioscience Corporation (IBC), whereby the Company obtained the exclusive
marketing and distribution rights in the United States for a 10-year period
to a microbicide formulation developed by IBC. The formulation prevents the
transmission of infectious diseases through bodily contact. The license
agreement provides for royalty payments equal to 5% of net sales of the
licensed products in the United States with no annual minimum royalty
payment. Rights to the IBC formulation in Brazil are retained by IBC. IBC
will pay a royalty of 5% of net sales of the IBC products in Brazil to the
Company. Rights to the IBC formulation outside of the United States and
Brazil are licensed to a joint venture company owned 50/50 by Empyrean and
IBC. No royalty payments are required to be paid by the joint venture to
IBC or the Company under the terms of the joint venture agreement.
The Company's license of the marketing and distribution rights to the IBC
formulation is subject to litigation (see Note 6).
In 1998, the Company obtained license distribution and manufacturing rights
from third parties related to the IBC products. In consideration for these
rights, the Company paid $50 in cash and issued 325 shares of common stock
valued at $223. The Company is required to pay a royalty equal to 5% of the
net revenues of certain products that contain the IBC formulation in lotion
form or derivative hand or body lotion-type products.
In 1999, the Company purchased the distribution rights from a third party
to sell the IBC products in Canada. In consideration for these rights, the
Company issued 100 shares of common stock valued at $70 and is required to
pay a royalty equal to 5% of its net sales in Canada for certain products
that contain the IBC formulation.
On October 1, 1999, the Company entered into a non-exclusive license
agreement with The Coleman Company, Inc. which allowed the Company to use
the Coleman(R) trademark in connection with the sale and distribution,
throughout the United States and Canada, of certain of its products,
including its hand sanitizer and first aid antiseptic, sanitizing wet
wipes, disinfectant surface spray and sanitizing baby wipes. The license
was to expire on December 31, 2002 and could have been renewed until
December 31, 2005 if the Company met the renewal terms under the agreement.
For the period January 1, 2001 through December 31, 2002 the Company was
required to pay 7% of net sales subject to minimum royalties of $110 in
2001 and $220 in 2002.
In December 2001, the Company filed a complaint against The Coleman
Company, Inc. in the United States District Court for the Northern District
of Ohio, Eastern Division, to recover damages caused by Coleman's actions
in disparaging the Company's business and tortiously interfering with its
current and prospective business relationships and contracts. In April
2002, the court granted a motion by Coleman to transfer the case to the
North District of Kansas. In its complaint, the Company alleges that
Coleman has attempted to take business away from it by directly approaching
its customers, making false statements about the Company and the status of
its license, and offering to sell directly to those customers, bypassing
the Company. In addition, the complaint alleges that Coleman and its agents
have unreasonably delayed in providing approvals to the Company for
packaging and labeling associated with
11
EMPYREAN BIOSCIENCE, INC.
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
NOTE 9 - LICENSES AND ROYALTIES (CONTINUED)
the products for the 2002 sales program. In light of the damages the
Company incurred as a result of Coleman's actions, the Company withheld the
final $80 payment of the annual minimum royalties for 2001. In response,
Coleman served notice to the Company in January 2002 that the license
agreement was being terminated as a result of failure to timely pay the
annual minimum royalties. The Company has halted all sales of Coleman(R)
branded products while litigation continues (see Note 6).
NOTE 10 - CASH FLOW STATEMENT
During the first six months of 2002, the Company entered into the
following non-cash transactions:
- The Company issued 9,025 shares of common stock to investors upon
the conversion of $133 of the principal of, and $1 of accrued
interest on, convertible notes and debentures.
- The Company granted options and warrants to purchase 1,400 shares of
common stock, valued at $25, to two consultants in compensation for
services provided for the Company and two investors in conjunction
with the issuance of convertible debt. Additionally, the Company
recognized an expense of $29 related to the repricing of stock
options previously granted to certain employees. The option exercise
price was reduced to a current market price as a means of raising
capital for the Company.
- The Company issued 143 shares of common stock, valued at $3, to a
two vendors for the conversion of trade accounts payable to common
stock.
NOTE 11 - RELATED PARTY TRANSACTIONS
During 2001, the Company made non-recourse loans totaling $2,344 to six
officers and directors for the exercise of options and warrants to purchase
4,845 shares of common stock. The loans bear interest at rates of 5.48% or
5.78%, are secured by the common stock acquired, and have maturities
ranging from December 2001 through February 2006. During 2001, three
officers and directors surrendered 219 shares of common stock in full
satisfaction of maturing loans totaling $109 principal amount. During the
first six months of 2002, three officers and directors surrendered 205
shares of common stock in full satisfaction of maturing loans totaling $135
principal amount.
During 2000, the Company entered into a one-year, $1,000 revolving line of
credit with a bank, secured by the guarantees of three officers and
directors and their spouses, which in turn are secured by the assets of the
Company. In return for their guarantees, the Company granted these officers
and directors, collectively, 450 shares of the Company's common stock with
a fair value of $169, which was amortized over the initial term of the loan
agreement. The loan agreement and the guarantees have been renewed twice
and have a current expiration date of January 2003. In May 2002, the
Company awarded the guarantors stock and cash compensation totaling $800 in
consideration for the renewal of their guarantees, all of which remains
unpaid and which is being amortized over the remaining term of the loan
agreement.
During 2001, the Company obtained an additional 120-day, $250 line of
credit from a bank, secured by the guarantees of a Company director and a
company wholly-owned by the director. As consideration for the guarantees,
the Company granted the director's wholly-owned company 113 shares of the
Company's common stock with a fair value of $39, which was amortized over
the initial term of the loan agreement. The loan agreement and the
guarantees have been renewed four times and have a current expiration date
of January 2003. In July 2001, the Company granted the director's
wholly-owned company 56 shares of the Company's common stock with a fair
value of $13, which was amortized over the term of the then-current loan
agreement. As consideration for subsequent extensions of the guarantees, in
May 2002, the Company awarded the guarantors stock and cash compensation
totaling $200, all of which remains unpaid and which is being amortized
over the remaining term of the loan agreement.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
SPECIAL NOTE CONCERNING FORWARD LOOKING STATEMENTS
This Form 10-QSB, including the notes to the condensed financial
statements and this "Management's Discussion and Analysis of Financial Condition
and Results of Operations," contains forward looking statements. We may make
additional written and oral forward looking statements from time to time in
filings with the U.S. Securities and Exchange Commission, in our press releases,
or otherwise. The words "believe," "expect," "anticipate," "intends,"
"forecast," "project," "plan," and similar expressions identify forward looking
statements. These statements may include, but are not limited to, the
anticipated outcome of contingent events, including litigation, regulatory
proceedings or rulemaking, projections of revenues, income, loss, or capital
expenditures, plans for future operations, growth and acquisitions, financing
needs or plans and the availability of financing, and plans relating to products
or product development as well as assumptions relating to the above subjects.
Forward looking statements reflect our current views concerning future
events and financial performance and speak only as of the date the statements
are made. We expressly disclaim a duty to update any of the forward looking
statements contained herein. These forward looking statements are subject to
risks and uncertainties, some of which cannot be predicted or quantified, that
could cause actual results to differ materially from those set forth in,
contemplated by, or underlying the forward looking statements. Statements in
this Form 10-QSB, including the notes to the financial statements and this
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," describe factors, among others, that could contribute to or cause
such differences. Such factors include, among other factors, changes in external
competitive market factors or in our internal budgeting process which might
impact trends in our results of operations, unanticipated working capital or
other cash requirements, changes in our business strategy or an inability to
execute our strategy due to unanticipated changes in the industries in which we
operate, the acceptability and success of existing and potential products in the
marketplace, the ability to obtain sufficient capital to fund operations and the
outcome of potential litigation.
The following discussion and analysis provides information regarding
our financial condition and results of operations for the periods shown. This
discussion should be read in conjunction with our Unaudited Condensed Financial
Statements and related Notes thereto included elsewhere in this document.
INTRODUCTION
Limited revenues and substantial start-up costs associated with
introducing our new line of preventative products have significantly and
adversely affected our current financial condition and operations. We have had
limited revenues and have sustained substantial losses from operations in recent
years and have a deficit in both working capital and stockholders' equity.
We incurred net losses in 2000, 2001 and the first six months of 2002
and expect to incur net losses at least through 2002. We expect operations to
generate negative cash flow at least through 2002 and we do not have existing
capital resources or credit lines available that are sufficient to fund our
operations and capital requirements as presently planned over the next twelve
months. Our ability to raise capital to fund our business is further constrained
by the absence of authorized but unissued or unreserved shares of our common
stock and restrictions on issuance of stock contained in our agreements with a
significant holder of our convertible notes.
We formerly had a relationship with Gruntal & Co. LLC ("Gruntal"),
whose assets were subsequently acquired by Ryan, Beck & Co., LLC ("Ryan Beck"),
to assist in pursuing a merger, strategic partnership, acquisition or a sale of
a portion or all of our stock or assets. This relationship terminated near
coincident with the acquisition of Gruntal by Ryan Beck. We are now utilizing
the services of another investment bank to assist in pursuing the same
objectives. Absent these alternatives or an infusion of working capital, it is
unlikely that we will be able to continue our business.
These factors raise doubts about our ability to continue as a going
concern and our audit report in our annual report on Form 10-KSB for the year
ended December 31, 2001, filed with the SEC on April 16, 2002, contained an
explanatory paragraph with respect to this matter.
13
OUR COMPANY
In 1998, we acquired certain rights to use a microbicide formulation
from International Bioscience Corporation. We market, sell and distribute
innovative personal care products that are intended to prevent the spread of
infectious disease. The products in our complete germ protection program, which
include a hand sanitizer and first-aid antiseptic lotion and antibacterial
towelettes, are sold over-the-counter in the retail markets and also to
commercial, industrial, institutional and military customers. The hand sanitizer
and first-aid antiseptic lotion as well as the antibacterial towelettes are
based on a formulation developed and licensed to us by IBC and are marketed
under the Preventx(R) brand, and were formerly marketed under the Coleman(R)
with Advanced Preventx(R) brand to the sporting goods, outdoor/recreational
market niche. In addition, we marketed the Coleman(R) Antibacterial Surface
Disinfectant Cleaner as an expansion of our infectious disease prevention
product offering. Sales of all Coleman(R) branded products have been halted
following our receipt of a notice of termination of the license agreement by
Coleman in conjunction with ongoing litigation in January 2002. In accordance
with our agreements with IBC, worldwide new product development responsibility
is vested in the joint venture with IBC. Our marketing personnel and IBC's
scientific personnel comprise a New Product Development Board that coordinates
all new product development activities. IBC has developed formulations similar
to the one used in our hand sanitizer and first-aid antiseptic that can be
utilized to market a variety of other products if appropriate regulatory
approvals are obtained. These products include the GEDA(R) Plus microbicidal
contraceptive gel designed to prevent pregnancy and sexually transmitted
diseases ("STDs"), a disinfectant surface spray to be marketed to retail markets
and also to the food service, hotel and other industries, and a baby wipe
product.
We believe that the preventative formula licensed from IBC will be
shown to be both safer and more effective as a microbicide than existing
competitive products in the market and offers us a platform to leverage our
expertise into other areas of the infectious disease market. Because of
potential synergies with its other efforts and its commitment to expend up to
$10,000,000, if necessary, to secure approval from the United States Food and
Drug Administration ("FDA") for the GEDA(R) Plus microbicidal contraceptive gel,
IBC has been handling regulatory compliance on our behalf in the United States
since 2000. IBC has informed us that it has commenced the process to obtain an
Investigative New Drug ("IND") number from the FDA for the GEDA(R) Plus
microbicidal contraceptive gel. An IND number will enable IBC to commence
testing that will be recognized by the FDA. The gel must undergo clinical trials
and obtain regulatory approval prior to marketing. The gel will be tested to
determine its effectiveness in preventing HIV as well as other STDs, all of
which have different rates of transmission as well as different gestation
periods for infection within the human body. As a result, IBC anticipates the
clinical trials for some STDs will require a minimum of six months while
clinical trials for other STDs such as HIV will require at least 18 months from
the receipt of the IND number. In December 2000, we announced the initiation of
clinical trials for the GEDA(R) Plus microbicidal contraceptive gel by IBC in
Brazil.
We are presently investigating the status of IBC's progress with the
FDA and the Brazilian clinical trials and evaluating changes that may be needed
with respect to the allocation of regulatory responsibilities. In December 2001,
we announced that PARAXEL International Corporation, which had at one time been
retained by IBC to conduct the Brazilian clinical trials, informed us that it
was no longer involved in the project. We subsequently announced that we were
informed by IBC that progress had been made with the pre-IND application with
the FDA but that additional funding is required for the clinical trials in
Brazil. Except to the extent that the results of the Brazilian clinical trials
might be recognized by the FDA to advance the U.S. regulatory approval, the
status of the Brazilian clinical trials does not directly affect us because
Brazil is outside of our licensed sales territory. If, however, IBC is unable to
secure an IND number from the FDA, it may be necessary for IBC to seek a partner
or acquirer to provide the necessary funding or expertise or for us to assume
greater responsibility for obtaining the regulatory approvals.
The limited revenues and substantial start-up costs associated with
introducing our new line of preventative products have significantly affected
our current financial condition and operations. We have had limited revenues and
have sustained substantial losses from operations in recent years and have a
deficit in both working capital and stockholders' equity. The Company formerly
had a relationship with Gruntal & Co. LLC ("Gruntal"), whose assets were
subsequently acquired by Ryan, Beck & Co., LLC ("Ryan Beck"), to assist in
pursuing a merger, strategic partnership, acquisition or a sale of a portion or
all of the Company. This relationship terminated near coincident with the
acquisition of Gruntal by Ryan Beck. The Company is now utilizing the services
of another investment bank to assist in pursuing the same objectives. Absent
these alternatives or an infusion of working capital, it is unlikely that we
will be able to continue our business.
14
We incurred net losses in 2000, 2001 and the first six months of 2002
and expect to incur net losses at least through 2002. We expect operations to
generate negative cash flow at least through 2002 and we do not have existing
capital resources or credit lines available that are sufficient to fund our
operations and capital requirements as presently planned over the next twelve
months. Our ability to raise capital to fund our business is further constrained
by the absence of authorized but unissued or unreserved shares of our common
stock and restrictions on issuance of stock contained in our agreements with a
significant holder of our convertible notes. These factors raise doubts about
our ability to continue as a going concern and our audit report in our annual
report on Form 10-KSB for the year ended December 31, 2001, filed with the SEC
on April 16, 2002, contained an explanatory paragraph with respect to this
matter.
We expect to generate substantially all of our revenues in the future
from sales of our current line of Preventx(R) preventative products as well as
additional preventative products that we can market utilizing IBC formulations
similar to the one used in our hand sanitizer and first-aid antiseptic and other
third-party formulations. However, our limited financial resources have
prevented us from aggressively advertising our products to achieve consumer
recognition and consequently some of the retail customers we have acquired have
discontinued stocking our current line of preventative products. We have lost
additional customers as a result of our cessation of sales of Coleman(R) branded
products related to our litigation with that licensor. In addition, given the
status of their regulatory approvals, we do not anticipate having any additional
preventative products that we can market in 2002 using IBC formulations similar
to the one used in our hand sanitizer and first-aid antiseptic.
In addition to cost of goods sold, which we expect to vary somewhat
proportionately with sales over time, significant cost and expense items include
salaries and benefits, interest expense, royalties, office and administration,
advertising, consulting fees, and legal and accounting, all of which, in total,
significantly exceeded our total revenues for 2001 and the first six months of
2002. Accordingly, we do not believe comparing costs as a percentage of revenues
from year to year is meaningful.
CRITICAL ACCOUNTING POLICIES
For a complete review of our significant accounting policies that may
impact the Company's results refer to Note 1 of the Notes to Financial
Statements contained in our annual report on Form 10-KSB for the year ended
December 31, 2001, filed with the SEC on April 16, 2002. Of these policies, the
most critical to management is the recognition of revenue. We recognize product
sales upon shipment and when collectability of the amount is probable.
Consignment sales revenue is recognized when payment is received from the
customer. Revenue from distribution rights is recognized when we have performed
all of our obligations under the agreement and the fee has been received or
collectability is probable. Our return policy requires either a negotiated
return allowance that is applied as a percentage of all sales in lieu of actual
returns, or written authorization from us. Where allowance agreements are in
place, the allowance is recognized upon shipment. Where written authorization is
required, returns are recorded on an actual basis.
RESULTS OF OPERATIONS
COMPARISON OF THREE MONTHS ENDED JUNE 30, 2002 AND 2001
Our total revenues in the three months ended June 30, 2002 totaled
$11,000 compared with $221,000 in the three months ended June 30, 2001. Revenues
in the three months ended June 30, 2002 consisted entirely of product sales and
included a $5,000 reduction in a reserve for estimated discounts and product
returns related to a negotiated agreement with Walgreen Co. in conjunction with
its decision to discontinue selling our products in 2002. Revenues in the three
months ended June 30, 2001 included distribution rights revenue of $100,000 and
product sales of $121,000. Our limited financial resources have forced us to
curtail our advertising and promotional campaign, and as a consequence, consumer
awareness and demand have not grown and several large retailers have ceased
stocking our products. In addition, our sales have declined as a result of our
discontinuation of Coleman(R) branded product sales.
Our gross margin from product sales, excluding the adjustment for
Walgreen Co. mentioned above, increased to 32% in the quarter ended June 30,
2002 from 30% in the quarter ended June 30, 2001. The increase was the result of
a change in customer mix, offset somewhat by higher slotting fees relative to
total sales. The margin on sales to some of the large retail customers that
purchased from us in the prior year's quarter was lower than the margin on sales
to the smaller customers that purchased from us in the current quarter.
Additionally, our cost of sales includes inventory adjustments and reserves for
surplus inventory of $13,000 in the quarter ended June 30, 2002 compared to $1
in the quarter ended June 30,
15
2001 and a credit related to an adjustment for estimated returns from Walgreen
Co. of $21,000 in the quarter ended June 30, 2002 compared to $0 in the quarter
ended June 30, 2001.
Selling, general, and administrative expenses decreased to $410,000 in
the three months ended June 30, 2002 from $597,000 in the three months ended
June 30, 2001 primarily due to the following:
- - Sales promotion and advertising expenses declined to $12,000 in the
quarter ended June 30, 2002 from $293,000 in the quarter ended June 30,
2001. The prior year quarter included significant expenditures related to
a change in our public relations agency, radio advertisement, advertising
promotions involving new customers, and sales commissions that were not
repeated in the current year quarter.
- - Salaries and benefits decreased to $292,000 in the quarter ended June 30,
2002 from $395,000 in the quarter ended June 30, 2001 as a result of a
reduction in staffing.
- - Freight and distribution expenses were $0 in the quarter ended June 30,
2002 compared to $73,000 in the quarter ended June 30, 2001 because of
lower shipping volume in the current quarter as compared to the prior
quarter and the insourcing of shipping activities that were previously
performed by a third party.
- - General administrative and professional service fees declined to $106,000
in the quarter ended June 30, 2002 from $167,000 in the quarter ended June
30, 2001. General office expenses declined as a result of a reduction in
the number of employees, and legal and audit expenses declined as a result
of reduced activities related to financing transactions and registration
statements.
- - Royalty expense was $0 in the quarter ended June 30, 2002 compared to
$41,000 in the quarter ended June 30, 2001. No royalties were payable for
the second quarter of 2002 because royalties payable on net sales of
licensed products sold in the quarter were completely offset by the
Walgreen Co. product discontinuation accrued in the first quarter of 2002
and because the minimum royalties under our license agreement with The
Coleman Company, Inc. were eliminated with the termination of the
agreement in January 2002. Minimum royalties related to the license with
The Coleman Company, Inc. were $28,000 in the quarter ended June 30, 2001.
- - A litigation settlement gain $371,000 was recognized in the quarter ended
June 30, 2001 related to the settlement of a lawsuit at a cost lower than
the amount accrued. No such gain was recognized in the quarter ended June
30, 2002.
Interest expense increased to $572,000 in the three months ended June
30, 2002 from $554,000 in the three months ended June 30, 2001 because of an
increase in the level of our debt and an increase in amortized financing costs.
Interest expense resulting from the amortization of financing costs and the
recognition of non-cash interest expense resulting from the intrinsic value of
conversion options embedded in convertible debt was $530,000 in the quarter
ended June 30, 2002 compared to $522,000 in the quarter ended June 30, 2001.
Interest on convertible debt and bank lines of credit was $43,000 in the quarter
ended June 30, 2002 compared to $32,000 in the quarter ended June 30, 2001.
We incurred a net loss in the three months ended June 30, 2002 of
$970,000 compared to a net loss of $1,001,000 in the three months ended June 30,
2001. The losses in the second quarters of 2002 and 2001 were due primarily to
limited revenues that were substantially exceeded by our costs of operations.
Our net loss per share was $0.01 for the three months ended June 30, 2002 and
$0.02 for the three months ended June 30, 2001. The loss per share declined as a
result of the factors affecting net loss as discussed above, and because of an
increase in the weighted average number of shares outstanding to 70,134,000 in
the three months ended June 30, 2002 from 49,207,000 in the three months ended
June 30, 2001.
COMPARISON OF SIX MONTHS ENDED JUNE 30, 2002 AND 2001
Our total revenues in the six months ended June 30, 2002 totaled
$15,000 compared with $510,000 in the six months ended June 30, 2001. Revenues
in the six months ended June 30, 2002 consisted entirely of product sales and
included a $55,000 reduction in revenue for actual and estimated product returns
related to a negotiated agreement with
16
Walgreen Co. in conjunction with its decision to discontinue selling our
products in 2002. Revenues in the six months ended June 30, 2001 included
distribution rights revenue of $100,000 and product sales of $410,000. Our
limited financial resources have forced us to curtail our advertising and
promotional campaign, and as a consequence, consumer awareness and demand have
not grown as anticipated and several large retailers have ceased stocking our
products. In addition, our sales have declined as a result of our
discontinuation of Coleman(R) branded product sales stemming from our litigation
with The Coleman Company Inc.
Our gross margin from product sales decreased to 29% in the six months
ended June 30, 2002 from 41% in the six months ended June 30, 2001. The decrease
was the result of higher slotting fees and sales discounts relative to total
sales. Additionally, our cost of sales includes inventory adjustments and
reserves for surplus inventory of $75,000 in the six months ended June 30, 2002
compared to $0 in the quarter ended June 30, 2001.
Selling, general, and administrative expenses decreased to $871,000 in
the six months ended June 30, 2002 from $1,762,000 in the six months ended June
30, 2001 primarily due to the following:
- - Sales promotion and advertising expenses declined to $59,000 in the six
months ended June 30, 2002 from $455,000 in the six months ended June 30,
2001. The prior year period included significant expenditures related to a
change in our public relations agency, radio advertisement, advertising
and promotional displays involving new customers, and sales commissions
that were not repeated in the current year period.
- - Salaries and benefits decreased to $558,000 in the six months ended June
30, 2002 from $758,000 in the six months ended June 30, 2001 as a result
of a reduction in staffing.
- - Freight and distribution expenses were $0 in the six months ended June 30,
2002 compared to $94,000 in the six months ended June 30, 2001 because of
lower shipping volume in the current period as compared to the prior
period and the insourcing of shipping activities that were previously
performed by a third party.
- - General administrative and professional service fees declined to $255,000
in the six months ended June 30, 2002 from $732,000 in the six months
ended June 30, 2001. General office expenses declined as a result of a
reduction in the number of employees and legal and audit expenses declined
as a result of reduced activities related to financing transactions and
registration statements. Additionally, costs related to professional and
consulting services declined due to lower expense related to stock and
stock options granted to consultants.
- - Royalty expense was $0 in the six months ended June 30, 2002 compared to
$94,000 in the six months ended June 30, 2001. No royalties were payable
for the first half of 2002 because net sales of licensed products on which
royalties are payable were negative during the period and because the
minimum royalties under our license agreement with The Coleman Company,
Inc. were eliminated with the termination of the agreement in January
2002. Minimum royalties related to the license with The Coleman Company,
Inc. were $55,000 in the six months ended June 30, 2001.
- - A litigation settlement gain of $371,000 was recognized in the six months
ended June 30, 2001 related to the settlement of a lawsuit at a cost lower
than the amount accrued. No such gain was recognized in the six months
ended June 30, 2002.
Interest expense increased to $665,000 in the six months ended June 30,
2002 from $620,000 in the six months ended June 30, 2001 because of an increase
in the level of our debt and an increase in amortized financing costs. Interest
expense resulting from the amortization of financing costs and the recognition
of non-cash interest expense resulting from the intrinsic value of conversion
options embedded in convertible debt was $584,000 in the six months ended June
30, 2002 compared to $568,000 in the six months ended June 30, 2001. Interest on
convertible debt and bank lines of credit was $80,000 in the six months ended
June 30, 2002 compared to $52,000 in the six months ended June 30, 2001.
We incurred a net loss in the six months ended June 30, 2002 of
$1,591,000 compared to a net loss of $2,098,000 in the six months ended June 30,
2001. The losses in the six month periods of 2002 and 2001 were due primarily to
limited revenues that were substantially exceeded by our costs of operations.
Our net loss per share was $0.02 for the six months
17
ended June 30, 2002 and $0.04 for the six months ended June 30, 2001. The loss
per share declined as a result of the factors affecting net loss as discussed
above, and because of an increase in the weighted average number of shares
outstanding to 64,964,000 in the six months ended June 30, 2002 from 48,104,000
in the six months ended June 30, 2001.
LIQUIDITY AND FINANCIAL POSITION
We do not have sufficient financial resources or credit lines available
to fund our operations and capital requirements as presently planned over the
next twelve months. We are actively pursuing additional funds through the
issuance of either debt or equity instruments. However, such funds may not be
available on favorable terms or at all. Given the generally difficult economic
climate and the Company's history of losses, we believe that raising the
additional equity or debt financing needed to fund ongoing operations will be
difficult. We have reduced staffing and taken other actions necessary to
minimize our cash requirements. To repay borrowings under the lines of credit,
bring our payments to vendors to a current status and maintain our current
reduced level of expenses, it is likely that we will need to raise approximately
$2,500,000 to $4,000,000 of additional capital during fiscal year 2002. The
Company formerly had a relationship with Gruntal & Co. LLC ("Gruntal"), whose
assets were subsequently acquired by Ryan, Beck & Co., LLC ("Ryan Beck"), to
assist in pursuing a merger, strategic partnership, acquisition or a sale of a
portion or all of the Company. This relationship terminated near coincident with
the acquisition of Gruntal by Ryan Beck. The Company is now utilizing the
services of another investment bank to assist in pursuing the same objectives.
Absent these alternatives or an infusion of working capital, it is unlikely that
the Company will be able to continue its business.
To date, we have been unable to generate significant cash flows from
our business operations. As a result, we have funded our operations primarily
through investor financing, including sales of common stock, the issuance of
debt convertible into common stock, and the exercise of warrants and options.
During the fiscal years 1999, 2000, and 2001, and the first six months of 2002,
we raised a total of $5,658,000 through these means. We also issued stock to
satisfy $5,806,000 of obligations, including stock valued at $3,300,000 that was
issued to settle litigation with IBC. In addition, we have secured bank
financing that is secured by the personal guarantees of certain directors, and
from time to time we have borrowed funds from officers, directors, and other
private investors in the Company. We will be required to continue our reliance
on investor financing to fund our operations until such time as a strategic
partner or buyer is found for the Company or its assets. Our ability to raise
new investor capital is constrained by the absence of authorized and unissued or
unreserved shares of common stock and by restrictions on the issuance of common
stock in agreements with Laurus Master Fund, Ltd., a significant holder of our
convertible notes. Approval by the stockholders to increase the number of
authorized shares of common stock is required before new investor capital can be
raised from the sale of our common stock and it is planned that such approval
will be sought in 2002. At June 30, 2002, cash and cash equivalents totaled
$2,000, a decrease of $104,000 from December 31, 2001. Current liabilities at
June 30, 2002, consisting primarily of accounts payable, accrued liabilities and
short-term debt, exceeded current assets by $4,344,000.
During the first six months of 2002, net cash used in operating
activities was $326,000, primarily due to a net loss of $1,591,000 less non-cash
expenses of $713,000 related to the granting of warrants and options, the
amortization of financing costs, and inventory write-downs and reserves, and an
increase in deferred financing costs of $462,000 offset by an increase of
$1,507,000 in accounts payable and accrued liabilities.
Net cash flow from financing activities in the first six months of 2002
was $222,000, resulting from the issuance of notes convertible into common stock
for net proceeds of $140,000, the issuance of common stock for cash in the
amount of $54,000, the exercise of common stock options and warrants for cash in
the amount of $36,000, offset by payments of convertible notes totaling $6,000
and net payments under bank lines of credit of $2,000.
18
Our contractual cash obligations and commercial commitments as of June
30, 2002 are as follows:
- ------------------------------------------ ---------------- --------------------------------------------------------
PAYMENTS DUE BY PERIOD (IN THOUSANDS)
- ------------------------------------------ ---------------- --------------------------------------------------------
CONTRACTUAL CASH OBLIGATIONS AND
COMMERCIAL COMMITMENTS TOTAL LESS THAN 1 YEAR 1-3 YEARS AFTER 3 YEARS
- ----------------------------------------- ---------------- --------------------- ---------------- -----------------
Short-term debt $1,323 $1,323 $ -- $ --
- ----------------------------------------- ---------------- --------------------- ---------------- -----------------
Long-term debt 1,127 288 839 --
- ------------------------------------------ ---------------- --------------------- ---------------- -----------------
Capital leases -- -- -- --
- ------------------------------------------ ---------------- --------------------- ---------------- -----------------
Operating leases 31 23 8 --
- ------------------------------------------ ---------------- --------------------- ---------------- -----------------
Unconditional purchase obligations -- -- -- --
- ------------------------------------------ ---------------- --------------------- ---------------- -----------------
Other long-term obligations -- -- -- --
- ------------------------------------------ ---------------- --------------------- ---------------- -----------------
Commercial commitments -- -- -- --
-- -- -- --
- ------------------------------------------ ---------------- --------------------- ---------------- -----------------
Total cash obligations and commercial
commitments $2,481 $1,634 $ 847 $ --
====== ====== ===== ====
- ------------------------------------------ ---------------- --------------------- ---------------- -----------------
Our future royalty requirements will affect liquidity. We are required
to pay royalties to various licensors in 2002, including IBC, of up to 10% of
net sales. Our licensing agreement with The Coleman Company, Inc., which was
terminated in January 2002, required royalty payments in addition to the above
of 7% of net sales in 2001 and 2002 and contained minimum royalty obligations of
$110,000 and $220,000 in 2001 and 2002, respectively. As a result of litigation
between Empyrean and The Coleman Company, Inc. and the termination of the
agreement, $80,000 of the 2001 minimum royalty obligation has not been paid and
none of the 2002 minimum royalty obligation has been recognized as expense or
paid.
As of June 30, 2002, we had no capital expenditure obligations.
In March 2002, we completed a private placement of 61,000 shares of
common stock to a vendor who purchased the shares in exchange for cancellation
of $1,000 in trade payable indebtedness owed by the Company. In April 2002, we
completed private placements of 81,000 shares of common stock to a vendor who
purchased the shares in exchange for cancellation of $2,000 in trade payable
indebtedness owed by the Company and 4,285,000 shares of common stock to three
directors who purchased the shares for cash in the amount of $54,000.
In November 2000, we secured a one-year, $1,000,000 revolving line of
credit from a bank with an interest rate equal to the bank's prime rate plus
1/2%. The line of credit is secured by the guarantees of several officers and
directors and their spouses, which guarantees in turn are secured by the assets
of the Company. As consideration for their guarantees, we granted these officers
and directors, collectively, 450,000 shares of the Company's common stock valued
at $169,000. This line of credit and the guarantees were renewed for in December
2001 and in April 2002, with the latter renewal being for a nine-month term. As
consideration for the extensions of the guarantees, in May 2002, the Company
award the guarantors stock and cash compensation valued at $800,000, none of
which has been paid. The stock and cash compensation is being amortized over the
remaining term of the loan agreement. As of August 1, 2002, borrowings of
$985,000 were outstanding under the line of credit.
In March 2001, an additional 120-day credit facility of $250,000 was
obtained from a bank with an interest rate equal to the bank's prime rate plus
1%. This facility is secured by the guarantees of a director and a company
wholly-owned by the director and has been renewed several times, with the most
recent renewal being for a nine-month term in April 2002. As consideration for
the original and first renewal guarantees, we granted 168,750 shares of the
Company's common stock, valued at $53,000, to the director's wholly-owned
company. As consideration for subsequent extensions of the guarantees, in May
2002, the Company awarded the guarantors stock and cash compensation valued at
$200,000, none of which has been paid. The stock and cash compensation is being
amortized over the remaining term of the loan agreement. As of August 1, 2002,
borrowings of $250,000 were outstanding under the line of credit.
In April 2001, we issued convertible debentures in an aggregate
principal amount of $40,000 to three unrelated investors. The debentures mature
in April 2006 and bear interest at a 4% annual rate. At the Company's option,
interest on the debentures is payable in cash or common stock at maturity and
the debentures are redeemable at any time for 125% of the outstanding principal
amount plus unpaid interest. At the option of the holders, the debentures are
convertible into common stock at a conversion price equal to the lower of $0.434
or 80% of the average five lowest closing bid prices of
19
the common stock for the twenty trading days immediately preceding the
conversion date. In addition, the placement agent for the transaction received a
warrant to purchase 8,000 shares of common stock at an exercise price of $0.468
with a fair value of $3,000. As of August 1, 2002, 1,505,000 shares of common
stock had been issued upon the conversion of $25,000 of the principal and the
payment of $1,000 of accrued interest on the debentures. At August 1, 2002, a
principal amount of $15,000 and accrued interest of $1,000 were outstanding
under the debentures, which were convertible into 3,801,000 shares of common
stock.
In June 2001, we issued a two-year, 8% $1,000,000 convertible note and
a warrant to purchase 333,333 shares of common stock at an exercise price of
$0.27 to an unrelated investor. Interest on the note is payable quarterly in
cash or common stock, at the option of the Company. At the option of the
investor, the note is convertible into common stock at a conversion price equal
to the lower of $0.1773 or 80% of the average of the three lowest closing prices
of the common stock for the sixty trading days immediately preceding the
conversion date. In March 2002, in conjunction with the issuance of an
additional convertible note, the conversion price on $29,000 of the principal
amount of the Note and the exercise price of the warrant were reduced to $0.005.
Two officers and directors and a company wholly-owned by a third director
pledged their beneficially owned holdings of the Company's common stock as
security for the Company's registration obligations under a subscription
agreement with the investor. As consideration for the pledge of their shares, we
granted the officers and directors and the director's wholly-owned company an
aggregate of 450,000 shares of the Company's common stock with a fair value of
$99,000. As of August 1, 2002, 15,517,200 shares of common stock were issued
upon the conversion of $713,000 of the principal and the payment of $35,000 of
accrued interest on the note and the exercise of warrants to purchase 137,000
shares of common stock. We are presently unable to make cash interest payments
and lack an adequate number of authorized common shares to issue stock in
payment of interest. As a result, we have not remitted the interest amount due
as June 30, 2002. At August 1, 2002, a principal amount of $286,000 and accrued
interest of $13,000 were outstanding under the note, which were convertible into
74,906,000 shares of common stock.
In August 2001, we issued a two-year, 8% $250,000 convertible note and
a warrant to purchase 83,333 shares of common stock at an exercise price of
$0.236 to the same unrelated investor. Interest on the note is payable quarterly
in cash or common stock, at the option of the Company. At the option of the
investor, the note is convertible into common stock at a conversion price equal
to the lower of $0.1573 or 80% of the average of the three lowest closing prices
of the common stock for the sixty trading days immediately preceding the
conversion date. We are presently unable to make cash interest payments and lack
an adequate number of authorized common shares to issue stock in payment of
interest. As a result, we have not remitted the interest amount due as of June
30, 2002. At August 1, 2002, a principal amount of $250,000 and accrued interest
of $19,000 were outstanding under the note, which were convertible into
65,527,000 shares of common stock.
In October 2001, we issued a two-year, 5% $250,000 convertible note and
a warrant to purchase 83,333 shares of common stock at an exercise price of
$0.123 to an unrelated investor. Interest on the note is payable quarterly in
cash or common stock, at the option of the Company. At the option of the
investor, the note is convertible into common stock at a conversion price equal
to the lower of $0.08 or 80% of the average of the three lowest closing prices
of the common stock for the sixty trading days immediately preceding the
conversion date. We are required to remit all funds received from our customer
accounts receivable to the investor to repay the note. In February 2002, we
ceased remitting funds received from our customer accounts receivable and are
presently not in compliance with that provision of the note. We are presently
unable to make cash interest payments and lack an adequate number of authorized
common shares to issue stock in payment of interest. As a result, we have not
remitted the interest amount due as of June 30, 2002. At August 1, 2002, a
principal amount of $174,000 and accrued interest of $4,000 were outstanding
under the note, which were convertible into 44,601,000 shares of common stock.
In November 2001, we issued a two-year, 5% $136,000 convertible note
and a warrant to purchase 45,333 shares of common stock at an exercise price of
$0.224 to an unrelated investor. Interest on the note is payable quarterly in
cash or common stock, at the option of the Company. At the option of the
investor, the note is convertible into common stock at a conversion price equal
to the lower of $0.0813 or 80% of the average of the three lowest closing prices
of the common stock for the sixty trading days immediately preceding the
conversion date. We are required to remit all funds received from certain of our
customer accounts receivable to the investor to repay the note. We are presently
unable to make cash interest payments and lack an adequate number of authorized
common shares to issue stock in payment of interest. As a result, we have not
remitted the interest amount due as of June 30, 2002. At August 1, 2002, a
principal amount of
20
$122,000 and accrued interest of $3,000 were outstanding under the note, which
were convertible into 31,425,000 shares of common stock.
In December 2001, we issued a two-year, 5% $200,000 convertible note
and a warrant to purchase 66,666 shares of common stock at an exercise price of
$0.101 to an unrelated investor. Interest on the note is payable quarterly in
cash or common stock, at the option of the Company. At the option of the
investor, the note is convertible into common stock at a conversion price equal
to the lower of $0.0660 or 80% of the average of the three lowest closing prices
of the common stock for the sixty trading days immediately preceding the
conversion date. We are presently unable to make cash interest payments and lack
an adequate number of authorized common shares to issue stock in payment of
interest. As a result, we have not remitted the interest amount due as June 30,
2002. At August 1, 2002, a principal amount of $200,000 and accrued interest of
$6,000 were outstanding under the note, which were convertible into 51,548,000
shares of common stock.
In March 2002, we issued a two-year, 5% $75,000 convertible note to an
unrelated investor. Interest on the note is payable quarterly in cash or common
stock, at the option of the Company. At the option of the investor, the note is
convertible into common stock at a conversion price equal to the lower of
$0.0216 or 80% of the average of the three lowest closing prices of the common
stock for the sixty trading days immediately preceding the conversion date. We
are presently unable to make cash interest payments and lack an adequate number
of authorized common shares to issue stock in payment of interest. As a result,
we have not remitted the interest amount due as of June 30, 2002. At August 1,
2002, a principal amount of $75,000 and accrued interest of $1,000 were
outstanding under the note, which was convertible into 19,074,000 shares of
common stock.
In May 2002, we issued convertible notes in an aggregate principal
amount of $75,000 and warrants to purchase 750,000 shares of common stock at an
exercise price of $0.0099 to two unrelated investors. In July 2002, an
additional convertible note in the principal amount of $50,000 and warrants to
purchase 500,000 shares of common stock at an exercise price of $0.0099 were
issued to a third unrelated investor. The notes mature six months from the date
of issuance and bear interest at a 10% annual rate. Additionally, if a
transaction for the sale of the Company or its assets is completed prior to the
maturity date of the notes, the holders will receive bonus interest equal to 50%
of the principal amount of the outstanding notes. At the option of the
investors, the notes are convertible at maturity into common stock at a
conversion price of $0.0099. The fair value of the warrants of $5,000 is being
amortized over the term of the notes. At August 1, 2002, a principal amount of
$125,000 and accrued interest of $1,000 were outstanding under the notes.
We presently do not have a sufficient number of authorized but unissued
shares of common stock available to reserve for shares we may be required to
issue upon the conversion of our outstanding convertible notes and debentures or
to issue in satisfaction of interest requirements on our convertible notes. In
July 2002, the holder of six of our convertible notes waived its requirement
that we reserve from our authorized but unissued shares of common stock that
number of shares which would be necessary to enable the holder to convert each
of its notes at the then applicable conversion price and the warrants at their
then applicable exercise price except for those shares which are registered
under our Registration Statement on Form SB-2 which was declared effective May
24, 2002 but remain unissued. This waiver was granted solely for the purpose of
permitting us to issue shares of stock and/or stock options to new investors and
to consultants and vendors. The waiver expires upon the earlier of (i) 90 days
from the date of grant of the waiver, (ii) approval by our stockholders of an
increase in the number of authorized shares of common stock, or (iii) a reverse
split of our common stock, the effect of which (ii) or (iii) would permit us to
reserve the required number of shares of common stock. At August 1, 2002,
277,959,000 shares of common stock issuable upon the conversion of principal and
interest of the six convertible notes and five warrants were exempted from
reservation as a result of this waiver.
Although our license with IBC requires us to use reasonable efforts to
expend up to $10,000,000 over five years to market licensed products in the
territory, we believe that 100% of our expenditures will qualify to satisfy this
commitment since we are purely a sales and marketing company whose products are
primarily derived from the IBC formulations. We do not believe that incremental
outlays beyond the level projected in our business and marketing plans will be
needed solely to satisfy the IBC settlement commitment.
At such time as governmental approvals are obtained that permit us to
market additional preventative products utilizing similar formulations to the
one used in our hand sanitizer and first-aid antiseptic, we expect to incur
additional expenditures associated with the market development of these
products. These cash outlays could include, but are not limited to, market
testing, package design, advertising, point of sale displays, inventory
purchases and a sales and
21
marketing campaign. Our investment in working capital will also increase as we
broaden our product line and obtain new customers. However, given the status of
their regulatory approvals, we do not anticipate having any additional
preventative products utilizing the IBC formulation available for sale in 2002.
Also, should the FDA issue final regulations that are consistent with its
current proposed regulations with respect to our hand sanitizer and first-aid
antiseptic, we may experience an adverse effect on liquidity. Although we
believe we would have twelve months to address any changes which may be
necessary regarding the labeling of our hand sanitizer and first-aid antiseptic,
the effort required to undertake the changes may cause our financial condition
and results of operations to deteriorate and our business may ultimately fail.
22
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We are a defendant in an action that was filed by Optima Holding Co.,
Ltd. and Mercury Technology Corp. on July 28, 1998 in the Circuit Court of the
Eleventh Judicial District, Dade County, Florida. This action alleges that we
tortiously interfered with Optima and Mercury's contractual relationship with
IBC. Optima and Mercury claim that they had prior rights to the IBC formulation
and products and that we induced IBC to breach that agreement. Optima and
Mercury have requested an unspecified amount of damages against us. In two
separate actions that have now been consolidated with the first action in the
same court, IBC has requested a declaratory judgment that IBC properly
terminated its development and distribution contract with Optima and Mercury,
and IBC sued various individuals of Optima and/or Mercury for fraudulent
inducement and civil theft. Optima and Mercury also seek injunctive relief to
prevent IBC and its managers and directors from allowing IBC to have further
dealings with us. If we are not successful in this action, we could lose the
right to market, sell or manufacture our hand sanitizer and first-aid antiseptic
lotion and towelette products and other products currently under development.
Should any court judgment be entered precluding our rights to the products, IBC
has agreed as part of the overall litigation settlement to secure its
obligations to us by granting us the highest priority perfected security
interest IBC is permitted to assign in IBC's rights in commercializing the
products in the United States.
We are also a defendant in an action that was filed by Kaye, Scholer
LLP, our former legal counsel, on October 24, 2001 in the Supreme Court of the
State of New York, County of New York. The action alleges that we breached a
contract and seeks damages of approximately $93,000 plus interest and attorneys
fees. We are presently engaged in settlement discussions with the plaintiff.
We are the plaintiff in an action that was filed against The Coleman
Company, Inc. on December 27, 2001 in the United States District Court, Northern
District of Ohio, Eastern Division to recover damages in an unspecified amount
caused by Coleman's actions in disparaging our business and tortiously
interfering with our current and prospective business relationships and
contracts. In our complaint, we allege that Coleman has attempted to take
business away from us by directly approaching our customers, making false
statements about us and the status of our license, and offering to sell directly
to those customers, bypassing us. In addition, the complaint alleges that
Coleman and its agents have unreasonably delayed in providing approvals to us
for packaging and labeling associated with the products for the 2002 sales
program. In light of the damages we incurred as a result of Coleman's actions,
we withheld final payment of the annual minimum royalty for 2001. In response,
Coleman served notice to us in January 2002 that the license agreement was being
terminated and we have halted sales of Coleman(R) branded product. Coleman also
filed motions to dismiss our complaint or in lieu of dismissal, to transfer the
venue of the case to the North District of Kansas. In April 2002, the court
refused to dismiss the case but granted the motion to transfer venue. In
addition, in March 2002, Coleman filed a complaint against us in District Court,
The Eighteenth Judicial District, Sedgwick County, Kansas, Civil Department,
seeking payment of the remaining annual minimum royalty for 2001 and claiming
damage to its business relations resulting from alleged false and injurious
statements made by us to others regarding Coleman.
We and seven of our directors and officers and former directors and
officers are defendants in a class action lawsuit filed in United States
District Court, Northern District of Ohio on July 24, 2002 alleging violations
of securities laws. We believe the suit is without merit and will defend
ourselves vigorously.
23
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
ISSUANCE OF STOCK FOR CASH
In April 2002, we issued 4,285,000 to three directors at a price of
$0.0125 per share in a private placement, proceeds of which were used for
general corporate purposes. This issuance of common stock was exempt from
registration under Section 5 of the Securities Act of 1933 by way of the
exemption provided by Section 4(2) of such Act. The issuance did not involve a
public offering and was effected without general advertising or general
solicitation and without use of any broker, dealer or agent. The shares were
subsequently registered through our Registration Statement on Form SB-2, which
was declared effective on May 24, 2002.
ISSUANCE OF STOCK FOR SERVICES OR IN SATISFACTION OF OBLIGATIONS
In April 2002, we issued 81,458 shares of common stock to one vendor in
payment of outstanding trade accounts payable in the amount of $2,444. This
issuance of common stock was exempt from registration under Section 5 of the
Securities Act of 1933 by way of the exemption provided by Section 4(2) of such
Act. The issuance did not involve a public offering and was effected without
general advertising or general solicitation and without use of any broker,
dealer or agent. The shares were subsequently registered through our
Registration Statement on Form SB-2, which was declared effective on May 24,
2002.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
INDEX TO EXHIBITS
10.35 Form of Convertible Note with dates ranging from May 2002 through July
2002, between Empyrean Bioscience, Inc. and the Holders thereof.
10.36 Form of Warrant with dates ranging from May 2002 through July 2002,
between Empyrean Bioscience, Inc. and the Holders thereof.
99.1 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.2 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
REPORTS ON FORM 8-K
The Company made no filings on Form 8-K during the second quarter of 2002.
24
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed by the undersigned on its behalf and in her
capacity as Chief Financial Officer of the Company, thereunto duly authorized.
EMPYREAN BIOSCIENCE, INC.
(Registrant)
August 14, 2002 /s/ Brenda K. Brown
- --------------------------- -------------------------------------------
(Date) (Signature)
Brenda K. Brown
Vice President and Chief Financial Officer
25